Understanding AB 5 - California’s New Independent Contracting Rules

Under AB 5 most independent contracting relationships will be assessed under the rigorous ABC test established by the California Supreme Court in Dynamex. Under this test the hiring entity must be able to prove all three of the following:

1. The hiring entity does not exert significant control over the worker;
2. The services are “outside the usual course of business” for the hiring entity;
3. The worker holds him or herself out to the world as an independent business.

The B prong has proven especially vexing. We’ve warned that a company will likely fail the B prong if the contracted worker is providing services essential to the hiring company’s business model.

AB 5 Exemptions

While AB 5 sets the Dynamex ABC test as the default for accessing independent contracting relationships, the Legislature created a number of exceptions for specified industries. NOTE: An exception is not a get out of jail free card. If you qualify for an exception, your case will be reviewed under the old independent contractor test (aka the Borello factors)—which looks at how much control you are exerting over the worker.

Occupational Exemptions

AB-5 exempts the following industries:

• Doctors, surgeons, dentists, podiatrists, psychologists, or veterinarians performing professional or medical services provided to or by a health care entity;
• Lawyers, insurance brokers, architects, engineers, private investigators, or accountants;
• Securities brokers/dealers or investment advisers and their agents and representatives that are registered with the Securities and Exchange Commission, the Financial Industry Regulatory Authority or the State of California;
• Real estate agents, repossession agencies, direct-sales persons, commercial fishermen;
• Individuals performing services under a contract with a licensed “motor club.”

Professional Services Exemptions

AB-5 provides carve-outs for the following “professional services:” (1) marketing professional; (2) human resources professional; (3) travel agent; (4) graphic designer; (5) graphic artist; (6) fine artist; (7) freelance writer; (8) barber or cosmetologist; (9) esthetician; (10) electrologist; (11) manicurist; (12) payment processing agent; and (13) IRS licensed tax professional.

To qualify the professional service provider must:

• Have an established business location (may be home);
• Have any required business license or occupational license;
• Have the ability to negotiate rates;
• Maintain the ability to set hours outside of project completion dates;
• Engage in the same type of contract work with other companies, or must hold themselves out to other potential customers; and
• Exercise discretion and independent judgement in their work.

NOTE: There are additional restrictions. For instance, cosmetologists must set their own hours, set their own rates, select their clients, schedule their own appointments, process their own payments, be paid directly by their clients and keep their own book of business.

Referral Agency Exemption

AB-5 provides an exemption for businesses referring customers to providers for the following services: (1) graphic design; (2) photography; (3) tutoring; (4) event planning; (5) moving; (6) minor home repairs; (7) home cleaning; (8) errands; (9) furniture assembly; (10) animal services (11) dog walking; (12) dog grooming; (13) web design; (14) picture hanging; (15) pool cleaning; or (16) yard cleanup. If the service in question is not on this list then it does not qualify for this carve-out.

To qualify the referring agency must:

• Be an established business entity and must customarily perform work of this nature;
• Be “free from control and direction of the referral agency;”
• Not be penalized for rejecting clients and contracts;
• Be free to work with other companies and to maintain their own clientele without any restrictions from the referral agency;
• Provide their services under their name, rather than the name of the referral agency;
• Set their own rates (without deduction), decide their own hours and use their own tools; and
• Have any required business or contractor’s license and business tax registration.

Construction Industry Exemption

AB 5 provides special rules for working with subcontractors in the construction industry.

1. Subcontracts must be in writing and the subcontractor must be properly licensed;
2. The subcontractor must be “customarily engaged in an independently established trade”—like a carpenter, plumber, or electrician; and
3. The subcontractor must be licensed by the Contractors State License Board.

NOTE the additional requirements for the construction industry exception:

• The subcontractor must maintain a business location, separate from the hiring entity;
• The subcontractor must be free to hire and fire its own workers;
• The subcontractor must assume financial responsibility for mistakes in written warranties or indemnity agreements, or as evidenced by insurance or bonds;
• Special restrictions apply with regard to subcontractors providing trucking services—including the requirement that the job in question must require a contractor’s license from the Contractors State License Board.

Narrow Business-to-Business Exception

If the worker does not fit within any of the special industry exceptions, they might fit within the limited business-to-business exception. To qualify, the work must be performed by a business entity formed as a sole proprietor, partnership, LLC, or corporation. The services must be provided directly to the contracting company, as opposed its customers and the contract must be in writing.

NOTE the additional requirements for the business-to-business exception:

For one, work requiring a license from the Contractor’s State License Board will not qualify for the business-to-business exception. Any other service might qualify if the following requirements are met. The contracted business must:

• Be free from control and direction of the contracting business;
• Use its own tools, vehicles and equipment;
• Be customarily engaged in an independently established trade;
• Advertise and market its services;
• Maintain other clients, without restrictions;
• Set its own hours, consistent with the nature of the work;
• Negotiate its own rates;
• Have all required licenses and business tax registration; and
• Maintain a business location, separate from the hiring entity.

Best Practice

If you are going to classify a worker as an independent contractor, it’s advised you seek expert advice from a trusted attorney. That’s true for businesses operating anywhere in the United States, but especially in California.

*While intended to be accurate, this article does not constitute legal advice.

 

Updated September 26, 2019