What Failing to Comply with AB-5 Could Cost Your Business

Posted: September 2, 2020 | News

California Assembly Bill-5 (AB-5), which took effect January 1, 2020 in the State of California, created a three-pronged test to determine whether a worker should be classified as an employee or an independent contractor. This test, referred to as the ABC Test, starts with the presumption that all workers are employees (except in certain specified exempted industries or job functions) unless the company that hires them can prove the following three things:

The worker is free from the control and direction of the hiring entity in connection with the performance of the work, both under the contract for the performance of the work and in fact.

The worker performs work that is outside the usual course of the hiring company’s business.

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

Many business owners may not understand the potential ramifications of failing to comply with AB-5. Because of the perceived freedom that utilizing independent contractors provides, many business owners still prefer to classify their workers as independent contractors. 

However, many plaintiff employment attorneys pursue claims for workers who allege that they are misclassified as independent contractors in violation of AB-5. Business owners should be aware that plaintiff attorneys can generate tremendous liability for companies who run afoul of AB-5.

A violation of AB-5 may implicate several Labor Code violations, including sections 1194, 1197, and 1197.1 for failing to pay minimum wage.  If the worker prevails, these violations can subject a business to pay both the required amount to make the worker whole for minimum wage, plus a matching liquidated damage amount. 

Similarly, a worker is likely to claim that the business violated Labor Code sections 226.7 and 512 by failing to provide legally compliant meal breaks. This can subject a company to damages equal to an additional hour of pay for each day in which legally compliant meal breaks were not provided. Independent contractors generally do not document meal breaks, and the lack of records will weigh in favor of a worker who can prove they should be an employee under AB-5.

Business owners should also expect claims alleging a violation of Labor Code section 226.7 if duty-free rest breaks were not provided to the worker. This too can result in damages of an additional hour of pay for those days in which mandated rest breaks were not provided.

Plaintiffs’ attorneys often allege that a company violating AB-5 has also violated Labor Code section 2802 by failing to reimburse the worker’s necessary expenditures.  Under this section, a business can be liable for the expenses incurred by an individual determined to be an employee under AB-5.

Businesses also should expect the worker to allege violations of Labor Code section 226.8 by willfully misclassifying employees as independent contractors. This section contains a civil penalty that ranges from $5,000 to $15,000 per misclassified employee for each violation and can escalate to a penalty between $10,000 and $25,000 for a business found to be engaged in a pattern or practice of misclassifying workers.

Plaintiff attorneys will also usually allege that the business has violated Labor Code sections 201 and 202 by willfully failing to pay all wages due at the time of termination or resignation.  This can subject the company to an additional 30 days of pay at the worker’s normal rate of pay.

Most claims also allege that businesses have violated Labor Code section 226 by failing to maintain and provide complete and accurate itemized wage statements (paystubs).  For the first wage statement that is not provided or is not accurate, the misclassified employee can seek $50 or their higher actual damages, and then $100 per wage statement or their higher actual damages for each successive inaccurate (or unprovided) wage statement thereafter. There is a $4,000 cap on these wage statement claims per employee. 

Often these claims will allege violations of Labor Code section 204 for failing to pay wages within the specific pay periods required by that section. There is no direct damage claim available for this violation, but as explained below this could be alleged as part of a Private Attorneys General Act (“PAGA”) claim. 

Additionally, in a PAGA action there can be a claim that the business has violated Labor Code section 1174(d) by failing to keep complete and accurate records regarding hours worked.  A violation of this statute does not provide for direct damages.

Businesses with more than one independent contractor are most at risk because of the potential for a class action or PAGA lawsuit.  A class action is where one contractor attempts to sue on behalf of all others and multiplies the direct damages above for each allegedly misclassified employee.  A well-drafted arbitration agreement with a class action waiver may provide a layer of defense to defeat such a class action.

However, many plaintiff attorneys are regularly asserting these claims as PAGA actions where, in addition to seeking direct damages on behalf of one employee, they are suing for civil penalties for the violation of each of the Labor Code provisions set forth above.  Because arbitration agreements do not currently bar PAGA actions, one employee can seek civil penalties, such as the $25,000 per employee under Labor Code section 226.8. 

PAGA lawsuits also normally request stacking penalties for each violation of the Labor Code, for each pay period that the worker performed work for the business.  If the penalties are stacked, the business may face $100 for the initial violation, and $200 for successive violations for each pay period whether the violation is present per employee. These are the default rates for Labor Code violations without specific penalties provided.  However, some claims, such as violations of Labor Code section 1197.1, have different civil penalty rates provided for in the statute. The law is currently unclear on whether the stacking of penalties is authorized, however if stacking is allowed the numbers can multiply rapidly for those in violation of AB-5.

If you have any questions or concerns regarding compliance with AB-5, the employment attorneys at Ferruzzo & Ferruzzo, LLP are available to provide guidance.

This blog is not meant to provide specific legal advice. For advice specific to your business, please contact any of the employment attorneys in our Employment Practices Group who are ready to assist you.