February 7, 2024

Navigating the New Independent Contractor Rule: Insights for Registered Investment Advisors


Contributed By: Thomas Yates
                           Managing Director & Partner
                             AdvisorAssist, LLC

Over the recent weeks, we have received inquiries regarding the U.S Department of Labor final rule on defining “independent contractor” under the Fair Labor Standards Act (FLSA) and what that means for registered investment advisors (“RIA”). Although we are not specialists in employment law, nor are we attorneys, we have consulted with legal experts to help break down the rule in regard to W-2 employees and 1099 Independent Contractors (collectively “Supervised Person(s)”) at an RIA. We note that Supervised Persons can be either Investment Adviser Representatives (“IAR”) or client administrative support persons, or other persons that are subject to the Advisor’s Compliance Program. Our goal is to provide Advisors with a basic understanding of rule language to help guide RIAs to compliance with federal wage-and-hour laws, as applicable.

The Essence of the New Rule 
The rule's emphasis on the "economic reality" of the employment relationship underlines the importance of determining whether a worker is genuinely operating an independent business or is economically dependent on the employer. 

The rule focuses on six key factors, including the worker’s opportunity for profit or loss and the nature of control over the work, among others. This holistic approach encourages a deeper analysis beyond mere contractual terms to the actual practices and dynamics of the working relationship between the RIA and the Supervised Person. 

To simplify, here is how AdvisorAssist views the six conditions, and helps Advisors assess whether or not their Supervised Persons can be deemed Independent Contractors:

Opportunity for Profit or Loss: If a Supervised Person can earn more by the more work they put in, clients obtained, and/or the result of their investment management, which could result in additional income earned, they can be perceived as operating as an independent contractor.
Investments by the Worker and Employer: If the Supervised Person spends their own money to purchase tools, technology, or any other resources, at their discretion, to provide their services, this would suggest that they are likely acting as an Independent Contractor.
Degree of Permanence of the Relationship: If the Supervised Person is an IAR and can leave at their own discretion, and take their clients to another RIA, this suggests that they are likely acting as an Independent Contractor.
Nature and Degree of Control: If an RIA’s degree of control over the Supervised Person is only exercised due to the necessity to comply with regulatory requirements, and nothing more, this suggests that they are likely acting as an Independent Contractor.
Extent to Which the Work is Integral to the Potential Employer’s Business: If the Supervised Person does not participate in the day to day operations of the RIA or does not influence management-level decisions, where they solely work with their own clients, suggests that they are likely acting as an Independent Contractor.
Worker’s Skill and Initiative: Generally, Supervised Persons are considered “specialized” in their type of work, as they are trained to operate in this industry and if the Supervised Person is an IAR, are required to obtain a certification to provide investment advice. However, being specialized does not automatically mean a Supervised Person is working in the capacity of an Independent Contractor. Rather, the RIA should assess whether or not the Supervised Person’s skill/application is “in connection with business-like initiative”. This is a broad statement but should go into the overall analysis when determining a Supervised Person's contribution to a firm's growth vs. their intent to specifically service their own clients.

Ultimately, if Supervised Persons are compensated through fees for the services provided to clients, demonstrating minimal economic dependence on the firm, aligns well with the Independent Contractor status. Conversely, a Supervised Person on a salary or hourly wage, especially those without a direct link between compensation and client services rendered or who rely heavily on the firm for their economic sustenance, may not fit the Independent Contractor definition.

Conclusion When completing the Form U4 for a Supervised Person who is an IAR, it is essential to accurately disclose their employment status in Section 1 of the form. This section specifically inquires whether the IAR maintains an independent contractor relationship with the firm. Proper classification is crucial because it is a regulatory filing, and the way an IAR is classified must be properly reflected.

It is important to note, that this rule does not change an RIA’s responsibility to supervise its Supervised Persons, nor does it change the RIA’s obligations to act as a fiduciary. However, RIAs should consider how this rule would impact them from an employment law perspective. It is necessary for RIAs to ensure they maintain a robust employment policy to ensure adherence to the Department of Labor’s rules on the classification of its employees and ensure that wage-and-hour laws are in fact adhered to, helping mitigate the internal legal risk posed to the RIA.

While AdvisorAssist is not an employment law firm, we feel it is prudent that RIAs have a basic understanding of these conditions to help determine whether or not a Supervised Person can be classified as an Independent Contractor. We want to emphasize however, that all six factors, ranging from the worker’s opportunity for profit or loss, the relative investments by both parties, the permanence of the relationship, the degree of control, the integral nature of the work to the employer’s business, to the worker’s skill and initiative, must be considered in holistically. There is no single category that would determine a Supervised Person’s status, as all six categories as a whole should be assessed to an RIA determine a Supervised Person’s employment status with the RIA. With all this in mind, if RIAs ever do question the appropriate classification of a Supervised Person, do not hesitate to reach out to an employment attorney, as RIAs should want to ensure that they have the appropriate legal backing in these classification decisions.


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