Understanding & Drafting Internship Agreements

By: Julie Capell, Winston & Strawn LLP

This article discusses how to draft effective internship agreements that comply with the U.S. Department of Labor’s (DOL’s) regulations concerning unpaid internships, as well as recent court decisions applying a new test concerning unpaid internships.

WHEN THE ECONOMY IS DOWN AND BUSINESSES LOOK to cut expenses, it may seem like a good idea to hire an unpaid intern. You should advise employers, however, to approach such arrangements with caution. Unpaid internship programs that do not comply with applicable federal and state laws have potentially grave consequences. Employers with misclassified unpaid interns face potential liability for unpaid wages and violations relating to failure to pay minimum wage, which could be significant for a full-time intern. In addition to the wages due to the unpaid intern, employers may face potential liability for overtime and, for employees based in California, missed meal or rest periods. Moreover, employers can incur liability for unpaid employment-related taxes owed to governmental agencies. Consequently, before advising a company to enter into an internship agreement, you must first determine that the arrangement qualifies for exemption from minimum wage and overtime obligations pursuant to the Fair Labor Standards Act (FLSA), 29 USCS § 203. If so, you should draft an agreement to support that conclusion.

Although the Supreme Court has yet to address the difference between unpaid interns and paid employees under the FLSA, the DOL published guidance in 2010 for unpaid interns working in the private sector. Recently, some courts have rejected the DOL’s test in favor of a similar, but more employer-friendly, primary beneficiary test. Both tests are discussed below.

Applying the DOL’s Six-Factor Test When Drafting Internship Agreements

A covered employer must pay interns minimum wage and overtime as required by the FLSA, unless the intern is not an “employee” within the meaning of the FLSA. Under the DOL’s test, all of the following criteria must be satisfied before the company may properly classify the student as an unpaid intern:

1. The training, even though it includes actual operation of the facilities of the company, is similar to that which a vocational school would provide.
2. The training is for the benefit of the trainees or students.
3. The trainees or students do not displace regular employees but work under their close observation.
4. The company that provides the training derives no immediate advantage from the activities of the trainees or students, and on occasion its operations may actually be impeded.
5. The trainees or students are not necessarily entitled to a job at the conclusion of the training period.
6. The company and the trainees or students understand that the trainees or students are not entitled to wages for the time spent in training.

See U.S. Dep’t of Labor, Wage & Hour Division, Field Operations Handbook § 10(b)(11) (1993). See also DOL, Wage and Hour Division (WHD) Fact Sheet #71: Internship Programs Under The Fair Labor Standards Act https://www.dol.gov/whd/regs/compliance/ whdfs71.htm.

The DOL maintains that an employment relationship exists unless the circumstances satisfy all six factors. At least one federal court has determined that the test is based on a totality of circumstances and all six criteria need not be met in order to find that an individual is not an employee. See Reich v. Parker Fire Protection District, 992 F.2d 1023 (10th Cir. 1993). It is best practice for companies to only award unpaid internships when all six of the DOL’s criteria have been satisfied. However, companies that are only subject to the jurisdiction of the Second or Eleventh Circuits can follow the less stringent primary beneficiary test discussed below, as these circuits have expressly rejected the DOL test. The following sections address drafting unpaid internship agreements in light of the six DOL factors.

Factor No. 1: Is the Internship Affiliated with a School Program?

A position will most likely qualify as an internship if the intern’s school sponsors the program and the intern receives academic credit for the services he or she provides. The internship agreement should state that the on-the-job training will supplement the intern’s coursework.

Factor No. 2: Who Will Primarily Benefit from the Internship?

The training program should primarily benefit the intern and not the company. A training program primarily benefits interns when they are given the opportunity to observe the practical application of classroom instruction in the workplace. The company must expose the intern to skills or learning that will enhance the intern’s marketability in the vocational area. The internship agreement therefore should not state that the intern is in training to work for the company.

Factor No. 3: Will the Intern Displace Regular Employees?

The intern should not displace any of the company’s regular employees by performing their regular responsibilities. But the intern may (and probably should) work under the close supervision of these employees. The internship agreement should directly state that the intern will not perform any of the company’s regular employees’ job duties, but the company may occasionally ask the intern to perform minor tasks.

Factor No. 4: Will the Company Benefit from the Internship?

The DOL has indicated that where the predominant benefit of the arrangement accrues to the intern, there is no employment relationship. But where interns directly perform the main work of the business, such interns step into the place of an employee and the company will likely gain an immediate (economic) advantage. If the company’s regular employees are not as productive due to time spent supervising the intern and answering questions, this point may go towards the company not benefitting from the internship and may indicate that there is no employment relationship. The internship agreement should therefore state that the intern will work under the close supervision of the company’s regular employees.

Factor No. 5: Is the Intern Entitled to a Job at the End of the Internship?

If the internship agreement states that the intern is entitled to a job at the end of the internship, the court or DOL will be more likely to find an employment relationship. The safest path for the employer is to explicitly state in the internship agreement that the internship is temporary and the company is under no obligation to hire the intern. Note, however, that in situations where the employer decides to formally hire the intern after the internship period ends, courts will not necessarily assume that this factor militates against the employer.

Factor No. 6: Does the Intern Know That He or She Will Not Be Paid?

The internship agreement must contain an acknowledgment by the intern that he or she does not expect compensation for the internship.

A New Test: Applying the New Seven-Factor Primary Beneficiary Test When Drafting Internship Agreements

In July 2015, the Second Circuit established a new test for determining whether an unpaid intern is properly excluded from the FLSA’s minimum wage requirements. In Glatt v. Fox Searchlight Pictures, Inc., the Second Circuit expressly rejected the DOL’s six-factor test and offered an alternative seven-factor test that focuses on whether the employer or the intern is the primary beneficiary of the relationship. 791 F.3d 376 (2d Cir. 2015).

The primary beneficiary test focuses on the educational aspects of the internship and is less stringent than the DOL’s test. In July 2015, the court in Glatt identified two salient features of the primary beneficiary inquiry:

• It focuses on what the intern receives in exchange for his or her work.
• It provides the court with flexibility to examine the economic reality as it exists between the intern and the employer. Id. at 383–84.

For example, under the primary beneficiary test, the intern does not automatically become an employee because the employer receives a benefit from the arrangement (in contrast, see DOL factor no. 4). Rather, the benefits afforded to the student must merely outweigh those afforded to the employer. See Schumann v. Collier Anesthesia P.A., 803 F.3d 1199, 1211 (11th Cir. 2015).

Also in contrast to the DOL test, “[n]o one factor is dispositive and every factor need not point in the same direction for the court to conclude that the intern is not an employee” under the primary beneficiary test. Glatt, 791 F.3d at 384. Rather, courts will look at all the circumstances of a particular arrangement, including, where appropriate, other considerations that the DOL factors do not cover.

In January 2016, the Second Circuit amended its decision in Glatt. In its amended decision, the court identified a third salient feature of the primary beneficiary inquiry.

• The test should acknowledge that the intern-employer relationship should not be analyzed in the same manner as the standard employer-employee relationship because the intern enters into the relationship with the expectation of receiving educational or vocational benefits that are not necessarily expected with all forms of employment.

Glatt v. Fox Searchlight Pictures, Inc., 811 F.3d 528, 536 (2d Cir. 2016). The court also added a statement confining the primary beneficiary analysis to internships and the intern’s formal education, not “training programs in other contexts.” 811 F.3d at 537.

Additionally, the Second Circuit’s amended Glatt opinion provides that in certain cases, a court may consider evidence about an internship program as a whole rather than the individual experience of a specific intern to determine the “economic reality” of the relationship, including in cases that can proceed as a collective action.

It is best practice for companies that only operate within the jurisdiction of the Second Circuit and/or Eleventh Circuits to follow the primary beneficiary test, as both circuits have expressly rejected the DOL test in favor of this new test. Additionally, federal district courts in Illinois and California have adopted the primary beneficiary test enunciated by the Second Circuit. See Benjamin v. B&H Educ., Inc., 2015 U.S. Dist. LEXIS 144351 (N.D. Cal. Oct. 16, 2015); Hollins v. Regency Corp., 2015 U.S. Dist. LEXIS 145813 (N.D. Ill. Oct. 27, 2015). Courts have also applied the primary beneficiary test to an employee’s state law claims. See Benjamin, 2015 U.S. Dist. LEXIS 144351, at *4–5 (applying the primary beneficiary test to plaintiffs’ related California and Nevada claims in an FLSA action where the plaintiffs contended they were “employees” under the FLSA during a clinical training program to become licensed cosmetologists).

The following sections discuss the “non-exhaustive” considerations comprising the primary beneficiary test and provide associated tips for drafting internship agreements. Similarly, employers with formal internship programs involving numerous interns should consider whether the internship program as a whole satisfies the factors identified below.

Factor No. 1: Does the Intern Clearly Understand That There Is No Expectation of Compensation?

This factor is similar to the DOL factor no. 6, but the courts applying the primary beneficiary test have clarified that even an implied promise of compensation suggests that the intern is an employee. Thus, employers should be careful about inferring or engaging in behaviors that the intern can construe as a promise of compensation. The internship agreement should also specifically provide that the intern understands that there will be no compensation for work performed during his or her internship.

Factor No. 2: Will the Employer Provide Training That Would Be Similar to the Training an Individual Would Receive in an Educational Environment?

This factor focuses on the educational aspect of the internship and highlights the importance of ensuring training received by the intern is commensurate with training that an educational institution would provide. Therefore, it is best practice for employers to think about the educational value of tasks that they expect their interns to perform and ensure that such tasks are, in fact, educational for the intern.

Factor No. 3: Is the Internship Tied to / Related to the Intern’s Formal Education Program?

This factor suggests that it is best practice to only hire interns who are already enrolled in formal education programs. It is most prudent to hire interns who can receive academic credit for the internship.

Factor No. 4: Is the Internship Friendly to the Student Status of the Intern Such as by Corresponding to the Academic Calendar?

Courts applying this factor have asked whether a legitimate reason exists for the intern to perform tasks on days when school is out of session (such as on weekends). See Schumann v. Collier Anesthesia, P.A., 803 F.3d at 1211. Similarly, a federal district court applying the primary beneficiary test has held that this factor weighs in favor of non-employee status when the internship tracks the student’s academic calendar. Hollins v. Regency Corp., 2015 U.S. Dist. LEXIS 145813 at *31 (N.D. Ill. Oct. 27, 2015). Therefore, it is best practice to make sure that the student’s schedule during the internship (1) corresponds with the intern’s academic calendar, and (2) does not impede the student from honoring his or her academic obligations.

Factor No. 5: Does the Internship End When the Beneficial Learning for the Intern Is Complete?

An unpaid internship program should ensure that the internship’s duration is limited to the period during which the internship provides beneficial learning to the intern. Therefore, it is best practice for an employer to identify the goals of the internship and determine whether the duration of the internship is necessary to accomplish them. Although this determination is not an exact science, courts applying this factor will look to whether the duration of the internship is grossly excessive in comparison to the period of beneficial learning. In other words, the duration of the internship should not exceed the period required for experiential learning so much that it appears as if the employer is taking advantage of the intern.

Factor No. 6: Does the Intern’s Work Complement (Rather Than Displace) the Work of Paid Employees?

The intern’s duties should not replace the work performed by paid employees, but the work also needs to provide significant educational benefits to the intern. Therefore, it is best practice to ensure that the employer does not design the intern’s tasks to reduce the number of employees needed to perform certain functions. However, the employer should still task the intern with performing work that is valuable for his or her experiential learning.

Factor No. 7: Do Both the Employer and the Intern Understand That the Internship Has No Promise of Leading to a Paid Job at the Conclusion of the Internship?

Similar to the DOL factor no. 5, employers applying the primary beneficiary test should also include in the internship agreement an acknowledgement by the intern that he or she understands that there is no promise of a paid position when the internship is complete.

Drafting the Internship Agreement

Once you have conducted the above analysis and determnined that the arrangement qualifies as an unpaid internship under both tests, you should document the unpaid internship arrangement in a written agreement, signed by the company and the unpaid intern, that reinforces satisfaction of all of the above legal factors.

The internship agreement should also lay out the general expectations for the internship program. For example, the company may want to specify the exact dates of the internship, the scope of work, training that will be provided, and the specific goals of the assignment. For further guidance on drafting internship agreements, an Internship Agreement form follows.

Julie M. Capell is a partner in the Los Angeles office of Winston & Strawn LLP. Assistance provided by Jennifer Zhao, an associate in the San Francisco office of Winston & Strawn LLP.

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