NEW STATUTE IN CALIFORNIA IMPOSES NEW RULES FOR ASSESSING INDEPENDENT CONTRACTOR STATUS
Posted: November 12, 2019 | News
Will California soon see big-rig trucks and ride-share cars on the market, as former independent contractors shut down their businesses because they cannot convert to “employee” status? If so, the cause would be California legislature’s, sweeping new law that reshapes how businesses classify workers.
On September 11, 2019, the legislature approved AB 5, a controversial new law that codified and expanded the controversial “ABC text” set forth in Dynamex Operations West, Inc. v. Superior Court (“Dynamex”) for determining whether to classify workers as “employees” or “independent contractors.” The governor signed the bill on September 18, 2019 and it goes into effect January 1, 2020. The law will make it vastly more difficult for California businesses to classify works in California as independent contractors. And, the law also will significantly affect business-to-business arrangements, as businesses may become liable to employees of their vendors, even vendors that are major and established businesses. The implications and financial impact on California businesses is enormous.
CONTEXT and HISTORY
The new law is the second act in this unfolding drama. In April 2018, the California Supreme Court handed down a revolutionary ruling that brushed away its own, long-standing decision for classifying workers and established the so-called “ABC test” for determining independent contractor status. Discarding the traditional, multi-factor balancing test for determining whether a person was an employee or independent contractor, Dynamex held that a worker is an employee under the state Wage Orders, unless the hiring concern proves all three prongs:
- A. The worker is free from the control and direction of the hiring concern in connection with the performance of the work, both under the contract for the work and in fact;
- B. The worker performs work that is outside the usual course of the hiring concern’s business; and
- C. The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed for the hiring concern.
The ruling placed an affirmative burden on a business entity to prove that independent contractors were classified correctly. For the past year and a half however, confusion reigned among California businesses as to, among other things, the scope of the ruling, its applicability to other state laws, and whether it was retroactive.
NEW STATUTE CODIFIES BUT SIGNIFCANTLY EXCEEDS DYNAMEX IN SCOPE
Beginning January 1, 2020, with retroactivity effective as of this date, California businesses
will find the burden of proof and legal requirements raised to new standards by AB 5. Unless they obtain an exemption from the California legislature, as of that date business will have to comply with the ABC test. Further, applied retroactively, under AB 5 a hiring entity can be held monetarily liable for classifying workers as independent contractors prior to January 1, 2020, if those persons fail to meet the new ABC test, even if the workers had been properly classified under the old rules. The financial impact on California businesses and other hiring entities could be enormous.
First, and practically speaking, factor (B) will probably be the most difficult for a business to prove and businesses should pay particular attention. Businesses must prove that the service provided is outside the scope of the hiring entity’s normal course of business. Without being able to prove this difficult-to-prove factor, a worker will be considered the business’ employee, not an independent contractor. For example, a health club provides personal trainers to train new members in fitness techniques. The club may be unable to argue that its personal trainers were independent contractors because the club exists to provide fitness and fitness instruction. On the other hand, if the club hires someone to perform its tax preparation services, such services fall outside the scope of the club’s business offerings to the public, and so these services would likely be able to pass the “B” test.
Second, the new law is far broader than the judicial ruling it was intended to codify. Dynamex applied only to state Wage Orders. Liability, therefore, extended only to minimum wage, overtime, rest breaks, and overtime. Under AB 5, however, workers who are determined to be classified incorrectly under the new statute will enjoy eligibility for unemployment insurance, paid sick days, state family leave, workers compensation coverage, and certain other benefits.
Furthermore, workers statewide by the millions, now re-classified as “employees,” will receive expanded protection of civil rights laws, such as laws prohibiting discrimination and retaliation. This is a protection that they were not afforded under their former status as “independent contractor.”
Leading up to the passage of AB 5, a flurry of groups lobbied for exemptions from the ABC test and other requirements of AB 5. A number occupations and professions were successful in winning exemptions, in whole or in part, including lawyers, doctors, dentists, veterinarians, podiatrists, HR administrators, psychologists, engineers, stock brokers, investment advisors, direct sellers, real estate agents, hairstylists, barbers, commercial fisherman, graphic designers, grant writers, fine artists, marketing professionals, and sales persons. However, their pay must be based on actual sales rather than wholesale purchase or referrals.
Additional carve-outs may be added in the future, and indeed, it is difficult to find a California industry that is not lobbying for a future carve-out.
The implications for California businesses also extend to potential liability to the employees of their vendors. A vendor’s employees may be able to claim they are also employees of the “contracting business” under the ABC test, unless the contracting business is able to satisfy twelve different requirements specified in the law. This follows because a contracting vendor now must prove, among other requirements, that the vendor whom they hire actually provides the same or similar services to other clients, and, that the vendor provides services directly to the business, not to the business’ customers. Further, AB 5 requires, among other things, that the vendor advertise its services to the public.
WHAT SHOULD BUSINESSES DO?
Businesses that do business in California should immediately assess their relationship with workers to assure proper classification and analyze their relationships to assess compliance. A misclassification can result in significant liability exposure for wage and hour liability, workers’ compensation, benefits coverage, unemployment compensation, and more. Workers who should be re-classified as employees may have protection under state civil rights laws, and steps should be taken to implement compliance policies and training for such laws.
More fundamentally, all business that engage contract workers should think carefully about whether to restructure operations to assure they can and do comply with the ABC test, or restructure working relationships to classify workers as employees.
All the above decisions involve technical, business, financial and legal issues on a case-by-case basis. Legal counsel should be sought to ensure compliance and to make sure all issues are identified.
The attorneys at North, Nash & Abendroth LLP have considerable experience in all these and related issues. Please contact us at 949-752-2230 to learn more about this new and evolving legislation may affect your business.