Independent Contractor vs. Employee: How California Employers Can Reduce Misclassification Risk Under AB 5

Worker misclassification is one of the most serious legal risks facing California businesses today. With the passage of Assembly Bill 5 (AB 5), the stakes have never been higher. If you rely on independent contractors, understanding this law is not optional. Consulting an employment defense lawyer familiar with California's complex classification rules can be the difference between compliance and costly litigation. Worker misclassification is one of the most serious legal risks facing California businesses today. With the passage of Assembly Bill 5 (AB 5), the stakes have never been higher. 

What is AB 5 and why does it matter?

Signed into law in 2019 and effective January 1, 2020, AB 5 codified the "ABC test" as the standard for determining whether a worker in California is an employee or an independent contractor. Previously established by the California Supreme Court in the landmark Dynamex Operations West, Inc. v. Superior Court decision, the ABC test now governs most employment relationships in the state.

Before AB 5, many businesses used the multi-factor Borello test, which gave employers more flexibility. The ABC test is stricter, and the burden falls on the hiring entity to prove all three conditions of the test are met.

Understanding the ABC test

Under the ABC test, a worker is presumed to be an employee unless the hiring business can establish all three of the following:

• A: 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 and in fact.

• B: The worker performs work that is outside the usual course of the hiring entity's business.

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

Prong B is where most businesses stumble. If a contractor performs work that is central to your business operations, they are likely an employee under California law. An employer defense attorney can help you evaluate each prong carefully before you enter into a contractor arrangement.

Common industries and exemptions

AB 5 is not a blanket rule. The law includes dozens of industry-specific exemptions where the older Borello test still applies. Exempt occupations include licensed physicians, lawyers, architects, accountants, real estate agents, hairdressers, and certain creative professionals, among others. The trucking industry has faced its own ongoing legal battles regarding AB 5 application.

Even with an exemption, businesses must satisfy certain criteria, including showing that the worker maintains their own business, sets their own rates, and works for multiple clients. Working with an employment law defense attorney helps ensure your classification strategy aligns with the specific exemption category you are relying on.

Real consequences of misclassification

Misclassifying employees as independent contractors carries serious financial and legal consequences in California, including back taxes, unpaid overtime, missed meal and rest break premiums, denied employee benefits, and Private Attorneys General Act (PAGA) penalties. PAGA allows workers to sue on behalf of themselves and other aggrieved employees, multiplying the potential liability significantly. The California Labor Commissioner and Employment Development Department can both audit businesses and assess penalties independently of any private lawsuit.

For smaller businesses in particular, these consequences can be devastating. If you are searching for an employer attorney in Santa Cruz, Monterey, or across California, the counsel at Brereton, Mohamed, & Korte LLP has  specific AB 5 experience that is essential to protecting your operations.

Practical steps to reduce misclassification risk

There are several concrete actions California employers can take right now to reduce exposure:

• Audit your existing contractor relationships against the ABC test and document your analysis in writing.

• Review contracts to ensure they accurately reflect the actual working relationship, not just what you wish it were.

• Avoid behavioral control. Do not dictate work hours, tools, or methods if you intend the relationship to be a contractor arrangement.

• Ensure your contractors serve multiple clients and operate as genuinely independent businesses.

• Consult with workplace lawyers in California before onboarding new contractors for roles that are central to your business.

When to call an employment defense attorney

If you have received a PAGA notice, are facing a wage and hour audit, or are unsure whether your current workforce structure complies with AB 5, do not wait. Proactive legal review is far less expensive than defending a class action lawsuit. An experienced employment law defense attorney can review your workforce structure, recommend compliant alternatives, draft appropriate contracts, and represent you if a claim has already been filed.

Protect your business before a claim arises

California's misclassification rules are among the most complex in the country. Whether you are a small business owner, a staffing agency, or a large employer, working with experienced workplace lawyers in California is the most effective way to build a compliant workforce strategy under AB 5.

Frequently asked questions

1. What is the ABC test under AB 5?

The ABC test is a three-part standard California uses to determine worker classification. A business must prove the worker is free from its control, performs work outside the company's core business, and operates an independently established trade or business.

2. Can I still use independent contractors in California after AB 5?

Yes, but only if your contractor relationship satisfies all three prongs of the ABC test or qualifies for one of the law's specific industry exemptions. Legal review of classification decisions is strongly recommended.

3. What industries are exempt from AB 5?

Dozens of occupations are exempt, including licensed professionals such as doctors, lawyers, dentists, architects, accountants, and certain skilled trades. These workers are typically evaluated under the older Borello multi-factor test instead.

4. What penalties can a business face for misclassifying workers?

Penalties can include unpaid wages, overtime, missed break premiums, denied benefits, payroll tax liability, and PAGA civil penalties that can reach thousands of dollars per violation per pay period across your entire workforce.

5. What does PAGA mean for employers?

The Private Attorneys General Act allows employees to file lawsuits on behalf of themselves and coworkers for labor code violations. This dramatically increases potential exposure because one misclassified worker can trigger liability for an entire class of similarly situated workers.

6. Does AB 5 apply to app-based gig workers?

AB 5 was partly aimed at gig economy platforms. However, Proposition 22, passed in November 2020, carved out app-based transportation and delivery companies under specific conditions. This area of law continues to evolve, so legal guidance is important.

7. How can an employment defense lawyer help my business with AB 5 compliance?

An employment defense lawyer can audit your contractor classifications, identify legal risk, draft compliant agreements, advise on restructuring work arrangements, and defend you in audits or litigation if a claim arises.

8. Is a written contract enough to prove someone is an independent contractor?

No. California law looks at the actual working relationship, not just what a contract says. Even if a contract labels someone a contractor, the facts of how work is performed will determine classification under the ABC test.

9. What should I do if I receive a PAGA notice?

Contact an employer defense attorney immediately. You typically have a limited window to respond and potentially cure violations before a lawsuit is formally filed. Acting quickly can significantly reduce your exposure.