California and the USDOL Stake Out Common Ground in Focusing on Alleged Misclassification of Employees as Independent Contractors

On February 9, 2012, the State of California and the U.S. Department of Labor announced that they have entered into a memorandum of understanding in order to combat misclassification of employees as independent contractors. In the view of the California Labor Commissioner, Julie A. Su, a recent amendment to the California Labor Code will play an important role in enabling new joint efforts "to attack the problems of the underground economy." The two new sections of the California Labor Code, which went into effect on January 1, 2012, increase civil penalties for employers engaging in willful misclassification of workers. In addition to significant monetary penalties,  violators are required to publicly post notice of the violation, and those advising employers to improperly misclassify their employees are exposed to joint and several liability. 

Section 226.8(a) of the Labor Code provides that "[i]t is unlawful for any person or employer to engage in . . . (1) Willful misclassification of an individual as an independent contractor;" or "(2) Charging an individual who has been willfully misclassified as an independent contractor a fee, or making any deductions from compensation, for any purpose, . . . where [such charge or deduction] would have violated the law if the individual had not been misclassified."  The phrase "willful misclassification" is defined under the statute as "avoiding employee status for an individual by voluntarily and knowingly misclassifying that individual as an independent contractor."

Once a court or the California Labor and Workforce Development Agency ("LWDA") determines that an individual or employer has violated the statute, financial penalties shall be imposed at a minimum of $5,000 and a maximum of $15,000 per violation.  Further, if the determining body finds that the violator has engaged in a pattern or practice of willful misclassification, the fines are increased to a minimum of $10,000 per violation and maximum of $25,000 for each violation.  Notably, the statute does not define "pattern or practice."

In addition, once a violation has been administratively or judicially determined, a violator must post notice of the violation on its website and in public areas at the work site visible to employees and the general public, for one year. Failure to do so will result in additional penalties. Such penalties shall remain in effect against any successor corporation, owner, or business entity that has at least one of the same principals or officers of the violating employer, and is engaged in a same or similar business. 

Labor Code section 2753 extends the reach of Section 226.8 to persons who, for compensation or consideration, knowingly advise an employer to misclassify an individual as an independent contractor. Under the circumstances, the person is jointly and severally liable with the employer for the violation. The statute excludes from liability, however, an employee who provides the advice to his/her employer, or an attorney authorized to practice law who provides legal advice in the course of the practice of law. 

These new California Labor Code provisions go hand in hand with the DOL's efforts to combat employee misclassification.  Under the Obama administration, the DOL has launched an initiative to prevent, detect, and remedy employee misclassification.  Last year alone, the DOL's Wage and Hour Division collected over $5 million in back wages due to employees who were misclassified as independent contractors or otherwise not treated as employees.  The agreement with California is the latest in a series of memoranda of understanding between the DOL and state governments "with the goal of preventing, defeating and remedying employee misclassification." Similar agreements have been reached with Colorado, Connecticut, Hawaii, Illinois, Maryland, Massachusetts, Minnesota, Missouri, Montana, Utah, and Washington.

The potential impact of these independent contractor misclassification initiatives on California employers are significant, creating exposure to heightened penalties, third-party liability for advisors, and reputation-damaging notification requirements which may follow the employer to a subsequent business endeavor. The California Labor Code amendments provide, moreover, that any of the LWDA's "departments, divisions, commissions, boards, or agencies," including the Employment Development Department ("EDD"), may enforce the statute and assess penalties. The EDD in particular has been targeting employers in connection with misclassification issues. Because the statute provides for "court" enforcement, California state and federal courts will likely see individual and class actions brought by plaintiffs' counsel. It is not yet clear whether such  lawsuits will be brought under the California Private Attorney General Act, wherein 75 percent of the collected penalties go to the state.

Accordingly, employers should carefully assess existing classifications with counsel in order to eliminate any misclassifications, willful or otherwise.  Crowell & Moring labor and employment attorneys are available to counsel companies in evaluating worker classifications.