In late 2022, the U.S. Department of Labor (DOL) proposed to reinstate its multi-factor “economic reality” test to determine whether a worker is an employee or an independent contractor under the Fair Labor Standards Act (FLSA). In doing so, the DOL proposed rescinding a 2021 rule in which control over an individual’s work and the opportunity for profit or loss carried the greatest weight in determining whether a worker could be classified as an independent contractor or employee. Under the DOL’s new October 2022 proposed rule, the test would become a “totality of the circumstances” analysis for determining which workers are independent contractors.
At the end of the Trump administration, on January 7, 2021, the DOL published a final rule regarding the classification of independent contractors under the FLSA (the 2021 Rule). That rule adopted the two-pronged test using control over the individual’s work and opportunity for profit or loss as the most probative questions in identifying whether someone was an independent contractor.
The Biden administration withdrew the 2021 Rule. However, a federal court rejected the rule’s withdrawal and reinstated it. The DOL’s “new” proposed rule aims to rescind the 2021 Rule and restore the status quo ex ante.
In short, the DOL’s proposed rule would do the following:
- Restore the DOL’s pre-2021 approach to identifying independent contractors and align it with most federal courts’ interpretation of the FLSA and the long-standing economic reality test;
- Revert to the DOL’s interpretation of the “economic reality factors,” which include the investment, control, and opportunity for profit or loss, as well as whether the work the individual is doing is integral to the employer’s business;
- Ensure that the totality of the circumstances are analyzed without assigning a set weight to any one factor or factors; and
- Rescind in full the 2021 Rule.
Overall, this proposal would help employers properly identify employees and independent contractors under the FLSA. Misclassifying workers can be a costly mistake for employers and can deny employees basic worker protections such as minimum wage and overtime pay.
Factors to Consider Under the Multi-Factor “Economic Reality” Analysis
When interpreting FLSA cases, the courts have long applied the “economic reality” test referenced above. This test examines whether workers are economically dependent on their employer for work. The DOL’s proposed rule would implement this multi-factor test and does not assign a pre-determined weight to any one factor. The economic reality test examines the following factors.
Is the Work Being Performed an Integral Part of the Employer’s Business?
Under the proposed rule, a critical question in evaluating the totality of economic circumstances is whether the worker performs work central to the employer’s business. The question is not whether the individual worker has unique abilities but whether their work is part of the essence of the employer’s business.
For instance, an individual auto mechanic may not possess any special skills beyond what is required to do their job. But if the employer’s business is automotive repair, that work is an integral part of the employer’s business.
Does the Worker’s Managerial Skill Affect Their Opportunity for Profit or Loss?
If the worker can negotiate their own rate of pay and accept or decline projects according to their own desires, then this factor may weigh in favor of being an independent contractor. Other considerations include whether the worker engages in their own marketing and advertising and whether they have their own employees, materials, and space to do business.
The DOL also notes that the worker’s actual opportunity for a loss should be considered. This is because experiencing the full impact of a loss may indicate independent contractor status. On the other hand, workers who provide only their labor and are paid an hourly or flat rate with little to no risk of loss are more likely to be employees.
How Does the Worker’s Relative Investment Compare to the Employer’s Investment?
Simply put, more investment by the worker usually means that the worker is in business for themselves and is more likely an independent contractor. The proposed rule and the courts view the worker’s investment relative to the employer’s investment in their business. A worker’s investments can include those that increase the worker’s ability to do more or different kinds of work, reduce their costs, or extend market reach—investments not specific to the employer’s business.
However, when the worker invests in tools simply to perform their job efficiently or comfortably, this is not considered evidence of capital or entrepreneurial investment. Again, these investments are considered in proportion to the employer’s investment. Where a worker works from home and an employer sends the worker a laptop and monitor, but the worker invests in a more comfortable office chair to complement the set-up, this would likely not be considered a factor in favor of the worker being an independent contractor.
For gig economy workers, like rideshare drivers, the proposed rule states that “the use of a personal vehicle that the worker already owns to perform work—or that the worker leases as required by the employer to perform work—is generally not an investment that is capital or entrepreneurial in nature.” These vehicles are often used for personal reasons or were purchased before the gig for personal purposes.
What Is the Degree of Permanence of the Work Relationship?
The degree of permanence of the working relationship between employer and worker can help determine whether an individual is an employee or an independent contractor. The proposed rule suggests that if the work relationship is indefinite or continuous, this may indicate employee status versus sporadic or project-based work, which may suggest independent contractor status. However, the DOL acknowledges that sporadic and project-based employment are not dispositive factors in assessing independent contractor status due to issues like seasonal and temporary employment. Instead, the DOL suggests looking at whether project-based or sporadic employment is within the worker’s control.
What Is the Nature and Degree of the Employer’s Control?
Relevant considerations in analyzing this factor include whether the employer sets a worker’s schedule and supervises and assigns work, as well as whether the worker has the ability to set a price for the goods or services they provide. The DOL’s proposed rule also acknowledges technology’s role in modern workforces and states that technological monitoring is essentially the same as physical supervision.
Where an employer must comply with legal or regulatory obligations, including safety or health standards for the worker or on the worker’s behalf, this suggests that the worker is economically dependent on the employer and, thus, an employee.
Does the Work Require Special Skill and Initiative?
Does the worker use specialized skills to perform a job for the employer’s business? Are those skills consistent with the worker being in business for themselves instead of economically dependent on the employer? Answering these questions is a key part of the economic reality test. Employees typically depend upon their employers for training to do the work required. In contrast, independent contractors usually have skills demonstrating that the worker exercises independent business judgment.
Impact on Gig Economy
While the proposed rule is aimed at any business that has independent contractors and employees, its biggest impact will likely be felt by ride-sharing companies, restaurant and grocery delivery services, and other industries that rely on gig workers. It is not yet clear how these companies will need to reorganize their workforces and contracts to cope with new or additional scrutiny of the employment status of their workers.
If you are an employer in the gig economy, you may want to pay special attention to comments to the proposed rule, as the updated totality of the circumstances analysis may have a serious economic impact on your business.
Considerations for Employers
The main takeaway for employers of all types is that the DOL’s proposed rule, if enacted, may set a more rigid approach to independent contractor classification. This rule, if enacted, would make it difficult for certain types of workers to qualify as independent contractors under the FLSA. In particular, gig workers and other service workers may be affected by these changes.
However, the proposed rule only applies to the classification of workers under the FLSA. Government audits and lawsuits over the (mis)classification of workers often arise from tax issues, benefits questions, and unemployment disputes. In those cases, state laws and state-level analyses of worker classification may apply instead. Therefore, while the proposed rule could be considered more cumbersome and less favorable for businesses whose workforces are composed of both employees and independent contractors, the practical effect of the rule may not be as costly or as dramatic as this development initially appears.