The U.S. Department of Labor (DOL) has, once again, updated its test for determining whether a worker is an independent contractor or an employee for purposes of the federal Fair Labor Standards Act (FLSA). The new test took effect in March 2024 and rescinds the more employer-friendly test put in place by the Trump administration. If your nonprofit organization uses what it believes to be independent contractors, you need to bone up on the new DOL requirements.

Out with the old …

The former test focused mainly on whether, as an “economic reality,” workers were dependent on the employer for work or in business for themselves. It consisted of five factors, and while no single one was decisive, the test emphasized two “core factors” that were deemed most relevant: 1) the nature and degree of an employer’s control over the work, and 2) the worker’s opportunity for profit and loss.

When both factors suggested the same classification — either employee or independent contractor — the test deemed it substantially likely that classification was proper.

… In with the new

The new test continues the principle that workers aren’t independent contractors if, as a matter of economic reality, they’re economically dependent on their employer for work. According to the DOL, this approach tracks both court opinions and its own interpretive guidance before 2021.

The latest test enumerates six factors that guide DOL analysis of whether a worker is an employee under the FLSA:

  1. The worker’s opportunity for profit or loss depending on managerial skill. A worker’s business acumen having no impact on profit indicates employee status.
  2. Investments by the worker and the potential employer. If the worker makes similar types of investments as the employer, even on a smaller scale, it indicates independent contractor status.
  3. Degree of permanence of the work relationship. An indefinite, continuous or exclusive relationship indicates employee status.
  4. The employer’s nature and degree of control. Supervising the performance of work or the worker’s schedule, or having the right to do so, indicates employee status, as does control of the relationship’s economic aspects.
  5. Extent to which the work performed is an integral part of the employer’s business. If the work is critical, necessary or central to the principal business, the worker probably is an employee.
  6. The worker’s skill and initiative. If the worker brings specialized skills and uses them in connection with business-like initiative, the worker probably is an independent contractor.

In contrast to the previous rule, all factors are assessed. No single factor or set of core factors automatically determines an individual’s status.

A few clarifications

The final rule includes some important clarifications that reflect public input. For example, actions an employer takes solely to comply with specific and applicable federal, state, tribal or local laws or regulations don’t suggest “control” indicative of employee status. Actions that go beyond legal requirements to serve the employer’s own compliance methods, safety, quality control, or contractual or customer service standards, however, may show the requisite control.

The new test acknowledges that a lack of permanence in a work relationship can sometimes be due to operational characteristics unique or intrinsic to particular businesses or industries and the workers they employ. The important question is whether the lack of permanence is due to workers exercising their own independent business initiative, which indicates independent contractor status. But note that the seasonal or temporary nature of work alone doesn’t necessarily indicate independent contractor classification.

Finally, the prior rule included a factor that asked only whether the work was part of an integrated unit of production. The latest rule looks at whether the business function the worker performs is an integral part of the business.

Act now

Note that the final rule has already become the subject of lawsuits. For now, though, if your nonprofit uses independent contractors, it’s time to review these relationships to ensure they satisfy the new test. The consequences of misclassification could prove devastating to your bottom line (see “Why employment classification matters for nonprofits,” on page XX).

Why employment classification matters for nonprofits

Courts considering employment status issues will use the new U.S. Department of Labor (DOL) test for independent contractor status as a guide. It will also be used in DOL analysis in misclassification audits and enforcement actions.

If the DOL determines that your nonprofit organization misclassified an employee as an independent contractor, you may owe back pay, interest and penalties if you didn’t pay the employee minimum wages or overtime pay. You also could end up liable for withheld employee benefits that should’ve been provided. And you might be subject to a variety of federal and state employment laws that you believed your organization was exempt from because it didn’t meet the threshold number of employees.

Nonprofits could be vulnerable to reputational damage, as well. This, in turn, could undermine recruitment, retention and support from external stakeholders.

© 2024

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