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Ninth Circuit Holds that FedEx Drivers Aren't Independent Contractors.
(Parker Tax Publishing September 17, 2014)

There is no shortage of cases dealing with the classification of workers as either employees or independent contractors. In certain occupations, employers typically seek to characterize a worker as an independent contractor in order to save money on employment taxes and benefits they would otherwise have to pay. However, if certain criteria are met, the IRS and courts will reclassify those workers as employees, leaving the company to pay back taxes and benefits. That is exactly what happened to a well-known package delivery company when it classified its drivers as independent contractors. In Alexander v. FedEx Ground Package System, Inc., 2014 PTC 451 (9th Cir. 8/27/14), the Ninth Circuit reversed a district court and held that FedEx's drivers were not independent contractors. The fact that FedEx's operating agreement with the drivers labeled the drivers as independent contractors did not make them so when viewed in the light of the entire agreement, the relevant policies and procedures, and state law.

OBSERVATION: The Ninth Circuit noted that its verdict essentially unravels FedEx's business model. However, the court said, FedEx was not entitled to "write around" the principles and mandates of state labor law by constructing a "brilliantly drafted" employment contract that created the constraints of an employment arrangement with the drivers in the guise of an independent contractor model. As a result of the employment contract, the court observed, FedEx not only had the right to control, but had close to absolute control over the drivers based on interpretation and obfuscation.

Background

As a central part of its business, FedEx contracts with drivers to deliver packages to its customers. The drivers must wear FedEx uniforms, drive FedEx-approved vehicles, and groom themselves according to FedEx's appearance standards. FedEx tells its drivers what packages to deliver, on what days, and at what times. Although drivers may operate multiple delivery routes and hire third parties to help them with their work, they may do so only with FedEx's consent.

FedEx contends its drivers are independent contractors under California law. Drivers for FedEx in California between 2000 and 2007 filed a class action suit arguing otherwise. Class members worked for FedEx's two operating divisions, FedEx Ground and FedEx Home Delivery. FedEx Ground deals primarily with business-to-business deliveries, while FedEx Home Delivery deals primarily with residential deliveries.

FedEx Operating Agreement with Drivers

FedEx drivers are required to sign an operating agreement when they are hired. One section of the agreement, titled "Background Statement," states: "[T]his Agreement will set forth the mutual business objectives of the two parties . . . but the manner and means of reaching these results are within the discretion of the [driver], and no officer or employee of FedEx . . . shall have the authority to impose any term or condition on [the driver]is contrary to this understanding." Another provision under a section titled "Discretion of Contractor to Determine Method and Means of Meeting Business Objectives," states: "[N]o officer, agent or employee of FedEx . . .shall have the authority to direct [the driver] as to the manner or means employed . . . . For example, no officer, agent or employee of FedEx . . . shall have the authority to prescribe hours of work, whether or when the [driver] is to take breaks, what route the [driver] is to follow, or other details of performance..."

FedEx Policies and Procedures

In addition to the operating agreement, FedEx's relationship with its drivers also is governed by various policies and procedures prescribed by FedEx. For example, FedEx drivers are required to pick up and deliver packages within their assigned primary service areas. Drivers must deliver packages every day that FedEx is open for business, and must deliver every package they are assigned each day. They must deliver each package within a specific window of time negotiated between FedEx and its customers. After each delivery, drivers must use an electronic scanner to send data about the delivery to FedEx. FedEx does not require drivers to follow specific delivery routes. However, FedEx tells its managers to design and recommend to its drivers routes that will reduce travel time and minimize expenses and maximize earnings and service.

While FedEx does not expressly dictate working hours, it structures drivers' workloads to ensure that they work between 9.5 and 11 hours every working day. If a driver's manager determines that the driver has more work than he or she can reasonably be expected to handle in a 9.5 to 11-hour day, the manager may reassign part of the driver's workload to other drivers. Drivers are paid according to a formula that includes per-day and per-stop components.

FedEx has the authority to reconfigure a driver's service area upon five days' written notice. Drivers have the right to propose a plan to avoid reconfiguration, using means satisfactory to FedEx. FedEx has the right to reject a driver's plan. Should a driver's service area be reconfigured in such a way that the driver gains customers, FedEx may reduce that driver's pay to compensate other drivers who lost customers in the reconfiguration.

A driver's managers may conduct up to four ride-along performance evaluations each year, to verify that the driver is meeting the standards of customer service required by the operating agreement. Managers are supposed to observe and record small details about each step of a delivery, including whether a driver uses a dolly or cart to move packages, demonstrates a "sense of urgency," and "[p]laces [his or her] keys on [the] pinky finger of [his or her] non-writing hand" after locking the delivery vehicle. After finishing a ride-along evaluation, managers are supposed to give immediate feedback to drivers about the quality of their work. According to FedEx, this feedback constitutes mere recommendations that drivers are free either to follow or disregard.

FedEx requires its drivers to provide their own vehicles. Vehicles must not only meet all applicable federal, state, and municipal laws and regulations, but also must be specifically approved by FedEx. The operating agreement allows FedEx to dictate the identifying colors, logos, numbers, marks, and insignia of the vehicles. All vehicles must be painted "FedEx white," a specific shade of Sherwin-Williams paint, or its equivalent. They must be marked with the FedEx logo, and be maintained in a clean and presentable fashion free of body damage and extraneous markings. FedEx requires vehicles to have specific dimensions, and all vehicles must also contain shelves with specific dimensions. Drivers must provide maintenance at their own expense and must bear all costs and expenses incidental to operation of the vehicle. Drivers authorize FedEx to pay for vehicle licensing, taxes, and fees, and to deduct these costs from the drivers' pay. The operating agreement requires drivers to comply with personal appearance standards and wear a FedEx uniform "maintained in good condition."

Employee Class Action Suit

A group of FedEx drivers originally filed a class action suit in a California court in December 2005 on behalf of a class of California FedEx drivers, asserting claims for employment expenses and unpaid wages under the California Labor Code on the ground that FedEx had improperly classified the drivers as independent contractors. The employees also brought claims under the federal Family and Medical Leave Act (FMLA), which similarly turns on the drivers' employment status.

Between 2003 and 2009, similar cases were filed against FedEx in approximately 40 states. The Judicial Panel on Multidistrict Litigation consolidated these FedEx cases for multidistrict litigation (MDL) proceedings in the District Court for the Northern District of Indiana (i.e., the MDL Court). The drivers moved for class certification. The MDL Court certified a class for the drivers' claims under California law. It declined to certify the employees' proposed national FMLA class.

FedEx's Argument: Entrepreneurial Opportunities

According to FedEx, its drivers' entrepreneurial opportunities, i.e., the ability to take on multiple routes and vehicles and to hire third-party helpers, were inconsistent with employee status. FedEx relied not on California law for this argument, but on the D.C. Circuit Court's decision in FedEx Home Delivery v. National Labor Relations Board, 563 F.3d 492 (D.C. Cir. 2009). In FedEx Home Delivery, a divided panel of the D.C. Circuit reversed an agency decision that FedEx drivers were employees. The majority shifted the emphasis away from the "unwieldy control inquiry," asking instead whether the putative independent contractors had significant entrepreneurial opportunity for gain or loss. It held that the evidence favoring a finding the drivers were employees was clearly outweighed by evidence of entrepreneurial opportunity.

Lower Court Decision

The MDL Court denied nearly all of the drivers' motions for summary judgment and granted nearly all of FedEx's motions. The MDL Court held that the drivers were independent contractors as a matter of law in each state where employment status is governed by common-law agency principles. The MDL Court remanded the case to the district court to resolve the drivers' claims under the FMLA. Those claims were settled, and the district court entered its final judgment. The drivers appealed.

Borello Decision

To reach its conclusion favoring FedEx, the MDL Court purportedly applied the common law test from S.G. Borello & Sons, Inc. v. Department of Industrial Relations, 769 P.2d 399 (Cal. 1989), but ultimately focused on the entrepreneurial opportunities FedEx afforded to the drivers. In S.G. Borello & Sons, a commercial produce grower (Borello), hired agricultural laborers under written sharefarmer agreements. The agreements recited that each laborer was deemed a principal and independent contractor rather than employer and employee. The sharefarmers agreed to harvest the crop, assisted by members of their families. They could contract for the amount of land they wished to harvest on a first-come, first-serve basis. The sharefarmers were totally responsible for the care of the plants in their assigned plots during the harvest period. They were required to furnish their own tools and their own transportation to and from the field. The method and manner of accomplishing the harvest, according to the agreement, was left solely to the sharefarmers, though they agreed to use accepted agricultural practices in order to provide for the maximum harvest. The sharefarmers set their own hours and were free to decide when to pick the crop in order to maximize the profit. Borello had no right to discharge a sharefarmer or his workers during the harvest, and no recourse if the harvesters abandoned the field. Although the sharefarmers had significant autonomy over the harvest itself, the California Supreme Court reasoned that Borello retained all necessary control over the harvest portion of its operations and held that the sharefarmers were employees as a matter of law.

In FedEx's case, the MDL Court concluded that, while the right to control is a primary consideration in employment status, the right to control wasn't dispositive. What was dispositive, the court said, was the drivers' class-wide ability to own and operate distinct businesses, own multiple routes, and profit accordingly.

Ninth Circuit's Analysis

The Ninth Circuit agreed with the FedEx drivers. Reversing the lower court, the Ninth Circuit held that the drivers were employees as a matter of law. The court began its analysis by noting that the dispute was controlled by California law and that determinations of employment status under California law are governed by the multi-factor test set forth in S.G. Borello & Sons. Under California law, the principal test of an employment relationship is whether the person to whom service is rendered has the right to control the manner and means of accomplishing the result desired. Similarly, the right to terminate at will, without cause, is strong evidence in support of an employment relationship. Other important factors, the court noted, were (1) whether the one performing services is engaged in a distinct occupation or business; (2) the kind of occupation, with reference to whether, in the locality, the work is usually done under the direction of the principal or by a specialist without supervision; (3) the skill required in the particular occupation; (4) whether the principal or the worker supplies the instrumentalities, tools, and the place of work for the person doing the work; (5) the length of time for which the services are to be performed; (6) the method of payment, whether by the time or by the job; (7) whether or not the work is a part of the regular business of the principal; and (8) whether or not the parties believe they are creating the relationship of employer-employee.

With respect to the right to control the drivers, the Ninth Circuit found that FedEx's operating agreement and policies and procedures unambiguously allowed FedEx to exercise a great deal of control over the manner in which its drivers did their jobs. First, the court stated, FedEx can and does control the appearance of its drivers and their vehicles. FedEx controls its drivers' clothing from their hats down to their shoes and socks and requires drivers to paint their vehicles a specific shade of white, mark them with the distinctive FedEx logo, and to keep their vehicles clean and presentable and free of body damage and extraneous markings. These detailed requirements, the court said, clearly constitute control by FedEx over its drivers.

Second, the court noted, FedEx can and does control the times its drivers work. Although the operating agreement does not allow FedEx to set specific working hours down to the last minute, it was clear to the court that FedEx had a great deal of control over drivers' hours because it structures drivers' workloads so that they have to work 9.5 to 11 hours every working day. The court rejected FedEx's argument that, because drivers can hire helpers to do their work for them, they are free to complete a full day's work in less than 9.5 hours. The court noted that (1) managers can adjust drivers' workloads to ensure that they never have more or less work than can be done in 9.5 to 11 hours, (2) drivers can't leave their terminals in the morning until all of their packages are available, (3) drivers must return to the terminals no later than a specified time, and (4) if drivers want their vehicles loaded, they must leave them at the terminal overnight. The combined effect of these requirements, the court concluded, was to substantially define and constrain the hours that FedEx's drivers can work.

Third, the court said, FedEx can and does control aspects of how and when drivers deliver their packages because (1) it assigns each driver a specific service area, which it "may, in its sole discretion, reconfigure," (2) it tells drivers what packages they must deliver and when, and (3) it negotiates the delivery window for packages directly with its customers. The operating agreement, the court said, requires drivers to comply with "standards of service." With respect to FedEx's argument that there are details of its drivers' work that it does not control, the court said that the "right-to-control" test does not require absolute control. FedEx's lack of control over some parts of its drivers' jobs does not counteract the extensive control it does exercise, the court concluded.

The Ninth Circuit noted that in S.G. Borello & Sons, the California Supreme Court reasoned that a business entity may not avoid its statutory obligations by carving up its production process into minute steps, then asserting that it lacks control over the exact means by which one such step is performed by the responsible workers.

Finally, with respect to FedEx's reliance on the D.C. Circuit's decision in FedEx Home Delivery, the Ninth Circuit said that even if that decision was correct, it had no bearing on the instant case. There is no indication, the Ninth Circuit stated, that California had replaced its longstanding right-to-control test with the new entrepreneurial-opportunities test developed by the D.C. Circuit. Instead, the court said, California cases indicate that entrepreneurial opportunities do not undermine a finding of employee status. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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