New DOL Rule to Take Effect Concerning Classification of Independent Contractors

By Alexandra (Sasha) Chepov and Oyvind Wistrom - Lindner & Marsack, S.C.

January 23, 2024

On January 9, 2024, the U.S. Department of Labor (“DOL”) published a final rule addressing how to determine whether a worker is properly classified as an independent contractor or employee under the Fair Labor Standards Act (“FLSA”). The final rule rescinds the 2021 Independent Contract Rule (“2021 IC Rule”) and replaces it with an analysis that the DOL maintains is more consistent with judicial precedent and the FLSA’s text and purpose. The final rule goes into effect on March 11, 2024.
 
The Six-Factor Economic Reality Test Under the Final Rule
 
Under the 2021 IC Rule, the economic reality test was comprised of five factors, two of which were recognized as “core” factors, carrying greater weight in the analysis. In rescinding the 2021 IC Rule, the final rule returns to the totality-of-the-circumstances analysis of an economic reality test comprised of six equally weighted factors.
 
As such, the final rule requires an analysis of the following six factors to determine whether, as a matter of economic reality, a worker is economically dependent for work, and is thus an employee, or is in business for themselves as an independent contractor.
 
1.    Opportunity for Profit or Loss Based on Managerial Skill
Under the final rule, it is the worker’s “opportunity” for profit or loss based on managerial skill, rather than whether the worker exercised such opportunities that is relevant when analyzing this factor. The fact that a worker has no opportunity for loss indicates employee status because there is at least some risk of loss inherent in operating an independent business. Conversely, where the risk of a loss is a possible result of the worker’s managerial decisions indicates that the worker is in business for themselves.
 
DOL guidance explaining this factor specifies that the opportunity to hire others and purchase materials and equipment, and a decision not to take such action based on consideration of possible costs and rewards, can indicate independent managerial decision making. Where taking an action requires the approval from the employer or the action is not financially feasible, then there is likely no opportunity for the worker to make an independent business decision indicating managerial skill.
 
Consistent with the totality-of-the-circumstances approach to the final rule’s economic reality test, no one action or inaction should determine whether this factor indicates employee or independent contractor status.
 
2.    Investments by the Worker and the Potential Employer
Under the 2021 IC Rule, the investments made by the worker and potential employer were analyzed under the “opportunity for profit or loss” factor. The final rule expands the economic realities test to analyze a worker’s investment in relation to the employer’s investment in its business as a standalone factor, distinct from the worker’s opportunity for profit or loss.
 
The final rule also clarifies that an examination of the relative investments of the worker and potential employer should be conducted to determine whether the worker is making similar types of investments to suggest that the worker is operating independently. As such, the final rule requires that investments be compared on qualitative measures (i.e., the types of investment) rather than quantitative measures (e.g., dollar values or sizes). However, investments that are unilaterally imposed on the worker do not suggest independence, whereas investments made on the worker’s own initiative suggest independence.
 
3.    Degree of Permanence of the Work Relationship
Length of time and duration of the work relationship has long been considered under the permanence factor as an indicator of employee or independent contactor status. Under the final rule, the DOL takes the position that the degree of permanence of the work relationship weighs in favor of the worker being an employee when the work relationship is indefinite in duration or continuous, as is often the case in exclusive working relationships. In the alternative, this factor weighs in favor of finding independent contractor status when the work relationship is definite in duration, non-exclusive, project-based, or sporadic due to the worker being in business for themselves and marketing their services or labor to multiple entities.
 
The final rule also emphasizes that consideration of permanency under this factor must take into account whether the worker is exercising their own business initiative in regard to the duration of the work relationship. As such, where a lack of permanence is due to operational characteristics that are unique or intrinsic to particular businesses or industries and the workers they employ, this factor is not necessarily indicative of independent contractor status unless the worker is exercising their own independent business initiative.
 
4.    Nature and Degree of Control
While the 2021 IC Rule considered control as a “core” factor in the economic reality test, the final rule clarifies that control should be analyzed in the same manner as any other factor. In assessing this factor under the final rule, the focus must be on the nature and degree of control exerted by the potential employer, rather than the worker, because that focus is probative of whether the worker stands apart as its own business.
 
The 2021 IC Rule assessed the employer’s and the worker’s substantial control over key aspects of the performance of work, which included setting schedules, selecting projects, controlling workloads, and affecting workers’ ability to work for others. While the final rule does not eliminate the relevance of the worker’s ability to control their own schedule, scheduling flexibility should no longer be considered dispositive of the control factor as articulated in the 2021 IC Rule. With respect to “supervision,” the totality-of-the-circumstances analysis under the final rule includes not only exploring ways in which supervision is expressly exercised, but also the instances where supervision is not apparent but still used by employers (i.e., job structure, training, use of technology, etc.)
 
Further, the final rule specifies that actions taken by the potential employer for the sole purpose of complying with a specific, applicable Federal, State, Tribunal, or local law or regulation are not indicative of control. However, actions taken by the potential employer that go beyond compliance with a specific law or regulation, and instead serve the potential employer’s own compliance methods, safety, quality control, or contractual or customer service standards may be indicative of control.
 
5.    Extent to Which the Work Performed is an Integral Part of the Potential Employer’s Business
Under the final rule, the DOL returns to framing the “integral factor” in a manner that is more consistent with judicial precedent and the totality-of-the-circumstances approach that the 2021 IC Rule’s “integrated unit of production” framing of this factor. Only work that is critical, necessary, or central to the potential employer’s principal business is integral. As such, if the work being performed is necessarily integral to the business of the potential employer, this factor would weigh in favor of employee status.
 
6.    Skill and Initiative
The final rule specifies that where the worker brings specialized skills to the work relationship, this fact is not itself indicative of independent contractor status because both employees and independent contractors may be skilled workers. It is the worker’s use of those specialized skills in connection with business-like initiative – rather than considering only whether the worker has specialized skills – that helps distinguish the worker’s status and is probative of the ultimate question of economic dependence.
 
Takeaway
 
The above factors are not exhaustive, and no single factor is determinative. As such, the determination of whether a worker is properly classified as an employee or independent contractor remains a fact-specific inquiry that must consider the totality of the circumstances. Employers also need to remain cognizant of the fact that this rule is limited to consideration under the FLSA, and there are separate rules and standards for purposes of workers compensation, unemployment insurance, as well as under IRS rules.
 
With the final rule taking effect on March 11, 2024, covered employers should ensure that they are in compliance with the final rule by carefully examining their classification of workers to prepare themselves for DOL audits and protect themselves against costly misclassification litigation and liability. If you have questions about this material, please contact Alexandra (Sasha) Chepov or Oyvind Wistrom by email at achepov@lindner-marsack.com or owistrom@lindner-marsack.com, or any other attorney you have been working with here at Lindner & Marsack, S.C.

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