Let's Address the Real Challenges for Independent Contractors and Gig Workers

While it does appease activists, the new DOL rule is not a simple “labor wins” story. We need a new system of flexible benefits for this flexible workforce.

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Political leaders from left to right are grappling with how to approach the challenges caused by the growth in freelancing and the independent or “gig” workforce. The ordinary toolkit is to tinker with the definition of what it means to be an employee or an independent contractor, such as the rule issued by the Department of Labor (DOL) three weeks ago. That rule adds new considerations that significantly limit the circumstances under which a worker can legally be classified as an independent contractor—a stricter rule than it was under the Obama administration.

While it does appease activists, the new DOL rule is not a simple “labor wins” story. At face value, it might seem reasonable to expect significant gains for workers who are reclassified as employees, with proper benefits. But the reality is that most contracting positions affected by the rule will not likely turn into employment positions, thereby leaving workers with fewer job opportunities altogether.

The challenge is that the DOL is taking a gamble that enough new employees will offset all of the contracting job losses from the new regulation, but based on the findings of our study on California’s Assembly Bill 5 (AB5), which enacted the country’s strictest law for working as a contractor, that may turn out to be a losing bet.

One of the reasons we can’t seem to get the policies right is because there is confusion about this workforce. Uber’s ubiquity has masked that gig workers—those on online labor platforms--still amount to only a small fraction of the overall independent contractor workforce, according to tax data. Not only that, but one of several IRS and Treasury reports concludes that these types of jobs are, in fact, merely gigs:

“We find that the exponential growth in labor OPE [online platform economy] work is driven by individuals whose primary annual income derives from traditional jobs and who supplement that income with platform-mediated work.”

Company reports show the same story:

• 90 percent of DoorDash deliverers work less than 10 hours per week on the platform

• 96 percent of drivers with Lyft either work elsewhere or are students in addition to driving with Lyft.

Moreover, the largest share of independent contractors make most of their income through W-2 employment and are in the top quartile of the income distribution.

This should alleviate some concerns about access to workplace benefits. At the same time, it also means the majority of the independent workforce (the supplementary earners, including most gig workers) will not likely benefit from the rule because they already have a payroll job, and the rule risks eliminating their side gig.

Policy efforts should instead concentrate on the 11 million or so workers who are “full-time” independents making their primary incomes contracting rather than through employment. Some are white-collar professional freelancers, such as accountants, architects, and graphic designers. However, 60% of these full-time contractors are in the bottom half of the income distribution, where contractor growth has been the fastest.

It should be noted that as many as 79% of these full-time contractors have indicated that they prefer their arrangements over employment. Workers cite dependent care obligations, personal circumstances, or a strong preference for job flexibility (over job stability) as the primary reasons.

The DOL rule might lead to some of these “full-time” independent contractors being offered traditional employment opportunities. But it’s not clear how many of them will be turned away from their contracting jobs without an employment opportunity in hand.

Critics may dismiss “job losses” as another empty threat from large companies. But contrary to our perceptions, the increase in the use of contractors has been the fastest for small and low-wage businesses (fewer than 20 employees), followed by medium firms (20-100) and lastly by large firms (more than 100), according to official tax data. Because employees are much more expensive—up to 30% more—small companies, along with nonprofits and other resource-constrained organizations, will be most likely to eliminate these jobs.

But in addition to the direct costs, the DOL’s rule, perhaps unintentionally, creates more complexity in determining whether a worker is indeed an independent contractor. Therefore, even if a worker is properly classified under the new rule, it may still deter organizations, especially small businesses that cannot afford extensive legal counsel, from working with contractors altogether. Indeed, for this reason, the Small Business Administration submitted a public comment requesting that the DOL issue a new analysis of the rule that would include proper cost considerations for small businesses.

California’s experiment with AB5—which restricted independent contracting to a greater extent—resulted in small businesses like theatres, music venues, and independent media organizations cutting contracting jobs or going out of business altogether. Thanks partly to a bipartisan backlash, there are now 110 professions in California exempt from AB5.

Indeed, in our recent analysis of California’s AB5, my co-authors and I find that contrary to the wishes of lawmakers, the rule did not merely lead to a change in the composition of the workforce with more independent contractors becoming employees. Instead, it was associated with a significant decline in overall employment and in self-employment for affected occupations. In particular:

• Self-employment fell by 10.5 percent on average for non-exempt occupations, while overall employment fell by 4.4 percent on average for non-exempt occupations

• Occupations with a greater prevalence of self-employed workers saw greater reductions in both self-employment and overall employment

In other words, on average, 1 in 10 self-employed individuals may have lost self-employment opportunities in California among occupations not exempt from AB5, while there is no evidence of an accompanying increase in traditional employment opportunities among workers in non-exempt occupations.  

Might there be better ways to address the challenges faced by independent workers?

It seems like our political leaders are not thinking outside of the box — how do we put employees and independent contractors on more equal footing? In several surveys, including a study in a high-profile journal, upwards of 80% of self-employed workers indicated that they desire portable benefits—benefits that are not tied to one particular employer and can travel with the worker.

Many, many decades ago, tax incentives were created to encourage our fringe benefits to be tied to our traditional employment jobs, and labor laws were designed in a way that restricted the flow of benefits to non-traditional workers. Back then, this was not a big issue because most workers were traditional employees. But now that the circumstances have changed, these laws are failing a large and growing sector of the workforce.

This creates an awkward trade-off for independent workers who must often choose between an inflexible employment job that comes with benefits and a flexible job that comes without benefits.

That does not have to be the case. State and federal policies could decouple benefits from traditional employment and allow access to benefits for all workers. Tying benefits to individuals rather than their employers could increase equity and efficiency. Indeed, several decades of economics research has highlighted how fringe benefits tied to your employer discourage job mobility and make labor markets more rigid. Fringe benefits that are tied to employers also increase the cost for exiting a particular job–thereby inadvertently creating a more monopsonistic market structure that reduces workers’ bargaining power by making workers more dependent on one particular firm.  

Decoupling benefits entirely from employment may still be lightyears away. But policymakers can begin to create a fairer system for all workers by allowing independent workers, like employees, to put away pretax income into different types of benefits funds—or one “flexible benefits” account. Such funds could be in a cafeteria-style plan that would allow independent workers to purchase health insurance, retirement accounts, and education savings accounts like a 529 plan in a pre-tax manner. Customers or organizations could make contributions to this flexible benefits account. The IRS and DOL should issue a statement clarifying that doing so does not risk reclassifying contractors as employees. States should allow independent contractor contributions to worker’s compensation and unemployment funds. These are just a few ideas to get us started for how to think outside of the box and how to help all workers — not just employees— better step into the future. [For a deeper dive into these ideas, here is my policy brief on flexible benefits for a flexible workforce].

Independents need more than just partisan battles between labor and business. A system of flexible benefits for this flexible workforce is long overdue.