California Independent Contractor Law: Everything You Need to Know

The California independent contractor law, known as Assembly Bill 5 (AB5), is a piece of legislation that every employer and worker in California needs to be familiar with.

Businesses use this law, which went into effect on January 1, 2020, to determine if a California worker qualifies as an independent contractor or an employee.

A business may incur significant costs as a result of worker misclassification, including heavy fines, potential wage and hour violation lawsuits, and reputational damage. So, AB5 helps many employers ensure they don’t mistakenly identify those who work for them as independent contractors when they satisfy the requirements of an employee at a time when companies, particularly those operating in the gig economy, are coming under heightened scrutiny for their business practices. 

For employees and independent contractors, Assembly Bill 5 aims to protect them from exploitation and guarantee they’re receiving the full compensation and benefits they’re entitled to.

In this blog post, we’ll examine the specifics of the California independent contractor law and how it affects businesses, freelancers, employees, self-employed people, and other impacted groups.

How Is Someone Classified as an Employee or Independent Contractor Under California Law?

An independent contractor is an individual who works for themselves — for example, a freelance writer or interior designer — providing services to clients in exchange for pay. 

In most instances, these individuals decide their compensation, work schedule and location, projects they work on, and workload.

An employee, on the other hand, is a worker employed by the government, a business, or an individual to perform a particular job for a consistent salary and benefits. In an employer-employee relationship, the employer often sets the employee’s job hours, working conditions, wages, and other factors.

For their freedom, independent contractors give up several rights legally granted to employees, including the entitlement to the minimum wage, overtime pay, health insurance, paid sick leave, workers’ compensation, etc. Additionally, contractors have to handle payroll taxes and other legal matters that a hiring company would typically manage for its employees.

According to California labor laws, if someone hires you to provide labor or a service for which they pay you, it is assumed that you’re working for them as an employee, and it is their responsibility to demonstrate that you’re an independent contractor.

Many recruiting organizations in California use the ABC Test outlined in Assembly Bill 5 to do this.

  • What Is the ABC Test?

The ABC Test consists of three requirements that a worker in California must fulfill before their employer can designate them as an independent contractor. The conditions are:

  • The worker is not subject to control or direction from the employer as they perform their duties. As a result, they have the freedom to set their own work hours, conduct business from any location, and utilize whatever tools and resources they choose to get the job done. Only the quality of the job performed by the independent contractor can be questioned by the hiring company.
  • The worker does work that is outside the normal business operations of the employer. A restaurant hiring a plumber to fix a clogged drainage system on their premises is an example of when labor or services obtained are not in line with what a hiring organization does.

However, a software developer contracted by an IT firm to build software that the firm later sells may not pass as an independent contractor.

  • The worker usually works in an independently formed trade, occupation, or business similar to the task they execute. For instance, a plumber who owns their own plumbing company and is hired to unclog a drainage system would be regarded as an independent contractor.

If a recruiting organization cannot confirm the above three requirements of the ABC Test, the worker they hire is considered an employee, not an independent contractor. 

This means that the employer must abide by all labor regulations that pertain to the employees, including those requiring payment of the minimum wage, overtime pay, and workers’ compensation.

Assembly Bill 5 has been controversial since it became law. While some businesses claim that the law has resulted in job losses and made it harder to designate workers as independent contractors, worker activists claim that the legislation is important to preserve employees’ rights.

The law has been unsuccessfully challenged all the way to the California Supreme Court, and in November 2020, California voters approved Proposition 22 (Prop 22), which exempted gig economy companies like Uber, Lyft, Instacart and Doordash from AB5, which would have required them to classify their workers (who they currently identify as independent contractors) as employees entitled to the minimum wage and other legal protections.

In September 2020, California Governor Gavin Newsom also signed amendments to AB5, exempting more professional services and vocations from the ABC Test, including musicians, physicians, architects, private investigators, dentists, lawyers, licensed barbers, human resource administrators, and photographers. The complete list of exemptions is available here.

The more flexible Borello Test, which was utilized before the ABC Test was developed, is used to categorize the exempted workers as either independent contractors or employees.

What Are the Consequences of Employee Misclassification in California?

Unfortunately, employers frequently misclassify their employees as independent contractors to save on expenses and boost profits because they don’t have to pay contractors the many perks employees receive.

If caught, these employers who knowingly misclassify employees must pay enormous sums of money in fines and lawsuit settlements, and some even go to jail.

As an illustration, the Labor and Workforce Development Agency may impose a civil penalty of $5,000 to $15,000 on an employer for each breach of California labor law if they willfully misclassified employees. An extra $10,000 to $25,000 in fines may be paid if the employer participated in a pattern of intentional worker misclassification.

Even harsher penalties are handed down by the IRS. Any employer that deliberately attempts to avoid any tax under the Internal Revenue Code by misclassifying a worker as an independent contractor could be guilty of a felony, penalized up to $100,000, and jailed for up to five years. 

Employees who have been wrongfully categorized as independent contractors have the right to claim all the perks they would have gotten if they had been properly classed.

So, on top of the above penalties, an employer may have to pay millions of dollars in compensation, including lost work wages, overtime pay, rest break and meal penalties, and other benefits, if they’re successfully sued by workers who were erroneously misclassified as independent contractors. 

Gallagher Krich, APC: Experienced Employment Contract Attorneys

Misclassifying your employees can get you into a lot of trouble as a business owner with the federal and state labor departments.

To avoid legal problems, call Gallagher Krich, APC today, at (858) 926-5797 or fill out our online contact form to book an appointment to go over your workers’ classification. 

One of our experienced employment attorneys will be happy to guide you through the independent contractor analysis process and help you draft contractor agreements that unequivocally show the workers you want to categorize as independent contracts meet the ABC Test or Borello Test requirements to avoid potential litigation.

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