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How Does California's AB5 Labor Law Affect Your Business?
February 23, 2020

How Does California's AB5 Labor Law Affect Your Business?

California Assembly Bill 5 (AB5) became law on September 18, 2019. The AB5 law improves protections for workers in California’s gig economy. However, the law is also relevant to businesses in other states. In fact, both New Jersey and New York are introducing similar legislation. This new law has been met with both criticism and support from lawmakers, businesses, and workers alike. What the law does is change the way workers are classified. However, how this will affect your business, depends on many factors.

In this post, we’ll explain those factors as well as the bill itself so you can understand how AB5 affects your business.

What Is The California Assembly Bill 5?

AB5 presumes that all workers are employees, so it’s up to employers to prove that a worker is an independent contractor (IC). The law goes even further by specifying the proof needed to classify a worker as an IC.

With the AB5 law in place, to classify a worker as an IC, employers must prove that the worker:

  1. Is free from the control of the employer in connection with the performance of the worker both under the contract and in fact.
  2. Performs work that is outside the usual course of the hiring entity’s business.
  3. Is engaged in an established trade, occupation, or business of the same nature as the work performed.

Part B of this test—called the ABC test—is the most significant change to existing law. Before AB5, the type of work a worker did wouldn’t determine employee classification by itself.

Instead, to be classified as ICs, workers only had to pass the Borello test. This test was mainly concerned with the employer’s control of how and when the worker completed their work.

It’s also important to note that the AB5 law provides exceptions to certain categories of workers, but more on that later.

How Did AB5 Come To Be?

In April 2018, the California Supreme Court rejected existing worker classification law. They did so in ruling on the case of Dynamex Operations West, Inc. v. Superior Court of Los Angeles.

This decision set a new legal standard that presumes all workers are employees unless the employer can prove otherwise. Further, the decision set a standard for that proof with the ABC test, which is explained above.

Assemblywoman Lorena Gonzalez introduced AB5 in December 2019 to turn this ruling into law. The intent was to codify this decision so it would apply to all California employers.

Supporters of the bill argued it would provide much-needed protection for workers in the gig economy. Detractors claimed the new law would eliminate workers’ choices and increase costs.

Given the large number of businesses who were going to be affected, the bill’s proposal brought lots of attention. Several organizations lobbied the government of California for exemptions from the law.

As a result, the bill was amended in various ways. For the most part, these amendments provided exceptions for certain categories of jobs. Other than those exceptions, the law didn’t change significantly.

As you’ll see in the next section, certain industries were successful in earning exemptions while others weren’t.

Exceptions to AB5 Labor Laws

It’s important to note upfront that workers exempt from AB5 aren’t automatically ICs.

Instead, all AB5 exempt workers, except repossessors and real estate salespeople, must pass the Borello test. This test is the same one that was used before AB5. Additionally, certain types of workers may have to meet requirements in addition to passing the Borello test.

Nolo lays out several categories of workers that only need to satisfy the Borello test. This includes:

  • Physicians, surgeons, dentists, podiatrists, psychologists, veterinarians.
  • Insurance brokers.
  • Lawyers.
  • Architects and engineers.
  • Private investigators.
  • Accountants.
  • Registered securities broker-dealers and investment advisers.
  • Direct salespeople with written IC contracts who are not paid hourly.

Workers who provide certain professional services are also exempt. However, these workers must also satisfy six additional requirements.

These requirements dictate that workers must have certain freedoms to be classified as ICs. For example, these workers must be free to set or negotiate their own rates and create their own schedules.

Business-to-business contractors, barbers, electrologists, manicurists, cosmetologists, and estheticians are also exempt.

Each of these groups of workers are subject to more requirements to be classified as ICs. As you can see, when it comes to exemptions, AB5 gets complicated.

Associated Legal Challenges With AB5

The law’s author, Assemblywoman Lorena Gonzalez said, “Even when we passed the bill, we knew there were outstanding issues. We’re continuing to take feedback and listen to folks.”

It’s clear that, whether you think AB5 is a good idea or not, the law has its challenges. Among those issues are unintended consequences, like threatening the viability of struggling nonprofits. The reason for these unintended consequences is the expense of hiring employees.

Unlike ICs, employees are entitled to workers’ compensation, unemployment insurance, and other benefits. For some businesses, the expense of providing these benefits threatens their viability.

For example, the Sacramento Jazz Cooperative has seen its costs increase by 15 percent as a result of AB5.

Perhaps the most visible challenge to AB5 is the ride-sharing company, Uber. In addition to refusing to reclassify its drivers, Uber has joined other companies in suing the State of California. They’re threatening to launch a ballot measure and are pouring tens of millions of dollars into the effort.

Similarly, the California Trucking Association challenged the new law. They claimed that it violates federal regulations and threatens truckers’ ability to make a living.

In addition to all these challenges is the lack of clarity in how AB5 will actually be enforced.

Impact Of Assembly Bill 5

Realistically, it’s going to take time—perhaps years—before the impact of AB5 is fully understood. The bill only became law on January 1st, 2020, and there are still legal challenges that must play out.

Also, as we touched on in the previous section, how AB5 is enforced is a question that’s yet to be answered. Until we start to see how the courts interpret AB5, we simply won’t know how exactly it will be enforced. All that said, there are a few definitive impacts of AB5 playing out in California and across the United States.

Most importantly, AB5 sets an important precedent for legal frameworks governing the gig economy. Up until recently, protecting gig workers wasn’t a legislative priority because they’re simply weren’t that many of these types of workers.

Of course, Uber, Lyft, DoorDash, and others that rely on armies of independent contracts have changed that. There’s evidence that future legislation in other states will likely borrow concepts from AB5.

Certain organizations who rely on gig workers may need to identify alternatives or face higher costs. This includes trucking firms, cleaning companies, news publishers, software companies, and others. If all goes well, though, marginalized workers will have greater protection against exploitation.

Effects On Ridesharing Services

Uber and Lyft, two of the world’s largest ridesharing services, are doing everything they can to fight AB5. So even though we don’t know exactly how AB5 will affect ridesharing services, it’s clearly a significant threat.

Whether or not drivers will be classified as employees or independent contractors remains to be seen. As the law is written, ridesharing services in California must classify their workers as employees. However, that’s not happening right now.

Ridesharing services have offered concessions. These offers include a minimum wage and resources to set up an independent driver advocacy organization.

In exchange, they’re asking that their drivers be exempted from AB5. So, at the very least, it’s clear that AB5 will result in significant changes to the business models of ridesharing services.

AB5 will also change the nature of work for drivers. Currently, ridesharing services don’t have the legal right to tell their drivers when to work. Since these drivers are employees under AB5, ridesharing services can dictate their schedules, if they choose to.

Drivers will also be afforded more protections. They’ll be entitled to the same benefits that every other employee in California is entitled to.

Effects On Freelance Journalists

AB5 sets out specific criteria for journalists to continue working as independent contractors. News publishers tend to hire many freelance journalists. So AB5 has already caused some of these freelancers to lose their jobs.

For example, Vox Media cut hundreds of California freelance writers in response to AB5. In place of these roles, Vox will employ about 20 part and full-time writers.

Although they’re exempt from the ABC test, freelance journalists are limited to 35 content submissions per year under AB5. Meaning, if they submit more than that, they must be treated as employees.

Yet many freelance journalists work with only a few clients and must submit far more than 35 pieces per year to make a living. So for some, AB5 is a serious problem.

Many freelance journalists in California worry that employers will prioritize hiring out-of-state freelancers. However, these journalists do have one way around the law—set up a limited liability corporation (LLC).

By doing so, journalists can qualify for the business-to-business exemption that AB5 provides. Of course, that means paying the legal expenses associated with setting up and maintaining an LLC. For some freelance journalists, those expenses may be too much.

What Other States Have Comparable Laws?

California’s AB5 is truly the first of its kind. No other laws go so far. However, three states—Illinois, New Jersey, and New York—are starting to work on similar legislation.

Each state is in a different stage of the legislative process.

  1. New York

In New York, two bills are working their way through the legislature. The first bill seeks to replicate AB5’s stricter ABC test for worker classification.

The second bill would create a third category in addition to independent contractors and employees. This type of worker would be called a dependent worker. Under the proposal, the dependent worker would have similar rights to both contractors and employees.

  1. New Jersey

New Jersey’s legislature enables the state to penalize employers for worker misclassification.

In addition to this law, other bills are in process to replicate California’s ABC test—with some slight differences. However, those bills are still being amended and will likely change as they go through the legislative process.

  1. Illinois

While New Jersey and New York are further along, Illinois is still in the beginning stages of their legislative efforts. However, state legislators are planning to introduce legislation that’s similar to AB5.

Our Final Thoughts

There’s no doubt that worker misclassification is a problem. Regulating this issue will create a stronger economy and reduce worker marginalization. Still, this is a complicated issue. Even with the passage of AB5, there are far more questions than answers.

As a business owner, you must stay updated on how gig economy legislation rolls out nationwide. Also, if you’re doing business in New Jersey, New York, or California, you must be extra careful in how you’re classifying workers. If in doubt, talk to a legal professional. 

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Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.

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Fora Financial is a working capital provider to small business owners nationwide. In addition, the Fora Financial team provides educational information to the small business community through their blog, which covers topics such as business financing, marketing, technology, and much more. If you’d like to see a topic covered on the Fora Financial blog, or want to submit a guest post, please email us at [email protected].