by Rich Herrera
On September 18, 2019, California Governor Gavin Newsom signed into law Assembly Bill 5 (“AB5”) that established new requirements that a business must satisfy to maintain that a worker is an independent contractor for employment purposes. This bill became effective on January 1, 2020. Under AB5, the initial assumption is that most workers are employees; the burden of proof falls on employers to prove that individuals are independent contractors by fulfilling all conditions set forth in what is being referred to as the “three-pronged ABC test.”
Under the ABC test, for a worker to be classified as an independent contractor, the business must prove ALL of the following:
A. The worker is free from the control and direction of the employer “in connection with the performance of the work, from both a ‘practical perspective’ as well as under the contractual agreement between the parties.”
B. The worker performs work that is “outside the usual course of the hiring company’s business”.
C. The worker is “customarily engaged in an independently established trade, occupation, or business of the same nature” as the work performed for the employer.
Failure to prove any one of these conditions is, as of this writing, enough to establish that the worker is an employees as opposed to an independent contractor.
The ABC test is much stricter than previous standards used in California; under the multi-factor Borello test that had been in effect previous to the passage of AB5 it was far easier for businesses to classify workers as independent contractors. As a result, many California companies could be looking at increased costs, risks and exposures. For example, reclassifying workers as employees opens up the possibility for litigation regarding overtime issues. Insurance costs can also be expected to increase as more individuals are eligible for workers’ compensation benefits in case of work-related injuries. These are just some general examples, and should not be taken as an inclusive list of the costs companies will be facing in order to remain AB5 comliant.
A main reason for AB 5 was to address many of the issues arising from “gig economy” that forms an increasing part of many 21st century businesses, such as Uber and DoorDash. However, AB5 has the potential to affect all companies that use independent contractors. As a result, several professions or types of businesses have been granted an exemption from the bill; these include doctors, dentists, insurance agents, lawyers, accountants, real estate agents, hairstylists, and a variety of creative professionals.
It is important to note that even if a general industry has been granted an AB 5 exemption, it does not mean that workers in those industries are automatically assumed to be independent contractors. The aforementioned Borello test will still be applicable to the majority of AB5-exempt businesses. Therefore, documenting the independent contractor arrangement with workers will remain crucial for exempt businesses.
Despite some lingering uncertainty around AB5, businesses should still prepare to adapt to the new regulations. Consulting with legal counsel experienced in employment practice matters will provide an excellent opportunity to review your independent contractor relationships, determine if they are appropriate, and reclassify said relationships if necessary in order to mitigate potential business exposures.
Even though AB5 applies solely to businesses operating in California, lawmakers in other states have expressed interest in passing similar legislation. Consequently, businesses should monitor the implementation and costs of AB5 and consider how similar legislation elsewhere could affect their firms.