On January 10th, 2024, the U.S. Department of Labor released their final rule, replacing prior guidance from 2021 on who is an independent contractor and who is an employee, under the Fair Labor Standards Act (FLSA). 

The rule, going into effect on March 11th, 2024, governs which workers will be considered an employee with overtime pay, minimum wage pay, and other benefits, from independent contractors. The bureau of labor statistics (BLS) estimates that around 7% of the workforce work as independent contractors.

Replacing the 2021 Independent Contractor Rule

The Department of Labor (DOL) had this to say regarding why they were issuing a new rule regarding misclassification of employees and independent contractors: 

The Department believes that the 2021 Independent Contractor Rule does not fully comport with the text and purpose of the FLSA as interpreted by courts… such as: 

1. its designation of two “core factors”—control and opportunity for profit or loss—which are given a greater predetermined weight in the analysis; 
2. its consideration of a worker’s investments and initiative only as part of the opportunity for profit or loss factor; and 
3. its prohibition against considering whether the work performed is central or important to the potential employer’s business. 

Previous, and beginning again in March of this year when the new rule goes into effect, affirms that a worker cannot be an independent contractor if they are “as a matter of economic reality”, dependent on an employer for work.  Unlike states such as California, who apply a separate “ABC test”, the economic reality test relies on six factors: 

1. opportunity for profit or loss depending on managerial skill; 
2. investments by the worker and the potential employer; 
3. degree of permanence of the work relationship; 
4. nature and degree of control; 
5. extent to which the work performed is an integral part of the potential employer’s business; and 
6. skill and initiative. 

Misclassification of Workers Under FLSA 

Under the FLSA six factors of economic reality, workers must be independent of the business, including the ability to work with other entities and having some independent action and managerial decisions regarding their labor and the pricing of the labor. 

Opportunity for profit or loss depending on managerial skill: 

Workers should be able to determine or negotiate the pay for work. So if a worker must accept a flat hourly rate for work, that is not negotiating a price. If a worker can hire subcontractors, or expand their business by working with other businesses, or accept and decline jobs and decide the time to do a job accepted, that may show independence. 

Investments by the worker and the employer: 

Investments by a worker are reviewed to see if they are capital, or entrepreneurial.  A capital investment such as purchasing tools to do tasks are not evidence of entrepreneurial investment.  However, an investment by the worker to allow for expanded capacity to work with other businesses would be entrepreneurial investment. 

Degree of permanence of the work relationship: 

When jobs are continuous with no end, this generally points to a worker being an employee and not an independent contractor. Additionally, control over the worker’s schedule points toward employment, such as controlling the schedule they work, the days they work, their total hours, and the supervision the worker receives while working. The more a worker is supervised and controlled, the more they may be classified as an employee. Control and supervision do not include mandatory actions such as specific jobs requiring verification of certification. 

Extend to which the work performed is an integral part of the employer’s business: 

This fifth factor investigates whether workers are a central and necessary part of a business.  A cashier or a line cook at a fast food service restaurant is a necessary part of the business. The more central and necessary the labor performed, the more indicative it is the worker should be considered an employee. 

Skill and initiative: 

The final factor reviews whether potential independent contractors are using unique or special skills. When a worker does not have skills, or solely relies on training by the employer to perform tasks, this can indicate toward the worker being an employee.  However, a worker being skilled or being trained does not necessarily indicate the worker cannot be an independent contractor, their skills are reviewed together with any “business-like initiative” taken by the worker to apply skills to the job. 

None of the above six factors determines a worker’s status. Only by reviewing all six factors together and weighing the totality of the workers independence can a determination be made. 

Department of Labor Misclassification Examples: 

The DOL provided examples of both employees and independent contractors, by each factor: 

Examples: Opportunity for Profit or Loss Depending on Managerial Skill 

• Example 1: A worker for a landscaping company performs assignments only as decided by the company for its corporate clients. The worker does not independently choose assignments, ask for additional work from other clients, advertise the landscaping services, or try to reduce costs. The worker regularly agrees to work additional hours to earn more money. In this example, the worker does not exercise managerial skill that affects their profit or loss. Rather, their earnings may change based on the work available and their willingness to work more. Because of this lack of managerial skill affecting their opportunity for profit or loss, these facts indicate employee status under the opportunity for profit or loss factor. 
• Example 2: In contrast, a worker provides landscaping services directly to corporate clients. The worker produces their own advertising, negotiates contracts, decides which jobs to perform and when to perform them, and decides when and whether to hire helpers to assist with the work. This worker exercises managerial skill that affects their opportunity for profit or loss. These facts indicate independent contractor status under the opportunity for profit or loss factor. 

Examples: Investments by the Worker and the Potential Employer 

• Example 1: A graphic designer provides design services for a commercial design firm. The firm provides software, a computer, office space, and all the equipment and supplies for the worker. The company invests in marketing and finding clients and maintains a central office from which to manage services. The worker occasionally uses their own preferred drafting tools for certain jobs. In this scenario, the worker’s relatively minor investment in supplies is not capital in nature and does little to further a business beyond completing specific jobs. These facts indicate employee status under the investment factor. 
• Example 2: A graphic designer occasionally completes specialty design projects for the same commercial design firm. The graphic designer purchases their own design software, computer, drafting tools, and rents their own space. The graphic designer also spends money to market their services. These types of investments support an independent business and are capital in nature (e.g., they allow the worker to do more work and find new clients). These facts indicate independent contractor status under the investment factor. 

Examples: Degree of Permanence of the Work Relationship 

• Example 1: A cook has prepared meals for an entertainment venue continuously for several years. The cook prepares meals as decided by the venue, depending on the size and specifics of the event. The cook only prepares food for the entertainment venue, which has regularly scheduled events each week. The relationship between the cook and the venue is characterized by a high degree of permanence and exclusivity as the cook does not cook for other venues. These facts indicate employee status under the permanence factor. 
• Example 2: A cook has prepared specialty meals intermittently for an entertainment venue over the past three years for certain events. The cook markets their meal preparation services to multiple venues and private individuals and turns down work from the entertainment venue for any reason, including because the cook is too busy with other meal preparation jobs. The cook has a sporadic or project-based nonexclusive relationship with the entertainment venue. These facts indicate independent contractor status under the permanence factor. 

Examples: Nature and Degree of Control 

• Example 1: A registered nurse provides nursing care for Alpha House, a nursing home. The nursing home sets the work schedule with input from staff regarding their preferences and determines the staff assignments. Alpha House’s policies prohibit nurses from working for other nursing homes while employed with Alpha House to protect its residents. In addition, the nursing staff are supervised by regular check-ins with managers, but nurses generally perform their work without direct supervision. While nurses at Alpha House work without close supervision and can express preferences for their schedule, Alpha House maintains control over when and where a nurse can work and whether a nurse can work for another nursing home. These facts indicate employee status under the control factor. 
• Example 2: Another registered nurse provides specialty movement therapy to residents at Beta House. The nurse maintains a website and was contacted by Beta House to assist its residents. The nurse provides the movement therapy for residents on a schedule agreed upon between the nurse and the resident, without direction or supervision from Beta House, and sets the price for services on the website. In addition, the nurse provides therapy sessions to residents at Beta House as well as other nursing homes in the community at the same time. These facts—that the nurse markets their specialized services to obtain work for multiple clients, is not supervised by Beta House, sets their own prices, and has the flexibility to select a work schedule—indicate independent contractor status under the control factor. 

Examples: Extent to Which the Work Performed is an Integral Part of the Potential Employer’s Business 

• Example 1: A large farm grows tomatoes that it sells to distributors. The farm pays workers to pick the tomatoes during the harvest season. Because a necessary part of a tomato farm is picking the tomatoes, the tomato pickers are integral to the company’s business. These facts indicate employee status under the integral factor. 
• Example 2: Alternatively, the same farm pays an accountant to provide non-payroll accounting support, including filing its annual tax return. This accounting support is not critical, necessary, or central to the principal business of the farm (farming tomatoes), thus the accountant’s work is not integral to the business. Therefore, these facts indicate independent contractor status under the integral factor. 

Examples: Skills and Initiative 

• Example 1: A highly skilled welder provides welding services for a construction firm. The welder does not make any independent decisions at the job site beyond what it takes to do the work assigned. The welder does not determine the sequence of work, order additional materials, think about bidding for the next job, or use their welding skills to obtain additional jobs, and is told what work to perform and where to do it. In this scenario, the welder, although highly skilled technically, is not using those skills in a manner that evidences business-like initiative. These facts indicate employee status under the skill and initiative factor. 
• Example 2: A highly skilled welder provides a specialty welding service, such as custom aluminum welding, for a variety of area construction companies. The welder uses these skills for marketing purposes, to generate new business, and to obtain work from multiple companies. The welder is not only technically skilled, but also uses and markets those skills in a manner that evidences business-like initiative. These facts indicate independent contractor status under the skill and initiative factor. 

California, Illinois and the ABC Test 

California, and other states including Illinois, Pennsylvania, Washington, Nebraska, have replaced the economic reality test from federal law with what is called the “ABC test”. 

The California ABC test uses three factors, all of which must be true, for a worker to be considered an independent contractor. 

1. The worker is free from the control and direction of the hiring entity in connection with the performance of the work, both under the contract for the performance of the work and in fact; (A) 
2. The worker performs work that is outside the usual course of the hiring entity’s business; (B) and 
3. The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as that involved in the work performed. (C) 

Other states use similar or identical three factors, some states only use two of the three, or make changes to the language compared to California.  To speak with an attorney regarding misclassification, contact us at info@schneiderwallace.com or call us at 1-800-689-0024.

Federal Misclassification Penalties 

Misclassifying an employee under FLSA can result in a series of potential damages against the employer. Employees may be entitled to: 

• Back Wages and Overtime: Employers may be required to pay back wages for unpaid minimum wages and overtime. Under the FLSA, employees are entitled to minimum wage and overtime pay at a rate of one and one-half times their regular rate of pay for hours worked over 40 in a workweek, unless they are exempt. Misclassified workers who should have been classified as employees may be owed these wages. 
• Liquidated Damages: In addition to back wages, employers may also be liable for an equal amount as liquidated damages. Liquidated damages are intended to compensate the employee for the delay in receiving wages due. 
• Interest: Employers may also be required to pay interest on unpaid wages and taxes. 
• Legal Fees: If a misclassification case goes to court, the employer may be responsible for the employee’s legal fees in addition to their own. 
• Benefits: Employers may be liable for the value of benefits (such as health insurance, retirement benefits, and paid leave) from which the misclassified employee was excluded. 

Employers may also face criminal penalties for willful violations. 

California Misclassification Penalties 

California maintains its own laws and regulations, including use of the ABC test for determining if a worker is an employee or contractor. California employers’ potential penalties for misclassifying employees as independent contractors includes: 

• Back Wages and Overtime: Employers may be required to pay back wages, including overtime, and provide meal and rest breaks as required by California law. 
• Fines and Penalties: California law imposes fines for misclassification. These can range from $5,000 to $25,000 per violation for willful misclassification. 
• Workers’ Compensation: Employers might be liable for the cost of workers’ compensation benefits for misclassified employees. 
• Civil Penalties: Additional civil penalties may be assessed for failing to provide employee benefits such as sick leave, health insurance, and retirement benefits. 
• Legal Fees: If a misclassification case goes to court, the employer may also be responsible for the employee’s legal fees, in addition to their own. 
• Liability for Business Expenses: Employers may be required to reimburse misclassified independent contractors for business expenses they incurred while performing their duties. 
• Liability for Unpaid Taxes: Employers could be held liable for unpaid state taxes along with penalties and interest. 

Employees in California enjoy a large amount of benefits and rights. When an employee is misclassified, items such as cell phone use without reimbursement, mileage without reimbursement, meal and rest break penalties where employees earn bonus hours based on not receiving a full compliant lunch break or rest periods, and more can be due to the employee. 

In addition, employers can owe up to $4,000 per employee to employees, based on $50 and $100 penalties per paycheck, for failing to properly produce accurate wage statements (pay stubs). If your employee is misclassified, you are not producing the proper pay stub every pay period to that employee with all the proper wages and premiums included. 

Illinois Misclassification Penalties 

Much like California, Illinois employers who misclassify workers under the ABC law face penalties including back pay, damages, missing overtime, legal fees and costs, and contributions toward benefits and unemployment insurance among others. 

Illinois also adds an additional potential penalty: Illinois employees may be eligible for up to $500 per day they worked misclassified as an independent contractor.  Remedies available under Illinois law: 

1. the amount of any wages, salary, employment benefits, or other compensation denied or lost to the person by reason of the violation, plus an equal amount in liquidated damages; 
2. compensatory damages and an amount up to $500 for each violation of this Act or any rule adopted under this Act; 
3. in the case of unlawful retaliation, all legal or equitable relief as may be appropriate; and 
4. attorney’s fees and costs. 

Every day a worker works while misclassified counts as a separate violation. A worker who was misclassified for a year, working 50 weeks a year, working 5 days a week, could be eligible for up to $125,000.00 in penalties. 

Misclassification Lawyers 

If you feel you may be misclassified, either under a state ABC law like California or Illinois, or the federal FLSA law, consider contacting an employment attorney.  Schneider Wallace Cottrell Konecky LLP is available for a free legal consultation.  Contact us at info@schneiderwallace.com or 1-800-689-0024.