CONTRACTOR OR EMPLOYEE?
An issue businesses and schools are facing with increased frequency is the proper classification of employees under state and federal wage and hour laws. Businesses have been feeling that the DOL is increasing scrutiny on independent contractor arrangements, and it’s a fair bet that they are. In July, 2015, the U.S. Dept. of Labor issued an interpretation of what constitutes an employee as opposed to a contractor. The introductory paragraph to this interpretation was a clear statement of intent and policy in how these regulations are to be interpreted:
“Misclassification of employees as independent contractors is found in an increasing number of workplaces in the United States, … When employers improperly classify employees as independent contractors, the employees may not receive important workplace protections such as the minimum wage, overtime compensation, unemployment insurance, and workers’ compensation. Misclassification also results in lower tax revenues for government and an uneven playing field for employers who properly classify their workers. …some employees may be intentionally misclassified as a means to cut costs and avoid compliance with labor laws.”
The law is designed to be inclusive. In fact, courts often quote Senator Black’s statement, that the scope of what qualifies as employment is the “broadest definition that has ever been included in any one act” to reflect the intent of the law, which is to classify as many as possible as employees, not contractors.
Worker complaints alleging that they are misclassified happen frequently. Many employers tell me that the contract specifically states that the individual is an “…independent contractor, not an employee…” and are surprised that there has been a complaint about something they clarified right from the start. They often think there is some confusion on the part of the employee or that they didn’t carefully read the contract. However, what many employers do not understand is that the language of the contract is irrelevant. The question of whether someone is an independent contractor or an employee is a question of statutory interpretation. It is a question of law, not a question of the intent of the contracting parties. The contract, even if it identifies the individual as a contractor unequivocally, and the individual acknowledges that he or she is not an employee, does not affect whether or not the individual is considered an employee. This is why careful planning and consulting with your attorney on structuring a position to fall squarely within the contractor category is vitally important.
It is also important to note that your state’s wage and hour laws may have a broader definition of employee than the federal government’s Fair Labor Standards Act (FLSA) has. You may be in compliance for FLSA purposes, but still be violating state laws. You should be cautious about this even if the FLSA and your state’s statutory definition of “employ” are identical. The definition of “employ” is the subject of frequent litigation in both state and federal courts, and state courts often intentionally interpret their state laws to offer even broader protection that the federal law, which itself is designed to be very inclusive.
The FLSA”s definition of “employ” is “to suffer or permit to work”. The FLSA also defines “employee” as “any individual employed by an employer,” and defines “employer” as including “any person acting directly or indirectly in the interest of an employer in relation to an employee”. There are two tests which exist to determine if you suffer or permit your employee to work – the “common law control“ test and the “economic realities” test. In the vast majority of circumstances, since the passage of the FLSA, the “economic realities” test is the applicable test. The “economic realities” test is the most inclusive test, in that it more often results in the individual being classified as an employee. This test requires courts to look at six factors in determining if an individual is an employee:
(1) the extent to which the work performed is an integral part of the employer’s business;
(2) the worker’s opportunity for profit or loss depending on his or her managerial skill;
(3) the extent of the relative investments of the employer and the worker;
(4) whether the work performed requires special skills and initiative;
(5) the permanency of the relationship; and
(6) the degree of control exercised or retained by the employer.
These factors, on their own, are not mechanically applied. There is no clear standard, either in statutory or decisional law, showing how to apply each factor. The practical effect of applying the standards in the context of litigation could result in an individual, properly incorporated, who has a website and several clients, nonetheless being categorized as an employee under certain circumstances if the work is integral to the employer’s business and the employer exercises significant control over either the process or the individual. In most cases where an individual is not exercising business judgement on the process of performing the task assigned, employers should carefully consider that the individual may be considered an employee if the relationship is not properly structured.
The result of a finding of improper classification can result in tax collections at the federal, state and local level, fine, fees, lost wages claims for potential minimum wage violations, a doubling, and sometimes even a tripling of those lost wages. The employer risks substantial litigation costs, including having to pay the individual attorneys’ fees, which themselves can often eclipse the actual liability in the case itself. The DOL will likely investigate and look for any other, even unrelated, violations. Many employers aren’t aware of their record keeping requirements, and this could result in even more costs, fees and fines. If an employer is of a sufficient size, one even of this nature can encourage other workers to complain once they see that they can be awarded several times what they otherwise have earned without the need to pay their own attorneys, and class or collective actions often result. The consequence can be years of cascading litigation DOL investigations which are costly, expensive, and make it difficult for owners and employees both to focus on the necessary task of completing their work in a competitive manner. The financial damages to the company can often be devastating, but perhaps worse is the disruption and changes to the workplace culture that will result.
Another often unforeseen hiccup that results from ambiguity between the definition of employee and contractor is whether or not the individual and the employer are bound by each other’s conduct and statements, or whether they are legally responsible for each other’s acts. Without an enforceable contract, this could result in significant, unforeseen liability.
The good news is that, if you believe it would be advantageous to your business to hire an independent contractor for a task rather than an employee, it can likely be accomplished. It is important, to consult with an experienced wage and hour attorney to discuss whether individuals you are thinking of using as a contractor rather than employee are properly classified as such and, if not, if there is a way to structure and organize the position such that it can be. My firm is experienced in wage and hour issues such as this, and we'd be happy to discuss your questions with you. Simply contact us by phone or email if you have any concerns.