Employee or Independent Contractor? California Supreme Court Adopts New Test for Worker Classification

On April 30, 2018, the California Supreme Court issued its long-awaited decision in Dynamex Operations West, Inc. v. Superior Court, which established the standard for determining whether workers should be classified as employees or independent contractors for purposes of the wage orders adopted by California's Industrial Welfare Commission (IWC). In an 82-page ruling, the unanimous Court adopted a standard that presumes workers are employees instead of independent contractors under the wage orders. Under the newly adopted "ABC test," the Court held that a worker has been suffered or permitted to work, and thus is an employee for wage order purposes, unless the hiring business demonstrates each of the following three requirements (A, B and C):

(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 the work and in fact; and

(B) The worker performs work that is outside the usual course of the hiring entity's business; and

(C) The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as that involved in the work performed. 

Background

Dynamex is a nationwide package and document delivery company that offers on-demand, same-day pickup and delivery services to the general public and business customers. Before 2004, Dynamex classified its California drivers as employees and paid them pursuant to California wage and hour laws. In 2004, Dynamex reclassified all of its drivers to independent contractors as a cost-saving measure. 

Dynamex drivers are required to provide their own vehicles, pay for their transportation expenses, taxes, and workers' compensation insurance, purchase and wear Dynamex shirts and badges, buy and pay for a cell phone to maintain contact with Dynamex, and attach decals to their vehicles when making customer deliveries. Dynamex obtains its own customers, sets the rates to be charged to those customers, and assigns deliveries to on-demand drivers in its sole discretion.  While drivers are generally free to set their own schedule, they must notify Dynamex of the days they intend to work. When they are not driving for Dynamex, drivers are permitted to make deliveries for another delivery company, including their own personal delivery business. 

The Supreme Court's Decision

The Court dedicated much of its decision to a "historical review" of the employee-independent contractor distinction under California law. Dynamex argued a worker's status as an employee or independent contractor must be decided solely by applying a "common law" test, as decided in Borello & Sons Inc. v. Department of Industrial Relations, 48 Cal. 3d 341 (1989). The principal consideration is whether the hiring entity has the "right to control" the means and manner in which work is performed by a worker. Borello also identified nine secondary factors to consider in assessing a worker's classification. The Court rejected this test. 

The Court then considered the plaintiff's argument, grounded in the Court's decision in Martinez v. Combs, 49 Cal. 4th 35 (2010), that anyone who is "suffered or permitted to work" is an employee. The Court took issue with a literal reading of the "suffer or permit to work" language, because it would include all individual workers who can reasonably be viewed as working in the hiring entity's business. This interpretation would encompass the type of traditional independent contractors (such as plumbers) who could not reasonably have been intended by the wage order to be treated as employees. Accordingly, the Court adopted the so-called ABC test to clarify the scope of the "suffer or permit to work" language.

The ABC test places the burden on the hiring entity to establish that the worker is an independent contractor who falls outside of the wage order's coverage.  To meet this burden, the employer must satisfy each of the three factors. The Court found that this interpretation of the "suffer or permit to work" standard effectuates the fundamental purpose of the wage orders and provides greater clarity, consistency, and less opportunity for manipulation than a test that weighs numerous factors on a case-by-case basis. The Court noted that because a hiring entity's failure to satisfy any one of the three requirements establishes that the worker should be treated as an employee for purposes of the wage order, a court may consider the requirements in whatever order it chooses. 

Implications for California Businesses

The Dynamex decision could have wide-reaching implications for any business in California that classifies workers as independent contractors. For many businesses, part B of the ABC test, which requires the business to show that the worker performs work that is outside its usual course of business, may pose the greatest challenge in establishing that a worker is properly classified as an independent contractor. The Court provided the following examples, drawn from cases in other jurisdictions which have already adopted the ABC test, of workers who provide services within the usual course of the hiring entity's business and are therefore properly classified as employees:

• Work-at-home seamstresses hired by a clothing manufacturing company to make dresses from cloth and patterns supplied by the company and that will be sold by the company;
• Cake decorators hired by a bakery to work on a regular basis on custom-design cakes;
• A worker hired to cut and harvest timber by a timber management company involved in the purchase and harvesting of trees and the sale of cut timber;
• A performer hired by a resort which advertised and regularly provided entertainment; and
• An art instructor hired to teach art classes at a museum that offered art classes on a regular and continuous basis.

While the analysis of a hiring entity's usual business operations will be fact-intensive, Dynamex makes clear that workers whose roles are "clearly comparable" to those of employees in the same organization will be considered employees under the ABC test. 

The Supreme Court limited its ruling to worker classification for purposes of the wage orders. It remains to be seen whether courts will apply the ABC test to wage claims that do not arise from the wage orders (such as claims for expense reimbursement under section 2802 of the Labor Code) and other employment claims. 

The Court did not expressly state whether its decision was retroactive. A request for clarification of this point has been filed by the California Employment Law Council and is currently pending before the Court.

Businesses that engage independent contractors in California should consult legal counsel to review any independent contractor relationships under the new ABC test. Dynamex may bring forth more worker misclassification claims and class actions. As a result, companies doing business in California should consider adopting arbitration agreements, as California state courts currently uphold class-action waivers ancillary to arbitration agreements. (The US Supreme Court is expected to rule by next month on the enforceability of such waivers under the federal National Labor Relations Act.)

Please feel free to contact the attorneys listed on this Advisory for further guidance or analysis.

© Arnold & Porter Kaye Scholer LLP 2018 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.