How to Operate in California with Independent Contractors After AB5 Bill Is Signed Into Law

The latest version of Assembly Bill 5, which codifies the California Supreme Court’s Dynamex decision that was issued in April 2018, is about to become law.  Dramatically changing decades of settled law in California, Dynamex created a so-called ABC test requiring companies to satisfy each of three strict criteria in order to establish independent contractor status.  Prior to Dynamex, IC status was determined in that state by applying a multi-part test issued three decades earlier by the California Supreme Court in the Borello case, which weighed and balanced a number of factors.  Essentially, Dynamex instantly turned tens of thousands of businesses in scores of industries that were operated for years in compliance with settled law into companies that, overnight, might be operating outside of the law.

Prior to this legislative initiative, referred to as “AB5”, all businesses in California were covered by the Dynamex decision for so-called “wage order” claims.  However, Dynamex did not cover “non-wage order” claims, such as causes of action for overtime and reimbursement of expenses, as we noted in a blog post reporting on a case that delineated which types of claims were covered and which were not by Dynamex.  Thus, AB5 began as a legislative effort to codify Dynamex for both wage order and non-wage order claims (as well as claims under the unemployment and disability benefits laws in California).  But it ended up becoming a lobbying exercise whereby over 50 industries and types of businesses have been exempted from the ABC test in Dynamex. For those companies fortunate enough to have been carved out of the harsh ABC test, AB5 statutorily re-establishes the multi-factor test in Borello for wage and non-wage claims.

Those carved out of AB5 are the following:

  • licensed insurance agents
  • certain professionals (physicians and surgeons, dentists, podiatrists, psychologists, veterinarians, lawyers, architects, engineers, and accountants)
  • broker dealers, investment advisers, direct salespersons, private investigators, and commercial fishermen
  • certain professional service providers that meet all of six specific requirements in the following occupations: marketing contractors, human resources administrators, travel agents, graphic designers, grant writers, fine artists, enrolled tax agents, payment processing agents, still photographers, photojournalists, freelance writers, publication editors, and newspaper cartoonists
  • licensed real estate salespersons, repossession agents, estheticians, electrologists, manicurists, barbers, and cosmetologists
  • business-to-business contractors that meet all of 12 specific requirements
  • selected construction subcontractors and motor club service providers
  • referral agencies connecting clients with service providers that meet all of 10 specific requirements in the following industries: graphic design, photography, tutoring, event planning, minor home repair, moving, home cleaning, errands, furniture assembly, animal services, dog walking, dog grooming, web design, picture hanging, pool cleaning, and yard cleanup

Some of the exemptions will not, however, cover all businesses in a particular industry, especially where the carve-outs include a number of specific requirements, all of which must be met.

Many industries were not granted exemptions even though they are similar to the types of industries that AB5 specifically carved out from having to meet the strict ABC test.  And certain types of gig economy businesses, such as ride-sharing technology companies, were likewise omitted from any relief from Dynamex and are now covered by the ABC test for both wage and non-wage claims.

Operating in California with ICs After AB5

An exemption from AB5 is not a “get-out-of-jail-free” card; those businesses carved out from the Dynamex ABC test must still comply with the multi-factor Borello test.  Many businesses in industries that obtained a carve out will still be governed by the ABC test (and not Borello) if they are unable to satisfy any of up to a dozen specific requirements.  Thus, those businesses that will be covered by Borello need to structure, document, and implement their IC relationships in California consistent with that multi-factor test, which is similar in many ways to most of the varying tests for IC status under the major federal laws and a majority of state laws.

For some companies that will be governed by the Dynamex ABC test in California, establishing all three prongs of the ABC test may be untenable.  But the ABC test may well be interpreted by the courts in California in a manner that legally permits a number of companies to continue to use ICs.  In that regard, few courts have yet to issue decisions applying Dynamex and the Supreme Court of California has yet to apply any of the three prongs in any case.  Therefore, while it will undoubtedly be more challenging now to structure, document, and implement an IC relationship in a business governed by the ABC test in California instead of the multi-factor Borello test, it still can be accomplished by certain types of businesses.  Indeed, California is not the only state with an ABC test – no less than 20 states have variations of that test for IC status, although most of the ABC tests are applicable only for unemployment insurance or workers’ compensation claims.

Many companies that have sought to enhance their compliance with both a multi-factor test and an ABC test have resorted to an enhancement process such as IC Diagnostics™, which elevates a company’s level of compliance with applicable state and federal laws  by restructuring, re-documenting, and re-implementing IC relationships.  This compliance approach can be done in a customized and sustainable manner without changing a company’s business model.

A process such as IC Diagnostics™ also can be utilized in an effort to meet the six specific requirements under AB5 for selected professional service providers, the 12 specific requirements under AB5 for business-to-business contractors, and the 10 specific requirements under AB5 for referral agencies.

Companies that are operating in California and elsewhere with ICs should also  enhance and update their arbitration clauses with class action waivers.  In doing so, they can most effectively limit class and collective action lawsuits, as we discussed in detail in an article published last fall in the Daily Labor Report by Bloomberg Bureau of National Affairs that was then posted on this legal blog.  

Written by Richard Reibstein

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