United States: California Passes Landmark Employment Legislation Redefining Employee Versus Independent Contractor

Last Updated: September 26 2019
Article by Duane Morris

The California Legislature on September 11, 2019, enacted AB-5, a landmark bill in employment law regarding the classification of workers as employees or independent contractors that has significant implications for California businesses. Governor Gavin Newsom has pledged to sign the legislation.

A recent study by the UC Berkeley Labor Center estimated there are roughly 3 million independent contractors in California—approximately 1.5 million workers whose primary income comes from independent contracting work, and an equal number who supplement their income as independent contractors. Independent contracting in California exists among many occupations and among all 11 major industry sectors.

Below, we first briefly describe the key elements of AB-5 and then note the options now available to California companies in worker classification.

AB-5 Sets New Guidelines for Classifying Workers as Employees or Independent Contractors

AB-5 follows the 2018 California State Supreme Court decision in Dynamex Operations West. In Dynamex, the court revised the test for worker classification, adopting a so-called "ABC" test that makes it more difficult for employers to classify workers as independent contractors. The main change: To qualify as an independent contractor, the worker must be performing work that is outside the usual course of the employer's business. AB-5 codifies the Dynamex test, with two main areas of amendment:

  1. Nearly 20 major occupations are set out as exempt from the Dynamex tests and held to the previous Borello standard—a standard that provided greater flexibility for businesses seeking to classify workers as independent contractors. Among the exemptions for the continued use of independent contractors: professionals in marketing and human resources; graphic designers, grant writers, photojournalists and freelance writers; and licensed attorneys, accountants and engineers.
  2. A general exemption is provided for "business-to-business" contracting, but only if the business service contractor and provider meet a number of criteria. Among these criteria is the requirement that the business service provider is providing services directly to the contracting business, rather than to customers of the contracting business.

Options for California Companies Going Forward

Media reports on AB-5's passage suggested that the bill largely eliminated the use of independent contractors in California. This is far from the case. Independent contracting will continue to play a role in the California economy. Here are three main guidelines for companies to follow in approaching the new structure of classification.

1. Worker classification will be highly fact-specific: AB-5 sets up a complex new structure of employment arrangements—even most of the exemptions contain qualifying requirements. Classifying workers going forward will start with the general AB-5 tests, but will be based mainly on the individual details of each worker arrangement.

2. Companies may need to reclassify workers in some cases, but will be able to alter work structures in others: In some cases, companies will need to reclassify independent contractors as employees. In other cases, companies will be able to alter work structures and arrangements to meet AB-5 requirements. Throughout California's industry sectors, it is not only companies that prefer independent contracting at times, but also workers. Since the AB-5 battle became publicized, workers currently operating in a wide range of occupations have come forward to indicate their preference for the independent contracting arrangement. Preference alone, of course, is not sufficient, but it can be an element in restructuring arrangements to meet AB-5 guidelines.

3. The AB-5 system will continue to evolve: The passage of AB-5 is not the end of the process. Even legislators who voted for AB-5 indicated that they plan to revisit certain occupations, such as truck driving, that were not included in the exemptions. The on-demand, app-based platform companies have indicated that they may put an initiative on the ballot in 2020 to create a new category of workers beyond employees and independent contractors. Perhaps most importantly, AB-5 was silent on the issue of retroactivity, beyond blocking the retroactive application for the occupations singled out for exemption. The Dynamex decision does not address retroactivity, and California business groups have indicated that they will continue advocacy for explicit legislative direction to block retroactive application in the legislative session starting in January 2020.

Finally, AB-5 does not take effect until January 2020. We suggest careful review of all work categories performed by your independent contractors to evaluate the relationship in light of the new law.

For Further Information

If you have any questions about this Alert or the process and work duty changes needed to comply with AB-5, please contact any of the attorneys in our Employment, Labor, Benefits and Immigration Practice Group, or the attorney in the firm with whom you are regularly in contact.

Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.

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