If you run 1099 crews, you may have heard that Washington is about to make your life easier. Earlier this year the US Department of Labor proposed a new rule for deciding who counts as an independent contractor under federal wage law, and if it's finalized in its current form, some of those arrangements will be easier to defend.

That's true as far as it goes. The proposal changes the federal classification test. However, it doesn’t override state law. The problem is that in a lot of states, the real exposure sits in state wage, unemployment or workers' compensation rules, and none of that changes. So I wouldn't tell a contractor, "Washington changed the rule, you're good." I'd say Washington may have made your federal argument better. Now let's see what the state where you're doing the work thinks.

What the Federal Proposal Changes

You'll see the proposal described as a return to the "economic reality" test. I’m not sure I’d put it that way. The meaningful change is in how the factors are weighted and defined. Two of them would carry more weight than the rest, and the rule is explicit that what matters is how the parties actually operate, not what the contract says they could do.

The first is control. How much say does this person really have over their own work? Under the proposal, requiring a sub to carry insurance, follow safety rules, meet code or hit a deadline is not, by itself, the kind of control that makes someone your employee, but telling them when to show up and how to do the work is.

The second is the opportunity for profit or loss, meaning whether the person can make or lose money based on how they run their business, not whether they can earn more by working more hours.

Let’s say there’s a plumber who can accept or turn down jobs, works for other contractors, decides how the job gets done, owns their equipment and comes out ahead when they run an efficient operation. Those facts would count for a lot. Compare that to somebody who shows up every morning, gets told where to go and what to do, uses your equipment and gets paid by the hour. Calling that person a 1099 doesn't change what the relationship really is, under the current rule or the proposed one.

Where State Law Still Controls

Obviously, we can’t ignore state law, which is a big part of this picture. Some states take a much harder line than Washington. If state law applies a stricter test, the fact that the federal rule is more favorable won’t help you get around it.

New York is the clearest example for this industry. While New York has a separate independent contractor test for a genuinely separate business entity (which helps when you're dealing with an established subcontracting business rather than an individual worker) the Construction Industry Fair Play Act presumes that anyone doing construction work for a contractor is an employee.

To treat them otherwise, you have to show all three of the following: they're free from your direction and control, the work is outside your usual business, and they have an independently established trade. That second requirement is where a plumbing sub doing plumbing work for a plumbing contractor runs into trouble. Willful violations carry civil penalties of up to $2,500 per misclassified worker for the first violation, and up to $5,000 for a second violation within five years, with potential criminal penalties and debarment from public work as well.

New Jersey applies a similar "ABC" test, and as of October 1 it has new regulations spelling out how that test works. One point contractors should notice: since New Jersey can include locations beyond the employing company’s office as places of business, the second prong may be harder to satisfy for a sub working at a customer job site. California and Massachusetts have strict tests of their own.

In states like Texas, Florida and North Carolina, the federal change could make a meaningful difference. If you work across state lines, you can't assume an arrangement that holds up in one state will hold up in the next, because where the person actually works will often determine whether that state’s laws come into play.

How These Cases Usually Start

Most contractors picture a DOL investigator walking in unannounced. That does happen, but it isn't the most common reason you end up facing consequences. Most often it starts with a termination.

Someone who was perfectly happy being paid as an independent contractor for three years gets let go. Now they go to the Department of Labor and say they were really an employee who wasn't paid properly, especially for overtime. Or a former worker simply files for unemployment without realizing it raises a question about how they were classified. Either way, it ends up as the same problem, and it started somewhere you had no control over.

"But They Want to be Paid as a 1099"

I can't tell you how many times we've heard that. It simply does not work. Period.

You and the worker can't agree that somebody is an independent contractor if the law says they're an actual employee. Paying them on a 1099 (as opposed to W-2) won't change that, and neither will routing the money through their LLC or having them sign an independent contractor agreement. If the facts say employee, what matters is how the relationship works.

What it Costs When You Get it Wrong

A lawyer's favorite answer applies here: it depends. One person and six months of exposure is one conversation. If you've treated 75 people the same way for four years, it's a very different one. A North Carolina contractor that hauled debris from construction sites found that out in 2023, when the Department of Labor recovered $1.6 million in back wages and damages for 188 workers it had been paying as independent contractors.

What might you face if you're getting it wrong? Unpaid overtime, payroll and unemployment insurance issues, back taxes, penalties, interest and attorney's fees. You may also have a recordkeeping problem, even with a good HR department, because if you and your workers both believed they were independent contractors, you may not have been keeping the time records you'd keep for your employees. When a claim for unrecorded overtime comes in, you can have trouble putting together an effective response.

So what’s it going to cost you? Potentially a lot of money, sure, but also a tremendous amount of stress, headaches and interruption to your business while you try to put a case together, and that kind of distraction can have a terrible effect on a company.

A contractor we worked with had been using the same group of workers as independent contractors for years. No one thought much about the arrangement until one of the workers left and applied for unemployment. The next thing the contractor knew, the New York State Department of Labor wanted to look more broadly at how the company had been classifying its workers. What had seemed like one routine unemployment claim meant the company spent months going back through several years of pay practices for a number of other people it had been paying the same way.

What to do Now

Don't wait for the final rule. If you think you may have a classification problem, the first step is figuring out whether you're dealing with a question about one person or a lot of people working under the same arrangement.

Then put a fix in place, even a partial one, before someone else turns it into a problem and you lose control of how it plays out. It's far better to bring in employment counsel six months too early than one day too late.

A note on timing: The Department of Labor's proposal is still only a proposal. The final version may look different, and how the agency enforces it will matter as much as the text. The federal rule won’t change your state's test either way.