Know 6 factors that determine independent contractor status

Today’s tight economy has prompted many employers to try to reduce costs—including overtime—by classifying workers as independent contractors instead of employees.

That hasn’t escaped the notice of the U.S. Department of Labor (DOL), which has stepped up efforts to deter misclassification. A recent case—Solis v. International Detective & Protective Service, Ltd. (No. 09 C 4998, N.D. Ill., 2011)—illustrates how misclassification can result in an expensive lawsuit and emphasizes the need for employers to understand the distinction between employees and independent contractors.

Quick ruling against employer

International Detective & Protective Service, Ltd. (IDPS) provides private security services using security guards to prevent and detect break-ins, van­­­dalism and unauthorized activity at construction sites, shopping malls and stores. IDPS classified the security guards as independent contractors and had them sign employment contracts titled “Independent Contractor Contract,” which contained the terms of their employment.

The DOL filed suit on behalf of 57 security guards to recover unpaid overtime pay and liquidated damages under the Fair Labor Stand­­ards Act, claiming the guards were improperly classified as contractors.

The court granted the DOL’s motion for summary judgment, finding that the security guards were employees, and there­­fore entitled to overtime. It awarded the guards $101,577.60 in unpaid overtime, plus the same amount in liquidated damages.

The court applied a so-called ­“eco­nomic realities” test to determine whether the security guards were independent contractors or em­­­­­­­ployees. After analyzing six factors, the court established that the security guards were employees.

1. A matter of control

The first factor the court considered was the degree and nature of control that the employer had over the manner in which the workers performed the work. If an employer oversees how the alleged contractors are to perform their work, it’s more likely that they are employees, not independent contractors.

The court determined that the security guards did not independently determine the manner and method of performing their jobs. Instead, IDPS significantly controlled the way the guards provided security services to clients. For example, IDPS provided them with policies and procedures to follow and closely monitored their compliance with IDPS’ rules.

2. Profit and loss

The second factor was the chance for the alleged contractors to either profit or lose money depending on their skill.

The court found that IDPS security guards didn’t have the opportunity to earn additional profit, nor did they share in the company’s overall profits or losses.

The security guards’ pay was calculated by multiplying an hourly rate by the number of hours worked. Their performance had no relationship to the amount they earned, which is an indication of employee status.

3. Equipment and materials

The third factor was the alleged con­­­tractors’ own investment in the equip­­ment or materials needed to complete the work.

The court found that IDPS made the kind of substantial investment that an employer would make for employees, rather than independent contractors. For example, IDPS provided most of the guards’ equipment. IDPS ensured the guards were properly licensed and did not require them to have private security contractor licenses.

4. Special skill

When the court examined the kind of work the security guards performed, it found that their duties typically involved nothing more complicated than monitoring client work sites. The court concluded the work did not require any special skills.

5. Permanent relationship

Generally, the more permanent the relationship, the more likely it is that a worker will be considered an employee.

It seemed to the court that IDPS clearly contemplated a long-term relationship. For example, the company had a hier­­archical system of titles that gave the security guards an incentive to stay with IDPS for an extended period of time so they could advance.

In addition, the court examined the contract that IDPS required the security guards to sign and found that it did not include a length of employment. (The court also noted that calling the document an “Independent Contrac­tor Contract” did not carry any weight in defining the security guards’ status.)

6. Integral to the business?

The sixth factor was the extent to which the alleged contractors’ serv­ice was an “integral part” of the em­­­ployer’s business. The court held that there was little doubt that the guards, who performed the private security services, were an integral part of the business.

Getting it right

This case illustrates the challenging situation in which employers may find themselves when they must determine whether a worker is an employee or independent contractor.

To minimize liability, employers should consult with an attorney to ob­­tain guidance on whether employees are properly classified and ensure compliance with applicable law.