Governor Newsom Signs AB-5 Into Law, Altering the Legal Landscape for Businesses That Work with Independent Contractors

On September 18, 2019, Governor Gavin Newsom signed into law AB-5, sweeping legislation that will affect the proper employment classification of over a million California workers who currently work as independent contractors. AB-5 codifies and expands the California Supreme Court’s decision in Dynamex Operations West, Inc. v. Superior Court of Los Angeles, 4 Cal.5th 903 (2018), which adopted the “ABC test” in holding that a company classifying an individual as an independent contractor bears the burden of justifying that individual’s independent contractor classification.

Under the ABC test (under both Dynamex and AB-5) a person will be considered an independent contractor only if the hiring entity can prove all three 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.

The Dynamex decision was limited to determining the proper employment classification under California’s Wage Orders, which governs things like overtime pay, and meal and rest breaks. AB-5 significantly expands on this, making the ABC test determinative when assessing any provisions of California’s Labor Code and Unemployment Insurance Code, as well as California’s Wage Orders.

Exempted Occupations and Business Relationships

AB-5 exempts the following occupations and business relationships from application of the ABC test:

• Insurance agents
• Physicians, surgeons, dentists, podiatrists, and psychologists
• Veterinarians
• Licensed lawyers, architects, private investigators, accountants and engineers
• Securities broker-dealers or investment advisers, who are registered with the SEC, FIRA or licensed by California
• Direct sales salespersons
• Commercial fishermen working on an American vessel
• Licensed real estate agents
• Repossession agencies
• Hair stylists, barbers, estheticians, cosmetologists, electrologists and manicurists, subject to narrow circumstances
• Marketing, but the marketing work must be original and creative in character
• Registered, or exempt from registration, travel agents
• Graphic designers
• Grant writers
• Fine artists
• Enrolled agents licensed to practice before the IRS
• Payment processing agents through independent sales organizations
• Repossession agencies
• Human resources administration, but the work must be predominantly intellectual, varied in character and cannot be standardized in relation to a given period of time
• Photographers and photojournalists (35 submissions or less per year, and not applicable for motion picture industry, live shows, music videos, broadcast news, or commercial productions)
• Freelance writers, editors and newspaper cartoonists (35 submissions or less per year)
• Motor club service providers
• Construction contractor/subcontractor relationships if certain conditions are met
• Construction trucking services if certain conditions are met

AB-5 also exempts certain “business-to-business” contracts for two businesses that contract for services if certain conditions are met. To be exempt from the ABC test, the “business service provider” (i.e., the hired business entity) must:

• Be free from the control and direction of the contracting business with the performance of the work
• Provide services directly to the contracting business, and not to the contracting business’s customers and clients
• Maintain its own business location
• Be customarily engaged in an independently established business of the same nature as that involved in the work performed
• Contract with other businesses to provide the same or similar services, and maintain a clientele without restrictions from the hiring entity
• Advertise and hold itself out to the public as available to provide the same or similar services
• Provide its own tools, vehicles and equipment
• Be able to negotiate its own rates
• Set its own hours and location of work consistent with the nature of the work
• Not perform the type of work for which a contractor’s license is required

AB-5 also exempts relationships between referral agencies and “service providers” who provide services in graphic design, photography, tutoring, event planning, minor home repair, moving, home cleaning, errands, furniture assembly, animal services, dog walking, dog grooming, web design, picture hanging, pool cleaning, and yard cleanup, if additional conditions are met.

The fact that the ABC test does not apply to the above occupations and business relationships does not mean that workers in those fields automatically qualify as independent contractors. Rather, AB-5 provides that the proper test for determining independent contractor status for these workers shall be governed by the California Supreme Court’s multi-factor test set forth in S. G. Borello & Sons, Inc. v. Department of Industrial Relations, 48 Cal.3d 341 (1989).

AB-5 Takes Effect on January 1, 2020

AB-5 provides that it does not constitute a change in law with regard to the Dynamex decision’s application to California’s Wage Orders, meaning that the ABC test currently applies to claims for things like overtime and meal and rest breaks. Insofar as AB-5’s provisions regarding exempted occupations and business relationships would relieve an employer from liability, the law provides that those provisions shall apply retroactively to existing claims to the maximum extent permitted by law. All other provisions of AB-5 will apply to work performed on or after January 1, 2020.

What Does AB-5 Mean for Employers?

California businesses that work with independent contractors must carefully evaluate their independent contractor relationships to determine if individuals should be properly classified as employees. Failure to properly classify employees can result in significant legal liability. Employers that work with independent contractors who are actually employees under the ABC test will have to decide whether to convert the workers to employee status, sever ties with the worker, or maintain the status quo and hope for the best.

When converting workers to employees, employers must ensure that they comply with all applicable employment laws, including those governing overtime, meal and rest breaks, wage statements, reimbursement of expenses, and sick leave, as well as California’s anti-discrimination laws and laws governing reasonable accommodation and mandated leaves of absence.

While a written independent contractor agreement is not determinative of a bona fide independent contractor relationship, these agreements should be updated to reflect compliance with AB-5.