Governor Newsom is expected to sign a bill that may have far-reaching impact on employers who classify and use independent contractors. Assembly Bill [“AB”] 5, recently passed in the state Legislature, was drafted in response to the California Supreme Court’s 2018 decision in Dynamex Operations West, Inc. v. Superior Court (2018) 4 Cal. 5th 903 [“Dynamex”]. Dynamex created a three-part test (known as the “ABC test”) for determining whether to classify a worker as an independent contractor or an employee for purposes of California’s Industrial Welfare Commission [“IWC”] wage orders.

AB 5 codifies the “ABC test” set forth in Dynamex as to the IWC wage orders, but also goes further by expanding the application of the ABC test to the Labor and Unemployment Insurance Codes. Specifically, AB 5 provides that, where the term “employee” is not otherwise defined, a person who provides labor or services for remuneration will be considered an employee and not an independent contractor unless:

  1. the hiring entity can establish the person is free from the control and direction of the entity relating to the performance of the work;
  2. the person performs work outside the usual course of the hiring entity’s business; and
  3. the person is customarily engaged in an independently established trade, occupation or business.

The bill further provides that if a court of law rules that the aforementioned ABC test cannot be applied in a particular context based on grounds other than an express exception set forth in AB 5, then the determination of employee or independent contractor status shall instead be governed by the multi-factor test set forth by the California Supreme Court in S. G. Borello & Sons, Inc. v. Department of Industrial Relations (1989) 48 Cal.3d 341 (Borello).

Moreover, AB 5 carves out exceptions to the ABC test for certain occupations and business relationships, and provides that the Borello test (not the ABC test) applies to the following:

  • Licensed insurance brokers;
  • Licensed physicians and surgeons, dentists, podiatrists, psychologists, veterinarians, provided that no collective bargaining agreement applies;
  • Lawyers;
  • Architects;
  • Engineers;
  • Private investigators;
  • Accountants;
  • Registered securities broker-dealers, investment advisors, or their agents and advisors;
  • Direct salespeople, provided that the salesperson’s compensation is based on actual sales, rather than wholesale purchases or referrals;
  • Commercial fisherman as of January 1, 2023 (except as to unemployment insurance benefits);
  • Real estate licensees and repossession agents.
  • Relationships between a contracting business and a business service provider if certain criteria is satisfied;
  • Construction contracts between a general and subcontractor if certain criteria is satisfied;
  • Relationships between a service provider and referral agency if certain criteria is satisfied;
  • Relationships between a motor club holding a certificate of authority and an individual performing services pursuant to a contract between the motor club and a third party to provide motor club services utilizing the employees and vehicles of the third party, if certain criteria is satisfied.

Notably, AB 5 makes clear that codification of the ABC test is not a change in law, but rather declaratory of existing law, and therefore has retroactive effect to existing claims to the extent permitted by law.

The bill was designed to protect workers by guarding against misclassification of workers as independent contractors. For example, independent contractors are not covered by laws providing for basic employment protections, such as minimum wage, overtime, meal periods, rest periods, sick pay, unemployment and disability insurance, and workers’ compensation, to name a few. Moreover, businesses that contract with independent contractors do not contribute to social security and Medicare on their behalves.

If signed by the Governor, AB 5 will impact any business that relies on the services of independent contractors, and most significantly businesses who use independent contractors as a key part of their business model. The gig economy, including ride-hailing companies, will be heavily impacted, and some are already working toward a ballot initiative that would carve them out of AB 5.

If the bill is signed, AB 5 will become effective on January 1, 2020. Moreover, beginning on July 1, 2020, any individual who is an employee as defined in the criteria set forth in AB 5 must be covered by workers’ compensation insurance.