How Will Changes to Federal Rules Affect Worker Classification?

 Posted on January 14, 2021 in Small Business Taxes

The United States economy has changed significantly over the past decade. More and more workers are participating in what is known as the “gig economy” or “sharing economy,” allowing them to set their own schedules while completing tasks such as transporting passengers or making deliveries. While these types of arrangements have benefited many workers and those who use their services, questions have been raised about worker classification and whether certain types of gig workers should be considered independent contractors or employees. While several states, including California, have implemented laws to address this issue, the federal government has also weighed in on the topic. A recent rule change from the Department of Labor created a test that should be used to determine whether a worker is self-employed or is dependent on an employer.

The Department of Labor’s “Economic Reality” Test

Employees have a number of protections under the Fair Labor Standards Act (FLSA), including the right to receive a minimum hourly wage and overtime pay when working more than 40 hours a week, as well as benefits such as unemployment insurance, healthcare, retirement plans, sick leave, and family medical leave. Independent contractors are not protected by the FLSA, and rather than having payroll taxes withheld from their pay, they are usually required to pay self-employment taxes. 

To ensure that workers are classified correctly, the Department of Labor has created a new rule that specifies that an “economic reality” test should be used to determine whether a worker is dependent on an employer. Under this rule, there are two core factors that are considered:

• Degree of control - Does the worker or the employer have more control over key aspects of the work a person performs, such as his/her schedule, the selection of projects, and the ability to work for other people or companies?
• Profit/loss opportunities - Is a worker able to earn profits or incur losses based on his/her ability to exercise initiative, make managerial decisions, or invest in equipment or hiring other workers?

If the two core factors do not indicate whether a worker is an employee or independent contractor, three other factors may be considered:

• Skill required - Does the work performed require skills or training that is not provided by the employer, or is a worker dependent on an employer to provide the necessary training?
• Permanence of working relationship - Is work sporadic or intended to last for a defined period of time, or is the working relationship indefinite or continuous?
• Integration into production - Is the work an integral part of an employer’s production process?

The Department of Labor’s new rule will go into effect on March 8, 2021. While this rule will apply to workers across the United States, individual states are allowed to create stricter rules for worker classification. In California, an “ABC test” is used to classify workers, although the recent passage of Proposition 22 has exempted app-based gig workers such as Uber or Lyft drivers from this test.

Contact Our San Jose, CA Worker Classification Tax Attorney

Employers will want to be sure they are classifying workers correctly to avoid potentially hefty tax consequences and penalties. At John D. Teter Law Offices, we can help you identify any concerns that may affect your current or future business model. We can also advise you on the best steps to take if you are facing a tax audit by the IRS or the California Employment Development Department. Contact our San Jose small business tax lawyer today by calling 408-866-1810.

Sources:

https://public-inspection.federalregister.gov/2020-29274.pdf

https://www.dol.gov/agencies/whd/flsa/2021-independent-contractor