California is doubling down on the Dynamex ruling across the board

Just over a year after the California Supreme Court handed down the landmark decision Dynamex Operations West, Inc. v. Superior Court, the 9th U.S. Circuit Court of Appeals and California's state labor commissioner have stepped in to fill in some of the unanswered questions about the opinion. The result of this is clear: Dynamex is here to stay, and it is more far-reaching that initially expected.

A Brief Summary of Dynamex and Its Impact

Dynamex established a new, more restrictive standard for determining whether a worker qualifies as either an employee or an independent contractor under California wage order laws. Beginning with the presumption that workers are employees, rather than independent contractors, a worker may only qualify as an independent contractor if he or she meets all three of the following tests: (A) The worker is free from the control of the company; (B) the worker performs work outside of the usual course of business of the company; and (C) the worker is regularly and customarily engaged in an independent trade or business that is of the same nature as the work performed for the company. This is known as the "ABC test." Failing any one of these three parts of the test is enough to classify a worker as an employee.

This test, intended to make the thorny business of classifying workers more clear-cut, left several key questions. Companies were left wondering whether workers who had previously been classified as independent contractors could continue in that classification without having to pass the new test. Companies also had no guidance as to how they could pass the test -- what was an "independent trade or business," and what is "work outside the usual course of business"?

Does the Decision Apply Retroactively?

The 9th Circuit recently answered this question in the affirmative in the case Vazquez v. Jan-Pro Franchising International, Inc. Reasoning that court decisions apply retroactively when they act to clarify existing law, the court found that all companies with misclassified independent contractors -- who may have been properly classified under prior standards but would not meet the ABC test -- are potentially subject to up to four years of retroactive liability. This is in line with the statute of limitations for most Labor Code violations in California when brought in conjunction with a claim for unfair business practices under the California Business and Professions Code.

How Much Leeway Do Companies Have in Passing the ABC Test?

A big question left after Dynamex was how easy it would be to pass the test. Would it be enough, for example, for a company to take a very narrow interpretation of its "regular and customary business" so that a contractor could fall outside of it? In Vazquez, Jan-Pro Franchising learned the hard way that courts will not interpret Dynamex so narrowly. Jan-Pro Franchising operated franchises for staffing janitors. It argued that its "usual course of business" was franchising, not janitorial work, and therefore the janitors who worked for its franchises were not really employees. Despite its sophisticated, multitiered franchising model involving separate corporate entities with separate staffs, the court referred to Jan-Pro Franchising as a "janitorial cleaning business." The court suggested that this aspect of the ABC test (prong B) is not satisfied if the company depends on the type of services performed by the worker, or if the company's profits are directly related to the worker's output. In other words, if an individual's work contributes to the company's profits, the worker is not performing work outside of the usual course of business of the company. The court also suggested that this prong of the ABC test will be the hardest one for companies to satisfy.

Does the Decision Apply to All Aspects of California Employment Law?

The day after the Vazquez decision, the California Division of Labor Standards Enforcement issued an opinion letter regarding the application of Dynamex to other aspects of California employment law. Since the 2010 California Supreme Court decision Martinez v. Combs, California law has defined an employment relationship as a company exercising control over the hours, wages or workings conditions; suffering or permitting someone to work; or engaging someone in work. This has subtle differences from the ABC test, and applies to more than just worker classification -- Martinez addressed responsibility for wages, overtime, wage statements, etc., in a way that Dynamex did not. It left open the question of whether a worker could be classified as an employee under the ABC test but not under other aspects of employment law.

The DLSE confirmed in its opinion letter that Dynamex had not only flipped the table on worker classification, but also on the very definition of employment itself in California. Anything deriving from the California Wage Orders is subject to Dynamex's ABC test, which includes minimum wage laws, overtime, meal and rest periods, wage statements and expense reimbursements. In short: A misclassified employee could be subject to different types of derivative penalties.

DLSE opinion letters provide guidance but are not binding on courts. Even though courts can choose to ignore them, many courts do follow the DLSE's guidance, and the DLSE will likely apply its own interpretations to charges brought by or before the DLSE. If the DLSE finds a violation of the law, it may issue penalties and back pay to employees who bring claims before it.

What This Means for Companies

One common question is whether companies and contractors can reach an agreement that the ABC test has been met, if both sides would prefer such an arrangement. Although many independent contractors prefer that classification for a variety of reasons, parties cannot contract around employment laws in this manner. Even under pre-Dynamex standards, California courts were willing to look past an independent contractor agreement and find "employee" status if other circumstances suggested a worker was an "employee."

Furthermore, even if both the worker and the company are happy with the arrangement, a taxing authority could discover the misclassification and seek unpaid payroll taxes. Taxing authorities, such as the Employment Development Department, frequently cross-refer such workers and companies to the DLSE for penalties and investigation related to misclassification. The state of California also has an interest in misclassification, for example, if an employer is improperly classifying workers as contractors to avoid paying workers' compensation insurance. Therefore, misclassifying employees can have impacts far beyond an unhappy worker -- it can spell time-consuming legal battles and expensive penalties from state agencies.

The double whammy of the 9th Circuit and DLSE confirms that companies with California workers will not be able to go back to the old days, pre-Dynamex. Dynamex provides a standard that is very difficult to meet, and employers should reexamine the classifications of all their workers. Any independent contractor is now suspect and should be checked with legal counsel for compliance with the ABC test.