Have Independent Contractors in California? You May Need to Rethink That.

Photo Credit: iStock.com/utah778

Written by Jeremy Mittman, Jeffrey Davine, Robert Lowe, and Susan Kohn Ross

On September 18, 2019, California Governor Gavin Newsom signed into law A.B. 5, codifying the “ABC test” adopted in the California Supreme Court decision, Dynamex (see, e.g. prior posts here, here, and here) and ensuring that most California workers should appropriately be classified as employees instead of independent contractors.  The bill goes into effect January 1, 2020.

Though supporters state that the bill is aimed primarily at the so-called “gig economy,” in reality A.B. 5 affects virtually every type of business in California.

Prior to Dynamex, courts used the Borello “economic realities test,” which allowed for more workers to be classified as “independent contractors.”  However, under Dynamex’s “ABC test,” any worker is considered an “employee” unless:

  • the worker is free from the hiring entity’s control regarding work performance;
  • the worker performs work outside the hiring entity’s usual course of business; and
  • the worker is engaged in an independent trade, occupation, or business of the same nature as the work performed.

Previous court rulings had limited the application of Dynamex to lawsuits alleging violations of Industrial Welfare Commission’s Wage Orders, including overtime requirements for non-exempt workers.  But A.B. 5 expands the scope of the Dynamex “ABC test” to all other provisions of the California Labor Code, as well as unemployment insurance claims.  A.B. 5 also empowers California prosecutors, including the Attorney General, to seek injunctions forcing employers to reclassify workers as “employees” consistent with the “ABC test.”

The law exempts certain industries and occupations, including certain medical professionals, lawyers, architects, engineers, private investigators, accountants, construction subcontractors, insurance agents, architects, barbers, cosmetologists, and securities broker-dealers.  The test for whether those workers will be considered “employees” will remain the Borello “economic realities test,” which focuses on whether the worker controls the manner and means of performing the work to be done.

Courts apply the Dynamex “ABC test” retroactively for Wage Order claims, meaning some employers may already be liable for, e.g. unpaid overtime.  But employers should reevaluate workers classified as “independent contractors” before the January 1, 2020 deadline to limit liability for other Labor Code violations.

International Trade Considerations

For those in international trade, the most immediate impact will be on truckers. The history is well-known. It took a decision of the U.S. Supreme Court in 2013 to overturn attempts by the City of Los Angeles to require actions on the part of trucking operators that, in effect, would have turned their drivers into employees. In that case, the Federal Aviation Administration Authorization Act of 1994 (FAAAA) was successfully invoked. The expectation is this new law will be subjected to a similar legal challenge on the same ground – the FAAAA gives the federal government, not the states, regulatory authority over interstate trucking.  Whether the lower court will suspend application of this new law pending conclusion of the legal process, remains to be seen.  If not, trucking operators will find themselves in the same position as many other companies. They will find they cannot meet the (b) requirement –  the workers are performing work which is part of the hiring entity’s usual course of business. That having been said, all companies should carefully review those on their books designated independent contractors. Will they continue to qualify as such, given this change in the law?

Tax Considerations

A.B. 5 also changes the definition of “employee” (to the ABC test articulated in Dynamex) for purposes of the California Unemployment Insurance Code (the “CUIC”).  This has important tax consequences.  The CUIC contains the income and employment tax withholding requirements that apply to compensation paid to employees who are providing services in California.  As a result, A.B. 5 may require employers in California to withhold (and remit) income and employment taxes with respect to compensation paid to workers who are deemed to be employees as a result of A.B. 5.  Employers could, therefore, find themselves in the unusual position of having to withhold California income and employment for workers (because they are employees pursuant to the ABC test) but not having to withhold federal income or employment taxes with respect to these same workers (because they may continue to be treated as independent contractors under federal law).  We anticipate that the California Employment Development Department will issue guidance in the near future as to how this somewhat bizarre situation should be handled.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s