United States: DOL To Employers: 'Most' Independent Contractors Are Unlawfully Misclassified, And We Are Ready To Prosecute Violators

Last Updated: July 17 2015
Article by Amanda D. Haverstick and Lindsay J. Freid

Most Read Contributor in United States, October 2017

The United States Department of Labor (DOL) has just issued its first "Administrator's Interpretation" of 2015 ("Memo"). Although the Memo's stated purpose is to "be helpful" for employers – ostensibly by providing them with "guidance" on the standards federal courts use to assess if a worker is an independent contractor or an employee under the Fair Labor Standards Act (FLSA) – the Memo reads more like a plaintiff-side summary judgment brief than any neutral presentation of federal law.

The one-sidedness of the Memo notwithstanding, employers would be wise to give it serious attention. Its messages are both strong and clear:

  • most workers should be classified as employees;
  • the DOL will aggressively police how employers classify their workers; and
  • the agency will punish employers that get it wrong.

The Memo also demonstrates that the DOL's legal "homework" is already completed, and the agency is ready to act against companies now. Given how well-funded the DOL is under the current administration, employers should not treat the threat as hollow. Indeed, the DOL has pressed for even greater Wage and Hour Division funding in 2016 (its FY2016 budget request is for $32 million) – reportedly planning to use the funds to hire 300 more full-time employees to beef up the agency's enforcement efforts on worker misclassification.

Below is a synopsis of the DOL Memo and the legal factors for evaluating whether a worker is an employee or an independent contractor under the FLSA. The aim is to assist employers when evaluating whether internal action is necessary. Such action may include undertaking a preventive, attorney-client privileged audit of existing independent contractor classifications to determine if reclassification is necessary to avoid DOL enforcement efforts.

The DOL Memo

Building from the FLSA's statutory definitions – that "to employ" means, broadly, "to suffer or permit to work" – the DOL's Memo begins by reiterating what employers already know: (1) the U.S. Supreme Court has long held that the FLSA covers more workers than would be deemed "employees" under the common law agency/control test; (2) federal courts use a multi-factor "economic realities" test to assess if a worker is an FLSA employee (the "Test"); (3) no one factor in the Test is determinative; and (4) neither the existence of an "Independent Contractor" agreement between a company and a worker, nor a company's issuance of a Form 1099-MISC to the worker, is material to the analysis.

The DOL then explains that, in its view, the purpose of the Test is to assess whether a worker is "economically dependent" on an employer. If so, he or she should be classified as an "employee." Only if the worker is not economically dependent on an employer, but is, instead, "in business for him or herself," may that worker be classified as an independent contractor. Also according to the DOL, the evaluation of each factor in the Test should be "guided by the FLSA's statutory directive that the scope of the employment relationship is very broad." Accordingly, the Memo concludes, under the Test, "most workers are employees under the FLSA." (Emphasis added.)

Finally, the Memo reviews the six different factors that the DOL seeks to have comprise the Test employers apply to their workers (although different federal courts in fact apply four to eight factors), along with the DOL's proposed explanation for how each factor should be analyzed and applied. For example, the Memo cites example cases where courts have held employers liable for misclassification - which the DOL plainly cherry-picked over contrary authority in several jurisdictions. The DOL's discussion of each factor in the Test is summarized briefly below.

  • Is the Work an Integral Part of the Employer's Business? This factor asks whether the worker in question performs the primary work of the employer such that he or she is integrated into the business. If so, the worker is more likely economically dependent on the employer and properly classified as an employee. The DOL sees this factor as "compelling," as well as one that "should always be analyzed" by courts. (Emphasis added.)
  • Does the Worker's Managerial Skill Affect the Worker's Opportunity for Profit or Loss? This factor aims to assess the independence of a worker in terms of his or her ability to use personal managerial skills to increase profits, as well as whether a dearth of such skills can lead to personal loss for the worker. According to the DOL, this factor should not consider a worker's ability to work more efficiently, to choose to take on more work at the same employer, to improve the quality of work product, or to work more hours (although courts do in fact consider such criteria when applying the Test). In the DOL's view, only if a worker takes certain acts, such as hiring others, purchasing materials or equipment, advertising his or her work, renting space to work, and managing time tables, is he or she exercising independence sufficient to qualify for independent contractor status.
  • How does the Worker's Business Investment Compare with the Employer's Business Investments? Generally, to be properly considered an independent contractor, a worker must have made some investment in his or her work, separate from that made by any specific employer. But in the DOL's view, the investments also must be reviewed relative to those made by the employer. According to the DOL, even where workers finance their own expensive supplies and tools, that will not tip the scale from employee status unless the workers' investments are "significant in nature and magnitude relative to the employer's investment in its overall business." (Emphasis added.)
  • Does the Work Performed Require Special Skill and Initiative? This factor focuses on whether a worker's performance of tasks for an employer requires his or her having and applying business skills, judgment, or initiative. A worker's use of specialized skills that are technical and necessary to perform the at-issue work, by contrast, are not indicative of independent contractor status.
  • Is the Relationship Between the Worker and Employer Permanent or Indefinite? Under this factor, if a worker is engaged in a "permanent" or "indefinite" relationship with an employer, the worker is likely an employee. The nature of the relationship indicates the worker is financially dependent on the employer. In the DOL's opinion, moreover, an independent contractor relationship is suggested only if a lack of permanence or indefiniteness is a result of the worker's own business initiative. For instance, where an employer hires individuals to work temporarily during peak business season, the DOL would not consider the temporary nature of these relationships as supporting classifying the workers as independent contractors.
  • What is the Nature and Degree of the Employer's Control? The DOL views as least significant the final, "control" factor, and it warns that employers should not give the factor "undue weight" when deciding how to classify a worker. A worker's "control" over his or her own work only supports independent contractor status if the control is over the "meaningful aspects" of the work performed. Contrary to how many courts evaluate a worker's classification under the "control" factor, the DOL opines that an independent contractor status is not supported by a finding that the worker is not subject to direct supervision or is able to make his or her own hours. Moreover, even where an employer only asserts control as required by the nature of its business, by regulatory requirements, or to achieve customer satisfaction, if such control is significant, it can prevent independent contractor classification.

Concluding Thoughts for Employers

The Test for independent contractor versus employee classification that the DOL describes in its Memo is extraordinarily liberal – far broader than what many courts have applied. The Memo also is not binding law. It was issued without any formal rule-making process or note-and-comment period (unlike the DOL's proposed revisions to the FLSA exemption regulations issued two weeks earlier); and there is no certainty regarding the level of deference courts will afford the Memo (if any). See, e.g., Glatt v. Fox Searchlight Pictures, Inc., No. 13-4478-cv (2d Cir. July 2, 2015) (declining to defer to DOL's six-factor test for intern vs. employee classification under the FLSA); see also Perez v. Mortg. Bankers Ass'n, No. 13-1041 (U.S. Mar. 9, 2015).

The above said, every employer should afford the Memo earnest consideration and should take seriously the threat of DOL enforcement action. Indeed, DOL Wage and Hour Division (WHD) head David Weil has reportedly confirmed the strong message already evident from the Memo itself, warning that it should translate into "proactive compliance" by employers, with the DOL ready and fully intent on using its enforcement tools against employers that maintain independent contractor relationships contrary to the Memo's guidance. "DOL Guidance 'Fair Notice' for Scofflaws, WHD Head Says," Law360 (July 15, 2015). The first step to an employer's best defense against threatened DOL enforcement action is a robust, attorney-client privileged review of current workers' classifications with a willingness to change those classifications if the review concludes such reclassification is warranted.

This article is presented for informational purposes only and is not intended to constitute legal advice.

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