One of the greatest financial risks to your operation could be lurking quietly in the background, without your awareness.
Many organizations use both “employees” and “independent contractor” for labor without ever really finding out how they can make those distinctions under the law. Some employers may classify a worker as an independent contractor just because the worker makes his own schedule, or because the worker and the employer signed a contract agreeing that the worker would be an independent contractor, or for no reason other than the employer gives the worker a 1099 at the end of the year instead of a W-2 and calls it good.
The Department of Labor has very strict rules on how to classify a worker, and failure to follow those rules can be devastating. You can protect yourself against misclassification consequences by simply learning and following the DOL’s rules for worker classification.
Prior to January 9, 2024, the DOL used a rule passed in 2021 that contained vague definitions and guidance on worker classification, focusing primarily on the principal’s right to control and the worker’s ability to realize a profit or loss. If the factors conflicted, the rule required consideration of the worker’s special skills, the length or permanence of the relationship, and the work’s integration into the principal’s business. The DOL issued a fact sheet with seven factors to consider, but they were seen as guidance and left much to interpretation.
Still, the DOL was taking misclassification seriously even under the 2021 rule. A home health care company was fined $358, 975 for 50 workers that had been misclassified under a DOL ruling. In 2022, a drywall business paid out $55,039 to 55 workers who had been misclassified workers as independent contractors, as well as facing violations under the Fair Labor Standards Act (FLSA) for recordkeeping and providing wage information. And a Massachusetts construction company who was found to have inappropriately classified their workers as independent contractors was liable for $2,589, 635 in back wages, as well as liquidated damages. The company was also fined $262,900 in civil penalties for misclassification. What could this mean for your business?
On January 9, 2024, the Department of Labor (DOL) published a final rule defining “independent contractor” for the purposes of the Fair Labor Standards Act (FLSA). They issued a new six-factor test for determining whether a worker should be classified as an employee or an independent contractor.
The new six factors that will be considered in determining the relationship and the principal are:
- The worker’s opportunity for profit or loss
- Investments by the worker and the potential employer
- The degree of permanence of the relationship
- The nature and degree of the potential employer’s control over the work
- The extent to which the work is integral to the potential employer’s business
- The worker’s skill or initiative
The new rule takes a “totality of the circumstances approach,” should two factors strongly oppose each other, and incidental factors are used to contribute to a fully formed definition of the relationship.
This new rule and six factor test will be critical in industries such as construction, landscaping, and other similar businesses which may be seasonal in nature and require workers to bring their own skills and equipment. Under the new test, workers in these industries who have been treated as independent contractors for years will need to be reclassified to meet the DOL’s rule. But employers in all industries, from small merchants to personal services companies (such as hair care, waxing, massage, personal training, etc.) have been getting around DOL guidelines and must be ready to reassess according to the new test or face the six-figure payouts that hit the employers who were not paying attention (or deliberately disregarding the rules, in which case the meter starts ticking higher in terms of civil penalties and liquidated damages).
As the government goes through and audits contractors and the workers who were “independent,” the examples of these rules and precedence of lawsuits related to these rules will bring more clarity. For now, things like “the workers opportunity for profit and loss” – is likely to mean does the worker have their own organized business, registered as a corporation or single member LLC, and files the federal and state government tax forms making sure they are paying the employer and employee portions of Medicare and FICA taxes, something Independent Contractors must do when not classified as a W-2 employee. Related to this rule is the 3rd rule – “invests by the worker” – meaning does the worker have their own equipment, trucks and other tools that are not provided by the employer, but instead are owned and kept by the independent contractor, showing the worker is not as reliant on the employer as would a W-2 employee.
Other examples of the applicability of the new rules will include looking at the contracts the employer and worker sign. If they sign a small, one activity construction project, they are more likely to still be considered “independent, versus a long term, or “open-ended” contract, which acts more as an “at-will” employment contract – looking more like a W-2 employee under the new rules.
One of these factors is not enough, however, and sliding under the bar based on one factor will not help you.
Regardless of your industry and your previous understanding of the rule, learning the new rule and using it to assess your entire workforce is the only way to avoid those disastrous penalties we have seen other employers face.
myHRcounsel is here to help you properly classify your workers-before it’s too late. We can provide guidance on the six-factor test and help you get honest about worker classification rather than risk paying potential millions of dollars in back wages, damages, and penalties. If you use independent contractors, regardless of your industry, contact myHRcounsel to help assess your worker classification and protect you from disaster. https://www.myhrcouinsel.com/join-today