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Continued Focus on Independent Contractor Misclassification

Independent contractor misclassification is an everyday occurrence in companies of all sizes across all industries in the United States. As more organizations confront the issue of talent scarcity in the labor market, while also trying to preserve business flexibility, they increasingly turn to directly sourcing independent workers as a viable solution. While there are many business benefits to engaging independent workers, there are also many risks if it is not done correctly.

Given the rapid growth of the independent workforce, and the financial temptations to misclassify workers, this topic is also top of mind for a number of federal and state government agencies (and hungry plaintiff’s attorneys) who are focused on protecting worker rights and collecting taxes. For the enterprise procurement and human resources professionals who buy talent, and who want to protect their organizations, this issue can be complicated and challenging to address.

The U.S. Department of Labor (DOL) has been leading the charge against worker misclassification. In addition, a number of other federal and state agencies also care a lot about whether workers are properly classified as employees or independent contractors (including 35 states who have signed Memorandum of Understanding agreements with the DOL to jointly pursue companies that misclassify workers as independent contractors). In addition, there has been a significant amount of litigation in both federal and state courts challenging the classification of employees as exempt versus non-exempt.

Avoid independent contractor misclassification

A significant part of what makes independent contractor determination so challenging is the fact that there is no uniform standard that governs the definition of contractors across states or federal agencies. To determine the appropriate worker classification, employers may need to use a different test under the federal Fair Labor Standards Act (FLSA), their state’s specific wage and hour laws, and the state agency’s rules governing whether a worker is eligible for unemployment insurance benefits or if they are covered under the employer’s workers’ compensation policy. Despite this lack of uniformity or standards, independent contractor classification often hinges on several key factors that are built into each legal test in one form or another.

Generally speaking, an independent contractor is engaged by a person or entity to perform a certain service or produce a certain deliverable for a negotiated fee. To be a valid independent contractor relationship, the business or individual engaging the worker typically does not have meaningful control over the process that the contractor will use in order to deliver the desired result to the business or individual. However, if the “economic realities” of the relationship more closely resemble an employment relationship, between an employer and an employee, it is very likely a court or administrative agency will find the worker to be an employee. This “economic realities” test always involves some version of the following factors:

  • The permanency of the relationship between the parties
  • The degree of skill required for the rendering of the services
  • The worker’s investment in equipment or materials for the task
  • The worker’s opportunity for profit or loss, depending upon their skill
  • The degree of the alleged employer’s right to control the manner in which the work is performed
  • Whether the service rendered is an integral part of the alleged employer’s business

In a July 2015 Interpretation letter, the Administrator of the DOL’s Wage and Hour Division explained that the ultimate question is whether the contractor is economically dependent on the employer. If so, the contractor is actually an employee under the FLSA’s broad definition of “employee” as someone that the employer “suffers or permits to work.” It should also be noted that the DOL has demonstrated a significant bias that nearly all workers should be considered as non-exempt employees.

The consequences of getting it wrong

The consequences of independent contractor misclassification can be significant. Worker misclassification can often cause an employer to be in violation of the FLSA’s requirements for minimum wage and overtime, etc. Depending on the number of independent contractors that have been misclassified, the ultimate cost to the company can exponentially increase if there is a class or collective action from a number of workers seeking back wages and overtime as well as penalties allowed under the federal statute. And that does not even account for what additional liabilities might exist under state wage and hour laws. In addition, companies also incur many other significant hard and soft costs in defending their classification decisions, such as:

  • Legal defense costs
  • Management team distraction
  • Employer brand reputation damage

Given such a fact-intensive review on the part of the courts and agencies regarding the job duties and roles of both the company and the worker, defending a worker misclassification audit or lawsuit can be a lengthy and costly exercise. It should be obvious that worker misclassification is best avoided if at all possible. A best practice is to engage an experienced Independent Contractor Compliance and Engagement expert, like TalentWave, to build and manage a program which mitigates your risk while delivering significant cost and process savings.

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