In the last few months, several court decisions have found large classes of workers to be improperly classified as independent contractors rather than employees.  These class action cases are filed in federal and state courts throughout the country seeking the payment of minimum wage, overtime, penalties, attorneys’ fees, employee benefits and expenses, among other damages.  Although FedEx Ground Package System, Inc. has been at the heart of several recent decisions, the issue is not isolated to FedEx nor to delivery drivers. Rather, a survey of recent cases and agency actions makes it clear that the judiciary, Internal Revenue Service, United States Department of Labor, and state agencies are all looking with exacting scrutiny at independent contractor relationships and are erring on the side of finding workers to be employees. Consequently, all companies that use independent contractors – regardless of their size – should think about the impact of the emerging cases on their workforces.

FedEx Delivery Drivers Found to Be Employees Rather Than Independent Contractors in Five Class Actions

On October 3, 2014, the Kansas Supreme Court issued the most recent decision adverse to FedEx finding that its delivery drivers were employees, and not independent contractors.  Craig et al. v. FedEx Ground Package System, Inc., No. 108526.  The Kansas Supreme Court case is one of several lawsuits consolidated in the United States District Court for the Northern District of Indiana.  The Northern District of Indiana previously certified a nationwide class of delivery drivers who sought employee benefits under the Employee Retirement Income Security Act (ERISA), as well as overtime and expense payments under state laws.  The Northern District of Indiana then entered summary judgment in favor of FedEx, finding that the drivers were independent contractors. The drivers appealed to the United States Court of Appeals for the Seventh Circuit.  The Seventh Circuit observed that under Kansas law, the case was a “close one” and asked the Kansas Supreme Court to weigh in on the following question:

Where some of the factors weigh in favor of finding employee status, some weigh in favor of independent contractor status, and some ‘cut both ways,’ a court must weigh the factors according to some principle or principles.  But other than the point that the right of control is the primary factor, what is the underlying principle or (principles) that guides that weighing process in close cases such as this seeking to establish an employment relationship under the KWPA (Kansas Wage Payment Act, K.S.A. 44-313)? We are unsure. 

Although the Kansas Supreme Court noted that “the simple question is whether FedEx’s delivery drivers are employees for purposes of the KWPA” the Court further aptly stated, “The answer defies such simplicity.”  FedEx acknowledged that it had carefully structured its relationship with its drivers to be an independent contractor relationship but the Court rejected FedEx’s intent as the decisive factor stating: “Ultimately, we determine that the form does not trump the substantive indicia of an employer/employee relationship.” Instead, the Kansas Supreme Court applied a 20-factor test to evaluate FedEx’s right to control the delivery drivers (which is similar but not identical to a test originally developed by the IRS) and also opined that if there were a “guiding principle” to be applied it is that state law shall be construed broadly in favor of finding employee status. Relying heavily on FedEx’s right to control the “exquisite details” of the day-to-day working relationship with its delivery drivers, the Kansas Supreme Court found that the workers were employees and not independent contractors. Interestingly, the Court observed that several of the 20-factors actually supported a finding of an independent contractor relationship and many others were neutral. The Kansas Supreme Court’s decision may open the door for millions of dollars of liability for FedEx, as it gives new life to nineteen other cases that the Seventh Circuit stayed pending the Kansas court’s decision.

The Kansas Supreme Court’s decision came on the heels of a decision issued by the National Labor Relations Board (NLRB) on September 30, 2014, in which the NLRB also found that FedEx delivery drivers in Connecticut were employees rather than independent contractors and therefore could unionize.  FedEx Home Delivery, an Operating Division of FedEx Ground Package Systems, Inc. and International Brotherhood of Teamsters, Local Union No. 671, No. 34-CA-012735.

On September 5, 2014, the United States District Court for the Eastern District of Missouri also rejected FedEx’s argument that Plaintiffs’ class action claims for the cost of employee benefits denied to workers classified as independent contractors were preempted by ERISA. The Court held that the claims were not preempted as plaintiffs could not litigate their right to benefits until they established in the litigation that they were employees rather than independent contractors. Gray v. FedEx Ground Package Systems, Inc., No. 4:06-cv-00422.

Moreover, on August 27, 2014, the United States Court of Appeals for the Ninth Circuit issued two additional decisions in which it concluded that delivery drivers in California and Oregon were employees and not independent contractors. Alexander v. FedEx Ground Package System, Inc.¸ Nos. 12-17458 and 12-17509 (California drivers), and Slayman v. FedEx Ground Package System, Inc., Nos. 12-35525 and 12-35559 (Oregon Drivers).

Missouri Supreme Court Takes Expansive View of Joint Employer Relationships.

As is noted at the outset, unfortunately, the FedEx cases appear to reflect a growing trend as opposed to an isolated aberration. Indeed, on August 19, 2014, the Missouri Supreme Court issued an opinion that makes it easier for workers classified as independent contractors to be considered joint employees of both a company that contracts for services and a staffing company. The case, Tolentino v. Starwood Hotels & Resorts Worldwide, Inc., No. SC93379 (Mo. banc Aug. 19, 2014), involved the Starwood brand of Westin Hotels, which utilized a temporary staffing agency to provide housekeeping services for guest rooms. The staffing agency had failed to comply with the Missouri Minimum Wage Law. The Missouri Supreme Court held that Starwood could be liable for the unforeseeable, intentional, and even criminal acts of the staffing company, even though Starwood had entered into an independent contractor arrangement with the staffing agency, did not compensate the housekeepers directly, and was unaware of the illegal activity.

How is a Company to Determine Whether Its Workers is are Employees or Independent Contractors?

Unfortunately, as the Seventh Circuit and Kansas Supreme Court recently explained, most worker relationships are not clear cut. Rather, the relationships frequently have factors that weigh in favor of both a finding of employer and independent contractor status. Both agencies and the judiciary consider the amount of control exercised by a company using independent contractors as the primary factor in the analysis.  Furthermore, as discussed above, courts are frequently emphasizing the fact that the definition of an “employee” is to be construed broadly under federal and state law.

In recent years, the IRS consolidated its 20-factor right-to-control test into three broad areas of control.  Under the newer IRS criteria, companies should assess: (1) behavioral control, (2) financial control, and (3) the relationship of the parties.

  1. “Behavioral control” considers whether the business directs and controls how the individual does the work.  Facts examined include whether the business gives extensive instructions to the individual on how, where or when to do the work, what tools or equipment to use, what assistants to hire, where to purchase supplies and services, and whether the business trains the employee on how to perform the work.
  2. “Financial control” examines whether the business has the right to direct the business aspects of the individual’s work, whether the individual has made a financial investment in his work, whether the business reimburses the individual’s expenses, whether the individual can realize a profit or incur a loss as a result of the work performed, whether the individual is free to seek out other business opportunities, and the method of payment to the individual.
  3. “Relationship of the parties” considers how the business and the individual perceive their relationship and examines whether the business provides insurance or benefits to the individual, whether the work performed by the individual is a key aspect of the business, and the permanency of the relationship.

As not one factor or area of control is dispositive in determining the proper classification for a worker, employers must engage in a balancing test after analyzing the full nature of the employment relationship. The degree of importance of each factor will vary depending on the worker’s occupation, the industry, and the facts and circumstances of the worker’s employment.

Federal and State Agency Crackdown on Employee Misclassification.

While plaintiffs’ lawyers are busy in the courtroom filing class actions against businesses challenging independent contractor status, the IRS, DOL, Congress and state agencies have likewise increased their regulatory and enforcement programs as well with numerous initiatives, including the following:

  • In September 2011, the DOL launched a “Misclassification Initiative” pursuant to which it signed a Memorandum of Understanding (MOU) with the IRS and with 14 states. Under the MOU, the IRS, DOL, and various state agencies agreed to work together to share information in order to reduce the incidents of misclassification, to help reduce the tax gap, and to improve compliance with federal and state labor laws.
  • On September 15, 2014, the DOL announced that it is awarding $10.2 million to 19 states to help finance their crackdown on independent contractor misclassification. This announcement comes after Congress passed the Consolidated Appropriations Act of 2014 authorizing grant funding of no less than $10 million for activities to address the misclassification of workers.  The grants are designed to help states identify worker misclassification and protect state unemployment benefits.
  • Beginning in 2015, pursuant to the Affordable Care Act (“ACA”), employers with 50 or more employees that fail to provide the minimum required level of affordable health care to employees will be assessed a penalty of $2000 per employee. Thus, the danger of a finding that an employer misclassified employees as independent contractors can cause significant liability under the ACA.

Challenges to Independent Contractor Status Prompt Settlements

In the wake of court rulings and government audits on misclassification, employers have been driven to settle claims to avoid the risk of large, unfavorable judgments.  For example, in Scovil v. FedEx Ground Package System, Inc., No. 1:10-cv-00515-DBH (D. Maine, March 14, 2014), another case involving FedEx, the company settled a class action involving 141 drivers in Maine for $5.8 million after the district court held that FedEx improperly denied the drivers overtime pay, made deductions from pay, and required the drivers to pay for their own expenses.

In the summer of 2014, Lowe’s offered a $6.5 million settlement to settle a class action lawsuit in which home improvement contractors alleged that they had been misclassified as independent contractors rather than employees.  Shepard v. Lowe’s HIW, Inc., No. 12-CV-03893-JSW (N.D. Cal. May 23, 2014).

What Can Companies Do to Strengthen Their Classification of Workers?

Due to the increased spotlight on independent contractor misclassification, any company that utilizes independent contractors is vulnerable to attack, regardless of whether the claims are legitimate. Accordingly, in light of the current legal environment, it is prudent for companies to consider how they can strengthen the classification of their contractors or whether contractors should be reclassified as employees.