Are you still using “independent contractors”? Get out of here – you know they’re really employees!

On Wednesday, I did a very short “breaking news” post on the new Interpretation issued by Wage and Hour Administrator David Weil on when workers are “employees” versus “independent contractors” under the Fair Labor Standards Act.

Here’s more.

As employers probably expected, the U.S. Department of Labor takes the position that most workers are “employees” and not “independent contractors.” Employers often have a hard time with that distinction.

[M]ost workers are employees under the FLSA . . . the scope of the employment relationship is very broad.” — WH Administrator’s Interpretation.

According to the DOL, the key question is whether “the worker is economically dependent on the employer” – in which case the worker is an employee – “or in business for him or herself” – in which case, the worker may be a true independent contractor.

Here are four key points for employers to keep in mind:

  1. It doesn’t matter if you call the worker an “independent contractor.” You can call the worker anything you want, but the courts and the DOL will look at the “realities” of the situation rather than labels.
  2. It doesn’t matter that you’re paying the worker with a 1099. Well, actually, it does, because you’re going to owe a lot of money to the Internal Revenue Service and the Social Security Administration if it turns out that your “contractor” was really an employee.
  3. It doesn’t matter if the “independent contractor” is highly skilled. Even a highly skilled person will usually be an employee.

When employers improperly classify employees as independent contractors, the employees may not receive important workplace protections such as the minimum wage, overtime compensation, unemployment insurance, and workers’ compensation. . . . [S]ome employees may be intentionally misclassified as a means to cut costs and avoid compliance with labor laws.” — WH Administrator’s Interpretation.

  1. “Independent contractors” are people “with economic independence who are operating a business on their own.”

Here are some questions to ask yourself about your “independent contractors”:

Does the “contractor” perform work that is integral to your business? Using one of the examples from the DOL interpretation, if your business sells cakes that are custom-decorated and your “contractors” are cake decorators, you’d better reclassify, and fast. On the other hand, if you’re a construction company who hired somebody to decorate a cake for the owner’s birthday, the decorator is probably an independent contractor because cake decorating is not an integral part of a construction company’s business.

Can the “contractor” make more (or less) money depending his or her managerial skills? I wish the DOL had used the word “entrepreneurial” instead of “managerial,” which makes me think of Dilbert’s office. What the DOL is talking about, though, is “decisions to hire others, purchase materials and equipment, advertise, rent space, and manage time tables.” In other words, the kind of “management” that an owner of a business would engage in. If you’re a lousy entrepreneur, you may go bust. If you’re a good one, you may get rich. Employees, even those in “management” positions, don’t face this type of risk, even though their success in the company may depend on how well they perform certain “managerial” tasks. The DOL also makes clear that the ability to work more hours doesn’t count toward finding an “independent contractor” relationship.

Although the Administrator’s Interpretation applies only to the FLSA, misclassification of workers can also result in liability under federal and state tax laws, Social Security, and claims for various benefits that are available to employees. — Robin E. Shea, Attorney/Blogging Professional.

What is the worker’s investment compared with the employer’s? An employee may have to purchase tools and equipment to do the job. But generally an employee does not have to make a significant investment to do the job – the employer usually takes care of most of it. The DOL says that even if a worker does have to make a significant investment (for example, buying or equipping a truck), that investment has to be compared with the level of investment by the company. If the employer’s investment is significant relative to the investment by the individual, then the DOL is likely to find an “employment” relationship.

Does the work performed require special skill and initiative? Here, the DOL is not looking at technical skills, or skills “used to perform the work,” but “business skills, judgment, and initiative.” As an example, they cite a “highly skilled carpenter” who makes custom cabinetry for a variety of companies, “markets his services, determines when to order materials [and how much], and determines which orders to fill.”

Is the relationship permanent or indefinite? If so, the individual is probably an employee. A contract for a definite term may mean the individual is an independent contractor, but not necessarily. (Many “employees” have employment contracts for defined periods of time.) The DOL would consider “whether the lack of permanence or indefiniteness is due to ‘operational characteristics intrinsic to the industry’ . . . or the worker’s ‘own business initiative.'” Only in the latter case might the person be considered an independent contractor.

How much control does the employer have? According to the DOL, an “independent contractor” must have control over “meaningful aspects of the work performed” and “must actually exercise it.” The fact that workers may telecommute, have flexible schedules, or work from the road – depriving the employer of the ability to closely supervise – does not mean that the worker is an “independent contractor” now that these practices have become so common among employees. Also, if you have to impose stringent requirements on your “contractors” to comply with the law or to ensure customer satisfaction, watch out – when you do that, you may be transforming your contractors into employees. (Of course, you may not have a choice.)

Is the answer to any one of the above questions dispositive? Are you kidding? That would be way too easy! No, you have to consider what courts like to call “the totality of the circumstances.” In other words, all of these factors have to be considered before a determination is made. Your safest bet is to err on the side of finding that the worker is an “employee.”