AB5 ABC test

The AB5 ABC test is California’s three-factor test for determining worker classification. In order to be legally classified as an independent contractor, a worker must satisfy all three components of the test. 

Assembly Bill 5 — which codified the ABC test — has faced much opposition and controversy, especially among large corporations that rely heavily on gig worker labor. The main reason is that under California’s AB5 law, it’s much harder to qualify as a self-employed worker. 

This means companies will be forced to employ many workers they currently work with on a freelance basis. The implications of this pose a significant additional cost to companies, which will be required to provide social benefits, protections, and rights to workers who are determined to be employees. In addition, many freelancers also oppose the law because they fear the increased risk of misclassification penalties will prevent companies from hiring them and they are not interested in becoming employees. 

So, if your company is based in California or hires independent contractors there, it’s crucial to stay on top of AB5 and understand the ABC test. In this post, we’ll go over the evolution of AB5 and cover what employers need to know about classifying workers via the ABC test. 

This article is part of our guide on Assembly Bill 5 (AB5).

What is AB5?

Assembly Bill 5 was signed into law by California Governor Gavin Newsom and went into effect in January 2020. Also known as the “gig worker law,” AB5 was designed to provide more regulation and corporate accountability on the rising gig worker economy. The law focuses on worker classification — it aims to define who is an employee and who is in fact an independent contractor in the state of California.

Before the establishment of AB5, lawmakers and labor rights groups were concerned that many gig workers were missing out on the benefits, protections, and rights usually afforded to employees. The tricky (and controversial) part of developing such legislation is determining exactly what factors to use to determine workers’ status. 

Under AB5, companies are subject to the 3-part ABC test, which was adopted by the California Supreme Court in 2018 in Dynamex Operations West, Inc. v. Superior Court of Los Angeles. The lawsuit was filed by two delivery drivers who alleged Dynamex Operations West, Inc. misclassified its drivers as independent contractors and therefore violated California’s Industrial Welfare Commission (IWC) Wage Orders related to minimum wages, maximum hours, and certain working conditions.

While the Dynamex decision limited the ABC test to IWC Wage Order violations, the AB5 ABC test also applies to Labor Code violations, as well as California Unemployment Insurance and Workers’ Compensation. (more on this below)

The three-factor AB5 ABC test

Under AB5, companies that hire independent contractors are required to reclassify them as employees unless the workers meet all three requirements in the following ABC test:

  1. The company does not control or direct what the worker does, either by contract or in actual practice.
  2. The worker performs tasks outside of the hiring entity’s usual course of business.
  3. The worker is engaged in an independently established trade, occupation, or business.

If a worker doesn’t meet just one of these requirements, the hiring company must classify them as an employee and provide them minimum wage protection, healthcare coverage, retirement benefits, expense reimbursements, employee benefits, unemployment insurance, rest breaks, and other protections afforded to California employees.

A brief history of the AB5 ABC test

Here’s how the AB5 ABC test evolved into what it is today.

1. The Borello test

Before the ABC test was adopted, the 11-factor Borello test, also known as “the right to control” test, was used to determine worker classification. 

The Borello test was instated following the S.G. Borello & Sons, Inc. v. Department of Industrial Relations decision in 1989. California’s courts, Labor Commissioner, and Employment Development Department used the Borello test to classify workers based on the level of control a hiring company has over the contractor, as well as secondary factors, such as the worker’s ability to profit or loss and who pays for their tools.

The 11 factors are listed below. Unlike the ABC test, not all factors need to be satisfied in order for a worker to be considered an independent contractor. 

  1. Does the worker have the sole right to control the manner and means of accomplishing the results desired of the work?
  2. Is the hiring entity required to give advance notice when they intend to terminate the relationship without cause?
  3. Is the worker who performs the service engaged in an occupation or business that is distinct from that which the employer does?
  4. Is the worker performing the work without the direct supervision of the employer?
  5. Is skill required in the particular occupation?
  6. Does the worker who performs the service supply his or her own supplies and tools to do the job?
  7. Does the worker performing the work have the right to hire and terminate others?
  8. Is the length of time for which the worker is to perform the services considered temporary and fixed, rather than indefinite?
  9. Is the method of payment based on job completion?
  10. Are the services performed by the worker separate from the regular business of the employer (i.e. the worker not doing jobs for clients of the employer, but rather doing work for the employer themselves)?
  11. Do the parties believe they are creating the relationship of an independent contractor with the hiring entity?

2. The ABC test under the Dynamex decision

During the 2018 Dynamex decision, the California Supreme Court reevaluated whether the Borello test was the proper legal test for classifying workers. They identified a need to focus on classification when Wage Orders were at issue, which cover protections like overtime, meal, and rest breaks. The Court ultimately decided that the Borello test was not adequate, and instead adopted the ABC test to classify workers.

However, at this time, the ABC test was only used to assess claims of violations of (IWC) Wage Orders (i.e. minimum wages, maximum hours, and certain working conditions).

Under the 3-factor ABC test (listed above), companies must prove that workers are not under the company’s control, they perform work outside of the company’s primary business, and they are regularly engaged in their trade beyond their working relationship with the company.

3. AB5 ABC test

Under AB5, application of the ABC test is expanded further.

AB5 adds section 2750.3 to the California Labor Code, which states that the ABC test will be used for employee classification as it relates to the California Wage Orders, the Labor Code, and the Unemployment Insurance Code.

In practice, this means that companies that hire independent contractors who “fail” the ABC test must classify them as employees, and address all of the related including all implications. It also means workers can use the ABC test to support claims that their companies misclassified them. 

The AB5 ABC test includes multiple exemptions, meaning certain professionals can retain their independent contractor status without the ABC test, such as doctors, lawyers, architects, professional services (such as in marketing, human resources administrator, travel agents, graphic designers, grant writers, fine artist), financial services (including accountants, securities broker-dealers, investment advisors), insurance brokers, real estate agents, and more.

However, many companies and contractors said these exemptions were not comprehensive enough, which led to strong opposition to the bill. As a result, lawmakers created an updated version of the law, while companies in opposition drafted their own legislative response, called Prop 22

4. AB 2257

On September 4 2020, Governor Gavin Newsom signed an updated version of AB5 into law. 

The new legislation, called AB 2257, keeps the AB5 ABC test intact, but expands exemptions to more categories of independent workers.

Under AB 2257, recording artists, performing artists, landscape architects, translators, copy editors and illustrators, real estate appraisers, home inspectors, and several other categories of freelancers can retain their status as independent contractors. 

Another goal of AB 2257 was to clarify some of the arbitrary language in AB5. For example, the rule that said freelance writers, photographers, photojournalists, editors, and cartoonists were exempt as long as they submitted content fewer than 35 times per year was eliminated in AB 2257, according to JD Supra.

54. Proposition 22

In November 2020, California voters approved Prop 22, a ballot initiative that Uber, Lyft, and DoorDash authored in objection to AB5. The authors, as well as other opponents of AB5, argued that maintaining gig workers’ status as independent contractors is both central to their business model and necessary for keeping work schedules flexible for drivers. 

Since it passed, app-based transportation and delivery companies are now exempt from the AB5 ABC test. This means they are not required to reclassify their drivers from independent contractors to regular employees. However, they are obligated to provide workers certain benefits, including a guaranteed minimum hourly wage, health insurance subsidies, medical and disability coverage, greater protection from discrimination and sexual harrassment. 

5. AB 2257

On September 4 2020, two months before Californians voted on Prop 22, Governor Gavin Newsom signed an updated version of AB5 into law. 

The new legislation, called AB 2257, keeps the AB5 ABC test intact, but expands exemptions to more categories of independent workers.

Under AB 2257, recording artists, performing artists, landscape architects, translators, copy editors and illustrators, real estate appraisers, home inspectors, and several other categories of freelancers can retain their status as independent contractors. 

Another goal of AB 2257 was to clarify some of the arbitrary language in AB5. For example, the rule that said freelance writers, photographers, photojournalists, editors, and cartoonists were exempt as long as they submitted content fewer than 35 times per year was eliminated in AB 2257, according to JD Supra.

Keeping up with the AB5 ABC test is the key to avoiding misclassification penalties

Companies that work with independent contractors in California have a major incentive to comply with the state’s worker classification system. Those that misclassify workers, even by accident, are subject to audits, fines, penalties, and reputational damage, each of which can render significant harm to the business. 

But by understanding the history of the AB5 ABC test and knowing where it stands today, you can position your company to work with independent contractors successfully while ensuring compliance to California tax and labor laws.