Proposed DOL independent contractor test problematic for employers

Many employers are under the false impression that, by simply calling someone an independent contractor or giving them a “1099,” they can avoid myriad employment-related costs and obligations. But this is not the case, and misclassifying an employee as an independent contractor can result in significant liability, including back pay, benefit claims, tax obligations and penalties, workers’ compensation assessments, and other damages.

On October 13, 2022, the U.S. Department of Labor (DOL) issued a proposed rule that would change the test used to determine employee or independent contractor status under the Fair Labor Standards Act. This proposed rule, about which the DOL is currently accepting comments, would make it significantly harder to establish independent contractor status and likely result in many misclassification determinations.

Currently, the DOL uses an “economic reality” test to differentiate between employees and independent contractors. The test considers five factors, but two are given significantly greater weight than the others: (1) The nature and degree of the individual’s control over the work; and (2) The individual’s opportunity for profit or loss.

By proposing the new rule, the DOL is seeking to implement a more “employee friendly” test. The proposed rule contains six factors, all of which are given the same weight:

• The worker’s opportunity for profit or loss depending on managerial skill;
• Investments by the worker and the employer;
• Degree of permanence of the work relationship;
• Nature and degree of control;
• Extent to which the work performed is an integral part of the employer’s business; and
• Skill and initiative.

Other factors may be considered to make the ultimate determination of “whether the workers are economically dependent on the employer for work or in business for themselves.”

In short, the new rule will make it significantly harder to prove that an individual is truly an independent contractor and not an employee. Several states, including New York and California, already use independent contractor tests that are similarly and, in some cases, even more “pro-employee” than this proposal.

Given how easy it can be to misclassify someone, businesses that use independent contractors should conduct an analysis (preferably with legal counsel) and make any changes necessary before this new DOL test is implemented.

Ben Mudrick is a partner in the Labor & Employment practice at Harter Secrest & Emery.