On September 4, 2020, California Governor Gavin Newsome signed Assembly Bill 2257 (“AB 2257”), which exempts additional occupations from being classified as employees under California’s Assembly Bill 5 (“AB 5”) — a landmark statute signed into law September 2019 that fundamentally changed worker classification in the state, especially for “gig economy” workers.
AB 2257 makes it easier for certain additional categories of service providers to be classified as independent contractors by exempting them from the “ABC test” implemented by AB 5, if they can meet certain conditions. The new legislation also extended the business-to-business exemption from the test to some public agencies that may operate as independent contractors. Finally, AB 2257 makes it easier for individuals who have contracted for a single event to be classified as independent contractors.
However, AB 2257 did not make any changes to the provision in AB 5 that most upset California businesses making heavy use of independent contractors: Anyone working for a business will be classified as an employee unless the hiring entity can satisfy the ABC test.
Background on AB 5’s ABC Test
AB 5 codified the ABC test for determining whether a worker must be classified as an employee, a framework that was originally set forth in the landmark California Supreme Court ruling in Dynamex Operations West, Inc. v. Superior Court of Los Angeles (2018).
In codifying the ABC test in the California Labor Code, AB 5 states that every worker in the state is presumed to be an employee unless the hiring entity can establish that the worker meets the following three conditions:
- The worker is not under the hiring entity’s control or direction while performing his or her job.
- The tasks performed by the worker are outside the usual course of business for the hiring entity.
- The worker is engaged in a separate business, occupation, or trade of the same nature as the work performed.
The original Dynamex decision was applied only to wage orders claims in California. However, AB 5 expanded its scope and application to determine a worker’s classification for all provisions of the California Labor Code and the Unemployment Code.
AB 5 Offers Exemptions from the ABC Test
AB 5 makes the ABC test the default method for determining how California businesses should classify their workers. However, AB 5 does exempt many workers in occupations that fall under the umbrella of “professional services,” including those who hold a license and practice as one of the following:
- Private investigators
- Physicians, surgeons, dentists, podiatrist, psychologies or veterinarians
- Insurance brokers
Other notable professional services exemptions are for certain individuals working as:
- freelance writers
- graphic designers
- real estate agents
- certain types of human resources administrators whose work is “predominantly intellectual and varied in character”
- certain marketing services where the contracted work is “original and creative in character” and where the results depend primarily on the “invention, imagination, or talent” of the individual
Borello Test Still Applicable. However, even when a worker has been exempted from classification using the ABC test, most businesses will still need to show their workers are independent contractors using the test set out by the California Supreme Court in its 1989 ruling on S.G. Borello & Sons, Inc. v. Dept. of Industrial Relations. This Borello test is a multi-factor analysis, which considers, among other things, whether work performed by a person is part of the entity’s regular business and the parties’ intent as to the relationship. Nevertheless, the Borello test is an easier and more flexible analysis than the ABC test.
“Business-to-Business” Relationship. Additionally, AB 5 created exceptions to the ABC test for certain business-to-business relationships, such as where one business has contracted to provide services to another if the contracting business can satisfy 12 listed criteria. Those criteria will apply even when the contracting business otherwise qualifies as an independent contractor under the Borello test. While sole proprietors are exempt from the ABC test under this “business-to-business” relationship, individual workers are not.
AB 2257 Expands AB 5’s Professional Services Exemption
AB 2257 added a number of additional professional services exemptions to the ABC test. Those service providers include content contributors, producers, performers who teach only one class a week, appraisers, and home inspectors.
The new legislation also removed some restrictions that AB 5 had placed on exemptions for certain professional services. Under AB 5, freelance writers, editors, photographers, and newspaper cartoonists were exempt only if they made 35 or fewer submissions a year to a hiring entity. AB 2257 removed the cap on submissions.
Finally, AB 2257 exempts some performers and music industry professionals. These are primarily to benefit workers providing services related to the creation, marketing, promotion, or distribution of audio recordings or musical compositions. It also exempts non-musicians who give individual performances of original material, such as comedians, magicians and illusionists, mimes, and puppeteers.
However, as with the other professional services exemptions under AB 5, workers in these professions will still need to satisfy the Borello test.
AB 2257 Expands Business-to-Business Exemption
AB 5 added a business-to-business exemption to the ABC test to cover those instances where the independent contractor working for a hiring entity is a business and not an individual. This applies regardless of whether the contracting business is a sole proprietorship or a partnership, limited liability partnership (LLP), limited liability company (LLC), or incorporated. AB 2257 extended the exemption from the test for independent contractors that are a public agency or a “quasi-public corporation.”
Additionally, AB 2257 added a new business-to-business exemption for individuals who contract to provide services at a “single-engagement event” (such as a concert), so long as the other conditions for claiming the exemption are met.
Penalties for Misclassifications
Businesses that have not already done so need to re-examine how they have classified workers who are paid as independent contractors. The penalties for violating AB 5 can be severe. Employers may be subject to civil penalties of between $5,000 and $15,000 for each “willful misclassification.” They may also be required to pay the back wages of any employees who have been misclassified as employees and subject to additional penalties and fines. If there has been a pattern of misclassifying independent contractors, the penalties can increase to as much as $10,000 to $25,000 per violation.
AB 5 has also expanded the number of state agencies allowed to review a business’s designation of workers as independent contractors. Those agencies now include the California’s Labor Commissioner, Employment Development Department, and Franchise Tax Board. Additionally, the legislation grants California’s attorney general, some city attorneys, and local prosecutors the right to seek injunctions against businesses believed to have misclassified their employees as independent contractors.
Finally, the Labor Code Private Attorneys General Act (PAGA) allows employees to sue their employers for labor code violations. Because AB 5 added the ABC test to the Labor Code, businesses that are found to have misclassified their independent contractors under the test may face private lawsuits brought by the misclassified employees.
AB 5 and the Federal Test for Worker Classification
AB 5 and AB 2257 apply only to workers in California. The federal test used to determine employment status has not changed.
Presumably, an employer could be in a situation where it would need to withhold state employment taxes from a worker’s income, but will not be required to do so for the worker’s federal employment taxes because the worker remains an independent contractor at the federal level.
Next Steps for Businesses Employing Workers in California
As with any new, disruptive pieces of legislation, no one can predict for sure how the courts will interpret AB 5 and AB 2257. It’s also unclear whether these statutes can survive the constitutional and other legal challenges that have been brought by affected businesses.
But given the potentially serious monetary penalties, any business employing workers in California should presume that the law will remain in effect and aggressively enforced – and review its worker classification to ensure that such classification is compliant with AB 5 and AB 2257.
DISCLAIMER: The subject matter discussed above is constantly evolving and may change on a frequent basis. The information contained in this post is for general education and informational purposes only.