From JDSupra, Andrew McKinley, Alex Simon, and Kyle Winnick discuss the United States Department of Labor’s proposed rule for classifying workers as employees or independent contractors and in particular with its treatment of a worker’s investment in the business and a worker’s ability to effectuate a profit or loss. Andrew, Alex, and Kyle write:
Seyfarth Synopsis: This latest installment in our series on the Department of Labor’s proposed independent contractor rule under the Fair Labor Standards Act focuses on proposed changes to the profit-or-loss analysis as it relates to workers’ investments in their businesses.
A hallmark of independent contractor status is the ability to exercise entrepreneurial opportunity to effectuate a profit (or loss). Independent contractors do this by making capital investments in their businesses, including through marketing, hiring others, purchasing equipment (or software), expanding capacity, or any number of things to increase their competitiveness. If these investments fail to attract new customers or to reduce inefficiencies, they may lead to a loss. In other words, independent contractors can increase their profits, or risk a loss, through investments.
It may seem odd, therefore, that some courts analyze a workers’ opportunity for profit-or-loss separately from their investments when determining if a worker is an employee or independent contractor under the Fair Labor Standards Act (“FLSA”). But others, such as the Second Circuit and D.C. Circuit, recognize that the profit-or-loss and investment inquiries are inherently intertwined and best analyzed together. As the Second Circuit explained in Saleem v. Corporation Transp. Group, Ltd., “[e]conomic investment, by definition, creates the opportunity for loss, [and] investors take such a risk with an eye to profit.”
In 2021, the DOL under the Trump Administration promulgated an interpretive regulation defining employee versus independent contractor status under the FLSA (the “2021 Rule”), which would have adopted the approach of the Second and D.C. Circuits. More specifically, as part of the profit or loss inquiry, the 2021 Rule considered the “management of [a worker’s] investment in or capital expenditure on, for example, helpers or equipment or material to further his or her work.”
The DOL has now reversed course. In its most recent notice of proposed rulemaking (“NPRM”), the DOL seeks to return to analyzing investments separately from profit or loss. The DOL justifies doing so by citing cases that have historically analyzed the two inquiries separately, which according to the DOL, “have found both opportunity for profit or loss and investment to be independently probative.” For example, the DOL cites Fifth Circuit authority finding workers did not have any meaningful investment but did have an opportunity for profit or loss.
But the very cases that the DOL cites highlight the dangers of unmooring the investments inquiry from the profit or loss inquiry. The Fifth Circuit and other courts, for example, consider the “relative” investment made by the worker compared to the investments made by the putative employer. The NPRM adopts this approach. But this type of comparison will almost always result in the investment prong favoring employee status: businesses tend to be much larger than the contractors they engage. This begs the question why a factor which will almost invariably tilt in favor of employee status should be used to determine employee status. Such a standard will either improperly tilt the analysis in favor of employee status or be ignored. Indeed, in the very Fifth Circuit case the DOL cites, the Court gave the investment factor “little weight” because the plaintiffs were small businesspersons who necessarily worked for much larger companies. It therefore did not help the ultimate inquiry of ascertaining whether the workers were economically independent of or dependent on the putative employer.
There is the added problem of the DOL’s lack of guidance on how to calibrate the relative investments inquiry. Consider an independent contractor with multiple clients. Is a court supposed to compare the relative investments between the contractor and each client? Or should it do so on a pro rata basis? Or should it compare the contractor’s investments with the collective investments of his or her clients? In the case of an employer with multiple product service lines (PSLs), do investments in all PSLs count? Or does just the one to which the putative employee provides services? These unaddressed questions are likely to add confusion, not clarity, to the analysis.
Assessing investments apart from profit or loss also risks overlooking that many independent contractors have made minimal capital investments. As Judge Easterbrook remarked decades ago, “possess[ing] little or no physical capital . . . is true of many workers we would call independent contractors. Think of lawyers, many of whom do not even own books. The bar sells human capital rather than physical capital, but this does not imply that lawyers are ‘employers’ of their clients under the FLSA.” This statement is doubly true today, where freelancers and “gig” workers often invest in themselves—their training, skills, and experience—as opposed to physical capital.
There is also the related problem of what specific investments are probative of independent contractor status. Tying investment to profit or loss would sharpen the inquiry by focusing on those investments—and only those investments—which are designed to return a profit (or risk a loss), which will generally be probative of contractor or employee status. Indeed, it is hard to imagine a relevant investment that will not affect profit or loss. The NPRM appears to take the position that only those investments which further the independent contractor’s work for the putative employer are relevant. But that is just another way of saying investments which relate to profit or loss within the relevant line of business. At best, then, the NPRM creates a duplicative inquiry. At worst, it opens the door for consideration of investments that have nothing to do with whether or not a worker is economically dependent on a particular business. One of the NPRM’s stated goals is to bring clarity to determining employee status under the FLSA. But by returning to a standard which analyzes investments separate and apart from profit or loss, it risks the opposite.