By Patrick M. Madden, Amy L. Groff, and Bridget A. Blinn-Spears

Transcription

1 MATERIALS AVAILABLE ASSESSING INDEPENDENT CONTRACTOR RELATIONSHIPS: CAN THEY SURVIVE USDOL S GUIDANCE? By Patrick M. Madden, Amy L. Groff, and Bridget A. Blinn-Spears September 2015 The issue of whether a worker can be properly classified as an independent contractor has always been challenging given the various factors to consider and tests to apply in different contexts, none of which are black and white and all of which involve a fact-specific analysis. In light of the recent interpretive guidance issued by the U.S. Department of Labor ( DOL ), Wage and Hour Division, that analysis and the likelihood that an independent contractor classification will withstand scrutiny has become even more challenging. This article will focus on the analysis of independent contractor relationships under the economic realities test, which is applied in the context of federal wage and hour law. It will not address other tests, which should also be considered, for purposes of other laws. I. Background Companies seek to avoid becoming an employer for a wide variety of reasons. Whether a worker is a bona fide independent contractor or an employee can have wide ramifications. For example, if a worker is an employee, the employer may have additional burdens and liability in the form of minimum wage and overtime pay; fringe benefits (including vacation and other paid and unpaid leave); compliance with various recordkeeping and reporting requirements; withholding income taxes; unemployment taxes; Social Security and Medicare contributions; workers compensation insurance; potential collective bargaining obligations; potential liability under other employment statutes, such as the Occupational Safety and Health Administration ( OSHA ) and discrimination and harassment laws; and vicarious liability for the worker s negligent conduct. Some estimates indicate that classifying a worker as an independent contractor rather than an employee may save companies upward of 25 to 35 percent of the worker s total compensation. Employers often cite independent contractor relationships as affording them greater staffing flexibility. Employers often engage individual workers as independent contractors, either because the company prefers that arrangement or because the contractor does. Employers also often work through third-party staffing or temporary employment agencies to fill the need for workers. Their contractual arrangements with those companies provide that the agency will be the workers employer, providing payroll services and other administrative duties and fulfilling legal requirements, such as unemployment insurance, workers compensation, and tax withholding. These contracts often seek to apportion liability for employment-related claims between the hiring company and the staffing agency. They usually characterize the relationship between the company and the staffing agency as an independent contractor relationship. These arrangements are often attacked on a joint-employer theory, arguing that the independent contractor relationship defined by the contract between the two companies creates a joint-employment relationship as to the workers provided by the agency to the company. Thus, short-term/temporary employees are often the subject of misclassification scrutiny in addition to individual independent contractors. Recently, business models like Uber and 1

2 Lyft, which compete with taxi companies and other driving services, have come under scrutiny for their classification of their drivers as independent contractors. Those companies both directly engage individual drivers and also engage drivers through third-party agencies. Misclassification issues arise in a wide variety of contexts, including the following: Internal Revenue Service ( IRS ) claims for failure to withhold payroll taxes; Third-party negligence claims that a company is vicariously liable for a worker s negligence; Claims a company is liable for a worker s injury on the job; Discrimination, harassment, and retaliation claims under civil rights statutes; Wage and hour claims under the Fair Labor Standards Act ( FLSA ) and state laws; and Claims for entitlement to leave, insurance, and other benefits (and penalties for the failure to pay the same). Notably, there are several government agencies that closely monitor independent contractor relationships, including the IRS, the DOL, the Equal Employment Opportunity Commission, and various state agencies. These agencies use a variety of different tests that place different emphasis on the concepts of control, economic dependence, and the relationship between the parties, including their written contract if one exists. To make matters even more complicated and confusing, workers may be properly classified under one test and misclassified under another. The focus of this presentation will be on the DOL s new interpretive guidance, but that guidance does not directly impact the analysis of other agencies. II. DOL s Guidance Focusing on the FLSA s broad definition of employ and expressing its view that most workers are employees, the DOL issued its controversial new guidance document portraying the applicable test in a light that favors finding ostensible independent contractors to be employees. The DOL s guidance, published on July 15, 2015, as Administrator s Interpretation , examines the longstanding, multi-factor economic realities test used to determine whether someone is a bona fide independent contractor or an employee for purposes of the FLSA (as well as the Family and Medical Leave Act and the Migrant and Seasonal Agricultural Worker Protection Act). While the DOL has stated that its guidance does not announce new law or policy, it certainly takes an expansive view of who is an employee and suggests that the economic realities factors should be considered in light of the broad scope of the employment relationship under the FLSA. The guidance also cautions employers to consider all factors and not to rely solely on the amount of control exercised by the employer, which is at the heart of the test applied by other agencies under laws addressing discrimination, taxes, and employee benefits. Under this articulation of the economic realities standard, it will be significantly more difficult to convince the DOL that bona fide independent contractors are, in fact, contractors and not employees. It may also be more difficult to maintain that companies hiring workers through staffing companies are not the employers of those workers. The factors to consider under the economic realities test, as described and explained by the DOL s guidance, are outlined below and seem to indicate that virtually every worker could be considered an employee. Is the work an integral part of the employer s business? This factor examines the nature of the employer s business and the nature of the individual s work. If someone s work is integral to the business of the employer, it is more likely that the individual is an employee. For example, cake decorators perform work that is integral to a business engaged in selling custom-decorated cakes, and picking pickles is an integral part of a pickle business and courts have found that these workers are employees and not independent contractors. Recognizing the increase in telecommuting and other flexible work arrangements, the guidance also notes that work performed away from an employer s place of business (such as work performed at home or at a customer s site) can still be considered an integral part of the employer s business. 2

3 Does the worker s managerial skill affect his or her opportunity for profit or loss? Courts have also articulated this factor in terms of the degree to which the worker s opportunity for profit and loss is determined by the alleged employer or even just the worker s opportunity for profit or loss. An independent contractor faces the potential of not only making a profit, but also suffering a loss, which often extends beyond a single job. For example, a worker s decision to hire others, purchase materials and equipment, advertise, rent space, and manage time tables reflect managerial skills that may affect profit or loss beyond a worker s current job. According to the DOL, the focus should not be merely whether there exists an opportunity for profit or loss, but should be whether the worker can make decisions and use managerial skill and initiative to affect the opportunity for profit or loss. The DOL also explains that loss is not simply a reduction in earnings. Instead, the opportunity for profit or loss is different than the ability to simply work more or less hours to increase or decrease earnings, which is something an employee may be able to do. How does the worker s relative investment compare to the employer s investment? A worker s investment (and, thus, undertaking of risk) can be an indication that he or she is in an independent business. However, the DOL instructs that a worker s investment should not be considered in isolation, but that the worker s investment should be compared to the investment of the alleged employer and that a worker s relatively minor investment, as compared to the alleged employer s investment, is not indicative of an independent contractor relationship. The DOL does acknowledge that some courts have analyzed workers investments without comparing them to the employer s investments, but seems to discount that approach in favor of cases that have made a comparison part of the analysis. Does the work performed require special skill and initiative? For this factor, the DOL instructs employers to focus on the worker s business skills, judgment, and initiative, as opposed to technical skills, as an indication that he or she is an independent contractor. By way of example, highly skilled carpenters or electricians may not be independent contractors if they do not exercise their skills in an independent way and do not demonstrate managerial or business skill. In the context of a carpenter who provides handcrafted, custom cabinets, the skill and initiative of an independent contractor could include marketing, determining when and how many materials to order, and determining which orders to fill. Is the relationship between the worker and the employer permanent or indefinite? A worker s permanent or indefinite relationship with a purported employer suggests that the worker is an employee. At the same time, the DOL cautions that the lack of a permanent or indefinite relationship does not automatically mean that a worker is an independent contractor. Employers should consider the reason why the relationship is not permanent or indefinite. If the lack of a permanent relationship results from the worker s independent business initiative, that would indicate an independent contractor. On the other hand, if the lack of permanence results from operational characteristics of the industry, such as industries that are seasonal or that rely on part-time labor or staffing agencies, that may not indicate that the worker is running an independent business. What is the nature and degree of the employer s control? This factor considers whether the worker, as opposed to the employer, actually controls meaningful aspects of the work performed, as an indication of an independent contractor relationship. The DOL guidance cites cases in which the court found that workers control over their hours of work was not enough, alone, to establish that the workers were independent contractors. It also cites caselaw indicating that an employer need not look over his workers shoulders every day in order to exercise control. The DOL again warns employers not to place too much weight on this factor or to let it overtake the other factors of the economic realities test. The DOL suggests that all of these factors be analyzed in light of the ultimate determination of whether a worker is economically dependent on the employer or is truly an independent businessperson. This guidance and the DOL s accompanying statements 3

4 signal an increased focus on, and skepticism of, independent contractors. Even the cases cited in the guidance tend to be those most favorable to workers asserting that they should be considered employees, not independent contractors. III. DOL s Misclassification Initiative In addition to issuing this recent guidance, the DOL plans robust enforcement efforts pursuant to a misclassification initiative and has entered into memoranda of understanding with the IRS and 26 states to combat worker misclassification. By way of background, the IRS and DOL signed a memorandum of understanding on September 19, 2011, to address worker misclassification as part of the initiative in place at that time. The purpose of the memorandum of understanding was for the agencies to collaborate and share information with one another, reduce the misclassification of employees, reduce the portion of the tax gap resulting from misclassification of workers as contractors instead of employees, and improve compliance with federal labor laws. Under the arrangement, the DOL can refer information and data from wage and hour investigations to the IRS, which the IRS can use to determine and test employment-related tax compliance; the IRS can share the referred information with state and municipal taxing agencies authorized to receive such information under approved agreements with the IRS; and the DOL and IRS can share training and outreach materials and participate together in training and public outreach. The DOL has entered into similar memoranda of understanding with the following states: Alabama, Alaska, California, Colorado, Connecticut, Florida, Hawaii, Illinois, Idaho, Iowa, Kentucky, Louisiana, Maryland, Massachusetts, Minnesota, Missouri, Montana, New Hampshire, New York, Rhode Island, Texas, Utah, Vermont, Washington, Wisconsin, and Wyoming. While the terms differ somewhat, these arrangements involve the same basic information sharing and coordinated enforcement to address misclassification. In some cases, the memoranda of understanding also include the participation of OSHA, the Employee Benefits Security Administration, the Office of Federal Contract Compliance Programs, and the Office of the Solicitor. Certain industries have been targeted by the DOL in the past or are targeted as more likely to employ independent contractors. A few that come to mind are construction, transportation, oil and gas, hospitality, nursing, janitorial, and staffing. However, the issue of independent contractor classification can arise in most industries. In light of this initiative, employers in a variety of industries across the country should pay attention to their independent contractor arrangements and should be prepared for increased enforcement activity by the DOL. In fiscal year 2014, more than 43 percent of the DOL s investigations were agencyinitiated (i.e., part of some agency initiative, as opposed to investigations initiated by a complaint), which was up from 35 percent just five years ago. IV. Implications of Misclassification Misclassification of an employee as an independent contractor for purposes of wage and hour law can result in significant liability. Some examples of potential liability are unpaid overtime or minimum wages under state or federal law (and a lack of records to refute or substantiate what hours were worked); missed or noncompliant meal and rest breaks under certain state laws; failure to provide itemized pay stubs or pay at appropriate intervals in accordance with certain state laws; failure to issue a final paycheck within a required period under certain state laws; and failure to assure proper payment of leave, insurance, and other benefits. Disgruntled workers can file complaints with the DOL s Wage and Hour Division (or similar state agencies) without any cost to them. The process is not difficult and does not require an attorney. Given the current misclassification initiative, complaints filed with the DOL by purported independent contractors would likely get the agency s attention. In the event the agency is unsuccessful in collecting the minimum wages or overtime pay it believes are due to an employee (or in collecting wages or enforcing compliance relating to a Family and Medical Leave Act complaint), it could initiate suit or refer the individual to plaintiffside employment attorneys. The American Bar Association and the DOL have a referral program called Bridge to Justice under which the DOL makes such referrals if it finds back wages due to an employee, but does not successfully collect them (and chooses not to file suit on the employee s behalf). Under this program, the DOL connects the employee(s) to a local lawyer referral service that will, in turn, give the employee(s) access to plaintiff-side employment attorneys who may be able to help 4

5 them. The program has been in place since late in 2010, and was expanded to include a Web-based system in September With representation of counsel, employees would then likely exercise their private right of action under Section 16 of the FLSA to pursue their minimum wage and overtime claims in court. Alternatively, a worker could engage counsel (likely on a contingency-fee basis) and proceed to file suit without having to first go through the administrative process with the DOL or a state agency. These lawsuits could be filed in state or federal court and could be filed individually or as class or collective actions under applicable state or federal law. In wage and hour lawsuits in which workers are found to have been misclassified and entitled to back pay for minimum wages or overtime, employers can be liable for the back wages, as well as an equal amount in liquidated damages and the workers reasonable attorneys fees. V. Practical Guidance Now is the time for businesses to be proactive in assessing their independent contractor relationships. When a business changes practices, the changes can often attract attention and invite litigation. However, the DOL s recent pronouncements and expansive interpretations may provide employers with an excuse to audit and modify their practices in this area. The key is to focus on the DOL s new and unreasonable actions rather than the employer s mistakes. The following is a list of suggestions or characteristics that can be helpful in developing or confirming an independent contractor relationship, although it is important to understand that this list is meant only as a guideline and that all of these suggestions will not necessarily apply to every situation. In addition, having a certain number of these characteristics will not necessarily assure a bona fide independent contractor relationship, just like a relationship that does not have all of these characteristics is not necessarily an employment relationship. There is no guaranteed formula for creating an independent contractor relationship, but the more facts that point to an independent contractor status, the more likely that such a relationship will be recognized. With that in mind, companies can consider the following: The parties should have a negotiated, written independent contractor agreement that defines the relationship as a contract for services and does not include terms of a traditional employment agreement. For example, the contract should not include the same conditions that existed in a previous employment agreement or collective bargaining agreement. The contractor should generally work for multiple different entities and not be dependent on work for just one company. The contractor should be incorporated. The contractor should be paying any appropriate federal, state, and local taxes for its business operations. The contractor hired to perform a specific task should be free to set his or her own hours and work at its discretion. This includes freedom for contractor employees to take vacations and time off when desired. The contractor should not receive overtime pay, vacation pay, or holiday pay. Additional pay beyond payment for work completed or invoiced could indicate an employment relationship. Payment should be based on work (not hours) completed or a fixed fee. Payment should preferably be for a mutually predetermined amount. Contracted work should be tendered with a quote inclusive of expenses. The contractor should submit invoices. The contractor should receive a 1099 form. The contractor should choose the location where the work will be completed. The contractor should have outside premises and his or her own support staff for whom the contractor is responsible in terms of supervision and remuneration. The company should not dictate how those subordinates are hired or paid. 5

6 The contractor should provide the tools and equipment necessary for completing the project. This includes bearing the financial cost of purchasing, insuring (if appropriate), maintaining, and repairing the equipment, including computers, cell phones, vehicles, etc. All the expenses of the execution of the work should be borne by the contractor. The company should not pay for incidental expenses, such as travel costs and training and licensing fees. The contractor should bear the risk of incurring a loss where the project is not adequately completed. The contractor should also retain the possibility of using his or her entrepreneurial talent to maximize profit. The contractor should have proof of liability insurance. The company should have as little direction and control over the independent contractor as possible. For example, the completion of tasks should be within the contractor s control; the contractor should have the freedom to adopt his or her desired work methods; the contractor should not be required to furnish regular reports to the company regarding hours worked; and the contractor should be able to engage in agreements with other parties without the company s prior approval. The contractor should not be given a title by the company or be able to use company business cards, letterhead, or accounts. The contractor should have his or her own phone book listing or website and advertising material. The contractor should not be included in the company s phone listing (either internal or external), website, marketing materials, or organizational charts. The contractor should be hired for short, specific job tasks (preferably less than 180 days), and it is preferable that there be a hiatus (of at least 180 days) between projects. The relationship with a company should not be permanent or indefinite. The contractor should work independently or with assistants whom he or she hires and over whom he or she exercises full employer rights and responsibilities. Assistants should perform work that is distinct from the contractor s work. The company should not allow its employees to fill in for and perform the tasks of the contractor when the contractor is absent. The contractor should be able to substitute another individual to perform his or her tasks when necessary without prior authorization from the company. In other words, the contract should be for the completion of a particular job, not for the performance of a particular person. The contractor should not be restricted from providing similar services to other clients in the same field or geographical location. Instead, the contractor should be performing the same work for others. Non-compete agreements are generally not appropriate. The contractor should be free to refuse work. The contractor should not attend employee meetings and training sessions. The contractor should not participate in company benefit plans. The contractor should not perform bargaining unit work or similar work to that of employees. The contractor should not perform tasks outside his or her specific job and should not be placed under the direction of company supervisors to perform other work. The less integrated the contractor is in the work of other employees, the more independent he or she will appear. 6

7 The contractor should not be allowed to hold himself or herself out to the public as an employee or representative of the company. The contractor should be able to subcontract his or her work to others. The company should only be able to terminate the contract for unsatisfactory performance of the contracted-for work. The contractor should not be disciplined or dismissed for cause. Termination by the contractor is permissible in accordance with the terms of the contract. The contractor should obtain the clients himself or herself rather than being furnished with a list of clients by the company. The contractor should have direct contact with clients rather than communicating with them via the company. A contractor should have authority to decide on the prices for services or products offered to clients. A contractor should not pay sums to maintain a relationship with the company. While these suggestions can help minimize the risk of an adverse finding by the DOL and the risk of litigation, it is still early to know how the DOL will be enforcing the economic realities test in particular situations or how the courts will react to the DOL s approach. In some circumstances, it may be possible to make changes to existing or future independent contractor relationships to increase the likelihood that the relationships will withstand scrutiny. When that is not possible, or when the contractor relationship is dubious, companies can avoid potential exposure associated with misclassification by classifying and treating the individual at issue as an employee. In any event, based on the DOL guidance, companies should expect that any independent contractor arrangements with individuals, as opposed to multiple-employee companies, could be scrutinized and, indeed, even the relationships with workers or owners of multiple-employee entities could be challenged as employment relationships. For additional information or to discuss any particular independent contractor relationship, please contact one of the speakers noted below or any of the lawyers in K&L Gates global Labor, Employment and Workplace Safety practice area. Patrick M. Madden patrick.madden@klgates.com Amy L. Groff amy.groff@klgates.com Bridget A. Blinn-Spears bridget.blinn-spears@klgates.com

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