- Posted on: Aug 3 2022
By: Ron Diaz [8/3/22]
Startups are faced with a myriad of choices on how to allocate limited capital for their needs. Some startups explore hiring interns as either a free or low-cost labor option. However, management needs to be wary of the pitfalls of engaging free intern (or student) labor. As a rule, a for-profit company must pay its employees for their work. However, under the circumstances, an intern might not be considered an employee under the Federal Fair Labor Standards Act (“FLSA”).
In 2018, the Department of Labor replaced their six-factor test to determine whether or not an intern is an employee under the FLSA and adopted the seven-factor primary beneficiary test employed by the Second Circuit Court of Appeals to determine the economic reality of the relationship between the intern and the for-profit company. The seven-factor test has also been adopted by the Ninth and Eleventh Circuits, but unfortunately, it has not been adopted by all of the circuit courts.
Unlike the Department of Labor’s previous six-factor test where all six of the factors had to be met in order for a worker to be classified as an unpaid intern and not an employee, in the newer test adopted by the Department of Labor, the factors are weighed under the totality of the circumstances. This new standard makes it easier for a for-profit company to evaluate whether an unpaid worker can be hired as an unpaid intern without violating the FLSA.
If an intern is the primary beneficiary of the relationship (which in practice is when the intern is at least the recipient of at least 51% of the benefits of the relationship) then the intern is likely considered to be a non-employee under the FLSA and will not be required to receive compensation for their work. The following seven factors comprise the test:
1.) Both parties understand that there is no expectation of compensation.
2.) The internship provides training that would be given or is similar to training given in an educational environment.
3.) The intern’s successful completion of the program earns academic credit in a student interns formal education program.
4.) The internship accommodates the intern’s academic calendar and other academic commitments.
5.) The time duration of the internship is limited to the period when the internship provides education or learning to the intern.
6.) The internship provides significant educational benefits to the intern, and the work of the intern complements, rather than displaces, the work of paid employees while providing significant educational benefits to the intern.
7.) The intern understands that there is no promise for a job after completion of the internship and the for-profit company cannot make any such promise or assurances. (See https://www.dol.gov/agencies/whd/fact-sheets/71-flsa-internships).
To avoid running afoul of the seven-factor test, a for-profit company that recruits or engages an unpaid intern should align any solicitation, advertising, or promotional materials used to recruit unpaid interns and any other documents or guides provided to a prospective or engaged intern, as well as the engagement agreement for an unpaid intern with the seven-factor test.
For example, in Xuedan Wang v. Hearst Corp., 877 F.3d 69 (2d Cir. 2017) in affirming the District Court’s holding that the Hearst interns were not employees, the Second Circuit noted that the employer, Hearst, required candidates to obtain pre-approval for credit from their educational institution prior to their participation in the internship and that it was clear to the interns that there was no promise of employment, and that the internship was unpaid.
While this is a helpful illustration, management should be clear to check with an experienced attorney within their own state to determine whether your jurisdiction applies the Department of Labor’s seven-factor test or for any additional requirements under state law. But, at a minimum, a for-profit company should ensure that the expectations of both parties follow the guidance provided by the seven-factor test.