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WHD “economic realities” test factors
  • A worker considered by the IRS as a contractor may be regarded as an employee by the WHD.
  • Specific factors determine employment relationships under the WHD’s “economic realities” test.

Department of Labor guidance

The U.S. Department of Labor (DOL) Wage and Hour Division (WHD) uses a broad “economic realities” test to evaluate employment relationships, while the Internal Revenue Service (IRS) uses a narrower “common law” test. This means that even if the IRS deems a worker to be a contractor, the WHD may still deem that worker to be an employee.

According to the WHD, a worker who is economically dependent on an employer is an employee. The following is an overview of various factors the WHD will evaluate under the economic realities test.

Integral to the business

If the work is integral to the employer’s business, the worker is probably economically dependent on the employer and therefore an employee. For example, a construction company may hire carpenters, but they are employees because carpentry is an integral part of the business. That construction company may also contract with a developer to create software for tracking projects, which is not integral to the construction business, suggesting a contractor relationship.

Profit or loss

A contractor could make a profit or experience a loss. This factor goes beyond the mere opportunity for profit or loss; it requires examining whether the worker makes decisions that affect that opportunity. For example, the decisions to hire others, purchase materials and equipment, advertise, rent space, and schedule work would affect the opportunity for profit or loss beyond a single project or job.

Investments

The nature and extent of the worker’s investments also affect the risk for a loss. A contractor typically makes investments to support a business, not to handle a specific job. A contractor’s investments might expand the business’s capacity or attempt to reach new clients.

According to the WHD, comparing the worker’s investment with the employer’s investment is also important. A contractor’s investment should not be minor compared with the employer’s investment. For example, a worker who provides cleaning services may use the employer’s vehicle, equipment, and supplies. This indicates an employment relationship. In contrast, if the worker invests in vehicles and equipment needed to perform work for clients, this suggests a contractor relationship.

Skill and initiative

A worker’s business skills and initiative, not technical skills, determine whether the worker is economically independent. For example, a carpenter might provide services to a construction company, but might not determine the sequence of work, order materials, or think about bidding for the next job. The carpenter is simply providing skilled labor and would be an employee.

In contrast, a carpenter who provides a specialized service (such as custom, handcrafted cabinets that are made-to-order) may be demonstrating skill and initiative by marketing those services, purchasing materials, and deciding which orders to fill.

Relationship duration

A contractor typically works on a specified project, while an employee has an indefinite relationship with the employer. However, employers cannot assume that a short relationship, such as a few days, creates a presumption of a contractor relationship. If the duration is based on the nature of the business (such as seasonal work), this does not preclude an employment relationship. The lack of a permanent or indefinite relationship may indicate an independent contractor status only if the worker’s own independent business initiative affects the duration.

Degree of control

The degree of control retained by the employer is only one of the factors to consider. An employer need not actually exercise control over an employee, as long as the employer retains the right to do so. To be a contractor, the worker must retain control and actually exercise control over conditions that affect that worker’s own business.

If the nature of the work requires the employer to retain control, this indicates an employment relationship. The WHD notes that the reason for retaining control is not relevant; only the employer’s ability to control workers is relevant.