By: Mary Shahverdian
Workers and employers should be paying attention. A critical classification analysis that determines for whom the Fair Labor Standards Act (FLSA) applies is changing soon—thanks to a new rule from the United States Department of Labor.
On January 10, 2024, the U.S. Department of Labor published a new final rule, effective March 11, 2024 (the “2024 Rule”). The 2024 Rule revokes a prior rule that was published on January 7, 2021 (the “2021 Rule”).
The 2024 Rule includes an analysis for determining employee or independent contractor status that is more consistent with the text of the FLSA and decades of judicial precedent.
Why does classification matter?
For workers, proper classification is important because only employees are afforded the enumerated benefits under the FLSA. The FLSA is a federal law that enumerates certain employment rights, such as: minimum wage, overtime pay, recordkeeping requirements for employers, and youth employment standards. Generally, for a worker to be protected by the FLSA, the worker must be an “employee” of the employer. In other words, workers classified as “independent contractors” are not protected by the FLSA. Furthermore, most employment laws generally do not apply to independent contractors. The determination of a worker as an “employee” is a prerequisite for the application of anti-discrimination laws, such as Title VII of the Civil Rights Act.
It is also important for employers to know the proper analysis for classifying their workers. Neither an employer nor a worker can voluntarily waive their “employee” status in favor of being an independent contractor. For example, the 5th Circuit recently held that an in-home senior companion service’s workers are considered employees for the purpose of a Title VII retaliatory discharge claim, despite the employer’s label on their workers as independent contractors.[1] The court found that the employer exercised substantial control over the “details and means” by which the workers performed their job—it hired and fired them, set their schedules, required them to attend an orientation, and quizzed them about its policies.[2] The court agreed with the workers that “the label on an agreement does not dictate whether an individual is an employee or independent contractor.”[3] Instead, the court analyzed the “economic realities” of the working relationship to come to the conclusion that the employer had misclassified its employees as independent contractors.[4]
Why did we need a new rule?
Until 2021, the Department of Labor had never defined “independent contractor” by regulation. Instead, it covered the topic through informal guidance. Then came the 2021 Rule, which was optimistically designed to establish an economic realities test that allegedly improved on prior “unclear and unwieldy” descriptions.[5] The 2021 Rule focused on two primary factors and three secondary factors. Assessed first were (1) the employer’s right to control, and (2) the worker’s opportunity for profit or loss. If both factors led the analysis to the same conclusion, then the analysis ended. Only if these two factors did not align would the analysis continue to three “guidepost” factors: (1) the relationship’s length or permanence, (2) the worker’s special skills, and (3) the work’s integration into the principal’s operations.
The 2021 Rule was immediately criticized for incorrectly narrowing the economic reality test used in the courts by limiting the factors considered as part of the test, and applying different analysis factors that had never been used in any court and were not supported by the text of the FLSA. This is remedied in the 2024 Rule, which considers six factors in one step instead of five factors in a two-step analysis.
The Judicial Precedent is Consistent with the 2024 Rule
The 2024 Rule replaces the 2021 Rule with an analysis for determining employee or independent contractor status that is more consistent with the FLSA as interpreted by longstanding judicial precedent.
The United States Supreme Court has stressed again and again that the test for whether an individual is an employee under the FLSA is one of “economic reality.”[6] In other words, the often-fantasized technical concepts used to label a worker as an employee or independent contractor do not drive the analysis, but rather it is the economic reality of the relationship between the worker and the employer that is solely determinative.[7]
According to the Courts, the reality that employees are economically dependent upon their employer remains the ultimate inquiry of an FLSA classification analysis. Economic dependence does not focus on the amount of income the worker earns, or whether the worker has other sources of income. “Independent contractors” are workers who, as a matter of economic reality, are in business for themselves. “Employees” are workers who are, as a matter of economic reality, economically dependent on the employer for work.[8]
The Court has continuously rejected any approach based on “isolated factors” in favor of a holistic approach that considers “the circumstances of the whole activity.”[9] Before 2021, all federal districts followed the Supreme Court’s instruction.[10] The 2024 Rule was promulgated to return the analysis to the old standard relied upon in the courts.
The 2024 Rule
The 2024 Rule provides clarity and a seamless transition from judicial precedent, and is intended to reduce confusion, improve compliance, and better protect all working people and their employers. The 2024 Rule’s analysis may be applied to workers in any industry and will be easily accessible in the Code of Federal Regulations, 29 CFR Part 795.
Under the 2024 Rule, the Department of Labor will depend on the multifactor “economic reality” test traditionally used by courts to decide whether a worker is an employee or an independent contractor. This test relies on the totality of the circumstances where no single factor is determinative.
Consistent with judicial precedent, the 2024 Rule applies the following six factors assessing economic realities to determine economic dependence of a worker:
(1) Opportunity for profit or loss depending on managerial skill;
(2) Investments by the worker and the potential employer;
(3) The degree of permanence of the work relationship;
(4) The nature and degree of control;
(5) The extent to which the work performed is an integral part of the potential employer’s business;
(6) Skill and initiative of the worker; and
(7) Any additional relevant factors.[11]
The 2024 Rule provides detailed guidance regarding the application of each of these factors. Rather than a two-part analysis, the economic reality factors in the 2024 Rule are all weighed to assess whether a worker is economically dependent on a potential employer for work, according to the totality of the circumstances.
The 2024 Rule will reduce the risk that employees are misclassified as independent contractors while providing a consistent approach for businesses that engage with individuals who are in business for themselves. Misclassification occurs when an employer treats a worker who is an employee under the FLSA as an independent contractor.
The importance of correctly classifying workers in one category or another cannot be overstated. Appropriate classification of employees and independent contractors results in more people receiving the hard-earned wages and protections to which they are legally entitled. For these reasons, the 2024 Rule will provide helpful guidance for workers and businesses alike.
Proper Classification is Mandatory
It is a violation of the FLSA for an employer to willfully misclassify their workers as independent contractors to avoid the duties and obligations to employees. If a worker’s job falls within the bounds of the above “economic reality” test, that worker is an employee under the FLSA.
The 2024 Rule was promulgated with the intent to help to ensure that certain employment rights protected by the FLSA are available to the workers for whom these laws were designed to protect. The 2024 Rule is also intended to benefit responsible employers who comply with the FLSA. It ensures that they are not placed at a competitive disadvantage when competing against employers that strategically and fraudulently misclassify employees to evade compliance.
Fines levied by the Department of Labor against employers who know, suspect, or have reason to know that their actions might violate the FLSA can be severe—including unpaid overtime wages and liquidated damages.[12] The statute of limitations for an individual to file a wage claim under the FLSA is two years for a non-willful violation and three years for a willful violation.[13] There is also a risk of criminal penalties against these employers, as violations of the FLSA often extend to employers failing to withhold and remit state and federal payroll taxes.[14]
It should be noted that the 2024 Rule revises the Department of Labor’s guidance under only the FLSA. It has no effect on other laws that may use different standards for employee classification, such as the Internal Revenue Code or the National Labor Relations Act. The FLSA does not preempt any other laws that protect workers.
Employers and workers should both know their rights and duties under the Fair Labor Standard Act. Given the shifting legal landscape and the likelihood of facing significant liability, employers would be well-served to consult with counsel before attempting to classify any worker as an independent contractor.
Referenced Notes:
[1] Mason v. Helping our Seniors, L.L.C., 2023 U.S. App. LEXIS 24352 (Sept. 13, 2023)
[2] Id.
[3] Id. at *7.
[4] Id. at *4
[5] 86 FR 1172.
[6] Tony & Susan Alamo Found. v. Sec’y of Labor, 471 U.S. 290, 301 (1985) (quoting Goldberg v. Whitaker House Coop., Inc., 366 U.S. 28, 33 (1961)).
[7] Goldberg, 366 U.S. at 32-33.
[8] Bartels v. Birmingham, 332 U.S. 126, 130 (1947).
[9] Rutherford Food Corp. v. McComb, 331 U.S. 722 (1947); United States v. Silk, 331 U.S. 704, 712 (1947).
[10] See Baystate Alternative Staffing, Inc. v. Herman, 163 F.3d 668, 675 (1st Cir. 1998); Brock v. Superior Care, Inc., 840 F.2d 1054, 1058–59 (2d Cir. 1988); Donovan v. DialAmerica Mktg., Inc., 757 F.2d 1376, 1382–83 (3d Cir. 1985); McFeeley v. Jackson Street Entm’t, LLC, 825 F.3d 235, 241 (4th Cir. 2016); Acosta v. Off Duty Police Services, Inc., 915 F.3d 1050, 1055 (6th Cir. 2019); Secretary of Labor, U.S. Dep’t of Labor v. Lauritzen, 835 F.2d 1529, 1534 (7th Cir. 1987); Karlson v. Action Process Service & Private Investigation, LLC, 860 F.3d 1089, 1092 (8th Cir. 2017); Real v. Driscoll Strawberry Associates, Inc., 603 F.2d 748, 754 (9th Cir. 1979); Acosta v. Paragon Contractors Corp., 884 F.3d 1225, 1235 (10th Cir. 2018); Scantland v. Jeffry Knight, Inc., 721 F.3d 1308, 1311 (11th Cir. 2013); Morrison v. Int’l Programs Consortium, Inc., 253 F.3d 5, 11 (D.C. Cir. 2001).
[11] 29 CFR 795.110(b)
[12] 29 U.S.C § 216(b)
[13] 29 U.S.C § 255
[14] 29 U.S.C § 216(a)
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For more information, visit www.bernsteinlaw.com or contact:
Mary Shahverdian
Associate, Bernstein-Burkley
mshahverdian@bernsteinlaw.com or 412-456-8100