By Judge Jennifer F. Nicaud
Mississippi Workers’ Compensation Commission
Jackson, MS
The Department of Labor narrows the scope of the definition of independent contractor.
On March 11, 2024, a new rule began effective which rescinds the 2021 independent contractor rule (which made it easier to achieve independent contractor status under the Fair Labor Standards Act (FLSA) and replaced it with a six-factor test. The new test considers the following:
(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; and (6) skill and initiative.
This new rule focuses on the “economic reality” as opposed to the 2021 Rule which focused on the “totality of circumstances” standard. A new inquiry concerns whether a worker is economically dependent on the employer’s business or is operating a business on their own. According to the Department of Labor (“DOL”), the 2021 Rule prohibited consideration of whether the work performed by the individual is central or important to the “potential employer’s” business. Under the 2024 Rule, the “integral” question asks not whether the worker’s role is an integrated unit of production but whether the worker’s role is an integral part of the potential employer’s business. In addition, the DOL emphasized that 2021 Rule did not consider a worker’s investment and initiative as a stand-alone factor; this factor was evaluated only as part of the “opportunity for profit or loss” analysis.
With regard to the 2024 Rule, the first inquiry regarding the worker’s opportunity for profit or loss depends on managerial skill concerns “whether the worker exercises managerial skill that affects the worker’s economic success or failure in performing the work.” Additionally, the DOL identified the following list of facts that may be relevant in evaluating this factor – “whether the worker accepts or declines jobs or chooses the order and/or time in which the jobs are performed; whether the worker engages in marketing, advertising, or other efforts to expand their business or secure more work; and whether the worker makes decisions to hire others, purchase materials and equipment, and/or rent space.” While no single fact is determinative, the DOL opines that “if a worker has no opportunity for profit or loss, then this factor suggests that the worker is an employee.”
The second inquiry, investments by the worker and the potential employer, concerns whether the worker is making any investments that are capital or entrepreneurial in nature. Investments by the worker that are capital or entrepreneurial in nature suggest that the worker is an independent contractor and should be viewed on a relative basis when compared to the investments of the potential employer in its overall business. The DOL’s guidance states that the “worker’s investments do not have to be equal to the potential employer’s investments and should not be compared only in terms of the dollar value investments or the sizes of the worker and the potential employer.” It is critical to focus on whether the investments by the worker are of a similar nature to the investments of the potential employer, even though the worker’s investments may be on a much smaller scale.
With regard to the degree of permanence factor, when the work relationship between the worker and potential employer is definite in duration, non-exclusive, project based, or sporadic based, which may include regularly occurring fixed periods of work, then this factor lends itself to the worker being an independent contractor. However, if the work relationship has no fixed duration, continuous, or is exclusive to the potential employer, then this factor weighs in favor of the worker being an employee and not in business for themselves. Notably, a work relationship that is seasonal or temporary does not by itself weigh in favor of an independent contractor classification. The DOL explained that if the lack of permanence in the working relationship is caused by “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.”
Inquiry as to the nature and degree of control factor considers the potential employer’s control over the worker’s performance of work and the economic aspects of the working relationship. The 2021 Rule focused on the worker’s and the potential employer’s nature and degree of control. The 2024 Rule shifts the focus back primarily to the nature and degree of control exercised by the potential employer. The relevant facts under this factor are whether the potential employer has control over the worker’s schedule, supervises the performance of work, or expressly limits the worker’s ability to provide their services to others. Additionally, the 2024 Rule considers whether the potential employer “uses technological means to supervise the performance of the work (such as by means of a device or electronically) [or] reserves the right to supervise or discipline the workers,” which are facts that would weigh in favor of the worker being an employee. The DOL stated that actions by the potential employer that are taken solely to comply with federal, state, or local laws or regulations are not indicative of control, additional actions taken by the potential employer that exceed its compliance with such specific laws or regulations but “serve the potential employer’s own compliance methods, safety, quality control, or contractual or customer service standards may be indicative of control.”
The fifth inquiry, the extent to which the work performed is an integral part of the potential employer’s business, focuses on whether the work performed by the worker is an integral part of the potential employer’s business or operations. If the function of the work performed by the worker is “critical, necessary, or central to the potential employer’s principal business,” then this factor leans in favor of the employee classification. The 2021 rule “focused on whether the worker is part of an ‘integrated unit of production'” (i.e., the extent to which a worker is integrated into a business’s production processes). The DOL explained that various courts tend to adopt a “common-sense approach to determining whether the work or service performed by a worker is an integral part of a potential employer’s business. For example, if the potential employer could not function without the service performed by the workers, then the service they provide is integral.” Some have asserted that the new approach to the “integral factor would lead to virtually every worker being classified as an employee since most, if not all, work performed for a business could theoretically be considered critical or necessary to an employer’s business.” However, the DOL explained that this “integral factor” is simply one factor that should be weighed with the other five factors in determining the ultimate inquiry of whether, as a matter of economic reality, the worker is economically dependent or independent on the employer for work.
The final factor, the skill and initiative of the worker, considers any specialized skills that the worker possesses to perform the work and whether such skills contribute to the worker’s business initiative. The DOL’s guidance suggests that a worker is not in business for themselves and is an employee when the worker is dependent on the potential employer to provide them with training to complete the work or does not use any specialized in the performance of the same. If a worker possesses specialized skills, then this fact, in itself, is not wholly indicative of independent contractor status as employees and independent contractors may both be skilled workers. For example, the DOL explained that a highly skilled welder who provides welding services to a construction firm would not be an independent contractor if the “welder does not make any independent judgments at the job site beyond the decisions necessary to do the work assigned. The welder does not determine the sequence of work, order additional materials, think about bidding the next job, or use those skills to obtain additional jobs, and is told what work to perform and where to do it.”
The rule does not adopt an “ABC” test and does not impact independent contractor classification under state laws utilizing the “ABC” test, such as California, Illinois, New York, Massachusetts, and New Jersey. The DOL represents that the new rule is being implemented to allegedly provide more clarity and consistency for businesses especially those businesses involved in transportation/ logistics, healthcare, consulting/IT services, and the gig sector (e.g. Uber, Door Dash, Lyft and Grubhub) which will the industry’s most likely to experience significant impact due to the changes. Some of the factors in the 2024 Rule have been used by courts for years to determine whether workers should be classified and treated as independent contractors, however, the 2024 Rule is controversial as it is designed to recognize fewer independent contractors. Clearly, the change in the law may lead to an influx of cases as some will seek to reclassify former independent contractors as employees to be awarded damages for overtime, etc. The key question to be resolved under the new rule is whether, as a matter of “economic reality,” the workers are dependent on the alleged employer or are in business for themselves. There is no realistic solution for the frequent scenario where workers who desire to be independent contractors choose themselves to be “economically dependent” on work made available to them by one company, such as an ongoing business relationship between a vendor and its customer. Thus, the new rule is likely to create more uncertainty for companies that utilize legitimate independent contractor relationships to carry out their business functions.
Similarly, the 2024 Rule appears to favor classifying a worker as being an employee if the work they perform is critical, necessary or central to the potential employer’s business. But few businesses choose to pay for services that are not in some way necessary. Similarly, actions taken by companies to ensure compliance, safety, quality control, and contractual or customer service standards maybe indicative of control over the worker under the 2024 Rule, which is directly at odds with numerous court decisions finding those actions to be reasonable and justified. Moreover, simply reserving, but not exercising, control over the performance of the work is given greater relevance under the 2024 Rule, which will require certain businesses to reevaluate their written agreements with contractor.
Whether the 2024 Rule will have the intended impact is unclear. Most federal circuits courts already have established legal tests in place for determining independent contractor status. Moreover, the U.S. Supreme Court this term will take up an important administrative law case that asks the justices to reconsider the “Chevron” doctrine, in which courts grant considerable deference to certain federal agency regulations. The Court’s eventual decision in Relentless, Inc. v. Department of Commerce (No. 22-1219) and Loper Bright Enterprises v. Raimondo (No. 22-451) could sharply restrict the DOL’s authority to enforce the 2024 Rule in the courts.
With regard to workers’ compensation, workers who were previously classified as independent contractors become employees, and they become eligible for statutory workers’ compensation benefits in the event of work-related injuries will increase the total cost of risk (including premiums and retained losses) for many employers. One concern is that premiums will increase to an extent that businesses will no longer be able to absorb their costs and instead have to pass them on to customers, which might, in turn, impact revenues and margins. Whether the 2024 Rule and its new focus will change the inquiry established by state precedent with regard to independent contractors’ status with regard to workers’ compensation is yet to be seen.