5 Things to Know About the Independent Contractor Rule

Author: Michael Cardman, XpertHR Senior Legal Editor

January 25, 2024

Starting March 11, a new rule from the US Department of Labor (DOL) will set the criteria for determining whether a worker is an employee or an independent contractor under the Fair Labor Standards Act (FLSA).

Here are five key considerations you should bear in mind as you prepare for the rule to take effect:

1. The FLSA rule is part of a bigger picture;
2. The rule may be moot;
3. Still, it's too big too ignore;
4. Scheduling may prove a challenge; and
5. Staffing agencies may not keep you safe.

1. The FLSA Rule Is Part of a Bigger Picture

The DOL's rule is limited to only one law - the FLSA. There are different tests for independent contractor status under several other federal statutes, such as the Employee Retirement Income Security Act (ERISA), the National Labor Relations Act (NLRA) and the Internal Revenue Code.

In addition, each state has its own laws and regulations governing independent contractor classification. There are often different tests under wage and hour laws, unemployment benefits, workers' compensation, the tax code and more. Some of these - like the "ABC tests" in California, Massachusetts and New Jersey - are more strict than the federal tests.

Be sure to consider how FLSA compliance - and how the unique interactions you have with your independent contractors - fit within this larger tapestry.

2. The Rule May Be Moot

There are several reasons why the DOL's new rule may not matter in the end.

First, the rule is subject to at least two legal challenges. If any of them were to succeed, the rule would be struck down.

Second, if the administration changes hands after the 2024 election, the new administration would probably rescind the rule.

Third, it's ultimately the courts, not regulatory agencies like the DOL, that have the final say over who qualifies as an independent contractor.

Currently, courts usually defer to agencies' notice-and-comment regulations (such as the DOL's FLSA rule) under a principle of administrative law called Chevron deference. However, the Supreme Court recently heard oral arguments in a case that could overturn or alter Chevron some time in the near future.

Even if the Chevron standard remains intact, courts still might ignore the DOL's rule. "Because the final rule is so vague and it really just adopts very unclear standards, I suspect that the courts are going to follow the individual tests that the circuit courts have already laid down," said Kyle D. Winnick, an associate of Seyfarth Shaw LLP.

3. Still, It's Too Big to Ignore

"There is a real chance that this all amounts to nothing at the end of the day, but the risks are too big for you just to ignore it," said Andrew M. McKinley, a partner in Seyfarth's Atlanta office.

Businesses will need to weigh the risks of misclassification and consider what types of changes they're willing to make to lower their risk.

Exposure to back pay, overtime, liquidated damages and more under the FLSA could be "potentially huge" for businesses that engage many workers whose classification is in question, McKinley said.

In evaluating risk, one key factor is the number of hours that contractors are working. That's because the FLSA's minimum wage and overtime obligations are based on hours worked.

Exercise caution when tracking. "The fact that data exists that may be reflective of hours worked isn't inherently problematic," McKinley said. "But once you use that tracking to do something - to manage the workers and how they are performing their work - that could be a problem under the standard."

If you find that you need to begin treating an independent contractor as an employee, be sure to consult with counsel.

Reclassification can result in significant liabilities. However, businesses may be able avoid paying back taxes under a safe harbor program. Businesses that voluntarily come forward to the IRS also can potentially avoid liability for back taxes if they give up independent contractor status going forward.

Reclassifying independent contractors as employees also may trigger additional obligations.

The FLSA and many other employment laws apply to businesses with one or more employees. But some laws apply to businesses only when they pass a certain employee threshold - for example, 15 employees under the Americans with Disabilities Act, 20 employees under the Age Discrimination in Employment Act (ADEA) and 50 employees under the Family and Medical Leave Act (FMLA). (For detailed information about these thresholds, see XpertHR's federal and state Quick Reference charts.)

If reclassifying independent contractors as employees pushes your business beyond one of these thresholds, you will need to take action to comply.

4. Scheduling May Prove a Challenge

Scheduling has emerged as a major compliance challenge in recent years. Businesses have deployed new scheduling technology in an effort to minimize labor costs. In turn, states and localities have enacted laws that provide employees flexible, predictive and predictable scheduling and working arrangements.

The DOL's rule adds an additional twist. Its nature and degree of control prong specifically lists the setting of a worker's schedule as a factor that would weigh in favor of employee status.

This puts businesses between a rock and a hard place, according to McKinley. "You have the choice of, on the one hand, staying hands off, at which point you very well could put business interests at risk," he said. "You need to have some idea of whether your customers are going to actually be serviced. On the other hand, if you start managing [scheduling] to any meaningful degree, there might be risks attendant to that."

McKinley said it's well-established that you may weaken a worker's independent contractor status if you tell them they must be at a certain place at a certain time and that, if they're not, they're going to be disciplined.

"I don't think there has historically been the same agreement that giving a worker the ability to say, 'I want to work these days, and I'm willing to work these times,' and then taking that and administratively creating a schedule is problematic in the same way," he said.

Ultimately, the final rule does not draw a black-and-white line or delineate what weight should be given to different levels of involvement in scheduling, McKinley concluded: "I don't think there's anything where we can say you're going to be safe, apart from being completely hands off."

Flexibility is a hallmark of independent contractors. Giving workers avenues to change their schedules can help to shore up their independent contractor status, McKinley added. "If a schedule is necessary for your business and that's something that you can't compromise on, what can you do to allow the worker to maintain an appropriate flexibility? Are you giving them ways to get off the schedule if they need to?"

5. Staffing Agencies May Not Keep You Safe

The vast majority of temporary workers assigned by staffing firms are classified as W-2 employees and therefore will not be affected by the DOL's new rules, according to Ed Lenz, senior counsel for the American Staffing Association (ASA).

"ASA and its members have been working with the Biden administration and state regulators to help ensure that workers are properly classified," Lenz said.

Nevertheless, there is no guarantee that a worker you hire through a staffing agency will be determined to be that agency's employee.

"A business partnering with a staffing agency should know whether that agency is engaging the workers as W-2 employees or instead as independent contractors," according to Michael R. Gotzler, a shareholder at Littler and co-chair of the firm's Staffing, Independent Contractors and Contingent Workers Practice Group. "The clients of the staffing agency should know that understanding that information is a best practice for every employer that partners with a staffing agency."

If workers are not treated as employees, hiring them through a third party will not necessarily provide any meaningful additional protection if they are misclassified, Gotzler said.

"Misclassification should be viewed as a risk whether your company is engaging the worker directly or whether through a staffing agency or some other labor provider," he told XpertHR. "There are many good reasons to partner with staffing agencies; but to think that doing so provides a simple end run around employment law compliance is mistaken."

There are two relevant questions here. First, is the worker an independent contractor or an employee? Second, if the worker is an employee, are the hiring party and the staffing agency joint employers? The factors that courts analyze for independent contractor status are very similar to those they use to determine if a company is a joint employer, according to Gotzler. "But the question that they're answering is different."

Gotzler recommended that businesses audit or assess the processes of any staffing agency with whom they partner - especially if they plan to engage a significant proportion of their workers through the agency.

"Strong agencies, staffing agencies that are compliance-minded, will absolutely cooperate and with those audit or assessment-type requests," he said.