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How the New Independent Contractor Rule Affects SMBs

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Quick look: The U.S. Department of Labor (DOL) has issued a proposed rule clarifying who’s defined as an independent contractor under the federal Fair Labor Standards Act (FLSA). With this ruling in place, many businesses are concerned operating costs would significantly increase. Though it affects certain industries more than others, brokers should be prepared to answer questions regarding how it may impact their SMB clients.

The DOL has officially published its proposed ruling to rescind the 2021 independent contractor classification rule. The update includes a totality-of-the-circumstances analysis to determine whether a worker should be classified as an employee or as an independent contractor. Previously, only two core factors were in place: control over the work and the opportunity for profit or loss.

The 2021 ruling is still legally in effect and makes it easier for employers to classify workers as independent contractors. One of the key benefits for businesses is lower operating costs. Nearly 1 in 5 small business owners say they’re more likely to hire an independent contractor versus a full-time employee. When classifying workers as employees, employers are responsible for abiding by minimum wage laws, tax liabilities, and labor and safety requirements. Employees are also entitled to overtime and other benefits independent contractors are not.

In turn, independent contractors generally have greater schedule flexibility and can work for more than one company at once, thereby, receiving multiple sources of income. Even prior to the pandemic and the rise of remote work, a U.S. Bureau of Labor Statistics study found nearly 80% of workers preferred being an independent contractor over a traditional full-time job.

As small- and medium-sized businesses (SMBs) continue to move toward an independent contractor business model, it’s essential to ensure compliance as they plan for 2023 and beyond. PEO brokers should be ready to field questions and provide creative solutions for their SMB clients who may be apprehensive about this projected update.

The allure of the independent contractor business model

The shift toward remote work over the past few years has ignited an increase in independent contractors. While there used to be a significant divide between the perceived operational performance of employees versus independent contractors, many of those differences have been minimized, if not altogether erased. Since independent contractors are assigned to specialized tasks, many believe it actually helps boost overall productivity.

Furthermore, to stay competitive, many business leaders are now providing employees perks like remote working capabilities and flexible schedules, two of the main benefits for freelance workers. Additionally, the difference in cost is often substantial when working with independent contractors. In addition to the expense of minimum wage and healthcare benefits, employers aren’t required to provide office space or equipment to independent contractors which also reduces costs.

Employment classification factors to consider

Under the proposed rule, the biggest impact would be on the gig economy, made up primarily of rideshare companies and delivery services. Though, any company not meeting the criteria may be liable to classify their independent contractors as employees. Misclassification of workers could result in steep fines if companies are found in violation. To avoid this, the new proposed rule guides employers to look at the consideration of permanency and the following factors:

  • The amount of skill required for the work
  • The degree of permanence of the working relationship
  • The worker’s investment in equipment or materials required for the task
  • The extent to which the service rendered is an integral part of the employer’s business

However, the DOL does not have the authority to adopt an ABC test for use with the FLSA, though certain states like California and Illinois use it as part of their employee consideration. These states establish a worker as an employee unless the employer proves:

  • The worker is free from the control and direction of the hiring entity
  • The worker performs work outside the usual course of the hiring entity’s business
  • The worker is customarily engaged in an independently established trade, occupation, or business

Empowering SMB clients with the help of a PEO

Many SMB employers have taken advantage of the availability of independent contractors, particularly since 2020. During the past few years, there’s been a significant shift from full-time positions to independent contractors as part of a growth strategy. Nonetheless, changing legalese can become overwhelming, especially for companies with a distributed workforce. Certain states may have different factors to consider.

Regardless, the burden is placed on employers to ensure compliance and cost-effectiveness for their company. As a professional employer organization (PEO) broker, extending resources and service offerings through an expert HR team gives clients an advantage. In addition to HR guidance and administration, a PEO often becomes a strategic way for companies to expand. Though the DOL ruling has not yet officially been enacted and will not go into effect for several months, now is the time to have a conversation with SMB clients to answer any questions and present potential opportunities.

Part of the value of a PEO partnership is it delivers compliance support and risk mitigation, as part of a complete portfolio of HR and benefits services. With the constant changes in the workforce, including updates to state and federal employment regulations, the breadth of HR responsibilities continues to expand. A PEO solution through ExtensisHR provides SMB leaders with the expertise and services they need to minimize risks, optimize costs, and grow successfully.

ExtensisHR compliance support includes Employer Protection Program (EPP), risk management and workplace safety, workers’ compensation insurance, state unemployment insurance and management. Meanwhile, personalized support and time-saving technology keep the focus on your clients. With the mobile-first Work Anywhere™ platform, SMBs can securely manage all HR tasks, from compliance and payroll to benefits and recruiting, anywhere, at any time.

Our HR experts are here to give your clients the guidance they need to grow and stay compliant. Learn how working with ExtensisHR can support your current client relationships. Contact our HR team today. 

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