Employment Law: Significant Changes to Independent Contractor Classification in California

One of the most common questions that California employment attorneys are asked is whether a worker should or can be considered an independent contractor, rather than an employee. Until very recently, the analysis was quite subjective, even arbitrary, some may say, and was fraught with peril; reason being, a misstep in this arena carries significant financial implications for employers. However, the law as we knew it took a dramatic turn on April 30, 2018, when the California Supreme Court handed down its monumental decision in Dynamex Operations West, Inc. v. Superior Court. Some employment attorneys have labeled the decision “Contractor Apocalypse” or “The End of California Independent Contractors.” While certainly a significant ruling, the decision in Dynamex (pronounced die-NAM-ix) is not as catastrophic or definitive as some of our colleagues may suggest. Rather, California employers now have greater clarity and more of a “bright line” to measure its workers’ duties and obligations. The decision also reflects an element of common sense – which was sorely lacking from the previous test.

As part of its ruling in Dynamex, the Supreme Court set forth a new “ABC test” to help inquiring employers understand when, at least according to the California Industrial Welfare Commission wage orders, a worker must be classified as an employee, rather than an independent contractor. As applied, the new test will most certainly result in many (if not most) independent contractor relationships now qualifying as employment relationships under the California wage orders.

Prior to Dynamex, the test of whether a worker was an independent contractor or employee boiled down to whether the principal/business had the “right to control” the work being performed. The more control or direction the business has over the work being performed, the more likely the worker performing that work was an employee. As part of the old standard, there were twenty “secondary factors” that had to be explored to determine just how much control the employer exerted over the work being performed. Moreover, just because the business was able to articulate an argument under the “right to control” test did not necessarily mean that a judge, jury or administrative agency (e.g. California Labor Commissioner or Employment Development Department) would see things the same way. As such, businesses were left guessing – and hoping – that their classifications were correct.

Under the Supreme Court’s new “ABC Test,” the business has the burden of proof on all of the following factors in order to establish that the worker is an independent contractor:

A) That the worker was free from control and direction of the hirer in connection with the performance of the work, both under the contract for performance of such work and in fact; AND,

B) That the worker performed work that is outside the usual course of the hiring entity’s business; AND,

C) That the worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed for the hiring entity.

If the business is unable to prove, through a preponderance of the evidence, that each of the following statements is true and accurate, the worker “defaults” back to an employee and must be afforded all of the protections and privileges of the California wage orders and the California Labor Code (i.e., payment for overtime hours worked, provision of meal and rest periods, protections under the California Workers’ Compensation Act, and withholding of all required federal and state taxes from wages earned).

It is also important to note that the Dynamex ruling incorporates and references many of the examples that were used in the previous “secondary factors” test as support. For example, in evaluating whether a worker is “engaged in an independently established trade, occupation, or business,” the Court discussed that an important element of this test is that the worker has other clients or performs similar work for other businesses in the same or similar industries.

Currently, the Dynamex ruling only applies to violations of the California Wage Orders. However, all indications point to a widespread application of the ABC Test on all issues involving the independent contractor vs. employment relationship standard. Most believe that the change in the law will result in a significant enforcement effort by the statewide administrative agencies, as the number of “misclassified” workers took a sudden leap under the Dynamex standard.

As part of this “clarification” of the law under Dynamex, it is essential to note the retroactive application of the standard. This is not a legislative change, which only has forward-looking effect. Rather, as a clarification of existing law, the “ABC Test” applies dating back to the introduction of the wage orders, some of which were created in 1916!

To provide context for the risks businesses are facing, the following are among the damages available to workers who have been misclassified:

• Economic damages, including unpaid overtime, missed meal and rest period penalties, contribution for the employer’s portion of the state and federal tax liabilities, etc.
  
• Statutory penalties – Labor Code Sections 226.8 and 2753 impose steep penalties on employers who willfully misclassify employees – up to $25,000.00 per worker.
  
• Private Attorneys General Act (PAGA) penalties – for “aggrieved employees” who were misclassified.
  
• Attorneys’ fees – not just to defend against the claim, but also an awardable element of damages to the prevailing employee who establishes a misclassification.

Clearly, the exposure associated with misclassification can be quite substantial. Consequently, employers are strongly encouraged to promptly meet with their qualified employment counsel to discuss the implications, and the application, of the ABC Test to any independent contractors being utilized today. While the Dynamex decision is not necessarily the “Contractor Apocalypse” – failure to address a misclassification issue now could result in apocalyptic results for your business.