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Growing businesses that expand globally reach a larger number of customers, access additional revenue streams, and gain prominence as a market leader by capitalizing on growth opportunities. Companies that scale up generate up to 1.7 times more revenue than would otherwise be earned, proving the economic importance of focusing on increasing productivity.

When expanding its workforce, a company can either hire employees, which carry several legal and financial obligations for employers, or hire independent contractors to complete projects - both options have several pros and cons. However, recent legislation amendments regarding independent contractors in the United States have severe impacts on business practices in the US.

This guide explains the latest and final ruling by the US Department of Labor regarding independent contractors and provides best practices to remain compliant with the rules and regulations.

What is an Independent Contractor?

An independent contractor is a self-employed individual who performs work or services for a company in exchange for compensation. This is typically done under a contract for services instead of a contract of service, meaning the independent contractor is not considered a legal employee of the company. Organizations commonly engage independent contractors to complete a specific project or work on a specified short-term basis.

Independent contractors are different than employees in several significant ways. For example, an employee usually works exclusively for a single employer, and independent contractors are free to work for multiple clients or companies simultaneously, as long as all job requirements and deadlines are met. An independent contractor is also able to set their schedule and determine their location of work, while an employee is restricted to the working hours of an employer.

Independent contractors in the US are free to reject work and own all the required tools needed to complete the task while employees are in a subordinate employment relationship with the employer, meaning the company controls how and when tasks get completed. As per the Internal Revenue Service (IRS), occupations such as doctors, dentists, veterinarians, and other individuals who provide goods or services to the general public may be considered independent contractors.

Key Differences Between an Independent Contractor and Employee

Legislation such as the Fair Labor Standards Act (FLSA) provides definitions for each category, along with major differences between both types of workers. Ultimately, employers must give legal employees certain rights and protections. 

For example, the FLSA provides clear guidelines that outline statutory benefits employees are entitled to. The regulation establishes minimum wage payments, as of 2024, of $7.25 per hour, though employers will also need to consider and implement state-specific minimum wage requirements. This legislation also determines that employees must receive overtime pay if they work more than 40 hours per week. This act also provides clear stipulations and provisions for child labor standards, including a minimum working age.

Other regulations, such as the Federal Insurance Contributions Act (FICA) define an employer’s obligations regarding contributions to social security programs, such as Medicare and Social Security Insurance. Employers also must remit all payroll deductions and tax requirements, per local regulations, which are crucial aspects of the costs of hiring an American employee. Employees are also generally split into two categories and work in either the public or private sector.

Independent contractors, on the other hand, are responsible for handling medicare taxes and social security contributions themselves. Contractors are not entitled to receive statutory benefits such as paid annual leave, unemployment insurance, workers’ compensation, and more, though contractors have much more freedom and flexibility. 

Why Do Employers Need to Know the Differences?

Following the rules and regulations regarding independent contractors and employees is essential for businesses to experience sustained growth in American markets. Correctly classifying their workers enables growing companies to remain compliant with local labor laws and regulations in the United States.

Punishments for non-compliant companies in the United States can be severe and include financial penalties, reputational damage, business interruption, and potential criminal charges, in severe cases. For example, worker misclassification is a major risk to avoid when hiring employees or engaging independent contractors in the US.

Worker misclassification happens when an employer incorrectly classifies the employment status of an individual worker. For example, if a company classifies a worker as an independent contractor, but stipulates when and where they work, the company is misclassifying that worker. A high-profile case occurred in 2016, with the express transportation company FedEx paying drivers across 20 states $240 million to settle misclassification lawsuits.

Misclassification is a serious problem that impacts workers’ rights, facilitates wage theft, and can ultimately cause long-lasting economic damage to both parties. 

US Government’s 2024 Rule on Independent Contractor Status

The US Department of Labor recently published a final ruling regarding independent contractor status, which is an update to the 2021 Independent Contractor Rule.

What is the New Ruling?

Initially passed on January 10th, 2024, and formally published in March of 2024, it determines with certainty how workers are classified under the Fair Labor Standards Act. Ultimately, this ruling aims to make it more difficult for employers to misclassify workers, whether intentionally or not. This is significant because labor statistics show that roughly 45% of the US workforce is made up of independent contractors, meaning companies must adequately follow all rules to remain compliant.

The most significant change of the latest update in legislation includes the restoration of a multifactor analysis used to determine employment status, which was used by courts for decades and ensures all relevant employment-related factors are considered in each ruling. This test is based on six significant aspects.

Six-Factor Test

To accurately determine whether a worker is an independent contractor or an employee, companies must consider six important factors:

  • Any opportunity for a profit or loss a worker might have: For example, employees have much less financial risk throughout an employment relationship’s duration, as the company takes on most liabilities. In contrast, an independent contractor may be liable for any damages or other financial risks. Other factors include the worker’s ability to negotiate payments.

  • The financial stake and nature of any resources a worker has invested in the work: For example, if a company provides a worker with tools such as a laptop or company phone, this can be used to determine the status of the worker.

  • The degree of permanence of the work: Employer-employee relationships are generally permanent until the agreement is formally ended, or in some cases such as fixed-term work, the duration is specified in the employment contract.

  • The degree of control an employer has over the person’s work: Independent contractors are free to perform work on their terms and can engage subcontractors to assist with any tasks. A potential indicating example includes if an employer has access to an employee’s activity on company equipment.

  • Whether the work the individual does is essential to an employer’s business: Workers with job functions that directly support and enhance a company’s long-term success are more likely to be considered employees. Work that is considered central to the principal business functions may be considered as an independent contractor.

  • The worker’s skill and initiative: This considers whether the worker needs specialized skills or expertise to perform crucial job functions and whether these skills contribute to business initiatives.

Additional factors other than these six aspects may also be considered and influence each classification ruling. For example, if factors indicate that the individual works for themselves instead of having economic dependence on another party, this can indicate worker classification. Certain factors also are not necessarily influential on rulings such as the palace where the work is performed, the absence of a formal or written contract, and more.

What Was the 2021 Ruling?

Knowing the major differences between the current legislation and the 2021 Independent Contractor Ruling helps companies refine strategies and implement best practices.

In this case, the ruling prioritized the comparative value of two core factors, which were the nature and degree of the individual’s control over work performed and the worker’s opportunity for profit or loss. With the 2024 ruling, other factors are given greater weight when determining the status of a worker. In contrast to the 2021 rule, all factors are analyzed without having a predetermined significance.

The previous ruling was ultimately rescinded because of changing attitudes and conditions in the employment landscape which led to a higher likelihood of worker misclassification. Many employers also found the old ruling’s criteria confusing, so the new rule helps protect working individuals more effectively.

Best Practices for Employers

Best Practices for Employers

Implementing effective policy changes and company initiatives enables companies to mitigate any potential issues that may arise as a result of amendments to employment legislation.

Partner with an Expert

Instead of navigating the complexities of the US employment landscape alone, companies can choose to partner with an expert in international hiring, such as an Employer of Record (EOR). An EOR provides a more streamlined method for hiring and handling administrative tasks than setting up an entity in the country. Your EOR acts as the legal employer of your global workers and ensures compliance with all classification and employment laws, ensuring each worker receives the benefits they are entitled to. In addition, your EOR stays current with employment legislation and local governments, meaning business leaders can free up time to drive core organizational goals.

Automate Core Practices

Leveraging emerging technology such as artificial intelligence helps companies improve compliance-related practices. For example, AI can analyze employment agreements and identify any risks regarding worker classification. Artificial intelligence can also be used to analyze large sums of data, such as employee records and job requirements, with much greater speed and accuracy than human employees.

AI technology can also be used in risk management. Companies are increasingly utilizing technology to analyze employment policies, improve global payroll processes, strengthen data privacy measures, and generate accurate insights into future needs. This is particularly important because 77% of companies suffered operational surprises or disruptions within the last because of unforeseen risks, and 36% of organizations plan to prioritize managing risks shortly.

How Can Borderless AI Help?

Borderless AI is an EOR that takes care of administrative tasks such as payroll and taxes, benefits administration, managing employment contracts, and above all else, ensuring compliance with local labor laws and classification requirements.

By partnering with an EOR, businesses avoid entity establishment and navigate complicated employment legislation worldwide, ensuring that all complexities are handled correctly. An EOR is a great solution for businesses that are rapidly growing and want to enter new markets, but don’t want to deal with the administrative and legal hassles of expanding internationally. We streamline this process with zero deposits, dedicated in-house support, and AI-powered global employment law resources.

Alberni is the first AI agent for global HR. Alberni can answer global employment questions regarding independent contractors and misclassification, generate compliant contracts that eliminate the potential for any ambiguities in worker status, and mitigate risks in new and existing contracts by reviewing important legal frameworks such as non-solicitation.

Contact us today to see how we help you follow all local employment laws, regardless of any changes.

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