One of the most challenging and frequently litigated issues in many industries is whether workers are properly classified as “employees” or “independent contractors.” Employees are usually entitled to the protections of state and federal wage and hour laws, leave entitlement and protection, workers compensation benefits, unemployment compensation and other entitlements. Independent contractors, by contrast, are typically not entitled to these benefits. Thus, for some employers – particularly new players in the “gig economy” like Uber, Lyft and other start-ups – a successful business model that utilizes independent contractors may be unworkable if such workers became employees. The New York Times reported that classifying workers as employees in some industries would cost 20 to 30 percent more than classifying them as independent contractors. This is particularly true in states like California, where state and local mandates for employees are legion.
The California Supreme Court recently handed down an 82-page opinion that almost certainly will make it more difficult, or at least more risky, for businesses to classify workers as independent contractors in that state. The case involved Dynamex Operations West, Inc., a nationwide package and document delivery company. In 2004, Dynamex re-classified its delivery drivers as independent contractors. A group of drivers sued Dynamex, claiming it had improperly classified them as independent contractors and thereby violated California Wage Orders, the California Labor Code, and engaged in unfair and unlawful business practices by failing to pay overtime, failing to reimburse employees for certain expenses and failing to provide workers compensation insurance. Ultimately, the case turned on the appropriate test used to determine whether a worker is an employee or independent contractor.
The California Supreme Court unanimously rejected both the common-law test, which focuses on an employer’s control of details of the work, and the “economic reality” test used by most federal courts, which balances a variety of aspects of the relationship to determine employment status. Instead, it adopted what is commonly referred to as the “ABC” test. Under that test, a worker is presumed to be an employee. The business can overcome the presumption only by showing all of the following:
1. 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 such work and in fact;
2. The worker performs work that is outside the usual course of the hiring entity’s business; and
3. The worker is customarily engaged in an independently established trade, occupation or business of the same nature as the work performed by the hiring entity.
The California Supreme Court touted the “ABC” test as a “simpler, clearer test” than others. This may be true, but only because it makes it difficult to nearly impossible for many businesses to classify workers as anything but employees. Even a cursory review of the “ABC” factors demonstrates why. First, the ABC test requires that the worker be “free from the control and direction of the hirer,” both under the contract and in fact. If businesses want to retain any meaningful control over the worker, the worker likely will be considered an employee. Second, the worker cannot perform work in “the usual course” of the company’s business. Thus, any worker who arguably performs work that is integral to the business will not qualify as an independent contractor. Finally, the worker must be “customarily engaged in an independently established trade, occupation, or business” that performs the same type of work for the company as others. This requirement severely limits the types of workers who can be classified as independent contractors because the employer will have to prove the work performed is also that of an “independently established trade, occupation or business.”
This decision is one of the most significant California wage and hour cases in years. Given that businesses now have the burden of proving a worker is an independent contractor, employers should re-evaluate their existing independent contractor relationship to determine whether they have appropriately classified workers under the new standard. Failure to do so could lead to costly litigation over the appropriate classification of workers.