What separates an independent contractor from an employee? The question has been raised more than a few times in California – particularly in the context of the “gig,” or freelance, economy – but a high-profile decision by the state Supreme Court has attempted to put the subject to rest. The April 30 ruling in Dynamex Operations West Inc. vs. Superior Court of Los Angeles – a wage and hour class action lawsuit in which drivers for Dynamex, a delivery company, maintained that they had sustained losses due to being wrongly classified as independent contractors – laid out a three-part test that may make it harder for companies to classify workers as freelancers. While points A and C have to do with constraints on the worker, point B is an assessment of whether she or he performs a task in keeping with the company’s main line of business. For instance, if the company’s business is to deliver packages, those who are doing the delivering should be classified as employees even if they are able to set their own hours. “If the worker is doing the business that the company exists to do, that worker is an employee, not a contractor,” Karen Gabler, partner at employment law firm LightGabler in Camarillo, told the Business Journal. New test The Dynamex ruling is the first in which a California court has established an ABC test to determine whether a worker falls under the definition of an employee or an independent contractor. In accordance with the decision, an employer must show that A) the hirer has absolutely no control over when a worker performs her or his tasks; B) the worker is performing a task that is beyond the scope of the company’s usual course of business; and C) that the worker is engaged in their own business that provides the services she or he is performing for the hirer. Barry Cohn, founder of Canoga Park insurance firm Really Great Employee Benefits, found the Dynamex ruling to be in line with how he has been advising his clients for years, though he noted that perhaps the definition was not so clear in the past. “I think in the past the B part of the test was kind of hazy,” Cohn said. Still, he has dropped clients for skirting the definition by bringing on freelancers who were doing work that was too closely related to the company’s primary line of business. “We see this all the time,” he said. For instance, his firm is aware of an architect who had eight other architects working for him as independent contractors. Though the workers might have met the third part of the test by having their own businesses as architects, their status was in violation of the other two principles on account of how tightly they were bound by their employer’s rules and by the fact that they were performing the same tasks the employer existed to do. “Clearly, they didn’t meet two parts of the test,” Cohn said. While media stories about the Dynamex decision have focused primarily on its potential impact on tech companies like Uber Technologies Inc. and Lyft Inc., both of which are cab-like transportation services that hire freelance drivers through a mobile app, the industry that stands to suffer the most from the ruling is sales, Gabler said. Any company that makes use of outside salespeople is running a risky business if the workers are selling a product that the firm manufactures. “If you’re a company that makes widgets and you have people out there selling widgets, you can’t say that your business is just to make them – your business is to sell them, too,” Gabler said. Salespeople often view themselves as independent contractors, and employers agree to that status, she continued. But unlike other parts of the country, California employment laws prohibit employers and workers from making agreements that go against the state’s employee protections. The idea is to shield workers from exploitation – a protection they cannot waive, Gabler said. “The employee can’t negotiate away their legal rights. The state imposes employment laws on employers and employees alike,” she said. “Even if a worker says, ‘I want to be independent,’ they’re still subject to legal requirements.” It’s a frequent misconception not only for issues of worker classification, but also those related to minimum wage and breaks, Gabler noted. So is the idea that if a worker falls under the designation of “freelancer” by the guidelines laid out by the Internal Revenue Service, they are also a freelancer under labor and wage law. “I have clients say, ‘My CPA told me they qualify as an independent contractor.’ That might not be right for employment law purposes,” Gabler said. “The court treats the matter differently than it’s dealt with in tax law – there’s a broader definition of the wage order.” Some concerns have also been raised about how the ruling could impact the entertainment industry, where freelance workers abound. While unionized workers are paid as employees and are therefore not directly affected by the ruling, it could have an effect on the many nonunion actors, directors, models and more who work as independent contractors, noted Jonathan Handel, an entertainment and technology attorney at TroyGould in L.A. He illustrated how an issue might arise using a personal assistant to a celebrity as an example. “If they’re at the celebrity’s house at 8 a.m. and expected to work until 7 p.m. onsite using a computer supplied by the celebrity, that person should have been classified as an employee to begin with,” Handel explained. “The Dynamex ruling tightens the screws on that.” Staying legal To ensure that a worker meets both the tax and legal definitions of an independent contractor, it’s a good idea to consult both a CPA and a labor attorney, Gabler said. That’s because even if a worker does meet the accounting definition of a freelancer, an employer is still at risk of being sued for wage and labor violations if the independent contractor can be classified as an employee under state laws. The stakes of making such an error are high, she added. “The fact that the IRS would accept it wouldn’t protect you as an employer from an employment claim,” Gabler said. “Paying tax penalties would be significant, but they’d be nowhere near what the damages from a wage and hour claim would be.” Employers who are the target of class action suits can be hit with seven-figure damages, she said. A violation for even a single employee could force the business to cough up funds to cover unpaid overtime, rest periods, paystub violations and more on top of mandatory employee fees. California businesses may be tempted to hire on independent contractors rather than employees on account of the state’s many employer regulations, Gabler said. While the allure to do so is understandable, the potential risks far outweigh the benefits. “It’s really easy for an employer to say, ‘I’m just going to opt out,’” Gabler said. “There’s a much bigger cost to misclassifying employees.”
