Freelancer vs. Employee

Independent Contractor (Freelancer) or Employee: Which Status Are You in California – and Which is Better?

Update September 2020: California has now enacted an amendment (AB 2257) to the AB5 law which provides several exemptions. These exemptions apply to those in the music industry, including those who create, market and promote sound recordings, including musicians and vocalists; youth sports coaches; pool cleaning; magicians (illusionists); puppeteers; and freelance writers, photographers and illustrators are no longer be subject to a limit of 35 assignments per year.

Legally speaking, there are essentially 2 types of workers: employees, and independent contractors (aka “freelancers,” “gig workers,” etc). Companies, as well as many workers, often prefer an independent contractor situation rather than traditional employment for several reasons, discussed here. But companies do not necessarily get to decide whether a worker is an employee or an independent contractor; nor does the worker. The law decides.

That said, in certain professions and certain circumstances, it could go either way, and thus you could structure your work situation around the law. For example, journalists can be either on staff, which would generally be employee status, or they can work project by project, which would generally be as an independent contractor. However, under California’s new “Gig Worker Law” (aka “AB 5”), even project-based work can be legally considered employment after a certain number of projects.

How does California law determine who is a freelancer and who is an employee?

It can be complicated, and you may want to get a freelancer lawyer, business lawyer, or employment lawyer if you are unsure. Many employers misclassify (whether intentionally or not) employees as independent contractors to avoid paying certain taxes and other benefits, which we’ll discuss below.

As of January 2020, a new California law (known as AB5) sets a higher standard to qualify as an independent contractor.1AB 5 (2019), codified at Section 2750.3 of the California Labor Code If you don’t qualify as an independent contractor, you are an employee instead.

The determination of your status is a 2-step process:

Step 1: Which test to use?

Every worker is subject to one of 2 tests: either (1) the Borello test (easier standard), or (2) the new, more stringent ABC test aka the “Dynamex test” based on the “Dynamex decision” from April 2018.

Workers are subject to the ABC test, unless any of the following exemptions applies, in which case they are subject to the Borello test.

Who is exempt from the ABC test?

The ABC/Dynamex independent contractor standard applies to almost all industries, including ride-hailing (ride share) companies Uber and Lyft, but many industries are exempt. Some have a clear, blanket exemption. Others get a conditional exemption only if they meet certain requirements.

Business exemption: Most freelancers are actually their own business (whether they know it or not), so they should be able to qualify under this “Business Service Provider” or “B2B” exemption. (Note: anyone in the construction field does not qualify). You must be able to comply with all of the following:

  1. Provide services directly to the contracting business itself, instead of its customers.
  2. Operate as a sole proprietorship, limited liability company (LLC), or corporation (essentially all freelancers are already one of these forms, so this one is easy). However, operating under an LLC or corporation may provide stronger evidence of independent contracting than under a sole proprietorship.
  3. Maintain a business license, if the services are provided in a jurisdiction that requires such licensing or tax registration.
  4. Have a written contract with the contracting business.
  5. Customarily engage in the same type of work performed under the contract.
  6. Negotiate your own rates, set your own hours, and set your location of work separate from the location of the contracting business.
  7. Free from control and direction from the contracting business.
  8. Use your own tools, vehicles, and equipment to perform the services.
  9. Advertise and hold yourself out to the public as available to provide the  services.
  10. Contract with other businesses to provide the same or similar services and maintain a clientele without restrictions from any hiring entity.

Blanket exemption: doctors, dentists, podiatrists, psychologists, veterinarians, lawyers, architects, engineers, accountants, private investigators, insurance agents, Realtors, real estate agents, financial brokers, direct sales salespersons, commercial fishers.

Note: Owner-operator truckers are currently exempt from the ABC/Dynamex test, due to a court order.

The following are some professions that do NOT currently qualify for a blanket exemption: nurses, physical therapists, yoga instructors, personal trainers, actors, directors, plumbers, restaurant workers, maids, housecleaners, etc.

Conditional exemption: the following workers may be exempt from the Dynamex standard if they meet all the conditions below: marketing professionals, human resources, travel agent, graphic designer, grant writer, fine artist, enrolled agent (a type of tax specialist).

The following may be exempt if they meet all of the below conditions AND do not provide content submissions to any particular company more than 35 times per year: photographer, photojournalist, freelance journalist, freelancer writer or editor, cartoonist.

The following may be exempt if they set their own rates and hours, and have their own clients: licensed esthetician, licensed electrologist, licensed manicurist, licensed barber (hairstylist), or licensed cosmetologist, and others performing work under a contract for professional services, with another business entity, or pursuant to a subcontract in the construction industry.

Conditions for conditional exemption:
  1. Maintain a business location, which may include the individual’s residence, that is separate from the hiring entity. But the individual may choose to perform services at the location of the hiring entity.
  2. Maintain a business license, in addition to any required professional licenses or permits for the individual to practice in their profession.
  3. Ability to set or negotiate their own rates for the services performed.
  4. Outside of project completion dates and reasonable business hours, the individual has the ability to set their own hours.
  5. Customarily engage in the same type of work performed under contract with another hiring entity or holds themselves out to other potential customers as available to perform the same type of work.
  6. Customarily and regularly exercises discretion and independent judgment in the performance of the services.

Step 2: Apply the applicable test

After determining whether the ABC test applies or the Borello test applies…

If you are not exempt from the ABC test:

Apply the ABC test. You may be an independent contractor only if you:

(A) are free from the control and direction of the employer;
(B) perform work that is outside the hirer’s core business; AND
(C) workers customarily and traditionally perform this work as an independently established trade, occupation or business.2Dynamex Operations WestInc. v. Superior Court

Also, if you work in construction, there is a strong presumption that you are an employee unless you clearly run your own business.3Labor Code 2750.5

The 2nd requirement – whether you perform work within the hirer’s core business – potentially moves millions more workers from freelancers into the employee category. But keep in mind this actually does not apply to many freelancers. The new law generally does not affect freelancers who do work that is not related to the client’s or hirer’s core business. So, people like graphic designers or writers who contract directly with retailers or other businesses to design their logos or write marketing articles will not generally be affected as to those clients. That is, as long as the freelancers meet the other 2 requirements of being free from the control of the “employer” and customarily engaging in an independently established trade.

If you are exempt from the ABC test:

Those who are exempt from the ABC test are not automatically independent contractors. Instead, they are subject to the “control” test, aka Borello test. The main factor in the Borello test is whether the person or business hiring the worker 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.

Other, more specific factors which may come into consideration include any or all of the following:

  • Whether the worker performing services is engaged in an occupation or business distinct from that of the hiring entity;
  • Whether or not the work is an integral part of the regular business of the hiring entity;
  • Whether the hiring entity or the worker supplies the instrumentalities, tools, and the place for the person doing the work;
  • Whether the worker’s investment in equipment, materials, or the employment of helpers is required by the task;
  • Whether the service provided requires a special skill;
  • Whether the work is usually done under the direction of the hiring entity or by a specialist without supervision;
  • The worker’s opportunity for profit or loss depending on their managerial skill;
  • The length of time for which the services are to be performed;
  • The degree of permanence of the working relationship;
  • The method of payment, whether by time or by the job; and
  • Whether or not the parties believe they are creating an employer-employee relationship – this may have less weight in comparison to previous factors.

Which is a better status – independent contractor (freelancer) or employee?

There are advantages and disadvantages to both the company and the worker as to independent contractor status over employment status. Here’s what you need to know.

How is AB 5 and the employee or independent contractor status enforced?

The burden is on the hiring party to properly classify its workers and comply with AB5. Either workers or the government may bring an action against the hiring party for violations of these laws. A freelancer who agrees to be treated as an independent contractor can still sue the company later on for misclassification and failure to pay minimum wage, overtime, and benefits.

Various government agencies may also bring an enforcement action, including the California Employment Development Department or the California Labor Commissioner’s Office, the California Attorney General, the California Franchise Tax Board (FTB) or the federal IRS. These can arise if the freelancer files a claim for unemployment benefits or overtime compensation (which would only be a successful claim if the freelancer was misclassified). Or if the tax authorities audit the hirer and find that payroll taxes should have been paid because the freelancer should have been classified as an employee.

Resources for Freelancers

Find a good business lawyer or employment lawyer to help you.

References[+]

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