This is the first in a multi-part series providing the basics of California's Assembly Bill 5 ("AB5") and how it fundamentally changes labor relations in California.
A good place to start with AB5 is by understanding who AB5 targets. And, as we will see, who AB5 targets and who AB5 affects are two different questions. This has been a source of confusion for many people trying to wrap their heads around how this new law works.
In short, AB5 targets — that is, it potentially punishes — hiring entities. A “hiring entity” is exactly what it sounds like: the person or company who engages another individual for remuneration (money) for labor or services. In the world of labor law, the relationship between the hiring entity and the labor or service provider falls into one of two categories: the employment relationship and the independent contractor relationship.
AB5 requires hiring entities to engage a labor or service provider (a “worker”) as an employee, and prohibits hiring entities from engaging that worker as an independent contractor, unless the hiring entity can demonstrate that three very particular things are true about the relationship between the hiring entity and the worker. That’s it. That’s the essential mechanism of AB5 in one sentence. We’ll get to the exceptions and the nuances later, but for now, just understand the basic mechanism of the law: if you, the hiring entity, are engaging someone for services or labor, AB5 now requires you to engage that someone as an employee unless three particular things are true about the relationship between you and that someone.
Framed this way, you can see how AB5 targets hiring entities, not workers. If the hiring entity engages the worker as an independent contractor when that worker should have been engaged as an employee, that hiring entity is subject to fines and penalties, which would be assessed by either the California Employment Development Department (EDD) or a court.
Now, everything we’ve said so far makes sense in a world where there is a clear division of bosses and workers (i.e., the kind of world that unions and their members inhabit on a daily basis). One of the reasons many of us are concerned is precisely because, sometimes, we’re the ones engaging others for our projects, and other times, it’s others who are engaging us for their projects. In this way, in many industries, nearly all freelancers are potential targets for AB5, since nearly all freelancers engage other freelancers for services from time to time.
Although AB5 does not target the people providing the labor and services — California’s freelance and contract workforce — it nevertheless affects them in other negative ways which are indirect but just as harmful. Many companies, having concluded that they cannot contract with California workers without running afoul of AB5, have decided to terminate all their California contracts altogether as of January 1, 2020, taking their work to other states whose legislatures are more favorable to contract workers. The result is that, as of April 2020, there are thousands of California contractors following the Governor’s stay-at-home order who are unable to make income that they would have been able to make had AB5 not been passed. These are translators, writers, music producers, and content creators of all types who could be using their time, skills, and internet connection to provide services and generate income for themselves, but they are all prevented from doing so because of, and only because of, AB5.
To whom are hiring entities responsible for demonstrating compliance?
You also may be wondering, since the essence of AB5 is that a hiring entity who wishes to work with independent contractors must “demonstrate” that three things are true: to whom is AB5 requiring hiring entities to demonstrate these three things? This is also a fair question, considering the vast majority of human interaction happens in the real world and not before a court or a regulatory agency.
The hiring entities do not have to demonstrate anything to anyone before engaging the contractor. Instead, AB5's mechanism is punitive. If it is found after the fact that a hiring entity misclassified a worker, AB5 allows the state to assess violations. The particular arm of the state that would assess the violations is either the Employment Development Department (EDD) or a court, depending on how the potential violation is originally raised.
The EDD, for its part, has a system for pinpointing and contacting hiring entities which it believes may have misclassified their workers. (The mechanics of that system will be discussed in a separate post.) Once the EDD has determined that a hiring entity is potentially misclassifying workers, it will initiate a classification investigation, and if it determines that the worker was “willfully” misclassified, the hiring entity will be assessed a fine of anywhere between $5,000 and $25,000 per violation, along with back payments for unpaid unemployment insurance and other consequences. If this happens, a hiring entity would have the right to appeal the decision with a court, and a court would review the EDD’s decision and make its own determination.
AB5 also allows a city attorney or a private citizen to prosecute an action for AB5 violations against any hiring entity accused of misclassification in a court; if this happened, it would be a California civil judge, not the EDD, deciding these same issues at the outset.
Out-of-state hiring entities and out-of-state contractors
Another commonly asked question is whether AB5 applies to out-of-state hiring entities, and also whether AB5 allows California to go after businesses who misclassify out-of-state workers. There are four basic scenarios:
In-state hiring entity contracts in-state freelancer: AB5 applies. This is the typical scenario where AB5 would obviously apply. California has an interest (albeit a misplaced one) in regulating the rights and responsibilities of both the in-state hiring entity and the in-state freelancer.
Out-of-state hiring entity contracts in-state freelancer: AB5 applies. The state of California can pursue out-of-state hiring entities who it believes have misclassified Californians. This is why many app-based and gig-type businesses that used to provide many Californians a way to make money from their homes cancelled all their California contracts on January 1, 2020.
Some astute freelancers have inquired whether setting up a corporation under the laws of another state with a physical address in that state would solve the AB5 problem, but because of the prior paragraph, this is not a solution.
In-state hiring entity contracts out-of-state freelancer: AB5 does not apply. This is not immediately obvious from the text of AB5, but the EDD website has clarified that AB5 is not concerned with the classification of out-of-state workers.
Out-of-state hiring entity hires out-of-state worker: AB5 does not apply. This is the scenario where AB5 obviously does not apply and it’s why many freelancers, creatives, and entrepreneurs have tragically started packing up and leaving our state.
Even More Consequences
There is one more aspect of AB5 that has not been widely discussed and it’s a doozy. In California, wage theft is a crime. The concern is that misclassifying an employee as an independent contractor will, in some cases, be considered wage theft, especially if the misclassification caused the worker to receive less than they would have been entitled to as employees. Because AB5 requires more working relationships to be that of employer-employee, and because classifying someone as a contractor when they should have been an employee can amount to wage theft, AB5 has expanded the definition of a crime. This increases the potential of criminal liability for contractors, arts organizations, and businesses of all types.
Part 2 of this series examines the how AB5 redefines the employment relationship in California. We examine the specifics of the ABC test and why we refuse to accept the destructive consequences of the test.
If you're concerned, energized, or frustrated by AB5, please join our Facebook group, The People v. AB5, where we will be coordinating specific, scaled action items to raise awareness and get our lawmakers' attention.
TPVAB5 is a lawyer and freelance musician in Los Angeles. A lifelong Democrat, he was brought into this fight by AB5 and by the realization that politicians on both sides of the aisle are beholden to special interests.