NOTE: This article is not considered legal advice, just our interpretation. As always, we recommend you contact an attorney if you are unclear on any new law.
California Assembly Bill 5 (AB5), also known as the “Gig Worker” bill, was passed in 2019 under the guise it would promote labor unions and provide benefits to workers who were previously “exploited” by businesses. But the actual impact has been devastating to both businesses and freelance workers alike. AB5’s goal is to classify many contractors as employees using the new ABC Test (discussed below). Enforcement is based on “willful” misclassification, but as the saying goes, “ignorance is no excuse for the law”. There could also be additional penalties for wage violations.
The new California statute does exempt workers with professional licenses (attorneys, real estate agents, etc.), and those with proper business licenses who can prove they control rate negotiation, hours worked, techniques and maintain a separate address from the hiring company. Forming a California LLC or Corporation and putting the intended work in writing may help close the reclassification gap. Workers and businesses both have to comply with the new ABC Test, in addition to the existing Borello standards, but the burden of proof is actually on the company. AB5 is geared toward large companies like rideshare giant Uber, but individuals may find themselves out of work if they can’t prove their freelance status.
Since AB5 went into effect January 1, California businesses are having to make tough decisions about retaining contractors who may be reclassified as employees. The new law is causing freelance or “gig” work to dry up in the Golden State. Media giant Vox Media has released over 200 California writers alone from its SB Nation sports blogging platform. Unfortunately the law also covers work performed in other states that relates to anything based in California. So if you’re a freelance writer in Michigan, but you write about a California sports team, you could be reclassified as an employee and the hiring company is on the hook under AB5.
Rule (B) of the new ABC Test will probably be the biggest hurdle in the test. It states that businesses may only hire contractors for work the business doesn’t usually perform. The hiring company has to either comply or face large fines. So if you’re a painting company for example, you must classify workers as employees if they are hired to paint. But if your painting company needs IT services, you would be allowed to hire a contractor to do the work. That’s great for the IT guy, but what about the painting company? Raising prices to cover higher costs could bring that business to its end. If you’re caught with misclassified workers, penalties run between $5,000 – $25,000 per violation.
Most small businesses just aren’t prepared to pay those fines, but classifying all workers as employees would drive up costs considerably. So while attorneys are fighting for repeal, how do contractors maintain their status and more importantly, just keep working? With a little creativity and legwork, it may still be possible to survive the new assembly bill. It just won’t be as simple as A-B-C.
Businesses have been using IRS standards and the Borello Test to classify workers for decades. But there’s a new kid on the block, and he’s a bit of a bugger to please. Businesses and contractors are desperately searching for ways to preserve freelance relationships while hurdling the new requirements. How can we keep doing “business as usual” when the usual rules have changed? The answer is simple, but may not be as easy to implement. Rules for classifying a worker are still based on who is in control, but the added scrutiny of the new test is the problem in need of a solution.
ABC requirements to classify a worker as a contractor:
“All three components of the test can be difficult to satisfy but saying a worker must perform work that is outside the usual course of the hiring entity’s business is most problematic.” (Source).
Obviously rules (B) and (C) are problematic for just about everyone. It’s not enough to tell a business you’ll accept a 1099 form and manage your own taxes anymore. Unless the company is hiring you to do work they don’t normally perform, you may be considered an employee. A worker can only be classified as a contractor if his or her business provides the same type of services the hiring company needs.
The IRS already requires employee classification that revolves around behavioral and financial control, and relationship of the parties involved, much like the Borello Test. Borello requirements are more in number, but less strict than the new ABC Test. If you are professionally licensed as an attorney or real estate agent for instance, you are exempt from the new test. But if any worker is hired for services a business doesn’t usually perform, he or she still has to control rate negotiation, work schedule, and techniques or tools used to be considered a contractor. The worker must also keep a separate address from the hiring company and should put every job or project in writing (a written “contract”).
Forming a California LLC or Corporation is one way to maintain your contractor status. It’s not a guarantee, but combined with a state business licence and using written contracts, it can help satisfy the new ABC requirements. With the proper business formation and licensing, you’ll also be more attractive to companies as a legitimate Business-to-Business service provider.
As long as a company hires you for work they don’t normally perform, and you control rate negotiation, when to work and what tools or techniques you’ll use, passing the ABC Test shouldn’t be a problem. Making yourself a legitimate contractor by forming an LLC or corporation will help clarify your standing as a Business-to-Business service provider. You can also promote your services to other businesses to prove independent status. As long as AB5 is in effect, there’s really no way to eliminate the risk of reclassification, but taking the right steps could keep you working.
To summarize, here is a checklist to help you establish or maintain independent contractor status:
The more you do to establish yourself as a legitimate California business, the harder it will be for AB5 to keep you from working. Remember that as a freelancer, you should be in control of negotiating pay, the hours you’ll work and the technique and tools you’ll use to get the job done. Having your California LLC or Corporation, business license(s) and contracts in order will serve you well if you ever face reclassification.
This entry was posted on Wednesday, September 16th, 2020 at 2:22 pm and is filed under Starting A Business, Incorporation, Limited Liability Company, Small Biz Management. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.
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