Let’s talk about good old-fashioned 1099 Independent Contractors — you know, those individuals who are happy to be called contractors until they’re released and then decide they should have been treated as employees.
When retaining a contractor, one of the goals, of course, is to ensure that the contractor is properly classified and is not really (factually) an employee. A secondary goal, however, is to limit liability if the contractor is misclassified.
Today’s question sits at the intersection of these two goals.
Can Paying Overtime Increase the Chances of a Misclassification Finding?
It could, under laws that apply Right to Control Tests.
For laws that apply Right to Control Tests to determine Who Is My Employee?, payment by the hour — rather than by the project or by the day — is a factor that weighs in favor of employee status. But remember, Right to Control Tests are multi-factor balancing tests, and no one factor is determinative. Tax law, benefits law, and federal employment discrimination law use Right to Control Tests.
If enough of the other Right to Control factors weigh in favor of contractor status, then payment by the hour is unlikely to affect the outcome of the overall analysis. If it’s a close call, however, then you want as many factors as possible on your side, and payment by the hour is probably not a good idea. It could tip the scales toward a finding of misclassification.
Eligibility for overtime, on the other hand, is not determined with a Right to Control Test. The federal law requiring payment of a minimum wage and overtime is the Fair Labor Standards Act (FLSA). The FLSA applies only to employees, not contractors. The FLSA uses an Economic Realities Test to determine Who Is My Employee?
Under the multi-factor Economic Realities Test, a legitimate contractor is someone in business for herself, but someone economically reliant on the hiring party is an employee. According to the DOL, timing and method of payment is not a factor in the Economic Realities analysis.
Thus, paying a contractor by the hour (including paying overtime) should have no effect on whether the contractor is misclassified under the FLSA.
So Why Do it (Other Than Convenience)? Limitating Possible Liability
But suppose under the Economic Realities Test the contractor is misclassified. Then the FLSA does require payment of a minimum wage and overtime (unless an FLSA exemption applies). The failure to pay overtime to a misclassified contractor (who is, factually, an employee) may be a violation of the FLSA.
Therefore, if there’s a risk that the contractor is economically reliant on the hiring party and therefore could be deemed an employee, then paying the contractor overtime hedges your bet.
To put it another way: Even if the contractor is misclassified under the FLSA and should have been provided the rights afforded to employees, by paying overtime you have provided the contractor the FLSA rights afforded to employees. Paying the contractor overtime removes the harm of a finding of misclassification (under the FLSA).
The Decision Whether to Pay Overtime Requires a Cost/Benefit Analysis.
Getting back to our question, should you pay time-and-a-half to a contractor who works more than 40 hours in a week?
Annoying lawyer-type answer: It depends.
Less annoying and actually somewhat helpful answer: Here’s what it depends on.
The answer depends on a cost/benefit analysis. How high is your risk of misclassification under both a Right to Control Test and the Economic Realities Test?
Let’s walk through the steps:
1) Start with the Right to Control analysis. If the hiring party exerts little control and is likely to prevail in a Right to Control analysis, then paying the contractor an overtime premium probably is not enough to cause a finding that the contractor is an employee. It probably won’t tip the scales enough to matter.
2) If the hiring party exerts some meaningful level of control over the contractor and it is a close call who would prevail in a Right to Control analysis, then paying a contractor by the hour and paying overtime might tip the scales enough to matter, causing a finding that the contractor was misclassified — and is really an employee under federal tax law, benefits law, and employment discrimination law. Obviously, that would be bad. If these are your facts, you probably shouldn’t pay your contractor by the hour at all. Consider paying by the project or by the day.
3) Now look at the Economic Realities Test. Paying a contractor overtime should have no effect on whether the worker is misclassified under the Economic Realities Test. According to the DOL, it’s not supposed to be a factor.
4) If the facts indicate that the worker is probably economically dependent on the hiring party to earn a living, then the worker is likely misclassified under the FLSA and may be eligible for overtime. If those are the facts, then paying overtime to a contractor eliminates the harm if there is a finding of misclassification under the FLSA. It hedges your bet.
5) On the other hand, if the facts indicate that the worker is in business for herself and is not economically dependent on the hiring party, then paying the contractor overtime will be irrelevant under the FLSA, but it will present a slightly increased risk of misclassification under the laws with Right to Control Tests. To decide whether that slightly increased risk is enough to make a difference depends on #1 and #2 above.
6) State laws, including workers compensation and unemployment insurance laws, may change the risk analysis.
If this stuff were simple, there would be no need for this blog.
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Remember, nothing in this blog post constitutes legal advice. This is food for thought. Not food for action. Actually, not food at all. Nothing in this blog constitutes food. Do not eat this blog. The full Disclaimer is here.