The U.S. Department of Labor in January 2024 finalized a new federal rule that will make it more difficult for employers to classify workers as independent contractors.
The final rule formally rescinds the independent contractor rule issued by the DOL during the Trump administration a few years ago and provides a different interpretation of how the key test of employment, called the “economic realities test,” should be applied.
But for employers it is likely to sow confusion and may result in individuals being improperly designated as employees when they are, in fact, operating as independent contractors.
Companies who hire contractors that work exclusively for them will have the hardest time trying to continue classifying them as independent contractors. Here are the proposed changes you may want to pay attention to in case your firm uses outside contractors.
The debate about classifying workers has been brewing for decades. Under the federal Fair Labor Standards Act (FLSA), employees have rights to benefits that elude independent contractors, including the rights to a minimum wage, overtime pay, unemployment insurance, health insurance, sick time and employer contributions to Social Security taxes.
Their employers also purchase workers’ compensation insurance to cover them if they are injured on the job.
The final rule
The new rule allows an employer to classify someone as an independent contractor if, “as a matter of economic reality,” that person is in business for themselves.
What “economic reality” is depends on the answers to a six-pronged test, which the courts had used until the Trump-era rule.
Note: One answer by itself does not make a person an independent contractor.
Can the worker increase their pay only by working more hours or producing more? If so, this might make the person an employee. Conversely, can they do so by negotiating pay, selecting projects, marketing their service or cutting expenses? That would tend to make them an independent contractor.
Does the employer purchase most of the worker’s tools and equipment? This might make the person an employee. On the other hand, if their investments are for purposes like expanding the types and amounts of work they can do or cutting expenses, that might tend to make them an independent contractor.
Under the rule, when comparing investments made by the worker and potential employer, the analysis should focus on the types of investments made by each and not focus exclusively on the relative size of the investments.
Does the employment relationship have a definite end date? If so, this implies that they’re an independent contractor. Otherwise, they might be an employee.
How does the employer control the worker, and how much? The worker may be an employee if the employer:
- Sets their schedule
- Supervises the work
- Explicitly limits their ability to work for others
- Can discipline the individual
- Monitors their activity.
The less control the employer has, the more likely the worker is an independent contractor.
Is the person’s work integral to the employer’s business? The more integral the work is, the more likely the person is to be an employee. The less integral it is, the more likely they are to be an independent contractor.
Does the worker use specialized skills developed outside the employment? If the worker doesn’t use specialized skills or depends on the employer for training, they are more likely to be an employee. If the person brings those skills to work and does not rely on the employer for training, they are more likely an independent contractor.
If your firm uses independent contractors as a normal course of business, you will need to revisit your practices and determine if the new rule changes your relationship with them. It may be wise to consult legal counsel.
Finally, business organizations have already indicated they will challenge the rule-making in court. And some Senate Republicans have said they will seek to repeal the rule via the Congressional Review Act.
For now, however, the new rule is codified and applicable. It takes effect on March 11, 2024.