In order to make a distinction between types of worker-owners, it’s important to apply a test or series of tests that have been developed for determining who is a member of an enterprise. Below, we provide guidance on determining how much control each worker-owner must have in order to be classified as a “member,” rather than employee.
When are Members legally considered Employees?
It is widely accepted that if you start a sole proprietorship and work for yourself, you are not your own employee. However, how does this principle apply when three people own, manage, and work for their own businesses in partnership with one another? Employment laws exist primarily to balance the relationship between those with power and those with less power within a business.
Criteria that determine whether someone is an employee
These are the legal guidelines for determining when a master-servant relationship exists:
- The organization can hire or fire the individual or set the rules and regulations of the individual’s work;
- The organization supervises the individual’s work and to what extent;
- The individual reports to someone higher in the organization;
- The individual is able to influence the organization and to what extent;
- The parties intended that the individual be an employee, as expressed in written agreements or contracts;
- The individual does not directly share in the profits, losses, and liabilities of the organization.
Many court opinions acknowledge that, while there are multiple factors to consider, control is often the most important factor if someone is a member or employee of an enterprise. Another case that summarized the factors courts consider is Simpson v. Ernst & Young, decided by the 6th Circuit in 1996. The Court named the following factors as relevant to the determination:
- The right and duty to participate in management;
- The right and duty to act as an agent of other partners;
- Exposure to liability;
- The fiduciary relationship among partners;
- Use of the term ‘co-owners’ to indicate each partner’s ‘power of ultimate control;
- Participation in profits and losses;
- Investment in the firm;
- Partial ownership of firm assets;
- Voting rights;
- The aggrieved individual’s ability to control and operate the business;
- The extent to which the aggrieved individual’s compensation was calculated as a percentage of the firm’s profits;
- The extent of that individual’s employment security; and
- Other similar indicia of ownership.
One thing the above tests tell us is that if a worker cooperative chooses not to classify worker-owners as employees, it must give substantial management power to those worker-owners, and must adopt clear safeguards to prevent the devolution into a more hierarchical structure. It is also possible that the working relationships could change over time, as a management structure changes. Thus, it is even a good idea to conduct periodic “audits” to ensure that all workers are properly classified.
Does it make a difference if you form a partnership, LLC, or cooperative corporation?
Uncertainty about whether incorporation automatically creates an employment relationship has caused stress for some worker cooperatives, which are often formed as some type of Cooperative Corporation. As a result, some worker cooperatives have chosen instead to form as partnerships or limited liability companies (LLCs), entities where a court is less likely to find that managing partners and managing members are employees.
The lesson here is: If you are planning to form a cooperative corporation, as opposed to a partnership or LLC, be extra attentive to the question of whether there is an employment relationship, and talk to a lawyer.
Takeaways when determining member vs employee
The lesson with these cases is: there is no clear set of rules to determine when members of a worker cooperative are employees. If you want to argue that members of your worker cooperative are not employees, then the safest thing to do is to:
- Have all members serve on the Board of Directors.
- Make decisions by a consensus process, supermajority voting, or another process that gives each member a strong voice in each decision.
- Give each member a lot of control over his/her own work, or create many semi-autonomous departments or committees that control their own work, procedures, and hours.
- Make it somewhat difficult to fire people, by requiring a vote of a large number of members.
- If you put some people in a position to manage and supervise others, ensure that they can easily be moved out of their supervisory roles by a proposal brought to the cooperative by the people they supervise.
Related articles
The Impact of Legal Entity on the Classification of Cooperative Workers
Workers may be classified as employees rather than partners depending on the legal entity the co-op decides to form under. LLCs, Partnerships, and Cooperative Corporations each have different implications regarding worker classification and therefore it is important to talk to a lawyer about your specific business. Worker Classification for Cooperative Corporations, LLCs, and Partnerships Cooperative
Classifying Roles in a Cooperative
It is critically important to evaluate the question of employment status carefully. Failure to properly classify someone as an employee could result in an expensive lawsuit or fine when either a labor department or worker decides to call out an actual employment relationship. This is especially true when converting a business to a worker-owned cooperative.
Complying with Employment Law as a Cooperative
Employment laws have mostly been created to balance the relationship between “bosses” and “workers.” Employment laws are very important to ensure employees are given certain rights like the right to a minimum wage and reasonable work hours. How do employment laws apply when you form a cooperative to work with others, rather than for others?
