On September 18 2019, Governor Gavin Newsom signed into law AB-5, which codified the California Supreme Court’s Dynamex v. Superior Court decision. In Dynamex, the California Supreme Court adopted the so-called “ABC” test to determine coverage under the Industrial Welfare Commission (“IWC”) Wage Orders. AB-5 expands the application of the ABC test to the entire California Labor Code and will take effect on January 1, 2020.

Under the ABC test, anyone that performs a service for another is assumed to be an employee. In order to rebut that assumption, the hiring individual or entity must prove that the worker is an independent contractor by meeting each of the three requirements of the ABC test:

  1. The worker must be free from the control and direction of the hirer in connection with the performance of the work.
  2. The worker must perform work outside the “usual course” of the hirer’s business.
  3. The worker must be customarily engaged in an independent established trade, occupation, or business of the same nature as the work performed.

Practically speaking, the question of whether a worker is an employee or independent contractor is very significant. If a worker is classified as an employee, the employer bears the responsibility of paying social security and payroll taxes, unemployment insurance taxes and state employment taxes, providing worker’s compensation insurance, and of course, complying with the endless labyrinth of state and federal statutes governing the wages, hours, and working conditions of employees. In addition, if a worker is misclassified, the hiring individual or entity could be sued (including on a class or collective basis) for unpaid overtime, unlawful meal periods, unreimbursed business expenses, etc. along with a whole host of derivative claims.

Prong B of the ABC test is particularly troublesome for any business that uses independent contractors to deliver or provide their core product or service, such as those in the so-called “gig economy.” Prong B is essentially a direct challenge to their fundamental business model. That said, the courts will ultimately decide what kind of work is considered “outside the usual course of business,” and some companies (represented by experienced counsel) may be able to persuade judges to draw these lines favorably.

Rather than fight in court, some companies instead chose to successfully lobby California legislators for statutory exemptions under AB-5. AB-5 includes a laundry list of occupational and industry exemptions, including those for doctors, dentists, lawyers, engineers, accountants, architects, realtors, travel agents, graphic designers, human resources administrators, grant writers, marketers, fine artists, investment advisors and broker-dealers. These occupations will remain subject to the traditional common law definition of employment.

If your company uses independent contractors, consult with your legal counsel to determine whether AB-5 creates liability or requires reclassification.