As we reported here on the day the U.S. Department of Labor issued a proposed regulation regarding the classification status of independent contractors, the regulation, once finalized, would be “much ado about (almost) nothing.” We observed that unlike regulations with hard and fast rules, the proposed regulation was in the nature of an administrative interpretation comprising the Labor Department’s review of existing court decisions and its articulation of a preferred legal analysis. We predicted that, when released in final form (which occurred today), courts would not give much if any deference to this agency regulation on the classification of independent contractors under the federal wage and hour law.
The proposed regulation was first released before the recent presidential election, and with a change of Administration, the final version is even more unlikely to become meaningful. By law, the final regulation, which was published informally earlier today (and scheduled for formal issuance tomorrow), is not effective for 60 days. It has been widely reported that the Biden administration will seek to delay or undo the regulation. In addition, a court battle over its lawfulness is highly likely. Indeed, key provisions of the Labor Department’s regulation on joint employer status, which was finalized a year ago, were struck down by a federal court as being procedurally flawed and in conflict with the very law under which it was issued. Judicial rejection may well be the fate of this new regulation as well, even if the Biden Administration is unsuccessful at indefinitely delaying or reformulating it.
A review of the final regulation shows that the proposed rule was essentially adopted without any meaningful changes. In the 261-page document released today, the Executive Summary notes that “[h]aving received and reviewed the comments to its proposal, the Department now adopts as a final rule the interpretive guidance set forth in the Notice of Proposed Rulemaking (NPRM) (85 FR 60600) largely as proposed.” The main thrust of the final regulation remains intact: two factors should be given greatest impact when determining independent contractor status – direction and control over the work, and the opportunity for profit and loss – and other factors should be given less weight.
The Labor Department did add an entire new subsection to the final regulation consisting of six examples of workers: three of which the regulation implies are more likely to be employees and three of which are more likely to be independent contractors. The examples, unfortunately, are not particularly detailed and do not provide much guidance.
We submitted seven comments to the proposed rule. The Labor Department analyzed some of the comments submitted and referenced our comments on six occasions.
The first part of the final regulation would rescind all inconsistent or conflicting administrative rulings, interpretations, practices, and enforcement policies of the Labor Department relating to the classification of independent contractors and employees. This approach appears to be a means to eliminate rulings and opinion letters issued by prior administrations that viewed this issue differently. No list of such rulings is provided so the public has no way of knowing if a prior ruling or opinion letter remains valid.
The next part of the final rule recites the time-honored principle under the FLSA that a worker is an independent contractor only if he or she is, as a matter of economic reality, “in business for him- or herself.” The final regulation then lists five factors to be examined, but states the five factors “are not exhaustive and no single factor is dispositive.” Essentially, the final rule provides five factors to be considered, but it acknowledges any factor related to the relationship between an individual and potential employer may be relevant. Notably, the courts under the FLSA have considered dozens of factors bearing on independent contractor status, and the final regulation therefore validates this type of broad judicial inquiry.
Of the five factors, the Labor Department’s final regulation refers to two as “core factors”: (1) the nature and degree of the individual’s control over his/her work; and (2) the individual’s opportunity for profit or loss. The regulation states these two core factors “are the most probative as to whether or not an individual is an economically dependent ‘employee,’ … and each is therefore afforded greater weight in the analysis than is any other factor.” While the final rule does not create a legal presumption, it does say that if both core factors point toward the same classification, whether employee or independent contractor, “there is a substantial likelihood that is the individual’s accurate classification.”
This is not a new way to analyze independent contractor status under the FLSA; rather, it is consistent with current jurisprudence. As the Department of Labor states in its lengthy preamble, “whenever [a federal] court found … that the potential employer predominantly controlled the work, that court concluded that the worker is an employee . . . ; conversely, whenever the court of appeals found … that the worker predominantly controlled the work, that court nearly always concluded that the worker is an independent contractor.” Similarly, the Labor Department observed in the preamble that “[t]his trend is also true, indeed even more so, for the opportunity for profit or loss factor.” Thus, the final rule merely recites what the courts have nearly uniformly held for many decades.
Under the control factor, the final rule restates many of the same conclusions that most courts have already articulated – that several types of activities do “not constitute [the type of] control that makes the individual more or less likely to be an employee under the Act”. Those types of control that are not meaningful include requiring an individual to:
- comply with specific legal obligations,
- satisfy health and safety standards,
- carry insurance,
- meet contractually agreed-upon deadlines or quality control standards, or
- satisfy other similar terms that are typical of contractual relationships between businesses (as opposed to employment relationships).
While the final regulation notes that requiring the individual to work exclusively for one company demonstrates control (which is consistent with court decisions), it considerably overstates the law when it says that requiring the individual, directly or indirectly, to work exclusively for a potential employer weighs in favor of the individual being an employee under the FLSA. Many legitimate independent contractors, for example, commit to one or more projects that require a concentrated, full-time undertaking to produce deliverables within a tight timeframe; that is hardly the type of control that should support employee status.
The profit or loss factor expands the manner in which courts have considered a worker’s investment. Some have examined only the worker’s financial investment. However, the final regulation would follow newer court decisions that also have examined the manner in which profits are maximized by the individual’s initiative.
Next, the final regulation addresses the three “other” factors: (1) the amount of skill required for the work; (2) the degree of permanence of the working relationship; and (3) whether the work is part of an integrated unit of production.
The amount of skill required factor fails to mention that many legitimate independent contractors do not have what some may refer to as an elevated skillset, yet they may have little or no economic dependence on a business. While some may think that taxi drivers, for example, do not have a high degree of skill, a number are very skillful and operate their own taxi business as independent contractors, as the courts have found over the years. Likewise, a doctor working for a hospital has elevated skills, but that does not make him or her an independent contractor if the hospital directs and controls his work while he or she works at a fixed salary in a hospital.
The degree of permanence factor in the final regulation failed to recognize that many independent contractor relationships are at least semi-permanent by choice of the worker: for example, a gardener who provides service weekly to a homeowner for 20 years; a distributor who chooses to operate his or her own business distributing another company’s products exclusively; and a tutor who provides frequent tutoring to the same family’s children throughout their school years.
The final factor recasts what the Labor Department currently states in its Fact Sheet 13 as “the extent to which the services rendered are an integral part of the principal’s business.” In the final rule, this factor is now characterized as whether the work “is part of an integrated unit of production.” As the final rule states: “This factor is different from the concept of the importance or centrality of the individual’s work to the potential employer’s business.” In this manner, the Department of Labor is seeking to change the focus of this factor, which historically has been given little weight by the courts anyway.
As noted above, the final regulation adds a new subsection with six examples of workers and comments on whether the workers would be properly classified as employees or independent contractors under the final regulation.
Lastly, the final regulation addresses the “primacy of actual practice.” It states that a company’s actual practice is more significant than what is written in a purported independent contractor’s contract.
Of course, the Labor Department’s final rule has no application to the independent contractor status of workers under other federal laws, such as ERISA and the National Labor Relations Act, which have different classification tests. It also has no application to the classification of workers under state independent contractor tests, most of which vary considerably from the test under the FLSA.
Independent contractor compliance and misclassification has been front-page news of late due to the reformulation of the independent contractor test in California and now the U.S. Labor Department’s issuance of the proposed and now the final rule. It is even part of President-Elect Biden’s platform. State workforce agencies and plaintiffs’ class action lawyers have continued to focus on companies that are out of compliance with federal and state independent contractor laws.
Many companies that utilize a number of independent contractors may be vulnerable to misclassification liability if they are not in a heightened state of compliance with applicable federal and state laws. Some companies have resorted to a process such as IC Diagnostics (TM) to elevate their level of compliance with independent contractor laws. Companies willing to reevaluate their compliance in this area can, consistent with their current business model, restructure, re-document, and re-implement their independent contractor relationships in a manner that is customized and sustainable.