Labor Department Nullifies Independent Contractor Rule
By: Meridian Law
On Wednesday, May 5, the United States Department of Labor officially nullified a rule that it had just released back in January that would have more clearly defined the difference between independent contractors and employees.[1] Shortly after taking office, Labor Secretary Marty Walsh requested that the Biden administration set aside the Trump-era rule, which the White House agreed to do.
The new rule was intended to provide a more precise definition of the word “employee” in response to the rise of the so-called “gig economy.” Many questions have been raised in courts in recent years about whether drivers for ride-share companies or food delivery services genuinely are the independent contractors that Uber and company have claimed them to be. Under the new rule, the Department of Labor would focus on two specific factors: how much control the worker has over his or her work, and the worker’s opportunity for profit or loss.
Critics of the new rule said that by narrowing the focus on just two factors, the new rule would have made it much more difficult to classify gig workers as employees.
The Fair Labor Standards Act does not contain a clear definition of “employee.” Therefore, when deciding whether a worker is an employee or independent contractor, courts have had to develop tests over time, which vary from federal circuit to federal circuit, often resulting in inconsistent results. Most federal courts have adopted a test called the “Economic Realities” test, which analyzes six factors, often articulated as:
1. The degree of the alleged employer’s right to control how to perform the work;
2. the alleged employee’s opportunity for profit or loss depending on his managerial skill;
3. the alleged employee’s investment in equipment or materials required for his task, or his employment of helpers;
4. whether the service rendered requires a particular skill;
5. the degree of permanency of the working relationship; and
6. whether the service rendered is an integral part of the alleged employer’s business
The new rule would have maintained the Economic Realities test but placed increased emphasis on Factors 1 and 2.[2]Nullifying the rule maintains the status quo, which leaves such gig workers’ employment status mainly in question and subject to the whims of any given court. The Department of Labor said that it does not intend to propose any new rules on this topic. Despite this, Labor Secretary Walsh was quoted recently as saying that most “gig workers” should be classified as employees rather than independent contractors.[3]
This change comes as voters and workers appear to be increasingly supportive of freelancers. For example, last November, California voters overwhelmingly voted to pass ballot proposition 22, specifically exempting many gig workers, including Uber, Lyft, and DoorDash drivers, from rules classifying them as employees.[4] The Department of Labor noted that the vast majority of comments from Uber drivers about the new rule were supportive of the rule.
Do I have employees or independent contractors?
If your company frequently retains independent contractors, you need to be cautious to avoid federal wage and hour laws violations. As already mentioned, courts will look to the “economic realities” of the business relationship, weighing the six factors listed above. No one factor is dispositive, but courts tend to emphasize the amount of control that the company exercises over the worker. “Control” does not necessarily mean that the company micro-manages every aspect of the worker’s day, but instead whether the worker is in charge of everything about his job except the final outcome of the project. Any tools, services, benefits, or help provided to the workers could be used as evidence of an employment relationship.
In other words, each situation is very fact-specific, so it is always a good idea to consult with an employment lawyer if you are considering using independent contractor labor.
What are the penalties for misclassification of workers?
The penalties for misclassifying employees as independent contractors can be steep, particularly if minimum wage or overtime was not paid to several workers. There are a number of ways in which an employer can be penalized for misclassification.
First, the U.S. Department of Labor can sue the employer following an investigation. An investigation could initiate following an employee complaint or by the Department itself. Should the Department of Labor find a violation, it may file a lawsuit against your business.
Second, a lawsuit may be filed by employees directly. In addition to a single or even multiple employees filing a lawsuit, one employee may file a lawsuit on behalf of all the other workers that had the same job description. These suits are difficult and expensive to defend because they often involve dozens or even hundreds of workers, accumulating more potential unpaid overtime and a significant amount of math and accounting work.
In the event an employer loses either of these lawsuits mentioned above, the employer will be required to pay every single workerit owed, double the unpaid overtime, up to three years previous, plus the plaintiffs’ attorneys’ fees.
Third, the Tennessee Department of Labor may penalize an employer for misclassification and demand additional unemployment premiums, penalties, and interest charges.[5] Additionally, the Bureau of Workers Compensation can assess a civil liability of up 1.5 times the employer’s average yearly workers’ compensation premium.[6]
Fourth, suppose the IRS discovers a misclassified worker. In that case, it can issue:
· a $50 fine for each unfiled W-2,
· a penalty of 1.5% of that employee’s wages,
· 40% of the non-withheld FICA taxes from the employee’s check, and
· 100% of the employer’s unpaid FICA taxes.
With all of these potential ways that a business could be affected by the misclassification of workers, employers must consult with an attorney to make sure that their workers are properly classified and compensated.
All of my workers start as independent contractors in a probationary period but have the opportunity to become employees later. Is this okay?
Generally, no. While this has been a common practice for decades (even within this author’s career), it is typically not compliant with the Fair Labor Standards Act. An employee is an employee regardless of his or her length of employment. Employees may still work during a “probationary period;” they need to be paid overtime, paid minimum wage, and have taxes withheld during that period.
Okay, I admit I screwed up with a couple of workers, so I may owe about $100 in unpaid overtime. No big deal, right?
That depends. In any lawsuit for unpaid overtime, the plaintiff (worker) will be able to recover his attorney’s fees successfully, and there is no law establishing that the attorney’s fees have to be proportional to the amount of recovery. It is not uncommon for a relatively small recovery for the worker, or workers, and yet over a hundred thousand dollars awarded in attorney’s fees. Therefore, if you find an error, you should probably pay those back wages very quickly. If you believe you may owe some unpaid overtime, you should probably reach out to a lawyer immediately.
[1] https://www.dol.gov/newsroom/releases/whd/whd20210505
[2] 29 CFR § 795.105
[3] https://www.reuters.com/world/us/exclusive-us-labor-secretary-says-most-gig-workers-should-be-classified-2021-04-29/
[4] https://www.nytimes.com/2020/11/04/technology/california-uber-lyft-prop-22.html
[5] Tenn. Code Ann. § 50-7-403(G) The “Independent Contractor test” for workers for the purposes of unemployment compensation is different and more complex than even the federal test, which is discussed in another blog post. See Tenn. Code Ann. § 50-7-207.
[6] Tenn. Code Ann. § 50-6-412(d)(2).