Misclassifying independent contractors can expose California employers to significant liability, including unpaid wages, payroll tax obligations, civil penalties, and costly class or representative actions. For that reason, in California there is an assumption that workers are employees unless the hiring entity can satisfy a strict legal test known as the “ABC test.”

This article provides an overview of California’s independent contractor laws, the ABC test, common exemptions, and practical steps employers can take to reduce risk. Hanson Bridgett will be hosting a Labor & Employment webinar discussing “Independent Contractor or Employee? Getting Classification Right Under California Law,” presented by Sandra Rappaport and Brenda Quintanilla on October 29th at 10:00 AM PST.

The Evolution of California’s Independent Contractor Laws

California’s approach to worker classification has evolved significantly over the last several decades.

The Borello Test

For many years, courts applied the test established in S.G. Borello & Sons, Inc. v. Department of Industrial Relations. Under Borello, the primary inquiry is whether the hiring entity retains the right to control the manner and means of accomplishing the worker’s performance. But there is no single determining factor. Instead, courts consider all potentially relevant facts on a case-by-case basis, including:

• Whether the worker operates a separate business;
• The level of skill involved;
• Who supplies tools and equipment;
• The duration of the relationship;
• The method of payment; 
• Whether the work is part of the hiring entity’s regular business; and
• Whether the worker hires their own employees.

Dynamex, AB 5, and AB 2257

In 2018, the California Supreme Court fundamentally changed the analysis in Dynamex Operations West, Inc. v. Superior Court. The court adopted the ABC test  and established a presumption that workers are employees.

In 2020, first through Assembly Bill 5 (“AB 5”) and then Assembly Bill 2257 (“AB 2257”), the ABC test went from case precedent to established statutory law. Today, the ABC test is the default rule in California, unless a statutory exemption applies.

The ABC Test

Under the ABC test, a worker is presumed to be an employee. The hiring entity bears the burden of establishing all three of the following factors in order to properly classify someone as an independent contractor:

1. Freedom from Control and Direction

The worker must be free from the hiring entity’s control and direction in connection with the performance of the work, both under the contract and in actual practice. This essentially means the hiring entity must not be able to exert the same type and degree of control over those labeled as independent contracts as it can over its employees.

Indicators that a worker may be an employee include:

• The hiring entity sets work schedules or hours
• The hiring entity dictates how work is performed
• The worker must follow the hiring entity’s procedures
• The worker receives training from the hiring entity
• Day-to-day performance is supervised or evaluated by the hiring entity

Indicators supporting independent contractor status include:

• The hiring entity only specifies the desired result
• The worker determines how to achieve that result
• The worker chooses when and where to work
• The worker may decline assignments
• The worker uses their own methods, tools, or assistants

Importantly, a contract stating that the worker is an independent contractor is not enough. California looks at how the relationship actually functions in reality. 

2. Work Outside the Hiring Entity’s Usual Course of Business

The second prong of the ABC test often presents the greatest challenge for businesses. The question is whether the service being performed falls outside the hiring entity’s normal course of business. If the worker performs services that are central to what the business sells or provides, this prong may not be satisfied.

The California Supreme Court has provided helpful examples: If a clothing store hires a plumber to repair a leak, the plumber is likely an independent contractor because plumbing is not part of the clothing store’s regular business. On the other hand, if a clothing manufacturer hires home-based seamstresses to sew garments, the seamstresses are likely employees and not independent contractors because sewing garments is central to the manufacturer’s business.

A useful question is whether the hiring entity could continue offering its primary goods or services if the independent contractor’s work disappeared. If the answer is no, Prong B may not be satisfied.

3. Independently Established Business

The final prong requires the worker to operate an established independent business of the same nature as the services being performed.

Factors suggesting an independent business include:

• Operating through a separate business entity
• Maintaining required licenses or registrations
• Marketing services to the public
• Having multiple clients
• Carrying business insurance
• Utilizing own tools or equipment
• Negotiating rates
• Bearing a genuine risk of profit or loss 

California requires more than the theoretical ability to operate an independent business. The business must actually exist and function independently. A worker who depends exclusively on one company for work may struggle to satisfy Prong C.

Exemptions to the ABC Test

Not every worker relationship is evaluated under the ABC test. AB 5 and AB 2257 created numerous exemptions, and if applicable, courts consider an independent contractor theory under the older Borello multi-factor analysis instead.

Examples include:

• Certain licensed professionals, such as attorneys, physicians, architects, engineers, and accountants
• Certain insurance and securities professionals
• Real estate licensees
• Certain creative professionals
• Certain barbers and cosmetologists
• Qualifying business-to-business relationships
• Certain construction subcontractors

However, employers should proceed cautiously. Most exemptions contain detailed statutory requirements. Merely belonging to an exempt occupation does not automatically establish independent contractor status. The specific criteria for the exemption must also be satisfied.

Independent Contractor Agreements Still Matter

Although a written agreement alone cannot create independent contractor status, a well-drafted agreement remains an important risk-management tool.

Key provisions often include:

• Defined scope of services
• Term of the engagement
• Compensation structure and invoicing procedures
• Independent contractor status language
• Rules regarding subcontractors
• Ownership of work product
• Insurance requirements
• Termination rights

Importantly, the agreement should accurately reflect how the relationship functions in practice. A contract that says one thing while the parties operate differently may provide little protection in a classification dispute.

Civil Penalties for Misclassification

The consequences of misclassification can be substantial. California Labor Code section 226.8 authorizes civil penalties of $5,000 to $15,000 per violation for willful misclassification; and $10,000 to $25,000 per violation where there is a pattern or practice of willful misclassification.

Practical Steps for California Employers

Businesses that engage independent contractors should periodically review their independent contractor relationships and consider the following steps:

1. Inventory all independent contractor relationships.
2. Evaluate each relationship under Prongs A, B, and C of the ABC test.
3. Determine whether any statutory exemption applies.
4. Ensure written agreements accurately reflect the actual working relationship.
5. Reclassify or restructure relationships that do not satisfy applicable legal requirements.
6. Consult experienced employment counsel when classification questions arise.

Conclusion

California’s ABC test creates one of the most demanding worker-classification standards in the country. Because workers are presumed to be employees and the hiring entity must prove every element of the ABC test, businesses should carefully evaluate existing independent contractor relationships rather than relying on contract labels alone. A proactive review can help reduce the risk of costly misclassification claims and ensure compliance with California law.

Hanson Bridgett employment attorneys regularly advise California employers on independent contractor compliance, worker classification audits, and strategies to reduce litigation risk. If you have questions about whether a worker should be classified as an employee or independent contractor, contact our team for assistance or join our October Quick-Hits Webinar.