Gress Income Tax Service

New California Independent Contractor Law

In no way should this information be considered written advice, advice, or legal advice from Gress Income Tax Service.  We are not giving advice on who should or should not be an employee or an independent contractor.  We do not engage in worker determinations or give advice on worker determinations.  Please consult an attorney for any type of legal determination or how this law may effect you or your business.  State and federal laws change frequently, and the information in this article may not reflect your own state’s laws or the most recent changes to the law. 

California’s Assembly Bill 5 codified the ABC Test, which says that a worker is “properly considered” an independent contractor only if they meet each of the following three criteria.  This goes into effect on 1/1/2020

Criteria What it means
(A) “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.” The “control and direction” test is what the IRS usually uses to define an independent contractor. It looks at three key points of control: behavioral (who controls the how, what, and when of the work), financial (does the workers have the opportunity not only to make a profit through the work, but also take a loss), and relationship (is the worker limited only to working for the one business, or are they free to work for others).
(B) “The worker performs work that is outside the usual course of the hiring entity’s business.” This factor looks at whether the work performed is outside the core function of the business. Think functions such as IT maintenance, which a business can easily outsource.
(C) “The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed for the hiring entity.” This factor examines whether the worker is traditionally engaged in their own business. For example, degreed professionals, such as lawyers and accountants, licensed service trades, such as barbers or massage therapists, and traditional freelancers, such as landscapers and artists, could all qualify as contractors under this factor.

Lawyer up

If you currently work with independent contractors, hire an employment lawyer to analyze your team.

An attorney can help you determine whether your workers are properly classified as independent contractors. And, if they’re not, the analysis will tell you how much your potential exposure could be for unpaid overtime, health benefits, and other compensation if you leave them misclassified after AB5 takes effect in January.

The new law applies to all California workers, except for those in several job categories who were specifically exempted from the strict ABC test. However, workers in these exempt categories are not automatically ICs. Instead, almost all such workers are required to pass muster as ICs under the Borello test, the test in effect before AB5 was enacted. Additional requirements are imposed for some types of workers as described below. But, it should be much easier for these workers to qualify as ICs than under the ABC test.

Workers Must Pass Borello Test

Except for real estate salespeople and repossessors, workers in all the exempt categories must pass the Borello test to be classified as ICs. The Borello test (based on the California Supreme Court's decision in Borello vs. Dept. of Industrial Relations) is similar to the right of control test used by the IRS. It's not nearly as strict as the ABC test. Under this test, the most significant factor is whether the hiring firm has control or the right to control the worker both as to the work done and the manner and means in which it is performed. In addition, the following factors are to be considered:

  1. Whether the worker is engaged in an occupation or business that is distinct from that of the hiring firm
  2. Whether the work is part of the hiring firm's regular business
  3. Whether the hiring firm or the worker supplies the equipment, tools, and the place for the person doing the work
  4. The worker’s financial investment in the equipment or materials required to perform the work
  5. The skill required in the particular occupation
  6. The kind of occupation—whether, in the locality, the work is usually done under the hiring firm's direction or by a specialist without supervision
  7. The worker’s opportunity for profit or loss depending on his or her own managerial skill
  8. How long the services are to be performed
  9. The degree of permanence of the working relationship
  10. The payment method, whether by time or by the job, and
  11. Whether the parties believe they are creating an employer/employee relationship.

No single factor in the Borello test is determinative, the first one—whether the individual’s work is the service or product that is the company’s primary business—is given the most weight.

Workers Subject to Borello Test Only

Workers in the following categories need satisfy only the Borello test to be ICs:

  • physicians, surgeons, dentists, podiatrists, psychologists, veterinarians
  • insurance brokers
  • lawyers
  • architects and engineers
  • private investigators
  • accountants
  • registered securities broker-dealers and investment advisers, and
  • direct sales salespeople
 who sell (must not be paid by the hour and have written IC contracts)

Workers in these categories must have all required professional or occupational licenses.

Workers Providing Professional Services

Workers providing various types of professional services are ICs if they pass the Borello test—plus satisfy the following six factors. They must:

  1. maintain a business location separate from the hiring firm—this may include their residence

  2. have a business license, in addition to any required professional licenses or permits

  3. be able to set or negotiate their own rates for the services performed

  4. be able to set their own hours

  5. (a) be customarily engaged in the same type of work under contract with another hiring firm, or (b) hold themselves out to other potential customers as available to perform the same type of work, and

  6. customarily and regularly exercise discretion and independent judgment performing their services.

The professional services exception applies to the following workers:

  • marketing professionals (provided that the contracted work is original and creative)
  • travel agents
  • human resources administrators (provided that the contracted work is predominantly intellectual and varied in character)
  • graphic designers
  • grant writers
  • fine artists
  • enrolled agents
  • payment processing agents through an independent sales organizations
  • photographers or photojournalists who license content submissions to a hiring firm no more than 35 times per year (exception not applicable to individuals who work on motion pictures), and
  • freelance writers, editors, or newspaper cartoonists who provide content submissions to hiring firms no more than 35 times per year.

Licensed barbers, manicurists, electrologists, cosmetologists, and estheticians also qualify as ICs under this exception if they meet the above requirements and also:

  • set their own rates, process their own payments, and are paid directly by clients
  • set their own hours of work and have sole discretion to decide the number of clients and which clients they provide services for
  • have their own book of business and schedule their own appointments
  • maintain their own business license for the services offered to clients, and
  • issue a Form 1099 to the salon or business owner from which they rent their business space.

However, the ABC test will apply to licensed manicurists on January 1, 2022.

Business-to-Business Contractors

Business service providers involved in a bona fide business-to-business contracting relationship are ICs if (1) they pass the Borello test, and (2) they satisfy the following criteria. The business service provider (worker):

  • is free from the hiring firm's control and direction while performing the work (this must be set forth in the contract and be true in fact)
  • provides services directly to the contracting business rather than to customers of the contracting business
  • has a written contract
  • has all required business licenses or business tax registration
  • maintains a business location separate from the business or work location of the hiring firm
  • is customarily engaged in an independently established business of the same nature as that involved in the work performed
  • actually contracts with other businesses to provide the same or similar services and maintains a clientele without restrictions from the hiring firm
  • advertises and holds itself out to the public as available to provide the same or similar services
  • provides its own tools, vehicles, and equipment to perform the services
  • can negotiate its own rates
  • consistent with the nature of the work, can set its own hours and location of work, and
  • is not performing the type of work for which a license from the Contractor’s State License Board is required.

Unlike the other exceptions, this exception is not limited to workers performing specific types of services. It applies to individuals who conduct business as sole proprietors, partners in partnerships, members of limited liability companies, or corporations.

Construction Subcontractors

Construction industry subcontractors are exempt from the ABC test. They qualify as ICs if they pass the Borello test and satisfy the following criteria:

  • the subcontract is in writing
  • the subcontractor is licensed by the Contractors State License Board and the work is within the scope of that license
  • the subcontractor has all required business licenses or business tax registration.
  • the subcontractor maintains a business location separate from the business or work location of the contractor
  • the subcontractor has authority to hire and to fire other persons to provide or to assist in providing the services
  • the subcontractor assumes financial responsibility for errors or omissions in labor or services by having insurance, legally authorized indemnity obligations, performance bonds, or warranties for the labor or services provided
  • the subcontractor is customarily engaged in an independently established business of the same nature as that involved in the work performed.
  • the subcontractor has the right to control how the work is performed, and
  • the subcontractor's IC status is bona fide and not a subterfuge to avoid employee status.

Real Estate Licensees

Licensed real estate salespeople and real estate brokers are not subject to the ABC test. For purposes other than unemployment and worker's compensation insurance they must satisfy the Borello test to be ICs. For unemployment purposes they are ICs if they:

  • are duly licensed
  • are paid based on sales, and
  • have a written IC agreement.

Businesses that Obtain Work through Referral Agencies

Ten factors are used to determine the employment status of businesses that obtain work through job referral agencies that connect them with clients to provide graphic design, photography, tutoring, event planning, minor home repair, moving, home cleaning, errands, furniture assembly, animal services, dog walking, dog grooming, web design, picture hanging, pool cleaning, or yard cleanup services

These ten factors are:

  1. The service provider is free from the control and direction of the referral agency while working for the client, both as a matter of contract and in fact.
  2. The service provider has all required business licenses or business tax registration.
  3. If the work for the client requires the service provider to hold a state contractor’s license, the service provider has the required contractor’s license.
  4. The service provider delivers services to the client under the service provider’s name, rather than under the name of the referral agency.
  5. The service provider provides its own tools and supplies to perform the services.
  6. The service provider is customarily engaged in an independently established business of the same nature as that involved in the work performed for the client.
  7. The service provider maintains a clientele without any restrictions from the referral agency and the service provider is free to seek work elsewhere, including through a competing agency.
  8. The service provider sets its own hours and terms of work and is free to accept or reject clients and contracts.
  9. The service provider sets its own rates for services performed, without deduction by the referral agency.
  10. The service provider is not penalized for rejecting clients or contracts (this does not apply if the service provider accepts a client or contract and then fails to fulfill any of its contractual obligations).

Other Exemptions

Other exemptions to the ABC test are provided for:

  • commercial fishermen on American vessels (exception ends on January 1, 2023)
  • Truckers have a temporary exemption for AB5, but it is only temporary.  
  • licensed repossession agencies, and
  • individuals providing driving services for motor clubs.