New State Supreme Court Decision Requires Employers to Reevaluate Classification of Independent Contractors

The California Supreme Court has held that the standard for determining employee versus independent contractor status is no longer the 11-factor test established by a 1989 ruling known as S.G. Borello & Sons Inc. v. Department of Industrial Relations. Instead, in determining whether workers should be classified as employees or as independent contractors for purposes of California wage orders, the Court held that the definition of “employs” must be interpreted broadly to treat as “employees” all workers who would ordinarily be viewed as working for the hiring business.

In Dynamex Operations West Inc. v. Superior Court of Los Angeles County, two individual delivery drivers sued on behalf of themselves and as a class alleging that their employer, a nationwide package and document delivery company, improperly classified them as independent contractors. The court developed an employee-friendly test for determining whether a worker is an employee or independent contractor. Instead of using the existing broad multifactor balancing test, the Supreme Court adopted the “ABC test,” which presumes that all workers are employees unless the business can prove all of the following elements:

A) The worker is free from the control and direction of the hirer in connection with the performance of the work, both under the contract for the performance of the work and in fact.

B) The worker performs work that is outside the usual course of the hiring entity’s business.

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

This standard, commonly referred to as the “ABC” test, is utilized in other jurisdictions in a variety of contexts to distinguish employees from independent contractors. Under this test, a worker is properly considered an independent contractor to whom a wage order does not apply only if the hiring entity establishes the above factors.

Simple, Straightforward Way To Determine Independent Contractor Status?

While this ABC test appears straightforward, the practical implementation is anything but simple. For example, the “B” factor raises many questions related to how a business is defined. Most businesses are engaged in a variety of different services. But the court noted that “[w]orkers whose roles are most clearly comparable to those of employees include individuals whose services are provided within the usual course of the business of the entity for which the work is performed and thus who would ordinarily be viewed by others as working in the hiring entity’s business and not as working, instead, in the worker’s own independent business.”

The court then went on to provide several clear examples of such persons, including a plumber who repairs a leak at a retail store or electricians who have been traditionally categorized as “genuine independent contractors who are working only in their own independent business.”

Additionally, factor “C” requires that the independent contractor be customarily engaged in an independently established trade, occupation or business. Thus, entities that use independent contractors run the risk of steep penalties unless the purported independent contractor has taken the usual steps to establish and promote his or her independent business – for example through incorporation, licensure, advertisement, routine offerings to provide the services of the independent business to the public or to a number of potential customers, and the like.” (See Curry v. Equilon Enterprises, LLC (2018) 22 Cal.App.5th 772, opinion rendered weeks after the Dynamex opinion).

Under both California and federal law, the question of whether an individual worker should properly be classified as an employee or, instead, as an independent contractor, has considerable significance for all parties. In recent years, regulatory agencies such as the IRS, California’s Franchise Tax Board and the Labor Commissioner have declared that the misclassification of workers as independent contractors rather than employees is a very serious problem, depriving federal and state governments of billions of dollars in tax revenue and workers from bringing wage claims. While many entities cite the “incentives” to employers to classify individuals as independent contractors, the reality is that many individuals view themselves and prefer the freedom associated with being classified as independent contractors.

There are many unanswered questions following the Dynamex decision, including whether the Legislature will address some of the ambiguities that now exist. But because the risk of misclassification is so high, all businesses should examine whether any current use of independent contractors in California would meet the “ABC” test.

If any individual is determined to be an employee, the company runs the risk that significant damages may be imposed. Such damages could include unpaid wages and overtime; liquidated damages; interest, plaintiffs’ attorneys’ fees and costs; penalties for violations of applicable federal and state labor laws (including for missed meal periods and rest breaks, and wage statement violations); and penalties for failure to pay applicable federal, state and local taxes, as well as the likely cost of extensive litigation. As such, all businesses are strongly encouraged to review their current practice of using independent contractors in the Golden State and engage in an objective analysis as to whether the position and individual meet the ABC test for independent contractor status.