California Governor Gavin Newsom signed Assembly Bill 5 (A.B. 5 or AB5) into law on September 18, 2019, and changed the way businesses classify contractors and employees. Reshaping the workforce in California, under this this legislation, many people who were previously classified as “independent contractors” now fall under the “employee” classification. It is a turning point that reclassifies millions of workers and radically changes 30 years of employment classifications. Are you confused if you are classifying employees and contractors correctly? As a business owner or manager, did you know that you are responsible for ensuring that your organization stays compliant with AB5? It’s absolutely critical to ensure accuracy in your workforce classifications to avoid harsh penalties and fines.
Why the need for more laws like AB5? Let's look at Dynamex, an office supply company using a team of employees that were re-classified as independent contractors to deliver everything from printer paper to staples for local businesses. The workers were upset because they lost some benefits of being an employee so they sued ... and won.
Existing law, as established in the Dynamex case creates a presumption that a worker who performs services for a hirer is an employee for purposes of claims for wages and benefits arising under wage orders issued by the Industrial Welfare Commission. Existing law requires a 3-part test, commonly known as the “ABC” test, to establish that a worker is an independent contractor for those purposes.
Who is Exempt from the AB5 law and the ABC test?
While AB5 has specific requirements for worker classifications, there are exemptions for certain types of work.
- Physicians with licenses
- Securities broker-dealers
- Investment advisers
- Real estate licensees
- Particular marketing and human resources professionals
- Licensed manicurists and barbers meeting certain conditions (including setting their rates)
- Private investigators
- Insurance brokers
- Registered professional foresters
- Licensed private investigators
- Certain grant writers
- Certain graphic designers, photographers, and photojournalists
- Freelance writers, editors, and newspaper cartoonists
- Certain salespersons
- Commercial fishermen
- Licensed estheticians, electrologists, and cosmetologists
- Certain musicians and music industry professionals
- Fine artists
- Licensed repossession agencies
- Payment processing agents
- Referral agencies (for certain industries)
- Home inspectors
- Certain educators who teach masterclasses or provide tutoring services
Existing law, for purposes of benefit provisions, requires employers to make contributions with respect to unemployment insurance and disability insurance from the wages paid to their employees. Existing law defines “employee” for those purposes to include, among other individuals, any individual who under the usual common law rules applicable in determining the employer-employee relationship, has the status of an employee.
Alternatively, many small and medium-sized businesses have opted to enlist the services of a Professional Employer Organization (PEO) to make reclassification less burdensome. TEXT US us if you'd like to get set up with a reputable PEO serving your industry or call 1-760-413-9274. CALL US
Two Employer Tips for Navigating AB5Independent contractor misclassifications have been an issue for many years, and AB5 tightens these requirements for employers. Historically, many businesses looked at 1099s from the previous year to see if payments were going to a person with a Social Security number or to a company with a Corporate Tax ID number. Now, it is necessary to look at the person’s work and how central that work is to the value provided by your business. How should you evaluate your current workforce to decide if your workers are being classified appropriately? Here are two tips to help:
Tip #1: Use the ABC Test
The first step is to complete a full analysis of the contractors working for your company. Then, use the ABC test to determine if it’s necessary to reclassify any of these workers. The “ABC Test” starts with the presumption that each worker falls under an employee classification. The following criteria should be used to evaluate if the presumed employees should instead be classified as independent contractors.
In AB5, the Legislature codifies the decision in the Dynamex case and clarify its application. The bill would provide that for purposes of the provisions of the Labor Code, the Unemployment Insurance Code, and the wage orders of the Industrial Welfare Commission, a person providing labor or services for remuneration shall be considered an employee rather than an independent contractor unless the hiring entity demonstrates that:
A. The person is free from the control and direction of the hiring entity in connection with the performance of the work
B. The person performs work that is outside the usual course of the hiring entity’s business
C. The person is customarily engaged in an independently established trade, occupation or business
The 2nd clause of the test is often the most challenging. To meet the criteria for an independent contractor as outlined in the 2nd clause, the worker can’t provide services that are the same or similar to what the business is already providing. For example, suppose you have a plumbing company with independent contractors performing plumbing services. Because the workers are completing tasks that fall within the usual course of business, these workers should be classified as employees - not independent contractors - unless they meet a specific exemption. When employers use independent contractor classifications for workers, it’s the business’s burden to maintain thorough documentation showing that they meet the three requirements listed above.
Tip #2: Understanding Classification Exemptions
Ideally, you should have a lawyer and/or experienced business consultant review your workers’ responsibilities to see which classification is appropriate. Some of these exemptions are broad (such as dentists, doctors, insurance agents, real estate agents, lawyers, and hairstylists), which is why many employers benefit from professional advice on the topic. The nuances of how workers are engaging with the company and the types of services they offer vary from one company to the next. One example is a referral agency. Because they refer people without managing employee responsibilities and tasks, their workers may be exempt from employee classifications. The best approach is to utilize the ABC Test. Then, consult with an experienced provider who understands AB5 to ensure these classifications are correct. If you want to utilize exemptions, it’s easiest to adjust your business model around these exemptions. That means if you are a restoration company, for example, consider removing ancillary services from your packages that require you to outsource labor. That way, occasional projects that utilize services like landscaping to complement core restoration services should be able to maintain exempt status. And as always, make sure each independent contractor has a signed contract that clearly states their exempt or non-exempt status to eliminate any questions about classifications.
If a court rules that the 3-part test cannot be applied, then the determination of employee or independent contractor status will be governed by the test adopted in S. G. Borello & Sons, Inc. v. Department of Industrial Relations (1989) 48 Cal.3d 341 (Borello). The bill would exempt specified occupations from the application of Dynamex as codified in the codes, and would instead provide that these occupations are governed by the Borello Test.
What is the Borello Test?
Exempt occupations in AB5 include, among others, licensed insurance agents, certain licensed health care professionals, registered securities broker-dealers or investment advisers, direct sales salespersons, real estate licensees, commercial fishermen, workers providing licensed barber or cosmetology services, and others performing work under a contract for professional services, with another business entity, or pursuant to a subcontract in the construction industry.
Begin the ABC Test in the form below