One common strategy used by companies to cut labor costs is to classify as much of its work force as “independent contractors” as possible. A company does not have to pay payroll taxes for independent contractors nor does it have to worry about pesky labor code requirements pertaining to minimum wages, overtime, meal and rest breaks, or expense reimbursement requirements. Additionally, a company does not have to cover independent contractors under workers’ compensation insurance, and is not liable for payments under unemployment insurance, disability insurance, or social security.

Given these cost savings, it should, perhaps, not be surprising that there has been a trend in companies classifying more of their workforce as independent contractors. A 2007 study by the General Accounting Office estimated that the number of workers classified as independent contractors rose by almost two million between 1995 and 2005 alone.

However, just calling someone an independent contractor does make it so and many companies do so without considering the legal distinctions between employees and independent contractors. Indeed, there is a presumption that workers are employees (Labor Code Section 3357) and a company that wishes to rebut this presumption will be required to undergo a multi-factor test which includes questions regarding whether the company has control, or the right to control, how the work is done and the manner and means by it is performed. See, S. G. Borello & Sons, Inc. v Dept. of Industrial Relations (1989) 48 Cal.3d 341. If they are unable to do so, then the worker will be classified as an employee and the company will potentially be on the hook for four years of overtime wages, meal and rest premiums, etc.

The New Law

S.B. 459 was chaptered by California’s Secretary of State as Chapter 706, Statutes of 2011. It will appear as Sections 226.8 and 2753 of the California Labor Code. The new law:

• Prohibits the “willful misclassification” which is defined as “avoiding employee status for an individual by voluntarily and knowingly misclassifying that individual as an independent contractor.”

• Prohibits charging a misclassified individual “a fee or making any deductions from their compensation for any purpose, including for goods, materials, space rental, services, government licenses, repairs, equipment maintenance, or fines arising from the individual’s employment where any of the acts… would have violated the law if the individual had not been misclassified.”

• Subjects violators to dramatic civil penalties of at least $5,000 and as much $15,000 per violation, in  addition to any other penalties or fines permitted by law. Violators who are determined to have engaged in a  pattern of violations are subject to a civil penalty of at least $10,000 and as much as $25,000 per violation.

• Gives the Labor and Workforce Development Agency authority to assess penalties and includes special requirements for licensed contractors subject to the Contractors’ State License Board.

• Subjects non-lawyers who advise an employer to misclassify a worker to joint and several liability with the employer.

Although independent contractor misclassification cases are nothing new, the new law will lead to an increase in such lawsuits. Perhaps the most significant change is the addition of the new penalties. To wit, a company engaged in 100 violations could be liable for $2,500,000 in penalties under the new statute, in addition to the existing remedies (such as attorney’s fees and costs under Labor Code Section 218.5, penalties under Labor Code Section 203 and 226, interest).

The bottom line– Companies should think twice before misclassifying their work force to avoid paying employees premium wages and avoid payroll taxes!

About the authors:Brad Yamauchi is a partner and Kevin Allen is a litigation associate at Minami Tamaki LLP in San Francisco, California.  The firm has litigated individual and class action wage and hour, civil rights and financial and consumer fraud cases for 35+ years. It is currently handling class action misclassification claims in the hi-tech, restaurant, retail, communications and trucking industries on behalf of thousands of employees.