Gig work, including project-based freelance and independent contracting, has become prevalent across various industries, with 25 to 35 percent of U.S. workers participating in the gig economy. The distinction between employee and independent contractor status is crucial and involves compliance with federal and state laws.
Employee or Independent Contractor?
The determination of a worker’s status depends on multiple factors, and various federal agencies and states employ different tests for classification. Recently, the Department of Labor (DOL) updated its criteria, emphasizing a totality-of-the-circumstances analysis. The IRS and National Labor Relations Board (NLRB) have also adjusted their tests.
Tests for Independent Contractor Status include the Department of Labor’s six-factor test, the IRS 11-factor test, and NLRB’s factors.
Department of Labor
The DOL issued a final rule in January 2024, that changed the criteria for classifying independent contractors. The final rule rescinds a 2021 rule in which two core factors—control over the work and opportunity for profit or loss—carried greater weight in determining the status of independent contractors. Under the new rule, employers would use a totality-of-the-circumstances analysis, in which none of the factors carry greater weight.
The new test includes six factors:
1. The degree to which the employer controls how the work is done.
2. The worker’s opportunity for profit or loss.
3. The amount of skill and initiative required for the work.
4. The degree of permanence of the working relationship.
5. The worker’s investment in equipment or materials required for the task.
6. The extent to which the service rendered is an integral part of the employer’s business.
IRS
As reflected in Section 2 of its Publication 15-A: Employer’s Supplemental Tax Guide, the IRS now looks at 11 factors (rather than the previous 20 factors) within three areas:
- Behavioral: Does the company control or have the right to control what the worker does and how the worker does his or her job?
- Financial: Are the business aspects of the worker’s job controlled by the payer? (These include such considerations as how the worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
- Type of Relationship: Are there written contracts or employee-type benefits (e.g., pension plan, insurance, vacation pay, etc.)? Will the relationship continue, and is the work performed a key aspect of the business?
NLRB
A 2023 ruling from the NLRB changed the standard for determining whether someone qualifies as an independent contractor under the National Labor Relations Act. The NLRB rejected the previous ruling in SuperShuttle that entrepreneurial opportunity for gain or loss should be the animating principle of the independent contractor test. Instead, it said entrepreneurial opportunity should be taken into account alongside a list of traditional common-law factors.
Those factors include:
- The extent of control the employer exercises over the details of the work.
- Whether the work is usually done under the direction of the employer or without supervision.
- Whether the worker is engaged in a distinct occupation or business.
- How much skill is required in the particular occupation.
- Whether the employer supplies the tools and the place of work.
- The length of time for which the worker is employed.
- The method of payment, whether by the hour or by the job.
- Whether the work is a part of the regular business of the employer.
Proactive Steps for Compliance:
To navigate these complexities, organizations can take proactive steps:
- Involve HR in staffing decisions
- Utilize written independent contractor agreements
- Obtain indemnification from workers for potential misclassification losses
- Adopt a formal policy on independent contractor usage
- Implement a checklist to ensure compliance with management details
Careful consideration of staffing needs, combined with compliance measures, will help organizations effectively use independent contractors while minimizing legal risks.