In a recent article, I warned all employers that government agencies are out to bust them for misclassifying their employees as independent contractors. The prior article discussed the efforts made by the United States Department of Labor (DOL) in partnership with a number of states, including Arizona, to step up the enforcement of laws pertaining to properly classifying employees as employees, rather than independent contractors. [1]

I must now warn that the Wage and Hour Division of the DOL, guardian of the minimum wage and overtime pay requirements of the Fair Labor Standards Act (FLSA), has issued an official agency interpretation of those laws, which I believe will make it even easier for the government and the plaintiffs’ bar to pursue employers who dress up their employees as independent contractors.  Administrator’s Interpretation No. 2015-1 (“AI 2015-1”) briefs the issue from the DOL’s point of view, retools the appropriate legal analysis, and, perhaps not surprising, concludes that, at least as to individuals, “most workers are employees under the FLSA.”

FSLA Economic Reality Test

My recent article outlined the various tests that federal courts and agencies have used to determine whether an independent contractor is really an employee.  The test for FSLA purposes with regard to minimum wage and overtime laws called the “economic reality” test.  The Ninth Circuit Court of Appeals, which decides federal case appeals filed in Arizona, has applied six factors to make that determination:

1. The degree of the alleged employer’s right to control the manner in which the work is to be performed;
2. The alleged employee’s opportunity for profit or loss depending upon his managerial skill;
3. The alleged employee’s investment in equipment or materials required for his task, or his employment of helpers;
4. Whether the service rendered requires a special skill;
5. The degree of permanence of the working relationship; and
6. Whether the service rendered is an integral part of the alleged employer’s business

Real v. Driscoll Strawberry Associates, Inc., 603 F.2d 748, 754 (9th Cir. 1979); accord, Collinge v. IntelliQuick Delivery, Inc., 2015 WL 1292444, 2-3 (D.Ariz. 2015).  

In my article, I pointed out that, although stated differently, these economic reality factors mimic the Arizona and common law “right to control” test, which includes seven factors:

1. The duration of the employment;
2. The method of payment;
3. Who furnishes necessary equipment;
4. The right to hire and fire;
5. Who is responsible for workmen’s compensation insurance;
6. The extent to which the employer may exercise control over the details of the work; and
7. Whether the work was performed in the usual and regular course of the employer’s business.

Reed v. Indus. Comm’n, 23 Ariz.App. 591, 593, 534 P.2d 1090, 1092 (1075).

Courts Find Most Workers are Employees

Arizona uses this test to determine employee status for such things as unemployment and state minimum wage requirements.

Both the federal economic reality test and Arizona’s right to control test examine the degree or extent of an alleged employer’s right to control the details of the work and the manner in which it is performed.  This is the traditional concept of what an employer/employee relationship looks like.

Nevertheless, the Ninth Circuit and other federal courts have stated and applied the economic reality test in various ways, depending on the context.  For purposes of determining the economic realities of that status in Title VII cases with regard to laws that prohibit discrimination and harassment in the workplace, the Court has said “[t]he primary factor is the extent of the employer’s right to control the means and manner of the worker’s performance.”  See Adcock v. Chrysler Corp., 166 F.3d 1290, 1292 (9th Cir. 1999).  For purposes of the FLSA, however, the Court has said the primary consideration is “whether, as a matter of economic reality, the individuals ‘are dependent upon the business to which they render service.’” Donovan v. Sureway Cleaners, 656 F.2d 1368, 1370 (9th Cir. 1981).  The Court at times has said the difference between the economic reality test in a Title VII case and an FLSA case is that the test when applied in a Title VII case is really a “hybrid” of the economic reality test and the right to control test.  See Mitchell v. Frank R. Howard Mem’l Hosp., 853 F.2d 762, 766 (9th Cir.1988).  But it has also said there is “no functional difference” between or among the economic reality test, the right to control test, or the hybrid Title VII test.  See Murray v. Principal Fin. Grp., Inc., 613 F.3d 943, 945 (9th Cir. 2010). 

In practice, the economic reality test and the right to control test most often lead to the same result.  Most workers who fit the right to control test are employees who are economically dependent upon the business to which they render service.  But there are the hard cases.  A construction worker who performs skilled labor, has his or her own tools, is paid piecemeal, goes from job to job, and is not directly controlled or supervised looks like an independent contractor under either right to control test – that is, they are engaged to work piecemeal, usually for short periods, they are paid for with 1099s, they are not provided with workmen’s compensation insurance, and they are skilled workmen who are not subject to significant control with regard to the manner or details of their work.  As the DOL’s recent pursuit of the construction industry demonstrates, however, not all construction workers, though they may be “contractors,” are truly independent, at least not from an economic reality point of view.

And therein lies the importance of the DOL’s recent proclamation in AI 2015-1 that, today, “most workers are employees under the FLSA.”  The federal courts have used the economic realities test for decades, but, again, because of their common ground, that test and the right to control test in most cases have led to the same result.  AI 2015-1 does not change that, but it does appear to dig out and discard the common ground control factors of the economic reality test (the degree of the alleged employer’s right to control the manner in which the work is to be performed, the alleged employee’s investment in equipment or materials required for his task, whether the service rendered requires a special skill, and the degree of permanence of the working relationship) and to elevate the test’s overall concern (whether, as a matter of economic reality, individuals are dependent upon the business to which they render service) to a new and, depending on your point of view, undeserved status.

According to DOL in AI 2015-1, although it includes many of the same or similar control factors as the right to control test, the economic reality test is far more expansive than these control factors suggest because it reflects the “breadth of employment relationships covered by the FLSA.” That its definition of employment includes “suffer or permit to work,” the DOL says, means the FLSA is much broader than the right to control test permits. [2] Given this broad definition, then, the right to control test – and by implication the control factors included in the economic reality test – is out of step with the breath and purpose of the economic reality test and should be given little, if any, consideration when assessing worker status. Control or no control, if the economic reality is that a worker is economically dependent on the alleged employer for work and pay, he or she is likely to be seen as an employee rather than an independent contractor. Thus, the DOL has broadly proclaimed that, under its view of the economic reality test, “most workers are employees under the FLSA.” [3]

AI 2015-1 is not necessarily the law, but it comes close given the “respect” and “power to persuade” courts grant to such agency interpretations.  See Bamonte v. City of Mesa, 598 F.3d 1217, 1223 (9th Cir. 2010) (DOL general policy statements are “entitled to respect ... to the extent that [they] have the power to persuade”); Dager v. City of Phoenix, 646 F.Supp.2d 1085, 1093 (D.Ariz. 2009), aff’d, 380 F.App’x 688 (9th Cir. 2010) (although agency interpretations are not controlling upon the courts by reason of their authority, “[they] do constitute a body of experience and informed judgment to which courts and litigants may properly resort for guidance”).  In other words, AI 2015-1 signals a significant shift in the way courts assess whether an independent contractor is really an employee for minimum wage and overtime purposes under the FLSA.

Conclusion

Why is AI 2015-1 important to you?  If you are a business owner, it is now more important than ever for you or your legal counsel to review your employment practices and use of independent contractors.  You have a lot more to lose than you have to gain by treating employees as independent contractors if the DOL finds you.  And if the DOL finds you, it will not be long before the IRS and other federal and state agencies find you.  You should manage that risk now.  Consult your legal counsel to find out how.

• [1] An April 23, 2015, DOL News Release reported that a nearly five-year investigation of construction industry employers in Arizona and Utah has resulted in $700,000.00 in back wages, damages, penalties and guaranties assessed by the DOL for the benefit of more than 1,000 misclassified construction workers.
• [2] Technically, of course, one may be suffered or permitted to work as either an employee or an independent contractor.  That is the issue.
• [3] It is important to note that, despite this broad proclamation, the DOL does recognize and affirm that “economic independence” remains the hallmark of independent contractor status.  An independent contractor is usually in business for himself and/or is employed by a company that contracts out his work to more than one customer or client.