Update on worker classification: employee or independent contractor?
|On May 6, 2021, the U.S. Department of Labor announced a final rule withdrawing the Trump independent contractor rule.|
In the waning days of the Trump Administration, the U.S. Department of Labor (DOL) issued a new final regulation about classifying workers as either employees or independent contractors. The announcement indicated the regulation would take effect on March 8, 2021.
As it stands as of today as I publish this blog post, the Trump rule is set to go into effect on May 7, 2021, but indications are strong that the Biden Administration will withdraw the rule before that date.
But upon coming into office, the Biden Administration froze all the Trump Administration’s final regulations announced, but not yet in effect, until they could be reviewed. On February 5, 2021, the DOL announced it was delaying the effective date of the Trump regulation until May 7, 2021. It also reopened the comment period on the Trump regulation until February 12. The comment period was later extended to April 12. Despite requests to extend the comment period past April 12, the DOL refused to do so.
On March 3, the Biden Administration issued a notice of proposed rule making (NPRM) to rescind the Trump Administration’s regulation.
To help us understand the Trump regulation, I will use “worker” to refer to a person who does work for someone (whom I will continue to call “the employer”), but who hasn’t yet been classified as an employee or an independent contractor (IC). Put another way, we can think of there being two types of workers: employees and independent contractors (ICs).
Why do employers want to treat workers as independent contractors?
In a word, because it’s cheaper. If a worker truly is an IC, the employer doesn’t have to—
- Do the bookkeeping to withhold and report income tax, Social Security tax, or Medicare tax from payments made to the IC. (An employee gets a W-2 form; an IC gets a 1099 form.)
- Pay the employer’s share of Social Security tax or Medicare tax.
- Carry workers’ compensation insurance for the IC.
- Pay unemployment compensation tax for the IC.
- Pay for fringe benefits for the IC, such as health insurance, stock options, paid vacations, sick days, life insurance, disability insurance, retirement or pension contributions, and so forth.
What’s the danger of misclassification?
If the employer correctly classifies the worker, everything is copacetic. But if the employer misclassifies the worker, the employer can be in a world of economic hurt. If the Internal Revenue Service or the DOL determines that the worker is not an IC but is really an employee, the employer may be responsible for—
- Back pay, including overtime pay.
- Employee benefits.
- Disability payments.
- Workers’ compensation.
- Various taxes and insurance.
- Civil “fines,” as well as interest on unpaid amounts.
- Attorney fees for an attorney to help straighten out the mess.
To demonstrate the potential expense with only one item from the preceding list: When an employer doesn’t withhold the amounts required, the employer may not only be responsible for paying the employer’s share of Social Security and Medicare taxes, but for the employee’s share of such taxes plus the income tax that should have been withheld from the employee’s paycheck.
What was the rationale for the Trump regulation?
One of the peculiar historical aspects of worker classification is that the DOL has never adopted a regulation that defines “independent contractor” and “employee.” Instead, the law has developed through DOL opinion letters and Federal court decisions. This process has been underway since 1938—resulting in unclear and unwieldy criteria for classification.
What does the Trump regulation provide?
As announced in the final rule, the Trump regulation was designed to make it less risky for employers to classify workers as ICs and to match the classification criteria to current practices in the “gig economy.” The Trump regulation affirms the economic reality test as determining whether a worker is an employee or IC. It identifies two core factors that are most probative of whether a worker is economically dependent on someone else’s business or is in business for herself or himself:
- The nature of the work and the control over the work.
- The worker’s opportunity for profit or loss based on initiative or investment.
The rule also identifies three factors that serve as additional guideposts for the analysis, especially when the two core factors don’t point to the same classification:
- The amount of skill required for the work.
- The degree of permanence of the working relationship between the worker and the potential employer.
- Whether the work is part of an integrated unit of production.
Finally, the rule makes it clear that actual practice of the worker and the employer is more relevant than what may be contractually provided or theoretically possible.
Why does the Biden Administration want to withdraw the regulation?
Being more worker friendly, the Biden Administration doesn’t agree with the new regulation and has pointed to four reasons for withdrawal:
- Neither Federal courts nor the DOL has ever used the Trump regulation.
- The Trump regulation would therefore not necessarily provide clarity, but is likely to make things more confusing.
- The Trump regulation would not necessarily benefit workers as a whole. (This is in direct contrast with the Trump Administration’s rationale for adopting its regulation.)
- Because the new regulation has not yet taken effect, withdrawal will not be disruptive.
First, “stay tuned” to the Third Shift Employment Law Blog to make sure you find out what the status of the Trump regulation—whether or not it’s actually withdrawn.
Second, worker classification is a treacherous area of employment law—and will especially remain so if the Trump rule does or doesn’t go into effect. So before deciding to treat a worker as an IC, seek legal advice. Not only is it more likely to result in a proper classification, the advice can provide a safe harbor for the employer so that the employer can avoid almost all of the penalties of misclassification.
Items on this web page are general in nature. They cannot—and should not—replace consultation with a competent legal professional. Nothing on this web page should be considered rendering legal advice.