BILL ANALYSIS Ó SB 459 Page 1 Date of Hearing: June 28, 2011 ASSEMBLY COMMITTEE ON JUDICIARY Mike Feuer, Chair SB 459 (Corbett) - As Amended: May 27, 2011 As Proposed to be Amended SENATE VOTE : 24-12 SUBJECT : EMPLOYMENT: INDEPENDENT CONTRACTORS KEY ISSUE : SHOULD THE STATE ENACT ADDITIONAL MEASURES TO PREVENT, DETER AND PENALIZE THE MISCLASSIFICATION OF EMPLOYEES AS INDEPENDENT CONTRACTORS? FISCAL EFFECT : As currently in print this bill is keyed fiscal. SYNOPSIS This bill continues the efforts by the author and others to address the problem of misclassification of employees as independent contractors, a violation of law that has significant consequences not only for the employee but for fair business competition, the economy, and the state budget. This bill would prohibit the willful misclassification of an employee as an independent contractor and would provide for civil penalties for a violation. In addition, in order to inform persons whose rights are affected by misclassification, the bill requires employers to provide to independent contractors a form developed by the Employment Development Department (EDD) regarding the factors affecting and significance of being classified an independent contractor. This bill would require employers to maintain for two years a record of all independent contractors hired by the employer. Finally, to combat the use of unscrupulous consultants, the bill provides that a person who knowingly advises another person for money or other valuable consideration to treat a worker as an independent contractor to avoid employee status for the worker shall be jointly and severally liable with the employer if the worker is not found to be an independent contractor, with specified exemptions. Supporters believe these steps will help address the serious problem of employee misclassification. The bill is opposed by business interests who argue that the bill unfairly exposes them to potential liability because the classification of employees SB 459 Page 2 is an uncertain undertaking that is not controlled by a single objective test. They also contend that the standard for willfulness under the bill is too low. Opponents also object to the form requirement, contending that it is burdensome and unnecessary. SUMMARY : Regulates the misclassification of employees as independent contractors. Specifically, this bill : 1)Prohibits any person or employer from engaging in willful misclassification of an employee as an independent contractor or charging a fee to an employee who has been willfully misclassified as an independent contractor, or making any deductions from compensation for any purpose where the employer would have been in violation of the law if the employee had not been misclassified. 2)Provides that, if the Labor and Workforce Development Agency (LWDA) or a court finds that any person engaged in any of the above unlawful activities, that person shall be assessed civil penalties of not less than $5,000 and not more than $15,000 for each violation, in addition to any other penalties or fines permitted by law. The civil penalties would increase when the person has engaged in any of the above unlawful activities and the person has engaged in a pattern or practice of these activities. This bill defines "willful" as voluntary and intentional. 3)Requires employers to provide to independent contractors a form developed by the Employment Development Department (EDD) regarding their status as an independent contractor, with specified content. 4)Authorizes EDD to process a request for advice by an individual as to whether that individual is an independent contractor or employee. 5)Requires employers to maintain for at least two years the records of all independent contractors hired by the employer, as specified. 6)Provides that a person who knowingly advises another person for money or other valuable consideration to treat a worker as an independent contractor to avoid employee status for the worker shall be jointly and severally liable with the employer SB 459 Page 3 if the worker is not found to be an independent contractor. Under this bill, a person who provides advice to his or her employer and attorneys authorized to practice law in California or another United States jurisdiction that provides legal advice in the course of the practice of law would be exempt from this provision. EXISTING LAW : 1)Provides comprehensive requirements, rights, and remedies relating to the employer-employee relationship, including, but not limited to, wages and other compensation, working hours, workers' compensation, labor code violation actions, employment contracts, and working conditions standards. (Lab. Code Secs. 200 et seq., 500 et seq., 2698-2699.5, 2700 et seq., and 3200 et seq.) 2)Defines a contract of employment as a contract by which one, the employer, engages another, the employee, to do something for the benefit of the employer or a third person. (Lab. Code Sec. 2750.) 3)Provides a rebuttable presumption affecting the burden of proof that a worker performing services for which a license is required, as specified, or who is performing such services for a person who is required to obtain such a license is an employee rather than an independent contractor. Proof of independent contractor status includes satisfactory proof of the following factors: the individual has the right to control and discretion as to the manner of performance of the contract for services; the individual is customarily engaged in an independently established business; and the individual's independent contractor status is bona fide and not a subterfuge to avoid employee status. A bona fide independent contractor status is further evidenced by the presence of cumulative factors such as control over the time and place the work is performed, supplying the tools or instrumentalities used in the work other than tools and instrumentalities normally and customarily provided by employees, hiring employees, performing work that is not ordinarily in the course of the principal's work, performing work that requires a particular skill, holding a license pursuant to the Business and Professions Code, the intent by the parties that the work relationship is of an independent contractor status, or that the relationship is not severable or terminable at will by the SB 459 Page 4 principal but gives rise to an action for breach of contract. (Lab. Code Sec. 2750.5) 4)With respect to lawful obligations of the employer such as worker's compensation coverage, defines "employee" to mean every person in the service of an employer under any appointment or contract of hire or apprenticeship, express or implied, oral or written, whether lawfully or unlawfully employed, as specified. (Lab. Code Sec. 3350.) 5)With respect to lawful obligations of the employer such as worker's compensation coverage, defines "independent contractor" to mean any person who renders service for a specified recompense for a specified result, under the control of his principal as to the result of his work only and not as to the means by which such result is accomplished. (Lab. Code Sec. 3353.) 6)Provides that any person who holds a valid state contractor's license and who willingly and knowingly enters into a contract with any person who does not meet the burden of proof of independent contractor status, as specified, shall be subject to a civil penalty of $200 per person so contracted with for each day of the contract. The civil penalties provided for by this section are in addition to any other penalty provided by law. (Lab. Code Sec. 1021.5.) 7)Provides that employers must provide reports, as requested, to the commission; allow inspection of employment records by the commission or Division of Labor Standards Enforcement; and keep records of employee information, as specified. (Lab. Code Sec. 1174.) Employers failing to do so are subject to civil penalties of $500 and may be found guilty of a misdemeanor. (Lab. Code Secs. 1174.5 and 1175.) COMMENTS : In support of the bill, the author states: When a worker is misclassified as an independent contractor, he or she is not subject to California minimum wage and overtime protection laws. Additionally, the worker has no workers' compensation coverage if injured on the job, no right to family leave, no unemployment insurance, no legal right to organize or join a union, and no protection against employer retaliation. SB 459 Page 5 The misclassification of workers as independent contractors creates an unfair playing field for responsible employers who honor their lawful obligations to their employees. The misclassification of workers results in a loss of payroll tax revenue to the State and increased reliance on the public safety net by workers who are denied access to work-based protections. SB 459 helps remedy this in the following ways: Prohibits the willful misclassification of an employee as an independent contractor. Provides that a consultant who knowingly advises an employer to treat an individual as an independent contractor to avoid employee status for the worker shall be jointly liable with the employer if the worker is not found to be an independent contractor. Requires employers to provide to an independent contractor with information about their classification, their tax obligations and eligibility for labor and employment protections, and how to request a determination from the State Employment Development Department a determination as to whether they should be classified as an employee or independent contractor. The co-sponsor, California Labor Federation, adds: The latest census data shows the greatest gap between the rich and poor that has ever existed. Fundamental economic changes have shrunk the middle class by replacing good jobs with low-wage work. But low wages are only the beginning. Over the past few decades, the nature of work has changed dramatically. Industry by industry, the traditional employer-employee relationship has eroded. Whether hiring temporary workers, using labor contractors, or misclassifying workers as "independent contractors," all forms of contingent work arrangements are on the rise. In this new model, workers have no guaranteed SB 459 Page 6 hours or shifts, no job security, no traditional employee benefits, and no long-term economic stability. The growth in contingent work has only exacerbated the abuse of workers in California's underground economy. The underground economy, in which employers use cash pay to void paying taxes, following regulations, and complying with labor law, has thrived due to decades of inadequate enforcement. Since 1980, the state population has grown 62 percent, while the number of wage and hour inspectors rose just 7%. Budget cuts and furloughs have made already feeble enforcement efforts even less effective. Employers have also become more sophisticated at evading justice. Those who abuse workers' rights have learned how to use labor contractors and temporary agencies as smokescreens to hide who is really in charge. But perhaps the most effective way to get off the hook for worker wage and hour violations is by misclassifying the worker as an independent contractor. The Problem of Employee Misclassification. Employee misclassification is believed to be a serious problem in the United States. When companies classify workers as independent contractors instead of as employees, these workers do not receive worker protections, including minimum wages, overtime pay, and health and vacation benefits, to which they would otherwise be entitled. Standard employee protections such as anti-discrimination laws and safety regulations also do not apply to independent contractors. Additionally, businesses do not deduct taxes, 401(k), Social Security, or Medicare payments from the paychecks of independent contractors, which results in a loss of state tax income from the businesses as well as a potential loss of income from the individual worker who may not properly report income. Because employers do not pay unemployment taxes for independent contractors, workers who are misclassified cannot obtain unemployment benefits if they lose their jobs. A number of reports in the last several years have chronicled the societal consequences of and impacts upon American workers of misclassification of workers as independent contractors versus employees. The United States Government Accountability Office conducted a study of misclassification of workers as independent contractors and found that employee misclassification cost the United States government $2.72 SB 459 Page 7 billion in revenue from Social Security, unemployment and income taxes in 2006 alone. (GAO, Employee Misclassifications: Improved Outreach Could Help Ensure Proper Worker Classification, GAO-07-859T (Washington, D.C.: May 8, 2007) www.gao.gov/cgi-bin/getrpt?GAO-07-859T as of Apr. 15, 2011, pg. 1.) Similarly, the California Employment Development Department (EDD) reported that the number of misclassified employees increased 54 percent from 2005 to 2007, reaching 15,751 workers in 2007. During this 3-year period, the EDD recovered a total of $111,956,556 in payroll tax assessments, $18,537,894 in labor code citations, and $40,348,667 in assessments on employment tax fraud cases. New Penalty For Willful Misclassification and For Imposing Fees or Deductions on Employees Who Have Been Willfully Misclassified. The bill proposes a new Labor Code section establishing that it is unlawful for any person or employer to engage in the following activities: (1) Willful misclassification of an individual as an independent contractor. (2) Charging an individual who has been willfully misclassified as an independent contractor a fee, or making any deductions from compensation for any purpose. A violation of these provisions would be subject to a civil penalty by the Labor and Workforce Development Agency, or any of its departments, divisions, commissions, boards, or agencies, or a court in an amount between $5,000 and 15,000. If the Labor and Workforce Development Agency, or any of its departments, divisions, commissions, boards, or agencies, or a court finds that person has engaged in or is engaging in a pattern or practice of these acts, the civil penalty would increase to between $10,000 and $25,000. The bill defines "willful" as "voluntary and intentional." New Form to Provide Information To Persons Classified As Independent Contractors. A second provision of the bill requires a person employing labor to provide independent contractors with a form to be developed by the Employment Development Department that includes all of the following: SB 459 Page 8 (1) A notice that the individual has been retained as an independent contractor. (2) The factors the Employment Development Department uses to determine whether an individual is an employee or an independent contractor. (3) A statement explaining the impact that the individual's status as an independent contractor has on his or her tax obligations and his or her eligibility for labor and employment protections. (4) A notice of the individual's ability to seek advice from the Employment Development Department or the Labor Commissioner as to whether that individual is properly classified as an independent contractor. The notice shall provide the telephone number for both the Employment Development Department and the Labor Commissioner. The bill specifies that records of all independent contractors are to be retained for at least two years, stating the name, address, social security number, and, if applicable, federal tax identification number of each independent contractor. These records are to be made available upon request of specified investigators. Willful failure to maintain these records in an accurate and complete fashion or to allow inspection of these records would be subject to a civil penalty of $500. In addition, it would be a misdemeanor to neglect or refuse to furnish information requested, to refuse access to the person's place of business or employment to specified investigators or to hinder them from securing information. Likewise it would be a violation to fail to keep the specified records. Liability Of Employment Consultants For Knowingly Advising Employer To Misclassify Employee. This bill would provide for the joint and several liability of a consultant and employer if an individual has been adjudged by an administrative, court, or other legal proceeding to be an employee and not an independent contractor. Existing law does not currently hold liable consultants advising employers to wrongfully misclassify workers. Employment consulting firms assist employers in analyzing their administration of employment-related activities. Employers seek SB 459 Page 9 consulting advice typically to find ways to streamline the business and cut costs. Due to the recent economic downturn, companies have been reducing costs of administration of employment-related activities by misclassifying employees as independent contractors. Through misclassification, employers avoid paying Social Security, Medicare, and unemployment insurance taxes for those workers. In the event the consultant knowingly advises the employer to wrongfully misclassify workers, this bill would provide that the consultant would be jointly and severally liable with the employer. This bill would exempt licensed attorneys from joint and several liability for knowingly advising an employer to misclassify employees. SB 1583 (Corbett, 2008) contained similar provisions at the request of the State Bar, which noted that Rules of Professional Conduct regulate attorney conduct and subjects attorneys to an array of sanctions for violation, including disbarment. ARGUMENTS IN OPPOSITION : A coalition of business interests lead by the Chamber of Commerce argues against the bill as follows: SB 459 ? seeks to hold employers responsible for "willful misclassification" of an employee as an independent contractor, without also clarifying or outlining a clear and objective test that employers may utilize to determine if an individual is an employee or independent contractor. As stated by the California Department of Industrial Relations on their website regarding the determination of independent contractor status: "There is no set definition of the term "independent contractor" for all purposes, and the issue of whether a worker is an employee or independent contractor depends upon the particular area of law to be applied. For example, in a wage claim where employment status is an issue, DLSE will often use the five-prong economic realities test to decide the issue. However, in a separate matter before a different state agency with the same parties and same facts, and employment status again being an issue, that agency may be required to use a different test, for example, the "control test," which may result in a different determination. Thus, it is possible that the same individual will be considered an employee for purposes of SB 459 Page 10 one law' and an independent contractor under another." (emphasis added). Given the lack of a uniform, definitive test issued by all state agencies for employers to utilize in order to determine whether an individual is an independent contractor, we believe it is completely unfair to subject employers to statutory penalties, up to $25,000 per violation, for the "willful misclassification" of an individual as an independent contractor, which S8 459 seeks to do. Noticeably, SB 459 requires an employer at the time of hire to issue a notice prepared by the Employment Development Department ("EDD") regarding the factors the EDD uses to determine whether a person is an employee or independent contractor, yet allows any agency, board, or commission within the Labor and Workforce Development Agency to determine if there has been a "willful misclassification" of an employee for purposes of imposing a statutory penalty. As the Department of Industrial Relations admits, the tests utilized to determine independent contractor status differs amongst state agencies. Accordingly, the factors the EDD utilizes and discloses in the notice may not be the same as the factors the Labor and Workforce Development Agency utilizes when issuing a statutory penalty. This lack of consistency creates a potentially impossible standard of compliance for employers. As being proposed as a new section in the Labor Code, SB 459 also subjects employers to additional litigation under the Private Attorney General's Act. This will add another layer of costs onto businesses due to the litigation fees and expenses they will be forced to incur in defending such actions. Moreover, S8 459 also burdens "any person or employer" with the requirement to maintain records for two years of all independent contractors that have been hired by that person or employer, and imposes a penalty if the person or employer fails to maintain the documentation. Determining the status of a person as an independent contractor versus an employee is daunting for many businesses because the process is so ambiguous and complex and provides no certainty for decision-making. Instead of imposing new requirements and liabilities regarding independent contractors, the process should look to ways in SB 459 Page 11 which to improve the ability of business to make accurate and sound business decisions regarding the classifications of their employees. By contrast, another opponent of the bill, California Dump Truck Owners Association (CDTOA), suggests that existing law regarding employee misclassification is sufficient. CDTOA argues that "a statutory presumption exists that a worker is an employee rather than an independent contractor should an employment status dispute arise (Labor Code ÝSections] 2750.5, 3357). Our State agencies already vigorously enforce California's misclassification laws and regulations. . . . Furthermore, the federal government and our civil court system currently provide additional protection against such misclassification improprieties." The Personal Insurance Federation of California is opposed unless amended to create an exemption for that industry. PIFC argues, Insurance agents and brokers have long been classified as independent contractors, with an extensive history of federal court cases and Internal Revenue Service (IRS) determinations that establish that this classification is proper. Agents and brokers are individuals that own, operate and manage their own businesses, receive 1099 forms from their contracted insurers, and are individually licensed by the California Department of Insurance. They each operate in conjunction with insurance companies with that relationship clearly outlined in agency contracts. This bill would subject insurance companies and agents/brokers to new burdens and requirements that are unnecessary given the settled nature of independent contractors in the insurance industry. In addition to the costs associated with providing a form to each agent and broker, and maintaining specific records for two years, insurers are subject to criminal misdemeanor penalties in the event that a record is misplaced or if it cannot be proven that the form was provided. Similarly, the Direct Sellers Association states, "While we appreciate the assurances that this bill is not targeted at direct salespeople, as the bill is currently written, they will be subjected to the legislation's burdensome paperwork requirements and prosecuted for a misdemeanor for inadvertently SB 459 Page 12 failing to comply with these requirements. Most importantly, direct selling companies already provide their distributors with notice of their independent contractor status in their contracts. To require another and separate notification form would not only be redundant and unnecessary, but would also cause confusion for Californians pursuing direct selling as an income opportunity. Additionally, for those salespeople trying to expand their sales teams, this duplicative form will not only be another piece of expensive red tape (up to $2 million annually in enforcement costs) for the State of California, but could dissuade potential distributors from joining. Most troubling, as noted above, under the bill's notice requirements (which will generate millions of pieces of additional paper), distributors could be prosecuted for a misdemeanor if they forget to provide individuals the additional form when they recruit." Governor Schwarzenegger's Vetoes of Prior Related Legislation. This bill is similar to the enrolled versions of SB 622 (2007) and SB 1583 (2008), both of which were vetoed by Governor Schwarzenegger. Author's Technical Amendments. To clarify the bill, the author proposes the following helpful amendments: 226.8. (a) It is unlawful for any person or employer to engage in any of the following activities: (1) Willful misclassification of an individual as an independent contractor. (2) Charging an individual who has been willfully misclassified as an independent contractor a fee, or making any deductions from 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 the employer would have been in violation of the law if the individual had not been misclassified. (b) If the Labor and Workforce Development Agency, or any of its departments, divisions, commissions, boards, or agencies, or a court finds that person has engaged in any of the enumerated violations of subdivision (a), a civil penalty of not less than five thousand dollars ($5,000) and not more than fifteen thousand dollars ($15,000) shall be assessed against the person SB 459 Page 13 for each violation, in addition to any other penalties or fines permitted by law. (c) If the Labor and Workforce Development Agency, or any of its departments, divisions, commissions, boards, or agencies, or a court finds that person has engaged in any of the enumerated violations of subdivision (a )this sectionandthere is evidence thatthe person has engaged in or is engaging in a pattern or practice of these behaviors, a civil penalty of not less than ten thousand dollars ($10,000) and not more than twenty-five thousand dollars ($25,000) shall be assessed against the person for each violation, in addition to any other penalties or fines permitted by law. (d) For purposes of this section, "willful" means voluntary and intentional. (e) Nothing in this section is intended to limit any rights or remedies otherwise available at law. REGISTERED SUPPORT / OPPOSITION : Support California Labor Federation (co-sponsor) California Teamsters Public Affairs Council (co-sponsor) American Federation of State, County and Municipal Employees California Conference Board of the Amalgamated Transit Union California Conference of Machinists California Employment Lawyers Association California Nurses Association Consumer Attorneys of California Engineers and Scientists of California Greater California Livery Association International Longshore & Warehouse Union Professional & Technical Engineers, Local 21 State Building and Construction Trades Council of California United Food and Commercial Workers Union, Western States Council UNITE HERE! Opposition California Amway Distributors California Chamber of Commerce SB 459 Page 14 California Delivery Association California Dump Truck Owners Association California Farm Bureau Federation California Grocers Association California Manufacturers & Technology Association California Newspaper Publishers Association California Retailers Association California Trucking Association CalSmallBiz Direct Selling Association Financial Services Institute Messenger Courier Association of the Americas Personal Insurance Federation of California Securities Industry and Financial Markets Association Western Electrical Contractors Association Western Growers Association Many private businesses Analysis Prepared by : Kevin G. Baker / JUD. / (916) 319-2334