ASK THE CALIFORNIA EMPLOYMENT TAX AND PAYROLL TAX ATTORNEY – HOW WILL THE DYNAMEX LEGISLATION (AB 5) IMPACT YOUR BUSINESS – PART 1
By Robert S. Schriebman
This is Part 1 of a 5-Part Series that will discuss the impact of the California Supreme Court’s Dynamex decision and Assembly Bill 5 that passed the California Senate Appropriations Committee and will head to a final vote before the full State Senate before it is signed into law by Governor Gavin Newsom.
Current Definition of Employee
In California employers are required to make quarterly contributions for unemployment insurance and disability insurance, as well as withhold state income taxes, from the wages paid to their employees. The definition of employee, for these purposes, is any individual who, under the usual common law rules applicable in determining the employer-employee relationship, has the status of an employee, or is an employee of a person who holds or is required to obtain a valid state contractor’s license. It’s never a good idea to define a word by using the same word in the definition; creates confusion and is circular reasoning.
Enter the Dynamex Case
At the end of April 2018 the California Supreme Court published its decision in Dynamex Operations West, Inc. v The Superior Court of Los Angeles County. This case has changed the playing field and given new definitions to “employer,” “employee,” and “employed.” The new test is known as the “Suffer or Permit to Work” Standard. This new standard has three parts, any one of which, if met, will change the relationship of independent contractor to employer-employee. It is not a new test that the Supreme Court created on its own. Rather it has been around since 1916, but has been buried in a wage order issued by the California Industrial Welfare Commission (IWC).
“To employ, under the IWC’s definition, has three alternative definitions. It means: (a) to exercise control over the wages, hours or working conditions, or (b) to suffer or permit to work, or (c) to engage, thereby creating a common law employment relationship.” (Martinez, supra, 49 Cal.4th at p.64)
In Dynamex the Supreme Court focused upon narrowing down and defining the “suffer or permit to work” standard. The goal was to adopt a simpler, more structured standard for distinguishing between employees and independent contractors. The Court adopted the “ABC standard” used in other states.
The ABC standard has 3 primary factors:
(a) That 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) That the worker performs work that is outside the usual course of the hiring entity’s business;
(c) That the worker is customarily engaged in an independently established trade, occupation, or business of the same nature as that involved in the work performed. (Dynamex page 64)
The Dynamex Decision Did Not Overrule Borello
For purposes of the CUIC, a worker’s status as either an employee or independent contractor is determined using the common law standard set forth in CUIC § 621(b). Under the common law ” ‘…[t]he principal test of an employment relationship is whether the person to whom service is rendered has the right to control the manner and means of accomplishing the result desired…’ ” S.G. Borello & Sons, Inc. v. Department of Industrial Relations, 48 Cal. 3d 341, 350 (1989) (“Borello“), quoting Tieberg v. Unemployment Ins. App. Bd., 2 Cal. 3d 943 (1970
While the “control test” is the ‘most important’ or ‘most significant’ consideration, the Borello Court identified several ‘secondary factors’ that must also be considered. Borello, 48 Cal. 3d at 351. These secondary factors include: (a) whether the worker is engaged in a distinct occupation or business (b) the kind of occupation, with reference to whether the work is usually done under the direction of the principal of time over which the services are to be performed; (f) the method of payment, whether by the time or by the job; (g) whether the work is part of the regular business of the principal or by a specialist without supervision, in the locality; (c) the skill required in the occupation; (d) whether the principal or the worker supplies the instrumentalities, tools, and place of work; (e) the length; (h) whether the principal has the right to discharge at will, without cause; and (i) whether the parties believe they are creating an employment relationship. Ayala, 59 Cal. 4th at 532; Borello, 48 Cal. 3d at 350-351.
AB 5: An Overview
AB 5 is the brainchild of San Diego Assemblywoman Lorena Gonzalez. The effective date of the legislation is set for January 1, 2020. The Bill seeks to codify the decision in the Dynamex case and clarify and limit its application. The Bill would add new provisions to the Labor Code and the Unemployment Insurance Code. Individuals providing labor or services for compensation shall be considered an employee rather than an independent contractor, unless the hiring entity can demonstrate all three of the factors below:
- The person is free from the control and direction of the hiring entity in connection with the performance of his/her work;
- The person performs work that is outside the usual course of the hiring entity’s business; and
- The person is customarily engaged in an independently established trade, occupation or business.
If the hiring entity can prove all three of the above factors, then the determination of employee or independent contractor status shall be governed by the test set forth in the Borello case. So, AB 5 did not overrule Borello.
There are many exemptions to AB 5 and they will be discussed in Parts 2 through 5 of this Series. As an overview, some of the exemptions are as follows:
- Licensed insurance agents
- Certain licensed healthcare professionals
- Registered securities broker-dealers or investment advisors;
- Direct sales salespersons;
- Real estate licensees
- Commercial fishermen
- Licensed barber or cosmetology services
- Certain subcontractors in the construction industry
AB 5 will also expand the definition of crimes under the new legislation. The Bill will also penalize any employer who deliberately changes employees to independent contractors in order to avoid the impact of AB 5. The Bill creates new Labor Code § 2750.5 as well as changes the definition of employee in CUIC §§ 606.5 and 621. (AB 5, §§ 5, 6 and 7)
In Part 2, I will review the public policies behind AB 5 as well as explain to you that any occupation exempted under AB 5 must still meet the tests set forth in Borello. I will also discuss new Labor Code § 2750.3 which essentially codifies the “ABC” tests set forth in Dynamex.
Robert Schriebman has a successful practice in the Rolling Hills Estates area of Los Angeles County serving clients throughout California and the United States. He has successfully dedicated more than 40 years to helping individual taxpayers, business owners, CPAs, Enrolled Agents, and tax attorneys navigate the complicated tax systems of the federal and state governments. Mr. Schriebman is in private practice. He is not affiliated in any way with the EDD and he is not employed by the EDD or any other agency of the State of California.
Robert Schriebman has written the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House.
Robert Schriebman has written over 20 books including the major manual used nationally by practitioners and the IRS, “IRS Tax Collection Procedures – A Manual for Practitioners” published by Commerce Clearing House in addition to the only 2 books ever published dealing with how California Employment Development Department (EDD) operates. See “California Tax Collection Practice and Procedures” and “California Taxation Practice and Procedure,” both published by Commerce Clearing House.
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