The test for classifying employees in California has been in considerable flux since the California Supreme Court’s 2018 decision in Dynamex Operations West v. Superior Court, 4 Cal.5th 903, 964 (2018). Now it is about to change again. In September 2019, Governor Newsome signed Assembly Bill 5 (AB5) into law. The new law changes the standard used to determine whether a person should be classified as an employee or independent contractor.
The stated intent of AB5 is to redefine the term “employee” used in the California Labor Code, Unemployment Insurance Code, and Industrial Welfare Commission’s (IWC’s) wage orders by the test established in the Dynamex case. The law, however, does far more than that.
While AB5 clearly expands the reach of the Dynamex “ABC” test to new areas, it also rolls back the Dynamex ruling by creating numerous exemptions for specified professions and contractual arrangements. Moreover, AB5 attempts to clarify those situations in which the ABC test applies retroactively and prospectively. While employers are understandably weary of change, especially in the aftermath of the earthquake that was Dynamex, AB5 provides some needed clarity that employers should welcome.
AB5 Codifies and Expands the Dynamex “ABC” Test
In Dynamex, the California Supreme Court adopted the ABC test for worker classification for purposes of the IWC wage orders. AB5 expands the ABC test to define whether a person is an employee for not only the IWC wage orders, but also the Labor Code and Unemployment Insurance Code.
The ABC test puts the burden on the hiring entity to establish all three of the test’s stringent elements. As worded in AB5, a person is considered an employee rather than an independent contractor unless the hiring entity establishes all of the following:
(A) The person is free from the control and direction of the hiring entity in connection with the performance of the work, both under the contract for the performance of the work and in fact.
(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 of the same nature as that involved in the work performed.
Part B in particular sets a high bar to demonstrate a worker is properly classified as an independent contractor, and represents a significant additional requirement from the pre-Dynamex standard.
What Was the Standard Before Dynamex Anyway?
Prior to Dynamex, the multi-factor test established in S.G. Borello & Sons, Inc. v. Department of Industrial Relations, 48 Cal.3d 341, 256 (1989), was the predominant standard used to determine whether a worker was an employee or an independent contractor. Unlike the ABC test, not all of the factors had to be met to establish independent contractor status.
The principal factor under Borello was whether the “person to whom service is rendered has the right to control the manner and means of accomplishing the result desired.” The test also included nine additional factors that effectively make up a “smell test” to gauge the principal’s level of control and whether or not the job looks and feels like an employment arrangement.
While the importance of Borello appeared to be waning after the Dynamex decision, it is now important once again: AB5 makes Borello, not the ABC test, the standard for determining classification for a number of professions and contractual arrangements. This is notable because Borello is more forgiving to employers seeking to show workers are properly classified as independent contractors. It is also more predictable due to the years of case law fleshing out the test.
Exemptions to the ABC Test Under AB5
Professionals: Like much legislation, AB5 was the product of extensive lobbying efforts by industry groups. Under the law, the following professions are governed by the Borello standard rather than the ABC test:
- A person or organization licensed by the Department of Insurance.
- A physician and surgeon, dentist, podiatrist, psychologist, or veterinarian licensed by the State of California performing professional or medical services provided to or by a health care entity, including an entity organized as a sole proprietorship, partnership, or professional corporation as defined in Section 13401 of the Corporations Code.
- Private investigators
- Securities broker-dealers, investment advisers, and their agents and representatives that are registered with the Securities and Exchange Commission (SEC) or Financial Industry Regulatory Authority (FINRA) or licensed by the State of California.
- A direct sales salesperson, subject to conditions in Section 650 of the Unemployment Insurance Code.
- A commercial fisherman working on an American vessel.
Professional Services Contracts: Borello, not the ABC test, governs whether a person providing “professional services” under a contract is an employee or independent contractor, provided that certain criteria are met. These criteria include the individual’s maintenance of a separate business location and the ability to set their own hours. “Professional services” generally means services for the following (again, provided that all the specific criteria are met):
- Administrator of human resources
- Travel agent
- Graphic design
- Grant writer
- Fine artist
- Certain tax professionals
- Payment processing agents
- Still photographers and photojournalists
- Freelance writers, editors, or newspaper cartoonists
- Licensed estheticians, electronolgists, manicurist, barbers, or cosmotologists
Real Estate Licenses: Under AB5, the ABC test does not apply to real estate licensees and license repossession agencies, which are governed by the Business and Professions Code.
Business-to-Business Contracting Relationships: A notable provision in AB5 is the carve-out for business-to-business relationships. If a business entity formed as a sole proprietorship, partnership, limited liability company, limited liability partnership, or corporation (“business service provider”) enters into a contract to provide services to another such business (“contracting business”), the determination of employee or independent contractor status of the business services provider is governed by Borello. In order to meet this exemption, the contracting business must also establish that it meets a list of 12 factors. While a detailed discussion of these factors is beyond the scope of this article, a few notable ones are that the contract must be in writing, the business service provider must have a separate office location, and the business service provider must actually contract with multiple businesses for the same services.
Subcontracts in the Construction Industry: AB5 also contains an exemption for work performed for a contractor pursuant to a subcontract in the construction industry, provided a number of criteria are met.
Other Exemptions: While the main exemptions to the ABC test are discussed above, there are certainly others which hiring entities should review and consider as part of hiring workers as independent contractors or employees.
Various aspects of AB5 take effect in different ways.
First, if the exemptions to the ABC test discussed above would relieve an employer of liability—e.g., because Borello is more lenient than AB5—the bill applies retroactively.
Second, similarly, the bill generally applies retroactively to situations where it is deemed declaratory of existing law with regard to IWC wage orders and provisions of the Labor Code related to the wage orders. This is in line with the holdings of many cases that have already opined on the retroactivity of the ABC test under the Dynamex decision.
Third, with respect to all other provisions of the Labor Code, most provisions of the bill relating to the ABC test do not go into effect until January 1, 2020.
Prevention of Reclassification and New Enforcement Powers
AB5 specifically prohibits an employer from reclassifying a person who was an employee on January 1, 2019, to an independent contractor due to the bill’s enactment.
The bill gives new enforcement powers to city attorneys in certain situations to bring actions against hiring entities for violating AB5. The effect of this provision remains to be seen, as private enforcement will likely be the rule, and because existing laws (e.g., Senate Bill 549) already give government agencies power to penalize employers for misclassification.
As the sequel to Dynamex, AB5 significantly impacts the labor and employment landscape in California. AB5 not only expands the Dynamex ABC test, but it also revives the Borello standard in many areas.
 These factors are as follows:
- right to discharge at will, without cause;
- whether the one performing the services is engaged in a distinct occupation or business;
- the kind of occupation, with reference to whether, in the locality, the work is usually done under the direction of the principal or by a specialist without supervision;
- the skill required in the particular occupation;
- whether the principal or the worker supplies the instrumentalities, tools, and the place of work for the person doing the work;
- the length of time for which the services are to be performed;
- the method of payment, whether by the time or by the job;
- whether or not the work is part of the regular business of the principal; and
- whether or not the parties believe they are creating a relationship of employer-employee.”