How do I know if my independent contractors are employees under the FLSA?

So you’re still using independent contractors? Then most of your workers are really employees, whether you know it or not.

It is the clear position of the federal Department of Labor, which has the responsibility of enforcing federal labor law.

”Most workers are employees under the FLSA’s broad definitions…the Act seeks as its goal to extend the scope of employment relationships.”

The key question, and one that is not easy to answer, is whether your workers are economically dependent on your business. If workers are economically dependent on the business they work for, then they are employees covered by the Fair Labor Standards Act (FLSA). If they are in business for themselves — if they are independent of the business — they may be genuine independent contractors.

The Label Alone Is Meaningless

First, even if you or your workers think of them as independent contractors, or you have called them that, or you label them that on your paperwork, the label alone is meaningless. The Department of Labor and the courts will look at the actual employment relationship.

Paying someone as a 1099 contractor does not make them a contractor. If they are a misclassified worker, your business may owe the IRS and Social Security Administration a great deal of money.

Being highly skilled does not make them a contractor either. You can be a skilled worker, with high skill and a high education, and still be an employee.

Workers who are incorrectly classified as independent contractors can lose access to workers’ compensation, unemployment insurance, the right to a minimum wage, and overtime pay. And some employers misclassify workers as independent contractors on purpose, to avoid the costs and the labor laws that come with hiring employees.

Questions About Contractors

Ask yourself the following questions about contractors you work with.

Is the work integral to your business? That is, is it a job that’s central to your line of business? The Department of Labor offers an example to illustrate the question: a group of cake decorators. If your business is called “The Cake Shop,” you make custom cakes, and the decorators are integral to doing business, they probably aren’t independent contractors. The cake decorators should be classified as employees. If you’re called “The Construction Company,” and you make houses, and you hire a cake decorator once, to make a single cake for your business owner’s birthday, the decorator is probably an independent contractor.

Do contractors you work with have an opportunity to lose money or profit from their work based on managerial skill? I’m not talking about Dilbert’s boss, who has no understanding of what he is doing and acts as an impediment to Dilbert and his fellow engineers. It’s about the ability to manage a business, and to profit or lose through that ability to manage. Does the worker have any sort of entrepreneurial power or responsibility? They should be able to hire assistants at their own risk, and also be able to buy tools and materials for the job. Think about whether the worker or workers could go broke as a result of a poor decision. Managers who report to their bosses aren’t independent contractors. However, if a worker’s chances of profit or loss depend only on being able to work more hours, that doesn’t count as a business decision, because employees often do that too.

Keep in mind that the DOL’s Administrator’s Interpretation covers only the FLSA. Federal and state tax law, and also Social Security law, are separate and controlled by separate agencies, and claims for employee benefits could also come up.

Examine the investment in materials, equipment, and facilities by the worker. Compare their investment to your own. Who’s making the larger investment? Sometimes employees must buy some of their own tools, but usually the company pays for most of the investment. Even an employee who must provide her own truck for the job may still be an employee, if your investments are greater than the employee’s.

The type of skill matters too. The Department of Labor isn’t asking whether the worker is an expert at building custom cabinets, or designing clothes, or washing cars, or whatever work the person does. It’s asking whether they have a talent for running their own business. A skilled carpenter who builds custom cabinets for several companies, markets himself, orders his own materials, and takes on or rejects jobs as he chooses might be an independent contractor.

Is the worker’s relationship with you permanent or indefinite? If it’s open-ended work, the workers are probably employees. This question matters, and to answer it you must look at why it’s impermanent. A fixed-term contract doesn’t prove anything, because it’s common for employees to have fixed-term contracts too. If the relationship is impermanent because of industry, it doesn’t look like an independent contractor relationship. But if it ends because the worker has other clients, or new opportunities, it might be an independent contractor relationship.

Who really controls the work? The Department of Labor says independent contractors must have a real managerial responsibility over important parts of the job, and they must also use that power to make meaningful decisions that affect the business. Telecommuting, flexible hours, and working on the road are perfectly common for employees nowadays, so that doesn’t prove anything. And any strict rules you impose on contractors for legal compliance or customer satisfaction might turn a contractor into an employee, even when you don’t have any choice.

Hard to Tell the Difference Between Contractors and Employees

If there’s a dispute about whether a worker is an employee or an independent contractor, courts will look at all these questions, not just one of them, to decide what kind of worker they are. If you’re stuck between two answers to those questions, you should treat the worker as an employee, just to avoid legal trouble.