Fair Labor Standards Act, Wage Theft, and Misclassification

Posted on November 16, 2023

Virginia businesses’ non-compliance with the Fair Labor Standards Act or Virginia law wage protections can lead to substantial liability.  Moreover, misclassifying workers as independent contractors when they should properly be classified as employees can lead to equally grave consequences.  A recent local settlement highlights the risk to businesses.

Plaza Azteca is a regional multi-state restaurant group with 17 locations in Hampton Roads, from Williamsburg to Suffolk to Chesapeake.  The restaurant group, owned by a Virginia Beach businessman, agreed to pay an $11.4M settlement for back wages and damages from alleged violations of the Fair Labor Standards Act.

Originally passed in 1938 as New Deal labor protection regulation, the federal FLSA sets the nationwide minimum wage, mandates rules for overtime, defines hours worked, prescribes recordkeeping standards, and regulates child labor.  The Department of Labor investigation established the chain paid full time “back of the house” (kitchen, dishwashers, etc.) workers a predetermined amount, but not accounting for minimum wage or overtime.  The Department of Labor also alleged failure to maintain accurate records of hours and wages and created false records to show payment of overtime that did not exist.  The consent decree requires the company to hire an independent monitor to ensure compliance with the settlement agreement’s conditions.

Virginia law also protects workers from wage theft.  Statutes enacted in 2020 protect workers who report wage theft or file civil actions from retaliation and expand the Virginia Department of Labor’s investigative authority.  They also create a private right to sue, whereas previously wage theft claims were purely administrative in nature.  It also allows the recovery of attorney fees, civil penalties and treble damages for knowing violations.  Employers have to take care to ensure managers are accounting for wages and keeping proper records to avoid both federal and state wage liability. 

Finally, the employee/independent contractor in Virginia carries certain distinctions.  Most states adopt the IRS “20 Factor Test” as a succinct summary of the factors that differentiate contractors from employees.  The distinction is important because employers owe more duties to employees than independent contractors.  Treating a person performing services for the business as an independent contractor when the person is properly classifiable as an employee is fraught with legal and reputational risk.

The IRS 20 factors used to evaluate the employee/independent contractor status question are:

  • Level of instruction. If the company directs when, where, and how work is done, this control indicates a possible employment relationship.
  • Amount of training. Requesting workers to undergo company-provided training suggests an employment relationship since the company is directing the methods by which work is accomplished.
  • Degree of business integration. Workers whose services are integrated into business operations or significantly affect business success are likely to be considered employees.
  • Extent of personal services. Companies that insist on a particular person performing the work assert a degree of control that suggests an employment relationship. In contrast, independent contractors typically are free to assign work to anyone.
  • Control of assistants. If a company hires, supervises, and pays a worker’s assistants, this control indicates a possible employment relationship. If the worker retains control over hiring, supervising, and paying helpers, this arrangement suggests an independent contractor relationship.
  • Continuity of relationship. A continuous relationship between a company and a worker indicates a possible employment relationship. However, an independent  contractor arrangement can involve an ongoing relationship for multiple, sequential projects.
  • Flexibility of schedule. People whose hours or days of work are dictated by a company are apt to qualify as its employees.
  • Demands for full-time work. Full-time work gives a company control over most of a person’s time, which supports a finding of an employment relationship.
  • Need for on-site services. Requiring someone to work on company premises— particularly if the work can be performed elsewhere—indicates a possible employment relationship.
  • Sequence of work. If a company requires work to be performed in specific order or sequence, this control suggests an employment relationship.
  • Requirements for reports. If a worker regularly must provide written or oral reports on the status of a project, this arrangement indicates a possible employment relationship.
  • Method of payment. Hourly, weekly, or monthly pay schedules are characteristic of employment relationships, unless the payments simply are a convenient way of distributing a lump-sum fee. Payment on commission or project completion is more characteristic of independent contractor relationships.
  • Payment of business or travel expenses. Independent contractors typically bear the cost of travel or business expenses, and most contractors set their fees high enough to cover these costs. Direct reimbursement of travel and other business costs by a company suggests an employment relationship.
  • Provision of tools and materials. Workers who perform most of their work using company-provided equipment, tools, and materials are more likely to be considered employees. Work largely done using independently obtained supplies or tools supports an independent contractor finding.
  • Investment in facilities. Independent contractors typically invest in and maintain their own work facilities. In contrast, most employees rely on their employer to provide work facilities.
  • Realization of profit or loss. Workers who receive predetermined earnings and have little chance to realize significant profit or loss through their work generally are employees.
  • Work for multiple companies. People who simultaneously provide services for several unrelated companies are likely to qualify as independent contractors.
  • Availability to public. If a worker regularly makes services available to the general public, this supports an independent contractor determination.
  • Control over discharge. A company’s unilateral right to discharge a worker suggests an employment relationship. In contrast, a company’s ability to terminate independent contractor relationships generally depends on contract terms.
  • Right of termination. Most employees unilaterally can terminate their work for a company without liability. Independent contractors cannot terminate services without liability, except as allowed under their contracts.

Improperly classifying a “true employee” as an independent contractor can cause substantial hidden liability for a company, from failure to withhold taxes, to health insurance, to charges of wage theft and FLSA violations.  This can be crushing for a small business with no budget to pay labor fines, so proper classification and expense planning is vital from the outset of the business.  The temptation to cut costs by classifying workers as independent contractors is tempting for small businesses, particularly startups, but the long-term risks can damage a company before it gets its feet under it.  Finally, the reputational risk to an organization cutting corners on wages or benefits through improper classification can be massive in the information age when stories spread via social media, blogs, and TikTok like wildfire.  The Plaza Azteca settlement should serve as a cautionary tale, as the David and Goliath/management vs. labor story regarding the settlement for improper wage withholding has been a regional media story and could damage their brand and adversely affect revenue.

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