22 Sep. 2017 | Comments (0)
The recent history of Uber reads like a Shakespearean tragedy, and there are plenty of opinions about where the company went wrong and what it needs to do going forward. But unlike many others, I’m not here to praise or bury Uber. Instead, I’m here to reflect on a deeper issue that much of its business is predicated on.
Included on a long list of transgressions, Uber has been dogged by its decision to classify its vast network of drivers as independent contractors. Almost 400,000 Uber drivers in California and Massachusetts reached a $100 million settlement with the company in 2016 (a settlement that was later thrown out by a federal court as insufficient in the compensation it provided the claimants). Late in 2016, two drivers in New York were provided unemployment benefits when regulators in that state ruled them to be employees, not independent contractors. And Uber faced similar challenges abroad when three tribunal judges in the UK ruled that two Uber drivers should be entitled to the minimum wage.
Uber, however, is not unique. The debate over the misclassification of employees — treating them as independent contractors instead of employees — pervades the modern fissured workplace. It certainly proved a recurring theme during my time as President Obama’s Administrator of the U.S. Department of Labor’s Wage and Hour Division. Week after week, it seemed, I was witness to an investigation from our district offices involving the incorrect classification of all types of workers: janitors, home health aides, drywall workers, cable installers, cooks, port truck drivers, and loading dock workers in distribution centers. In one telling case, construction workers went home at the end of the week as employees only to be informed on the following Monday that, perhaps by the magic of some unknown force, they had become “member/owners” of hundreds of limited liability companies, effectively stripping them of federal and state job protections.
Though its form varies, the impacts of misclassification are almost always the same: the underpayment of wages, absence of benefits, and increased exposure to a variety of risks. And when misclassification is adopted as a business strategy by some companies, it quickly undermines other, more responsible employers who face costs disadvantages arising from compliance with labor standards and responsibilities.
All of these issues rushed back to mind recently when the political leadership at the current U.S. Department of Labor retracted a guidance document regarding the definition of employees versus independent contractors that had been issued under my watch (you can find a copy here, however). This struck me as an odd move given that the document was not inherently political or partisan; rather it sought to explain in clear language and through numerous examples what our federal labor standards law requires and how courts have interpreted it. From a practical perspective, removing the guidance changed nothing in terms of employer responsibilities — the law is still the law. But it did potentially signal an intention to move away from addressing worker misclassification as a fundamental problem worth addressing. That is truly disturbing. For a clear sense of why, it’s important to understand what misclassification is, how we got to this moment, and what’s at stake for all Americans.
Worker misclassification, explained
The use of independent contracting has grown dramatically over the past decade, with one estimate suggesting it has increased by almost 40%, going from 6.9% of employment in 2005 to 9.6% in 2015. According to a 2009 report issued by the United States Government Accountability Office, a significant portion of independent contracting doesn’t pass the smell test and in fact represents misclassification of workers. For example, about one-third of construction workers in the U.S. South, an industry where the problem has been long entrenched, were estimated to be misclassified. This number isn’t exceptional, as state-level data shows that anywhere from 10% to 20% of employers misclassify at least one employee.
My experience at the Labor Department certainly bears this out. In many sectors and parts of the country, we saw long-standing practices of employment undermined as misclassification spread quickly across sectors like restaurants, residential construction, and trucking and logistics.
So what, exactly, constitutes worker misclassification? It stems from a basic but decisive distinction in labor and workplace laws. Most people who work for an organization are employees under federal and state statutes. The definition of who is an employee varies between federal and state laws, which admittedly raises complexities for employers and workers alike. In broad strokes, however, the distinction is meant to delineate responsibility in situations where one person hires another to create something of value.
Further, laws define independent contracting as the case where the hired party exercises independence in determining basic features of the relationship like rates of pay, how and where tasks are done, and the opportunities for expanding or contracting that work based on the individual’s own skills, abilities, and enterprise. Of particular importance — and an appealing guide for me as someone who has taught managerial economics to MBAs — an independent contractor’s decisions and actions have significant impacts on opportunities for profits or losses.
In contrast, under employment, the hiring party basically calls all the shots: what the individual does, how they do their work and when they do it, what they are permitted to do and not do, what performance is deemed acceptable, and of course the rate of pay. (For a deeper look into the distinctions under the Fair Labor Standards Act and the 2015 guidance document).
These distinctions matter. A person who is considered an independent contractor is not covered by our most basic labor standards minimum wage, overtime, and the fundamental proposition that one should be compensated for the hours they work. An independent contractor is also not covered by social safety net protections like workers compensation and unemployment insurance — and they fall outside of other protective legislation like the requirements of the Occupational Safety and Health Act and the opportunity to be represented by a labor organization under the National Labor Relations Act. Finally, an independent contractor is responsible for paying all federal (e.g. Social Security, Medicare) and state payroll taxes, making the appropriate contributions as both an employer and employee. Failure to do so exposes the individual to significant penalties (and also deprives state and federal government tax contributions—more on that later).
When workers have little control over their work, but are misclassified as independent contractors, their losses can be huge. In a fairly typical Wage and Hour Division case involving a cleaning services company in Chicago, for example, 55 workers were deprived $185,000 in wages because of misclassification. This equated to an average of more than 8.5 weeks of earnings.
Sometimes, workers’ losses go far beyond wages. A recent USA Todayinvestigative report on short haul truckers working in the busy ports of Southern California illustrates this in stark terms. These truck drivers, misclassified as independent owner-operators, were forced by companies whom they worked to purchase new vehicles to comply with more stringent emission restrictions. Lacking capital, truckers purchased new vehicles through financing provided by these very same trucking companies. Payments for the vehicles were then deducted from pay, leaving little in compensation for the workers. In many instances, the drivers not only suffered huge wage losses (some in the hundreds of thousands of dollars) but also loss of their trucks because of medical or family emergencies requiring them to miss work. All of this because they were beholden to the companies they worked for — without technically being employees. Provocatively, and correctly, the report refers to these workers, the majority of whom are poor immigrants, as modern-day indentured servants.
But it would be a mistake to think that the negative impacts of misclassification simply are limited to the workers they directly affect.Society at large pays a price, too.
For starters, a person who should be considered an employee but is misclassified as an independent contractor does not contribute to unemployment insurance or workers compensation. As a result, the practice reduces funding to those social insurance systems.
Often, misclassified workers do not pay required payroll taxes, affecting federal and state taxes. This greatly concerns local government agencies, which helps explain why, during the time I served as Wage and Hour Administrator, 36 different states (both red and blue) joined us in working together to address misclassification. This involved information sharing, training, and in some cases cooperative investigations focused on the misclassification problem. Similarly, we created cooperative efforts with employers who were deeply troubled by the threat that competitors who misclassified their workforce posed to businesses that were correctly designating their workforce as employees.
Of course, the debate about workplace classification inevitably gets complex and nuanced depending on the situation. There is no question that the differences across federal and state statutes about how to weigh different factors in classifying workers — whether using the “economic realities” tests associated with the Fair Labor Standards Act or using common law distinctions built around “master / servant” relationships drawn upon by many state statutes — leads to confusion. Hence the issuing of our now-retracted guidance in 2015.
But that problem is hardly limited to the realm of employment law. Legal principles always rub up against the realities of the real world. While it’s vital to understand some of the highly technical legal distinctions around employment classification, we can’t forget the problem underlying the misuse of it. Classification, really, is about protecting people in what is inevitably an unequal bargaining relationship: employment.
Which brings us back to Uber and the emerging digital platform economy
When we released our guidance document regarding the definition of employment in 2015, the employer defense bar — law firms that specialize in defending employers in lawsuits brought by individuals, class actions, and the government — not surprisingly expressed concern over its impact, given the prevalence of the practice. However, the guidance received an unanticipated level of attention from companies operating in the digital world. In particular, many reporters as well as people in the industry read it as direct response to litigation underway in many places across the country by Uber drivers who asserted that they had been misclassified as independent contractors. As I have often noted in interviews, our guidance was focused on the millions of workers who were potentially misclassified as independent contractors in the fissured workplace, and not merely the less than 1% of workers operating in the digitally enabled gig economy.
I was also struck by commentary from leaders at digital platforms in Silicon Valley, as well as our own discussions with executives, venture capital companies, and workers. Most indicated that they viewed an independent contractor status as the default option for employment. And in a few cases, they were probably right. Some platform models truly serve the function of connecting end users seeking particular services with a host of providers who act as independent businesses seeking customers (think Task Rabbit). The providers of services operating through those platforms face the inevitable ups and downs of operating a business and have a certain level of control over their work.
But for the most part, the assumption that the mere presence of an app as a managerial intermediary somehow eliminates the longstanding protections established by our laws is troubling. And it’s vitally important we pay attention to this shift in mindset because the use of platforms to help consumers perform tasks and make purchases is likely to increase as brick and mortar retail and service jobs disappear. Even products like groceries, once thought to face limited threat from e-commerce, are fair game, as Amazon’s acquisition of Whole Foods demonstrates. Sure, a shift in delivery method can increase jobs in distribution centers and companies like FedEx and UPS. But as McDonalds recent announcement of a partnership with Uber for home delivery of Big Macs and fries makes clear, it also can be done via independent contractors. Thinking about the nature of these jobs and the responsibilities of the companies involved is as important now as it was in an economy where work was done within the four walls of a duly-designated employer.
Of course, new technologies, the changing expectations of employees, and the dynamic nature of business will always affect the nature of work. This has been true throughout economic history. But this doesn’t mean we should forget or dismiss the underlying reason for our workplace laws going back to the turn of the last century: the recognition that workers need protections because the power to bargain is almost always skewed toward the employer. This imbalance has not evaporated in the flexible work environment of today, nor will it in the foreseeable future. Although we may need to assess whether the ways we provide protections are effective, the underlying commitment to workers should remain.
With the retraction of employer guidelines amid a business climate that views independent contracting as the default, is this commitment being eroded? We have already faced decades of flat real earnings and deteriorating labor conditions for much of the workforce and a widening of income inequality for the economy as a whole. Allowing further erosion of employer responsibility in the physical and digital workplaces will only intensify those troubling trends.
This blog first appeared on Harvard Business Review on 07/05/17.
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