California Supreme Court Adopts New Definition of Independent Contractor
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Late last month, the California Supreme Court made headlines when it adopted a new test to determine whether a worker should be considered an independent contractor or an employee. This distinction is an important one; California labor law protects the rights of workers deemed to be employees by enforcing wage and hour requirements, and by upholding anti-discrimination laws. Independent contractors are not offered these same protections. Until the Supreme Court adopted this new standard, workers’ employment statuses were determined using the Borello test, which placed the emphasis on which party had the right to control the manner in which the work was completed. Today, and into the future, California hiring organizations will apply the “ABC” test to make this determination.
What is the ABC Test?
The ABC test was modeled after a similar ruling originating in Massachusetts, which is considered to have one of the strictest independent contractor statutes in the country. Under Massachusetts law, all workers are presumed to be employees unless they pass certain stringent tests. Similarly, California will now only consider a worker to be an independent contractor if all three prongs of the ABC test are met:
- The worker is permitted to complete their work free from the hiring company’s control or direction, both in the contract and in fact. (This prong closely mirrors the Borello test.)
- The worker performs work that is outside the usual course of the hiring company’s business.
- The worker performs this particular work in an established trade or business they run themselves.
What Are The Ramifications of This New Test?
The ABC test will make it much more difficult for workers to be classified as independent contractors.
Prongs (A) and (C) of the ABC test are commonly used factors in determining workers’ employment statuses. It is Prong (B) that deviates from precedent. Under this test, a worker can only be considered an independent contractor if they do work that falls outside the usual course of the hiring company’s business. This makes it next to impossible for California businesses to hire freelancers to perform tasks that are central to their mission.
This new ruling will affect almost all industries in California, and it will especially impact companies whose business models rely on a pool of freelancers. Think of Uber, Postmates, or similar online labor platforms that almost exclusively hire independent contractors to run their businesses; their business models may have to change in order to comply with this new Supreme Court ruling.
The Court did allow for a few exceptions. They ruled that the Federal Aviation Administration Authorization Act (FAAAA) preempts Prong (B) of the ABC test so that transportation companies can continue to hire independently contracted drivers. They also ruled that some business-to-business relationships can qualify for independent contractor status.
Why Does Worker Classification Matter?
Worker classification is important because it determines how the state will view the working relationship. Hiring companies often prefer to classify their workers as independent contractors for some of the following reasons:
- To avoid paying employment-related expenses, such as employment taxes, benefits, professional license fees, training fees, and the cost to onboard new workers.
- To have greater flexibility to adjust the workers’ pay, hours worked, and separation dates.
- To explore different workforce structures without committing to a particular one for very long.
Even taking into account the labor protections they would be foregoing, the workers themselves appear to prefer independent contractor classification, as well. They often have more freedom with their schedule, they can negotiate for a better contract, and they can deduct their business expenses, something that most employed workers are unable to do since the passage of the Tax Cuts and Jobs Act. The quickly emerging gig economy proves just how popular independent contractors are: it is estimated that 43% of the workforce will be freelancing by the year 2020.
The ABC test was adopted by the California Supreme Court at the end of April, which means we are just getting our feet wet with this new standard. We expect to see California litigate this particular issue as time goes on, and until we can see how the courts rule, it will be difficult to know how it will impact businesses. Regardless, if you have a concern, we recommend connecting with an employment attorney for further guidance. If you have questions about the potential tax and accounting impact on your company, JLK Rosenberger can help! For additional information call us at 949-860-9902, or click here to contact us. We look forward to speaking with you soon.