DOL Heads Back to the Future on Independent Contractors

Author: Michael Cardman, HR & Compliance Center Senior Legal Editor

October 11, 2022

The US Department of Labor (DOL) announced today that it plans to apply a version of the "economic realities test" as its standard for determining whether a worker is an employee or an independent contractor under the Fair Labor Standards Act (FLSA).

Developed over nearly 80 years of case law, the economic realities test would replace the five-factor test that is currently in place.

In a strictly legal sense, the DOL's adoption of the economic realities test is not especially significant.

As Richard Reibstein, co-head of Locke Lord LLP's independent contractor compliance and misclassification law practice, observed: It's the courts, not regulatory bodies like the DOL, that have the final say on who qualifies as an independent contractor.

"Courts are supposed to give deference to valid regulations, but that is not as likely when regulations keep changing, especially where courts have already issued an abundance of decisions on a subject like independent contractor status," he told HR & Compliance Center.

Moreover, the DOL's proposed rule is limited in its application because it pertains to only the FLSA. There are different tests for independent contractor status under several other federal statutes, including the Employee Retirement Income Security Act (ERISA), the National Labor Relations Act (NLRA) and the Internal Revenue Code. Moreover, each state has its own set of laws governing independent contractor classification, only a few of which use the test under the FLSA.

Nonetheless, Reibstein cautioned that the practical effects of the Biden administration's new rule cannot be minimized. "Especially in the gig economy, the issue of independent contractor status has become so politicized in the past few years that even non-binding actions by administrative agencies have generated anxiety by both businesses and workers that the test for independent contractor status is ever-changing," he said.

How We Got Here

Passed in 1938, the FLSA statute does not define the term independent contractor. It does, however, include circuitous definitions of employee, employer and employ. For example, an employee is defined as "any individual employed by an employer." Likewise, to employ means to "suffer or permit to work" - a definition so broad that the FLSA's scope of employment often includes workers who might not be covered under other federal laws.

Starting in the 1940s, the Supreme Court issued a series of rulings that put economic reality over technical concepts derived from common law as the framework for deciding whether workers were independent contractors or employees - specifically, whether the worker is either economically dependent on the employer for work (and therefore an employee) or is in business for themself (and therefore an independent contractor).

Over the years, federal appellate courts issued dozens of rulings applying the economic realities test. The DOL said, "There is widespread uniformity among the circuit courts in the application of the economic reality test, with slight variation as to the number of factors considered or how the factors are framed."

For years, the DOL never promulgated regulations outlining its interpretation of who is or is not an independent contractor under the FLSA, relying instead on "subregulatory guidance" like opinion letters and fact sheets.

Then, in 2021, the Trump administration put forth a regulation establishing an employer-friendly five-factor test, with two factors considered "core factors" that are given greater weight than the other three. The DOL said the five-factor test was necessary because the economic realities test, and the process of applying it, has lacked focus and has not always been sufficiently explained by courts or by the DOL, resulting in uncertainty for employers.

Later in 2021, the Biden administration withdrew the rule one day before it was supposed to take effect.

But earlier this year, a federal court in Texas reinstated the five-factor test.

The DOL's Proposal

Now the Biden administration intends to rescind the Trump-era five-factor test and replace it with its version of the economic realities test.

Under its proposed regulation, the following six factors would be used to "guide an assessment of the economic realities of the working relationship and the question of economic dependence":

• 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.

In addition, the DOL said it would consider any other factors that in some way indicate whether the worker is in business for themself, as opposed to being economically dependent on the employer for work.

"These factors are tools or guides to conduct a totality-of-the-circumstances analysis," the proposed regulation stresses. "This means that the outcome of the analysis does not depend on isolated factors but rather upon the circumstances of the whole activity to answer the question of whether the worker is economically dependent on the employer for work or is in business for themself."

The DOL's proposed regulation is faithful to the seven-plus decades of case law on the economic realities test in a general way, but it construes the case law in a manner that favors employee status, Reibstein said. "Few courts will change their decisions, however, based on anything in the Biden 2022 rule."

What's Next

The DOL plans to publish a Notice of Proposed Rulemaking (NPRM) in the Federal Register on Thursday, October 13. Employers will have 45 days from the time the NPRM is officially published to comment. Comments may be submitted online under Regulatory Information Number (RIN) 1235-AA43 or by mailing written submissions to:

Division of Regulations, Legislation and Interpretation

Wage and Hour Division, US Department of Labor, Room S-3502

200 Constitution Avenue, N.W.

Washington, DC 20210

Written submissions must include the name of the agency and the RIN 1235-AA43.

After the comment period ends, the DOL will respond to comments and possibly make revisions before publishing a final rule. This final rule will include a formal effective date.