United States: New Rule On Independent Contractor Classification Will Have Profound Impact On Businesses

The U.S. Department of Labor (DOL) announced on Jan. 9, 2024, the issuance of its final rule regarding whether a worker is an employee or an independent contractor under the federal Fair Labor Standards Act (FLSA). The new rule, which becomes effective March 11, 2024, rescinds the 2021 independent contractor rule issued under former President Donald Trump and replaces it with a six-factor test that considers: 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. Additional factors may be relevant if they bear on whether the worker is economically dependent on the potential employer for work.

Importantly, the rule does not adopt an "ABC" test and does not impact independent contractor classification under state laws utilizing the "ABC" test, such as California, Massachusetts and New Jersey, to name a few. The rule only revises the DOL's guidance on how to analyze who is an employee or independent contractor under the FLSA.

Although the DOL believes the new rule will provide greater clarity and consistency for businesses, the opposite is likely to be true. It could potentially lead to an influx of litigation against certain businesses, particularly in the transportation and logistics industries, by attorneys seeking to have independent contractors reclassified as employees and awarded damages for overtime and deductions from pay, even if those workers prefer to be independent contractors. A key question, in the DOL's view, is whether, as a matter of "economic reality," the workers are dependent on the alleged employer or are in business for themselves. But the rule fails to provide a realistic solution for the frequent scenario where workers who desire to be independent contractors choose themselves to be "economically dependent" on work made available to them by one company, such as an ongoing business relationship between a vendor and its customer. As such, the rule is likely to create more uncertainty for companies that utilize legitimate independent contractor relationships to carry out their business functions.

The rule also tips the scales in favor of a worker being an employee if the work they perform is critical, necessary or central to the potential employer's business. But few businesses choose to pay for services that are not in some way necessary. Similarly, actions taken by companies to ensure compliance, safety, quality control, and contractual or customer service standards may be indicative of control over the worker under the new rule, which is directly at odds with numerous court decisions finding those actions to be reasonable and justified. Moreover, simply reserving, but not exercising, control over the performance of the work is given greater relevance under the new rule, which will require certain businesses to reevaluate their written agreements with contractors.