Recently, California switched from the Borello test to a more simplified ABC test to determine whether a worker is truly an independent contractor. The ABC test (or 3-factor test) is currently in use in over 20 states.
UPDATE 2019: AB5 has passed. Here’s the full text of the bill. The content of the original article has been unchanged. You can find the updates at the end.
Read this article IN FULL before linking it out. Too many readers are reading a few sentences, assuming they know what the next 2,000 words will say, and posting this article in online discussions as if it validates their arguments. Unless you’re preaching the importance of reading legislation and not jumping on a hype train conducted by special interests and propelled by ignorant Chicken Littles, it very likely does not.
California’s ABC test requires the “hiring entity” (salon owner, in our case) to prove each of the three factors:
A.) that 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 for the performance of the work and in fact;
B.) that the worker performs work that is outside the usual course of the hiring entity’s business; and
C.) that the worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed.
I’m here to hopefully stop this insanity by clarifying a few things about the Dynamex decision in California. As usual, I’ve provided links for verification. Please read the entirety of the article and the provided links before trying to argue your point. While I’m not an attorney, educating workers in the beauty industry about their employment rights (specifically about worker classification issues) has been my profession for nearly the last decade. However, I don’t expect anyone to take me at my word—read the links.
Fact 1: These laws aren’t new. Misclassification has always been illegal.
California previously utilized the Borello test, a more flexible system which had 11 factors. Salon owners utilizing IC salon professionals would likely not have passed that test.
On a federal level, the IRS utilizes a 20-factor test. Salon owners utilizing IC salon professionals probably would not have passed that test either. (They usually do not.)
The salon owners you see on the news? They were likely never in compliance.
Not on a state level and not on a federal level. The “new” standard didn’t suddenly make them non-compliant. They were likely never compliant to begin with, even under Borello (see factors 1, 2, 6, 8, and 9). Borello weighed each of the 11 factors differently, depending on the circumstance, but I would argue that violating nearly half of them would have resulted in an unfavorable judgment.
In salons, professionals should either be employees or renters. If you are a salon owner and you are issuing 1099s to salon professionals—odds are good that you are doing things wrong. Situations in the salon where the use of a salon professional functioning as an independent contractor would be appropriate are so rare, they’re exceptionally uncommon.
Fact 2: Renters and independent contractors are not the same thing.
Renters and independent contractors are self-employed, but that doesn’t mean they’re the same. All self-employed people run their own businesses. They set their own schedule, work wherever they please, perform their work however they choose, use whatever products they prefer, provide all their own tools and products, pay the entirety of their employment taxes, wear and promote their own branding, set their own rates, and may not be controlled as an employee is by an employer.
What first separates a renter from an independent contractor is the type of contract they sign.
A renter signs a lease (which gives them the right to conduct business in the space they’re renting) and run their business without any control or interference from their landlord. Renters accept their own payments. They pay rent to their landlord and issue a 1099 to their landlord when they have paid over $600 to that landlord in a tax year.
An independent contractor works on a contract-by-contract basis for private clients and sometimes other business owners who require their specialized services. Independent contractors sign and fulfill work agreements and are responsible for attaining a result in accordance with that agreement. Work agreements are contracts that define the terms of a job—the scope of work, delivery dates, the fees the hiring entity must pay, and any consequences each party may face for severance or failure to complete the job in accordance with the work agreement.
For example, in my capacity as a management consultant, I provide my customers with work agreements which outline what I will do, when it will be done by, my payment terms (how much, when, and by what method I am to be paid), and what will happen if I or the customer decide to violate or sever the agreement before the completion of the job. Once the contract has been completed, I part ways with the owner with no expectation to return (unless they seek me out for my services in the future—in which case, a new work agreement will be drafted and signed).
It’s important to also note how the money exchanges hands. A renter takes payment directly from their clients and pays rent to their landlord in accordance with their lease. Independent contractors are compensated by the person/business who contracted their services (the salon owner, in our case), in accordance with a work agreement.
1099 is not a status—it’s a tax form one person issues to a non-employee when they have paid that person in excess of $600 in the tax year. The 1099 form verifies the exchange of funds occurred. The recipient uses the 1099 to claim their income and the sender uses it to claim the business expense. An IC receives a 1099 from the person who contracted their services. A salon landlord receives a 1099 from their renters.
To illustrate the use of a proper independent contractor, let’s look at an example. A hair salon owner may contract the services of an IT professional to establish their salon’s computer system.
Under California’s ABC test:
A.) The IT professional doesn’t answer to the hiring entity (the salon owner) about how the work will be performed.
B.) The IT professional performs work that is completely outside the usual course of the hiring entity’s (the salon owner’s) business. The hiring entity (the salon owner) owns a hair salon that performs hair services. The IT professional does not perform hair services.
C.) The IT professional is customarily engaged in an independently established trade (technology services), occupation (technology services), or business (technology) of the same nature as the work performed (technology services).
However, we frequently see salon owners misuse the independent contractor classification by routinely staffing the salon with them and controlling them like employees. For instance, when a hair salon owner has an entire salon full of hair stylists who are so-called “independent contractors.”
- These workers typically show up to the salon every day to work.
- They are often expected to have a continuing relationship and are frequently prohibited from working freelance or in other salons.
- They are often scheduled, put into uniforms, required to undergo training, are controlled through the threat of dismissal, and are treated like employees in every way.
- They are also filling positions within the salon that an employee would normally be hired to fill.
Under California’s ABC test, in a typical IC situation in the salon:
A.) A hair stylist would be answering to the hiring entity (the salon owner) about how the work is performed, what products are used, and what prices are charged.
B.) The hair stylist performs work that is absolutely inside the usually course of the hiring entity’s (hair salon owner’s) business. A hair stylist performs hair services.
C.) The hair stylist is not customarily engaged in an independently established trade, occupation, or business. They are filling positions employees would normally be hired to fill.
Once you understand what an independent contractor is and how they function professionally, you can understand how ridiculous it is to utilize them in the salons the way most salon owners do. It also becomes extremely clear that renters are not independent contractors.
Fact 3: ABC likely doesn’t “illegalize” legitimate rental.
Currently, much of the confusion around the Dynamex decision revolves around theories that it illegalizes booth rental in the state of California. I have found absolutely no valid evidence to support that conclusion. (If you’ve got some from a reputable source—not some random salon owner screaming doomsday theories—I’d love to see it.) Once again, this test has been used for decades in over 20 states. Is rental illegal in all those states? Nope.
A proper salon landlord operates a rental facility licensed as a salon, but does not operate a salon business.
A salon landlord’s primary source of income doesn’t come from the sale of beauty services, but from the rent payments of their tenants. Their function isn’t to manage a beauty business but to manage the property itself by ensuring it’s safe and well-maintained. Salon landlords aren’t “salon owners” any more than their own commercial landlords and property managers are. Their tenants are salon owners.
If it helps, consider it this way: can the landlord of a strip mall be considered a spa owner, sandwich shop owner, restaurant owner, and retail store owner just because they lease storefronts to those businesses? No.
Similarly, if you own or franchise a rental complex (like Sola), you’re not engaged in the business of running a salon. You’re operating a rental complex. The renters’ customers are not your customers. The renters themselves are your customers.
The only time Dynamex may threaten a so-called “rental” salon is when the salon owner has been misclassifying the renters as independent contractors. We usually see this when “landlords” try to take percentages of their tenants’ gross sales instead of a flat rental rate. These landlords are often controlling the money—collecting it from the so-called renters’ clients and issuing checks to the renters. The landlords then issue 1099 forms to the so-called “renters” for the money they have paid them.
- In a proper rental salon, the renters collect their own money from their clients, the landlord receives rent checks from tenants, and the landlord receives 1099s from their tenants at the end of the tax year for the rent the tenants have paid.
- An independent contractor is compensated by the hiring entity (the person/business who they have a work agreement with). The hiring entity issues the 1099 to the independent contractor. The hiring entity must be able to prove the independent contractor meets the standards set forth in the ABC test.
A salon landlord should not be collecting money from their tenants’ customers and issuing checks to the renters, as that constitutes an extremely inappropriate degree of control. Referring back to our strip mall analogy—would it be appropriate for the property management company or property owner to sit at the cash registers and collect the payments from the businesses in their complex, then issue checks to the spa owner, sandwich shop owner, restaurant owner, and retail store owner they lease storefronts to? No.
The landlord should never be issuing payments or 1099 forms to renters.
Under California’s ABC test:
A.) A legitimate renter doesn’t have a “hiring entity.” They have a landlord who doesn’t intervene in their business operations whatsoever.
B.) The renter performs work outside of the nonexistent “hiring entity’s” course of business. They perform beauty services. The nonexistent “hiring entity” rents workspace to beauty professionals.
C.) The renter engages in an independently established trade, occupation, or business—but because there is no work agreement and no “hiring entity,” there is no way to measure how the work they do differs from the “work performed” by the nonexistent “hiring entity,” since—once again—they have not been contracted nor compensated by any hiring entity.
Stop using the words “independent contractor” and “renter” like they are interchangeable.
These words each have different meanings.
- Self-employed means that a person does not have an employer. They work for themselves. Renters and independent contractors are self-employed.
- An independent contractor is a self-employed worker who fulfills a work agreement.
- A renter is a self-employed business owner who signs a lease and rents space.
An actual, legitimate renter isn’t an independent contractor, so evaluating their arrangement to determine whether they’re improperly classified as an independent contractor doesn’t make sense unless the salon landlord tries to exert managerial control over that renter. Should that evaluation become necessary, it wouldn’t be to determine whether the renter is truly an “independent contractor,” but whether they were truly self-employed. If the ABC test were being used to make that determination, the salon owner who rents to some professionals and employs others would likely fail because of factor B—but ABC specifically is designed to determine whether someone is an independent contractor, making it clear that this test was designed to target the gig economy (those who receive 1099 forms), where the misuse of independent contractors is the norm.
However, until the state responds, nobody has any idea how rental salons will be affected—if at all.
What we do know is this:
- A hair salon owner who staffs their hair salon with “independent contractor” stylists is misclassifying.
- A nail salon owner who staffs their nail salon with “independent contractor” nail technicians is misclassifying.
- A spa owner who staffs their massage business with “independent contractor” massage therapists is misclassifying.
- An esthetics salon owner who staffs their esthetics business with “independent contractor” estheticians is misclassifying.
Those are all roles employees would normally fill to perform services that are integral to those salons, and that’s what the ABC (Dynamex) decision puts a stop to.
The ABC test is for independent contractors. If—after 2,000+ words of explanation—you still don’t understand what this means for you, immediately contact an employment law attorney in your area. Educate yourself and stop signal boosting the hysteria. The end is not nigh. This is not “the death of the industry.”
Understanding the Outrage
So why are people so pissed? Salon owners who don’t want to ensure prevailing wage compliance, pay employment taxes, or abdicate control over their misclassified workers by making them legitimate renters are upset that they’ll be held to the same standard as every other business owner in their state, and in the country. They’re angry that they’re losing the competitive advantages that misclassification, tax evasion, and wage theft previously granted them.
Now, they have two choices:
1.) Present their “independent contractors” with lease agreements, give up managerial control completely, and let them run their own businesses, or
2.) Employ their renters legally and retain managerial control.
They probably don’t want to do that. Owners who misclassify in this industry do so because they want to exert managerial control without paying the price (taxes and prevailing wage compliance) for that control. We call this “wanting to have your cake and eat it too.”
Why is misclassification bad for the beauty business?
Misclassification allows employers to shift the cost of doing business onto their workers, saddling them with the entirety of their employment taxes and denying them access to employment rights they would otherwise have access to. These salon owners also skip out on prevailing wage compliance. By exempting themselves from those responsibilities, these owners are able to charge less money for the salon’s services, creating an atmosphere of unfair competition that makes it very difficult for businesses that actually do comply with the laws.
These practices have plagued our industry for decades. Our industry should be seen as a valid career opportunity. Our workers should be given the same rights and protections as employees in every other industry. Our employers should absolutely be held to a higher standard. Those who can’t succeed without misclassifying their employees probably weren’t cut out for business ownership in the first place.
“Why didn’t the state inform us?”
You are not owed a golden invitation, a direct letter, or a personal phone call about compliance. The state of California has provided you with more than enough information and resources to educate yourself. They are a shining example that other states should take notes from, and the fact that some of you believe they aren’t doing enough is—quite frankly—an embarrassment.
It isn’t the responsibility of the California BBC, DIR, or the EDD to educate you, salon owners.
When you renew your license in California, you’re required to check a box that acknowledges you understand California labor law. (Don’t believe me? Go check.) If you don’t, it’s on you to read the information provided to you on the state’s website and call state officials if you have any questions.
Be thankful that you have fact sheets and FAQ’s written in plain language, and phone numbers to call. Most of us do not have those luxuries. We have to dig through malfunctioning, outdated websites to find the information we need, and when we finally do find it, it’s usually written in poorly formatted legalese. If we have questions, we will likely need to bring them to an employment law attorney, because we don’t have anyone to call at the state.
“But this guy who sells business seminars said…”
I know that meetings have been held where “experts” and lobbyists are making contradicting statements and confusing the issue. Be aware that these people likely have an agenda to push and/or services to sell you.
Verify the information others give you independently by consulting with the authorities themselves.
Remember when I said don’t take my word for it? You must make the effort to confirm the information you are given. You are responsible for educating yourself, so attend the official meetings. (I wish I could, but I’m on the other side of the country and I’m afraid the aggravation would make my head explode.) Watch the next legislative session between the chamber and labor, and hope like hell the DIR doesn’t roll out punitive enforcement (retroactive of four years).
Please stop spreading misinformation and fear, use the resources your state taxes pay for, and for the love of god, stop potentially incriminating yourselves by speaking to the media before speaking to an attorney.
2019 Update: AB5 Approved, Cosmetology “Carve-Out” Still Won’t Allow Salon Owners to Misclassify with Impunity
The passage of AB5 should come as a surprise to nobody. Those who have been most outraged have agendas of their own–gig employers, salon owners who want to continue incorrectly utilizing the IC status at the expense of their workers, and anti-regulation libertarian groups (the same people who think all we do is “shampoo hair” and “paint nails” and shouldn’t have standards or licenses to begin with).
AB5 isn’t rocket science and compliance isn’t complicated, but as stated in the original article, it did cause potential problems for legitimate salon landlords who also practiced cosmetology in their rental facilities. These landlords may not have satisfied part B of the ABC test, even if their renters were truly self-employed.
The most important thing for salon owners to understand is that the carve-out only benefits legitimate salon landlords, who wouldn’t have satisfied part B of the ABC test. That’s it. It doesn’t endorse their idiocy.
Salon owners now have to prove compliance with 6+ factors of the Borello test. To fall within the exception, the salon owner must establish that the professional service provider maintains a separate business location, has a business license, can set or negotiate their rates and hours, controls their own client database and appointment book, and exercises discretion and independent judgment. Independent contractors are required to provide the “hiring entity” (salon owner) with a 1099 for rent paid.
My primary complaint with California is that legislators use the words “independent contractor,” “renter,” and “self-employed” as if they are synonymous. They are not.
Unfortunately, this leaves a lot of room for confusion, resulting in a situation where professionals, business owners, enforcement agencies, attorneys, and the legislators themselves don’t realize their definitions aren’t in alignment. If the EDD, DIR, and BCC were all on the same page and using the right words, AB5 would have been perfectly fine as it was written.
Our industry didn’t need a carve-out. The legislators needed a vocabulary lesson.
Inter-agency inconsistencies and idiocy aside, rental has been clearly and effectively protected, allowing salon landlords who also work in their facilities to continue business as usual. As a reminder, THIS CARVE-OUT DOES NOT allow salon owners with employees to classify their non-renter workers as independent contractors.
AB5 goes into effect January 1, 2020.