The Rise of the On Demand Economy: The Tension between Current Employment Laws and Modern Workforce Realities

by Nancy Cremins

Heads Up

Over the last several years, startups brought convenience to the masses by providing virtually anything on demand.  Rides, groceries, takeout service, house cleaning, and more are all accessible with a few taps on your smartphone.  The sheer volume of human capital needed to make these on demand businesses function, along with the unpredictable demands of consumers, caused companies such as Uber, Lyft, Postmates, and Instacart (to name a few) to make the business decision to classify these service workers as independent contractors.

Building the infrastructure for an on demand business that serves many customers in multiple cities, or even multiple countries, is an incredibly expensive endeavor.  For example, Uber has gone through 13 rounds of funding and raised over $6.6 billion to support its large-scale operation.  By necessity, these startups must be cost conscious with their capital or risk failure.  Classifying their workers as independent contractors saves them substantial sums of money on employment taxes and benefits.  These businesses claim that independent contractor status is also beneficial for the workers who are permitted to retain flexibility to work on their own terms as often as they want.  For valid reasons, some (though not all) on demand workers do not agree.

Workers classified as independent contractors do not have access to company-provided benefits and protections such as paid time off.  They are not given the payment protections of minimum wage, and overtime pay.  Nor do they have the safeguards of worker’s compensation and unemployment insurance.  These workers also shoulder the cost of the business expenses incurred in performing their jobs, such as their tools, supplies, or the cost of vehicle operation (though those are deductible business expenses).  In addition, workers are responsible for paying all taxes on pay, which means the company is not contributing to employment taxes, Social Security, or Medicare.  Opponents to the present on demand economy practice of classifying workers as independent contractors argue that tight standards on employee classification provide better protections and more financial security for workers.

Around the country, workers, businesses, and localities are approaching the shift to the independent contractor model in a variety of ways.  A host of lawsuits were filed by workers against a number of on demand businesses asserting claims for worker misclassification. These lawsuits are costly and place tremendous pressure on the companies, often resulting in stagnating growth or even closure of the business.  For example, in July 2015, on demand home services business, Homejoy, shut down because it ran out of money defending worker lawsuits and could not raise an additional round of investment due to pending litigation.

Some on demand businesses are attempting to avoid or prevent additional misclassification lawsuits by preemptively classifying their workers as employees.  Instacart (which is defending its own misclassification lawsuit) announced, in June 2015, that it would be commence classifying its workers as employees.  Other companies are maintaining their practice of classifying workers as independent contractors while they wait for the outcome in the bellwether case on the issue, O’Connor v. Uber Technologies et al, C13-3826 EMC, pending in the Northern District of California.

In general, things have not gone Uber’s way in the litigation.  On March 11, 2015, the Court denied Uber’s motion for summary judgment.  On September 2, 2015, the Court certified the case as a class action.  What’s more, during the pendency of the lawsuit, the California Labor Commission ruled that a specific Uber driver was an employee, and not an independent contractor.  While the ruling was non-binding and impacted only one driver, it received  considerable attention.  The trial is set to commence on June 20, 2016 and the outcome will have a substantial impact on the freelance economy.

In another approach, the Seattle City Council voted in December 2015 to approve a bill that would permit drivers for Uber, Lyft, and other ride-hailing apps to form unions and negotiate wages.  Such a city ordinance is unprecedented as it would be the first to allow independent contractors to engage in collective bargaining.  Still, the ordinance may face legal challenges based on the contention that it is preempted by federal law and, if not preempted, that collective bargaining by independent contractors could constitute illegal price-fixing under antitrust law.

Here in Massachusetts, there is a presumption that a worker who provides services to a business is an employee unless all of the following are met:

• The worker is free from the company’s control and direction;
• The services provided are outside the company’s usual course of business; and
• The worker is customarily engaged in an independently established trade, occupation, or business of the same nature that is involved in the services performed for the company. M.G.L. c. 149, § 148B.

Given such stringent guidelines, the safe default position is that a company should classify its workers as employees, not independent contractors.  However, in April 2015 the Supreme Judicial Court took a narrower approach than some anticipated in Sebago v. Boston Cab Dispatch, Inc., 471 Mass. 321 (2015).

In Boston Cab, the Court found: (i) taxi drivers did not provide services to the cab companies or garages; (ii) drivers were free from the direction and control of the cab companies; (iii) services provided by drivers were not in the ordinary course of business of cab companies; and (iv) drivers were engaged in an independently established trade, occupation or business.  As a result, the Court found that the drivers were properly classified as independent contractors.  In reaching this decision, the Court determined that the cab companies “are not concerned with the results of plaintiffs’ operations, as drivers are not required to remit a percentage of their revenues, which includes both fares and tips.”  Id. at 334.

What sets the Boston Cab case apart from the Uber case is the existence of a regulatory framework that applies to cab companies and drivers that does not (at least not presently) apply to Uber drivers.  The Court specifically stated that its conclusion rested in large part on the existence of the regulatory framework of Boston Police Department Rule 403, Hackney Carriage Rules and Flat Rate Handbook (2008) (Rule 403), which creates a system whereby drivers can “operate as either employees or entrepreneurs with their own separately defined and separately regulated business.”  Boston Cab, 471 Mass. at 338.  In holding that drivers were properly classified as independent contractors, the Court found that the “harmonious reading” of Rule 403 and the independent contractor statute as set out in M.G.L. c. 149, §148B led to the outcome that the Legislature intended to preserve the ability of cab drivers to operate either as employees or independent contractors.  Id.

There is no denying that regardless of the still-unresolved employment classification issue, there  has been a cultural shift to more independent contractors as more people want to be their own bosses.  In fact, the number of freelance workers in the U.S. grew from 20 million in 2001 to 32 million in 2014.  A recent poll conducted by Time Magazine finds that now 22% of American adults—45 million people—have picked up some form of “gig” work for these on demand companies.

Some are advancing the position that perhaps there needs to be a new path forward to balance the realities of the rise of freelancing and the on demand economy.  On November 10, 2015, a number of stakeholders, including startups, more established companies, labor activists, and academics, published on open letter advocating that “we must find a path forward that encourages innovation, embraces new models, creates certainty for workers, business, and government and ensures that workers and their families can lead sustainable lives and realize their dreams.”

To that end, these stakeholders advocate for the creation of a universal set of benefits accessible to all workers, whether independent contractor or employee, that would be portable and flexible.  Following that open letter, many of the letter’s signatories participated in a policy discussion that included the Secretary of Labor, Tom Perez to discuss possible solutions.

Given the volume of worker misclassification lawsuits, the rise of freelancing as an increasingly popular choice for U.S. workers in lieu of more “traditional employment,” and the public interest in ensuring that the large number of independent contractors are provided certain basic protections, an innovative approach that provides more safeguards for independent contractors and more certainty to businesses regarding proper classification may be the right path to protect both workers and businesses.

Nancy Cremins is a partner at Gesmer Updegrove, LLP, assisting entrepreneurs with a range of issues, including employment matters and dispute resolution. She is the co-founder of SheStarts, which helps women entrepreneurs start and grow their businesses.