Assembly Bill 5 (AB 5), also known as the gig-worker bill, was signed into California law last year. It recently came into effect on January 1, 2020. The bill increases the number of workers considered as employees for state tax and labor purposes with new classifications. This has the potential to affect thousands of self-employed workers in California. It could specifically have a negative effect on new technology companies such as Uber, Lyft, and Grubhub.
What is AB 5?
AB 5 reclassifies gig workers as employees. With this bill in place, those who fall under this category will now be entitled to receive a minimum wage, overtime pay, and paid sick time. While these may sound like potential benefits, the bill could affect work flexibility where freelancers once had the ability to set their own hours. It can also change workers’ retirement planning. The cost of this will affect employers as well. In the future, we could see this inevitably being passed onto the consumer prices, forcing companies to close their doors.
Who will AB 5 Affect?
The difference between employees and independent contractors is important for state and federal tax purposes. If a worker is classified as an employee, the employer is responsible for:
- income tax withholding on the state and federal level
- withholding the employee’s share of payroll taxes on the federal level
- paying the employer’s share of payroll taxes on the federal level
- paying state disability, unemployment insurance and state employee training tax
The failure to properly withhold payroll taxes can result in substantial penalties at both state and federal levels. The reclassification may also affect a worker’s tax situation, for their income will be subject to withholding. They will no longer have the ability to deduct their personal business expenses.
A worker will be classified as an employee unless (referred to as the “ABC Test”):
(A) The individual is free from the control and direction of the hiring entity in connection with the performance of work;
(B) The individual performs work that is outside the usual course of the hiring entity’s business; and
(C) The individual is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed for the hiring entity.
Hiring workers as employees has the potential of increasing labor costs by 20-30%. This is due to Social Security and Medicare taxes, unemployment and disability insurance, workers’ compensation, sick leave, minimum wage, overtime, rest breaks, and protections against discrimination and sexual harassment.
Tax season is always a complex set of reforms to navigate. Every year brings with it its own set of unique challenges. If you would like to learn more about how we can help you and your business improve its accounting practices, reach out to our team. For more information on other accounting topics in the news, check out our blog.