United States: New California Law Raises Liability Risk for Misclassifying Employees as Independent Contractors

Originally published November 10, 2011

Keywords: employee misclassification, independent contractors, California Labor Code, Senate Bill 459,

Many employers think they can save money by classifying their workers as independent contractors. But doing so incorrectly can now cost even more—something the California plaintiffs' bar is sure to take notice of. On October 9, 2011, California Governor Jerry Brown signed into law Senate Bill 459 (S.B. 459). This new law, which will add Sections 226.8 and 2753 to the California Labor Code, imposes liability on employers that willfully misclassify employees as independent contractors. Employers throughout California that use independent contractors may be affected by S.B. 459, which goes into effect January 1, 2012.

California Labor Code Section 226.8

Under Section 226.8(a), employers are prohibited from willfully misclassifying a person as an independent contractor. Employers are also prohibited from charging 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 an individual's employment—where any of the acts described would have violated the law if the individual had not been misclassified as an independent contractor.

If an individual or employer violates section 226.8(a), the California Labor and Workforce Development Agency (LWDA), or a court, may impose various penalties. These penalties range from $5,000 to $10,000 for each violation. However, if the employer is found to have engaged in a pattern or practice of these violations, it will be subject to an increased penalty of between $10,000 and $25,000 per violation. An important issue that has not yet been addressed by the courts or California's legislature is what constitutes a single "violation." The answer to this open question could impact the scope of liability under Section 226.8, as penalties would increase drastically if a violation occurs every time an employer impermissibly makes a deduction from a misclassified employee's compensation.

Additionally, violators must publish for one year a notice regarding the violation. The notice must be prominently displayed on the employer's website or, if the employer does not have a website, in a location available to both employees and the public. The content of the notice must include a statement that (i) the employer has committed a serious violation by willfully misclassifying employees, (ii) the employer changed its business practice to prevent future violations of section 226.8(a), and (iii) any employee who believes he or she is misclassified may contact the LWDA.

Licensed contractors who violate section 226.8(a) must submit a certified copy of the decision relating to the violation to the Contractors' State License Board. Within 30 days of receipt of the decision, the Board will commence disciplinary action against the contractor.

Section 226.8 does not expressly provide a private right of action. Instead, it appoints California's Labor Commissioner the law's primary enforcer. However, a private action is possible under California's Private Attorneys General Act, further multiplying the risk that employers' classification decisions will come under increased scrutiny.

California Labor Code Section 2753

Section 2753 expands the scope of liability under section 226.8 to third parties by providing that they may be found jointly and severally liable with the employer for misclassification violations.  Specifically, any individual that knowingly advises an employer, for money or other valuable consideration, to misclassify a worker as an independent contractor falls within the scope of this expanded liability. The law's legislative history indicates that this provision is intended to target outside consultants providing advice on ways to streamline business and cut costs. However, section 2753(b) excludes from liability individuals who provide advice to their employer (i.e., in-house human resources personnel) and any attorney licensed within a US jurisdiction who provides legal advice in the course of the practice of law.

Likely Impact

California's new law is sure to increase the scrutiny by government's, workers' and plaintiffs' lawyers of employer classification decisions. The potential costs of misclassification are greater than before, both in terms of monetary penalties and reputational harm posed by the new posting requirement. Before these laws take effect, California employers with independent contractors should carefully evaluate, possibly with outside counsel, whether any reclassifications are warranted.

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This Mayer Brown article provides information and comments on legal issues and developments of interest. The foregoing is not a comprehensive treatment of the subject matter covered and is not intended to provide legal advice. Readers should seek specific legal advice before taking any action with respect to the matters discussed herein.

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