Keenan Briefings

Briefings

AB 5: Codifies and Expands Application of the ABC Test Effective January 1, 2020

November 15, 2019

The classification of independent contractors has long been a contentious legal issue. On April 30, 2018, the California Supreme Court issued a unanimous decision in Dynamex Operations West, Inc. v. Superior Court of Los Angeles (2018) 4 Cal.5th 903 (Dynamex), which created a new test for determining whether a worker is properly classified as an independent contractor. This test was subsequently codified and expanded when Governor Newsom signed into law AB 5 (Chapter 296, Statutes of 2019) on September 18, 2019.

Background

In California, the Industrial Welfare Commission (IWC) issues industry-specific wage orders that set the wages, hours and working conditions of employees. These wage orders have the force of regulations and are enforced by the Division of Labor Standards Enforcement (DLSE).

The Dynamex decision requires, for the purposes of IWC wage orders, that a worker is considered an independent contractor if the following conditions are met:

  1. The worker is free from the control and direction of the hirer in connection with the performance of the work, both under the contract for the performance of such work and in fact;
  2. The worker performs work that is outside the usual course of the hiring entity’s business; and
  3. The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed.

This is known as the “ABC test.” Under previous case law, most notably the prior decision in S.G. Borello & Sons, Inc. v. Dep't of Indus. Relations (Borello), 48 Cal. 3d 341 (1989), the primary test of an employment relationship was whether the person to whom service was rendered has the right to control the manner and means of accomplishing the result desired. The ABC test is a much stricter test which makes it significantly more difficult for many employers to classify certain workers as independent contractors.

AB 5 Changes

AB 5 codifies and expands the application of the ABC test under California law. It provides that, for the purposes of the Labor Code and Unemployment Insurance Code and the IWC’s wage orders, a worker must be considered an employee unless the employer demonstrates that the worker is a contractor under the ABC test. AB 5 is effective January 1, 2020, but the statute also states that it is “declaratory of existing law” with regard to IWC wage orders and Labor Code violations, which indicates that the Legislature intended the law to be retroactive in those respects. The ABC test will also apply for purposes of unemployment insurance (as of January 1, 2020) and workers’ compensation (as of July 1, 2020). Employers are prohibited from reclassifying any individuals who were employees as of January 1, 2019 as independent contractors due to the enactment of this law.

Exemptions

AB 5 contains numerous exemptions from the ABC test, and each is subject to a different complex set of requirements. What follows is not the complete set of exemptions, but those that may cover certain workers at schools, colleges, municipalities, hospitals and healthcare providers.

  1. Licensed professional exemptions: AB 5 exempts from the ABC test medical providers (physicians and surgeons, dentists, podiatrists, and psychologists not covered by a collective bargaining agreement), brokers, lawyers, architects, engineers, private investigators, veterinarians, and accountants. For these licensed workers, the Borello test would be used to determine independent contractor status, unless there is a specific statutory provision that defines employment for that profession.
  2. Professional contracts: The Borello test applies to professional contracts provided that the contractor maintains a location separate from the hiring entity, has a business license, and has the ability to set or negotiate their fee. The professional contractor must customarily be engaged or holding themselves out for work of the same type with other hiring entities. They must also customarily and regularly exercise discretion and independent judgment in the performance of the services provided. “Professional services” are defined to include marketing, administration of human resources, grant writing, graphic design and freelance writing and photography (so long as the writer or photographer does not license content to the hiring organization more than 35 times a year) as well as other specified services.
  3. Business service providers: The Borello test applies to contracts between a business and a business service provider if the following criteria are met:
    • The business service provider is free from the control and direction of the contracting business entity in connection with the performance of the work.
    • The business service provider is providing services to the contracting business rather than to customers of the contracting business.
    • The contract is in writing.
    • The business service provider has obtained the required business license or business tax registration for the jurisdiction in which the work is performed.
    • The business service provider maintains a business location that is separate from the business or work location of the contracting business.
    • The business service provider is customarily engaged in an independently established business of the same nature as that is involved in the work performed.
    • The business service provider actually contracts with other businesses to provide the same or similar services and maintains a clientele without restrictions from the hiring entity.
    • The business service provider advertises and holds itself out to the public as available to provide the same or similar services.
    • The business service provider provides its own tools, vehicles, and equipment to perform the services.
    • The business service provider can negotiate its own rates.
    • Consistent with the nature of the work, the business service provider can set its own hours and location of work.
    • The business service provider is not performing the type of work for which a license from the Contractors State License Board (CSLB) is required.

Next Steps

Employers should examine how they have classified employees and determine whether there are contractors that should be reclassified as employees under AB 5. Employers that have questions as to how they are classifying independent contractors should consult their labor and employment counsel as soon as possible. If there are workers that should be re-classified as employees, human resources and payroll departments should be given time to make the changes necessary to accomplish this. Furthermore, self-insured employers and members of the PIPS Program for workers’ compensation should begin including the payroll of these employees as they report estimated payroll for the upcoming 2020/2021 program year. For employers in other types of programs (high deductible, fully insured, etc.), they should report these employees’ payroll to their carriers immediately after January 1, 2020.

If you have any questions regarding payroll reporting requirements, please contact your Keenan Account Manager.