If you’ve been curious about how AB 5 will impact businesses across California, you’re not alone. AB 5, the Assembly Bill signed by Californian Governor Newsom in 2019, completely changed the standard for classifying workers as independent contractors. This change has created confusion as companies struggle to understand how it may impact their industry. There have even been protests against the bill by individuals whose small business status is at risk due to the new classification standards

What is clear, however, is that California is serious about enforcing the bill.  Governor Newsom’s new budget includes about $20 million in funding to enforce AB 5. This means that companies doing business in the Golden State need to carefully, and quickly, adapt to the new standard or risk penalties.

While the complicated law will most likely be clarified through legislation, we can expect it to immediately impact companies in the following three ways. 

The Department of Industrial Relations assumes that workers are employees unless the hiring entities satisfies all three conditions of the ABC test. With a few exceptions, this test is the new standard for determining who is an independent contractor and who is an employee. This shift in how workers are classified means companies must reevaluate their workforce, and potentially reclassify workers as employees to be in line with the new law.

This may mean that your current staff is larger than you anticipated, opening the door to additional costs in areas like workers’ compensation and benefits.  AB 5 doesn’t automatically reclassify workers though; it simply changes the rules for who can be considered a contractor. The Department of Industrial Relations offers companies the following advice:

“Employers may wish to evaluate their working arrangements and ensure they are appropriately classifying their workers as required under the law, and workers may file a claim if they believe they have been misclassified.” Source

Ability to outsource

Outsourcing to freelancers and independent contractors is a popular way for companies to meet short term demand. It is also a helpful strategy for businesses to manage risk while they scale up or test new revenue streams. For workers, freelance opportunities can be a lifeline to extra income or a safe way to launch a new business.

With AB 5 in place, it may be more difficult, and risky, to hire freelancers. Some Californian companies are making moves to protect themselves from both the unexpected cost, and potential legal trouble that comes with misclassified workers.  Vox Media, for instance, ended its relationship with around 200 contractors to stay ahead of AB 5.

Ability to be flexible

Freelance and contract labor bridges the gap between current needs and future risk, allowing companies to more readily adapt to current conditions. This type of short-term labor creates flexibility for companies that can’t afford the financial burden of hiring full or part time help. This is especially critical for new companies, those entering new markets and those experiencing a temporary uptick in work.

AB 5, however, makes it more difficult to utilize short-term labor solutions. For instance, with the ABC test in place, a worker must be free from the control and direction to be considered an independent contractor. This ambiguous language may make it difficult for a company to confidently classify a worker as independent.

AB 5 and construction

Currently, there is an exception to the ABC test for construction-related trucking,. This exemption allows most subcontractors that provide construction trucking services for which a contractor’s license is not required to be exempt from the test if a certain set of criteria are met. This exception is set to expire in 2022.

Keep in mind, however, this only applies to situations where a contractor’s license isn’t required. For work performed after January 1, 2020, any business entity that provides construction trucking services to a licensed contractor utilizing more than one truck shall be deemed the employer for all drivers of those trucks. This means a subcontractor can’t contract with owner/operators if they use more than one truck but must classify them as employees.

Other areas of the construction industry, however, are equally impacted by AB 5. For instance, hiring short term workers to take on a single project may no longer be feasible since they may be classified as employees. As employees they would be entitled to benefits, overtime pay and other strictly enforced labor laws.

It may also be difficult for small and mid-sized construction companies to grow with AB 5 in place. Apart from the risk and cost associated with trying to hire short-term help, companies with larger workforces are already positioned to take on more contracts. This could make it hard for companies to compete with established construction companies since they can’t easily staff up for larger, more lucrative projects.

While there are some exceptions to the new ABC test, including a temporary exception for construction-related trucking, the impact of AB 5 is far reaching. We’re likely to see additional legislation, and potentially litigation, regarding the application of AB 5 in the workplace. In the meantime, employers are encouraged to monitor the Department of Industrial Relations for updates and direction.

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The material presented here is educational in nature and is not intended to be, nor should be relied upon, as legal or financial advice. Please consult with an attorney or financial professional for advice

The material presented here is educational in nature and is not intended to be, nor should be relied upon, as legal or financial advice. Please consult with an attorney or financial professional for advice.