Independent Contractors

Individuals who are “independent contractors” are not considered employees for wage and hour purposes. California Assembly Bill 5 addresses the “employment status” of workers when the hiring entity claims the worker is an independent contractor and not an employee. Additionally,  Assembly Bill 2257, enacted in 2020, intended to clarify AB 5 and provide additional exemptions to the test for determining whether an independent contractor has been misclassified as an employee.

Why it Matters:
California’s labor law protects employees, but not independent contractors. Additionally, employees can go to state agencies such as the Labor Commissioner’s Office to seek enforcement of these laws, whereas independent contractors must resolve their disputes or enforce their rights under their contracts through other means.

When an individual is hired, the hiring entity has to pay for extra costs. However, as an independent contractor, the hiring entity issues a 1099 form to the worker and need not worry about the extra costs.

For example, if a worker is found to be an employee under AB 5 or AB 2257, California’s employment laws will apply to that individual and the worker will be subject to the following:

  • California income tax and income tax withholding
  • The state’s Workers’ Compensation Law
  • California’s Unemployment Insurance Tax
  • The State Disability Insurance Tax
  • The Employment Training Tax
  • Wage and hour rules that are enforced by the Department of Labor
  • California laws regarding benefits, including sick leave and overtime

Usually, when the hiring entity pays independent contractors more than $600 in a calendar year for work related to their trade or business they must issue the worker either IRS Form 1099-NEC or a Form 1099-MISC. The independent contractor who receives one of these forms does not receive any employee benefits and is responsible for reporting and paying any state or federal tax due.

Requiring a worker to sign an agreement stating that they are an independent contractor, or being paid as an independent contractor (without payroll deductions and with income reported by an IRS Form 1099 rather than a W-2), is not what determines employment status. Unless the hiring entity can prove otherwise, the ABC test assumes that the worker is an employee. An employer cannot change a person’s status from that of an employee to one of an independent contractor by requiring a written agreement to that effect or by giving them an IRS Form 1099 instead of a W-2.

ABC Test:
Under the ABC test, as set forth by the California Supreme Court in its decision in Dynamex Operations West, inc. v. Superior Court of Los Angeles, a worker is considered an employee and not an independent contractor, unless the hiring entity satisfies all three of the following conditions:

  • A”- The worker is free from the control and direction of the hiring entity in connection with the performance of the work, both under the contract for the performance of the work and in fact;

In other words, the worker operates without the control or guidance of the hiring entity. The hiring entity must either accept or reject the work of the independent contractor without having a say in how it is performed. The worker is free from the control and direction of the hiring entity in the performance of the work in that they set their own hours and are not supervised on the job.

  • B” – The worker performs work that is outside the usual course of the hiring entity’s business;

The independent contractor’s work cannot be that which would normally be performed by the hiring company’s employees. The work performed 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.

The independent contractor’s business must be one that will continue to exist after the hiring entity has terminated the contract.

In addition to penalties that may be assessed for wage violations associated with a worker being misclassified as an independent contractor, the California Labor Code prohibits employers from knowingly and voluntarily misclassifying employees as independent contractors. Each violation carries a civil penalty of $5,000 to $25,000 depending on the case.

AB 5 provides that workers in some job categories were exempt from the ABC test and uses an alternative method for determining whether workers in those categories qualified as independent contractors. AB 2257 further expanded the exemptions from the ABC test but still must qualify as independent contractors under a test the California Supreme Court laid out in its 1989 decision on Borello vs. Dept. of Industrial Relations.

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Disclaimer: Every situation is different and particular facts may vary thereby changing or altering a possible course of action or conclusion. The information contained herein is intended to be general in nature as laws vary between federal, state, counties, and municipalities and therefore may not apply to any given matter. This information is not intended to be legal advice or relied upon as a legal opinion, course of action, accounting, tax, or other professional services. You should consult the proper legal or professional advisor knowledgeable in the area that pertains to your particular situation.

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