You hire a company to do some work for you. Actually, it’s the people you want to do the work, but they have a company and you pay that company. They are there to augment your existing staff, to deal with overflow. You’re happy. You get the additional workers. You pay their company. You don’t have to worry about benefits, payroll withholding, workers’ comp coverage, overtime pay, or any similar nuisances that come with hiring employees. These workers are independent contractors, and it’s a win-win. Until it’s not…
In fact, these workers may not really be independent contractors. You may have misclassified them. They may really, legally, be employees. Not only is the federal government cracking down on the misclassification of workers as independent contractors, so are many of their state counterparts. (The NLRB and Homeland Security might have something to say on that too, btw. But that’s a subject for a separate post.)
Getting it right is not easy, even for businesses with the best intentions. Moreover, many states have their own tests to determine the proper classification of workers. (aka, in most cases as “ABC” tests).
Let’s explore and learn…
As always, I use real-life examples. This time, I have not just one but two case examples.
Our first case is Roman v. Jan-Pro Franchising International Inc, a California case, applying the CA ABC test. Before getting into the nutshell version of the facts, here’s CA’s ABC test:
1) the worker is free from the control and direction of the employer in connection with the performance of the work, both under the contract for the performance of the work and in fact; AND
2) the worker performs work that is outside the usual course of the hiring entity’s business; AND
3) the worker is customarily engaged in an independently established trade, occupation or business.
All three prongs must be satisfied for the worker(s) to be an independent contractor.
So here, in a nutshell, is what went down:
Jan-Pro Franchising operated a three-tier franchising structure offering cleaning and janitorial services. It sells exclusive rights to use its trademark in the name “Jan-Pro” to entities known as regional master franchisees who are responsible for the Jan-Pro business in specific geographic territories and who have the exclusive right to sell cleaning franchises in that territory. The regional master franchisees, in turn, sold “unit franchises,” whereby the purchasers got the exclusive right to service certain accounts provided to them by their regional master franchisees.
Unit franchisees could buy franchises as individuals, operate under fictitious names, or form partnerships or corporations with employees to service the accounts assigned by the respective regional master franchisees. Regional master franchisees provided unit franchisees with some initial training and then continued to provide business development, billing and collection, and revenue disbursement services. Three plaintiffs from three different states bought unit franchises from regional master franchisees. The case originated in MA where Jan-Pro is incorporated until the MA courts severed the other claims, which ended up in CA.
OK, that’s nice, but what’s the issue? The plaintiffs argued that they were improperly classified as independent contractors, rather than as employees of Jan-Pro, and were therefore entitled to — you guessed it — minimum wage and overtime pay.
Naturally, Jan-Pro argued that the franchisees were independent contractors, not employees. Specifically, it argued that it wasn’t in the janitorial business but merely sold franchises (that argument would speak to Element B of the CA ABC test). The court wasn’t buying it though. It reasoned that “here, as a matter of common sense, unit franchisees remained at all times necessary to defendant’s business.” and that “defendant’s business depended on unit franchisees performing cleaning services.” The court also noted that Jan-Pro held itself out as “a cleaning business in public advertisements and websites.” Assuming the case doesn’t settle, there will be a trial on damages sometime in 2023.
OK, before we go on to our next case example, here’s the big takeaway: when an “independent contractor” performs work that goes to the heart of the company’s business, that is known as “work integral to the business”– and the “independent contractor” under this (and likely other states’) ABC test is really an employee.
Moving on, our next real-life case example is East Bay Dry Wall, LLC v Department of Labor and Workforce Development, a NJ Supreme Court case.
Let’s start with NJ’s ABC test. It is very similar to that of CA, with a very subtle but important difference. Let’s see if you spot it. Here are the elements a company must satisfy or the worker is presumed to be an employee:
A) Such individual has been and will continue to be free from control or direction over the performance of such service, both under his or her contract of service and in fact;
B) Such service is either outside the usual course of the business for which such service is performed or that such service is performed outside of all the places of business of the enterprise for which such service is performed; and
C) Such individual is customarily engaged in an independently established trade, occupation, profession, or business.
OK, first for the difference, look at Element B. In NJ even if the worker performs work that is integral to the company’s business, s/he can still be an independent contractor, if s/he performs outside the company’s usual place of business (I’ll come back to that in a bit) AND the other elements are satisfied.
The issue in this case, however, was Element C. East Bay Dry Wall had its workers set up their own companies and paid those companies, arguing that doing so satisfied Element C. The court was not impressed. It found the formation of a separate corporate entity, without more, to be insufficient. It noted the lack of facts or proof showing that the workers actually operated outside of East Bay Dry Wall. Specifically:
[t]he “business entity information” relied on so heavily by petitioner and the ALJ falls woefully short of
meeting the standard enumerated in Carpet Remnant . . . . That is, it does not address the following factors with regard to each “drywall subcontractor”: the duration and strength of the business, the number of
customers and their respective volume of business, or the number of employees; nor does it address the
amount of remuneration each “drywall subcontractor”received from East Bay compared to that received from
others for the same services.
From there, the court said that requiring a worker to assume the appearance of a business entity “in name only” gives rise to “an inference that such a practice was intended to obscure the employer’s responsibility to remit its fund contributions as mandated by the State’s employee protections statutes”
A lot of employers make that very same mistake. They focus on one element to the exclusion of others and then find themselves in exactly this type of situation.
If your workers are doing work integral to your business that’s a strong indicator they won’t pass an ABC test and they are employees–unless you have enough other strong indicators that the worker is in fact in business for themselves. If you cannot produce enough evidence that your workers are truly operating independently of your company having them sign independent contractor agreements and form corporate entities, without more, will not be enough to establish that they are independent contractors — and you will ultimately end up paying far more than you would have had you properly classified them as employees in the first place.
Don’t be like these companies. Reach out to friendly local employment counsel for help getting it right from the get-go.
OK, enough said.
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