The Gig economy’s worker classification dilemma

According to a rent study conducted by Intuit, by 2020, 40% of America’s workforce will be made up of contingent workers.[1] This is largely due to the rapid growth of technological advancement in devices and platforms that allow for accessibility, immediacy, and flexibility. As a result, a whole new marketplace for work has developed known as the “gig” or “on demand” economy.[2]  The US Department of Labor (“DOL”) defines contingent worker as an independent contractor or freelancer. The Wage and Hour Division (“WHD”) of the DOL has taken particular interest in the classification of employees and has coordinated with various state and federal agencies to crack down on employers that misclassify its employees as independent contractors.[3] Contingent work arrangements include temporary employees, leased employees, outsourced employees, and independent contractors.

Temporary employees are workers hired to cover employee absences on a temporary basis.

Leased employees are hired by a professional employer organization that retains the administrative responsibilities such as payroll over the leased employee on behalf of the client lessee.

Outsourced employees are the employees of an independent firm that takes on the full operational responsibility of a particular job function for its client.

Independent contractors are generally self-employed individuals with a large degree of independence and control over the assigned projects.

On-Demand Workforce

For our purposes, this article will discuss the worker classification of the independent contractor vs. employee. Knowing the correct classification of your workforce and making your decisions deliberate can avoid serious consequences arising from misclassifying your workforce. For instance, class action lawsuits against on-demand companies such as Uber and Lyft have charged that these companies misclassified their workforce as independent contractors. Uber has agreed to pay up to $100 million dollars to drivers in California and Massachusetts. Despite the unapproved settlement no court has yet ruled whether Uber drivers are employees or independent contractors. Lyft has attempted to settle its misclassification suit for 12.25 million, but it was rejected by the court calling into question whether the deal was fair to drivers based on how reimbursements to workers were calculated.[4] With the threat of litigation and large settlement amounts, it is not surprising that other on-demand workforce companies like Instacart, Shyp, Luxe, and Sprig have proactively reclassified their fleet of workers as employees even though none of the companies have cited the pending Uber and Lyft lawsuits as the deciding factor for reclassifying its workers.[5]

Gigster Status: Independent Contractor or Employee

The simple answer to this question is that there is no uniform approach to determine worker classification in the new gig economy. In fact, there are a plethora of tests defining independent contractor status applied across federal and state laws that make it possible for a worker to be classified as an independent contractor under one law, but as an employee under another. The Supreme Court has stated that the employer should look at the totality of the working relationship, meaning that all facts relevant to the relationship between the worker and the employer must be considered. The most commonly used tests to determine worker status are the Fair Labor Standards Act’s (“FLSA”’s) economic realities test, the Equal Employment Opportunity Commission (“EEOC”) test, and the Internal Revenue Service (“IRS”) Test. This article will not address Federal Insurance Contribution Act (“FICA”), Federal Unemployment Tax Act (“FUTA”), State Unemployment Compensation, State Anti-Discrimination Laws, Labor Laws (National Labor Relations Act, Employee Retirement Income Security (“ERISA”), Workers’ Compensation, Uniformed Services Employment and Reemployment Act Rights Act (“USERRA”), or the Immigration and Naturalization Act.

The Economic Realties Test

The FLSA applies the economics realties test to determine if a worker is covered by FLSA wage and hour and overtime laws. The FLSA Wage and Hour Division issued guidance in a memo that illustrates six factors in the “economic realities” test used by officials and courts to determine whether a worker is an employee or independent contractor.  The factors that follow focus on whether the worker is economically dependent on the employer or truly in business for herself are:

1. Whether the work is an integral part of the employer’s business
2. Whether the worker’s managerial skills affect his or her opportunity for profit and loss.
3. The relative investments in facilities and equipment by the worker and the employer
4. The worker’s skill and initiative
5. The permanency of the worker’s relationship with the employer
6.   The nature and degree of control by the employer

Equally important are the factors that are immaterial and have little bearing in determining the existence of an employment relationship:

1. The fact that the worker has signed an agreement stating that he or she is an independent contractor
2. The fact that the worker has incorporated a business and/or is licensed by a State/local government agency has little bearing on determining the existence of an employment relationship
3. The time or mode of pay

The IRS Test

The IRS uses a different test to determine whether an employer-employee relationship exists for purposes of income tax determinations. The IRS provides three categories that focus on the business relationship that exists between employer and the worker:

1. Behavioral control
2. Financial control; and
3. The type of relationship between the parties

These categories are then broken down into various factors as set forth below:

Behavioral Control

• Type of instructions given by the employer regarding when, where, and how to work
• Degree of instruction means the more detailed instruction given by employer, the greater the control the employer has over the worker
• Evaluation system that measures how to do the job
• Training on how to do the job

Financial Control

• Significant investment. Has the worker made a significant investment into his or her equipment?
• Unreimbursed expenses
• Opportunity for profit or loss
• Services available on the market
• Method of payment. Is the worker guaranteed wages on a regular schedule or a flat fee?

Type of Relationship

• Written contracts do not determine status as an independent contractor
• Employee benefits are typically extended to employees, but lack of employee benefits does not determine worker status as an independent contractor
• Permanency of the relationship is strong evidence toward establishing an employer-employee relationship
• Services provided as key activity of the business is strong evidence of an employer-employee relationship

The Equal Employment Opportunity (EEOC) Test

The EEOC has also put forth its own factor test to determine whether workers are covered under federal nondiscrimination laws. These factors include:

• Employer’s right of control
• The level of skill required for the position
• Whether the employer provides equipment and materials
• Where the work is performed
• The length of the professional relationship
• Whether the employer can assign additional projects to the worker
• Whether the employer controls the hours of work
• How the worker is paid
• Whether the worker may hire assistants
• Whether the work performed is part of the employer’s regular business
• Whether the employer is actually in business
• Whether the employee is engaged in his or her own distinct occupation
• Whether the employer provides benefits to the worker
• Whether the employer has the right to discharge the worker
• Whether the employer and worker believe that they have formed an employer-employee relationship

Going back to Uber settlement, you might like to know what Uber agreed to change in its employment practices applied to their drivers.

1. Uber will no longer be able to deactivate drivers’ accounts at will. Warnings and an opportunity to correct any issues before they are terminated
2. Uber will stop deactivating drivers who turn down rides frequently
3. Uber agreed to create appeal panels and help drivers form an association so they can contest terminations
4. If drivers are unhappy with the result of their appeals, they can bring their claim to an arbitrator at Uber’s expense
5. Uber will have an internal escalation process to handle disputes regarding driver pay.
   Uber will make it clear to riders that tips are not included in Uber’s fares. Drivers will be permitted to solicit tips from passengers.

Despite all the wholesome benefits of contingent work and the employment practices that Uber agreed to modify, the greater possibility of future claims against Uber underscores what employment experts believe is the biggest existential threat to a fast-growing start-up.

What can companies do to minimize exposure to claims by its workforce?

In order to determine proper classification, a number of legal tests may apply to the same set of facts depending on the forum where the issue is raised and the claims being made. These tests often consider various factors to determine worker status including economic realities, duties of the worker and direction and control – to name a few. The legal test applied to a particular set of facts may result in very different outcomes. Even so, there are steps employers can take to avoid Uber-like implications in our new gig-economy. Until the laws catch up with the evolution of technology and the gig economy, employers can implement some best practices to avoid Uber-like implications.

Best Practices To Avoid Exposure:

1. Companies employing ICs should have employment counsel audit their employee categorizations. A business wishing to retain independent contractors should be certain that the independent contractors actually operate independently
2. Companies wishing to retain contingent workers, as leased employees, should take measures to ensure the workers clearly remain employees with the staffing company and not incorporate the contingent workers into its general workforce. The staffing company alone should have the authority to select, train, supervise, discipline or dismiss the worker
3. Employ extrinsic indications of worker status, based on their exclusion from benefit plans such as disclaimers in agreements with workers for entitlements to benefits, limiting its participation to employees only (expressly exclude “Independent Contractors”, “Freelancers”, and “Temporary Employees”) would help avoid suits based on ERISA claims
4. Avoid mixing or giving arbitrary titles given to the workers
5. Finally, the Company and its HR professional must set up a specific plan on how to treat its employees as opposed to its contingent workforce
6. Actions speak louder than words.  So, if you treat a worker like an employee, so will the agencies and courts looking at your dispute that way. In other words, if it walks like a duck and quacks like a duck…, it’s a duck!

We hope the above best practices help you even in a minimal way to know your rights and liabilities when you engage with independent contractors.

Overcoming the worker classification dilemma can be confusing with so many laws, regulations and government agencies involved. Engaging employment counsel early to avoid the pitfalls of misclassifying your workforce is also another best practice.

By Treena Burton and Shanika Weerasundara 

Liability Disclaimer:  Classification Tests change periodically and are different in each jurisdiction.  Our purpose in publishing this advisory is to inform our clients and friends of recent legal developments. It is not intended, nor should it be used, as a substitute for specific legal advice as legal counsel may only be given in response to specific inquiries regarding particular situations. 

[1] “Intuit 2020 Report,” INTUIT, October 2010, at 20, available at http://httpdownload.intuit.com/http.intuit/CMO/intuit/futureofsmallbusiness/intuit_2020_report.pdf (“Today, roughly 25-30 percent of the U.S. workforce is contingent, and more than 80 percent of large corporations plan to substantially increase their use of a flexible workforce in coming years.”)

[2] David H. Bradley, Sarah A. Donovan, & Jon O. Shimabukuro, “What Does the Gig Economy Mean for Workers?” CONGRESSIONAL RESEARCH SERVICE, February 5, 2016, at 1-2, available at http://www.fas.org/sgp/crs/misc/R44365.pdf.

[3] U.S.DEPARTMENT OF LABOR WAGE AND HOUR DIVISION – “Misclassification of Employees as Independent Contractors”; http://www.dol.gov/whd/workers/misclassification/#stateDetails.

[4] See, e.g., Braden Campbell, “Lyft To Pay $12M But Won’t Classify Drivers As Employees,” LAW360, (January 27, 2016), available at https://www.law360.com/articles/751317.

[5] http://www.forbes.com/sites/ellenhuet/2015/08/06/on-demand-sprig-switches-independent-contractors-to-employee.