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California AB 5: Employee Classification Changes

Rex Halverson

On September 18, 2019, California governor Gavin Newsom signed Assembly Bill No. 5 into law. The law, popularly known as the “gig worker bill”, is intended to create statutory law implementing the decision of the California Supreme Court in Dynamex Operations West, Inc. v. Superior Court of Los Angeles, which ruled that the strict “ABC test” had to be used to determine worker classification for wage claims.

This replaced the much more lenient Borello test that allowed companies in California to more easily classify workers as independent contractors.  Under the ABC test, a worker is presumed to be an employee and a business that hires the worker has the burden of proving that the worker is an independent contractor rather than an employee.

The new AB 5 law may have the effect of requiring businesses across California to reconsider how they classify their workers. For those companies who rely on independent contractors, the new law may increase their labor, tax burden and compliance if their independent contractors must be reclassified as employees.

If you are a business owner in California, it is important that you understand the new law and ensure that your business is in compliance with the new rules for classifying workers as employees or independent contractors. Contact Rex Halverson & Associates today to schedule a free initial consultation to learn more about your options and obligations under AB 5.

California Businesses Who Rely on Independent Contractors May Be Impacted by AB 5’s Rules

Under the prior standards, it was easy for California businesses to classify workers as independent contractors. However, AB 5 codifies the ABC Test into law. Under the test, a worker is presumed to be an employee.

If an employer claims that the worker is an independent contractor, the employer bears the burden of proving that the worker qualifies as an independent contractor. A worker is an independent contractor only if he or she satisfies all three criteria of the ABC Test:

  1. The worker is not subject to the employer’s control and direction in the worker’s performance of his or her services;
  2. The worker performs work that is outside the usual course of the employer’s business; and,
  3. The worker is customarily engaged in an independent trade, occupation, or business.

The new law also expands the ABC test from wage claims to all matters under state labor laws.

Business owners in California who classify some or all of their workers as independent contractors may wonder how AB 5 will impact their companies.

Business owners may be unsure whether they will still be able to classify their workers as independent contractors or whether they will be required to reclassify them as employees. This could significantly increase the company’s costs if they are required to pay workers more to comply with minimum wage and overtime laws, provide paid family and sick leave, and pay half of the worker’s Social Security and Medicare taxes.

We Can Help Businesses Ensure Their Compliance with AB 5

If you are a California employer who is unsure how AB 5 may affect your business, you need an experienced tax advisor who can help you fully understand the requirements of the ABC Test and whether you have properly classified your workers. If you are notified that your company is under audit by the IRS or California’s Employment Development Department (EDD) and may have misclassified workers, you need skilled and knowledgeable representation from the get-go.

For over 15 years, Rex Halverson & Associates has helped our clients address a broad range of California tax issues, including worker classifications and employment/payroll taxes.

We have extensive experience across numerous industries, including computer hardware, software, travel, telecommunications, restaurant, pharmaceutical, medical, furniture, automotive, motion pictures, transportation, utilities, manufacturing, construction, agriculture, event planning and retail. Our founder, Rex Halverson, has over 42 years of tax experience that includes serving as California Deputy State Controller-Taxation, working at KPMG, LLP in the capacity of Director and Practice Leader of their State and Local Tax  Practice-Western Region, working in Bank of America’s Tax Department in their World Headquarters Building in San Francisco, and serving as Vice Chair of the California Chamber of Commerce’s Statewide Tax Committee.

As a result, we have the experience, knowledge, and resources to help California businesses and taxpayers understand their obligations under the state’s tax laws, including how the new AB 5 law impacts worker classification and a business’ tax obligations.

Frequently Asked Questions about AB 5

What is the difference between an employee and a contractor?

An employee is a worker who typically dedicates most or all of their labor to a single employer. Conversely, a contractor is someone who holds themselves out as willing to provide their services to many customers or clients.

What is the benefit to a business in classifying a worker as a contractor rather than an employee?

Employees are entitled to various statutory benefits, including minimum wage protection, workers’ compensation, unemployment insurance, expense reimbursement, and paid family and sick leave. There are also laws that restrict the circumstances under which a business can terminate an employee.

Employers are also required to pay half of an employee’s Social Security and Medicare taxes. Conversely, a contractor, who is ostensibly in business for himself or herself, does not receive employment law protections from the company that hires them and is responsible for paying their full Social Security and Medicare taxes.

As a result, using contractors as opposed to employees can result in lower labor costs for a business. Businesses can also typically hire and fire contractors with greater flexibility than employees.

What kinds of workers are exempt from AB 5?

There were numerous professions that were exempted from the scope of AB 5. These professions were exempted because workers in these professions typically set their own rates, contract directly with customers, and make at least twice the minimum wage.

Examples of professions that are exempted from the new AB 5 requirements include:

  • Doctors
  • Podiatrists
  • Dentists
  • Psychologists
  • Veterinarians
  • Insurance agents
  • Stock brokers
  • Lawyers
  • Architects
  • Private Investigators
  • Accountants
  • Securities brokers-dealers
  • Investment Advisors
  • Engineers
  • Real estate agents
  • Barbers and stylists
  • Aestheticians
  • Commercial fishermen
  • Travel agents
  • Graphic designers
  • Enrolled Agents
  • Payment Processing agents of an independent sales organization
  • Grant writers
  • Fine artists, and
  • Human resources administrators.

In addition, photographers, photojournalists, writers, or cartoonists who complete 35 or fewer submissions in a year are also exempted from AB 5.

This is only the beginning of specific exemptions set forth in the law. Our Legislature is sure to add more when lobbying intensifies by Lyft, Uber, real estate agents, truck drivers and countless others. If you want your industry to be included, let us know. We may be able to help!

Contact a California Tax Advisor Today to Learn More about How AB 5 May Affect Your Business

Are you a California business owner? Are you unsure of how the new AB 5 law affects your business or whether or not you will be able to hire independent contractors?

If so, contact Rex Halverson & Associates to schedule a free initial consultation to learn more about the requirements of AB 5 and how the new law may impact your business.  We can be reached online through our contact forms, or call us at (916) 444-0015 to schedule your consultation.