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Contractors and Taxes with AB5

The California Assembly Bill 5, also know as AB5, is a law that was singed into legislation in September 2019, requiring companies that hire independent contractors to reclassify them as employees.

The law officially went into effect on January 1st, 2020. It provides guidelines to companies that regulate hiring large quantities of independent contractors, which essentially forces companies to classify workers accurately. Under the AB5 law, workers are assumed to be employees unless they can prove otherwise using a three-pronged test, also known as the ABC Test. In order to categorize a worker as an independent contractor the employer must be able to prove that he or she is free to perform duties without direction from or under the control of the company, the individual is working on something that falls outside of the regular scope of business of the company, and the individual must be engaged in an independently established trade, occupation, and/ or business. If a worker does not meet all three of the above criteria he or she cannot be classified as an independent contractor. 

Tax Implications

According to a report conducted by the US Government Accountability Office, the IRS estimated that the misclassification of employees as independent contractors cost the federal government sixteen billion dollars in lost taxes, in 2017. The AB5 basically requires employers to cover the cost of certain taxes that would otherwise be paid as self-employment tax from the independent contractor. Most companies provide their employees with some kind of benefits package, whereas independent contractors are not awarded such benefits. This means that companies comprised primarily of independent contractors are not responsible for financial obligations such as employment taxes, health insurance, and more. 

While the passing of AB5 have many benefits for workers that may have previously been unavailable, there are an equal number of drawbacks for employers. AB5 definitely favors workers. The required enforcement of AB5 provides many significant and needed protections to workers. Shifting the responsibility of proving a worker is an independent contractor from an employee to the employer alleviates the burden from the worker. AB5 forces companies to provide their workers with adequate compensation and additional benefits of which they are entitled. Since this is such a new law that has taken into effect, the full implications of its enforcement are still unknown. 

It is important to note that AB5 did not remove the ability for an individual to become a 1099 contractor. The California Assembly Bill 5, has not eradicated independent contractors from the workforce, it has simply allowed workers a better chance of becoming an employee and obtaining the ability to form a union, access to health insurance, and be paid minimum wage. Should a worker meet all three of the previously mention requirements from the ABC Test, he or she may maintain the status of an independent contractor, and file taxes accordingly. 

For Further Information

If you follow your instincts and are clear with your needs you will likely find an accountant that is an excellent fit. While the task to connect with the right accountant may seem overwhelming, please keep in mind it will be worth it in the long run. The financial guidance that a good accountant will provide during one’s lifetime can result in significant financial gain. With the full range of tax and accounting services Allman & Allman APAC provide, we are certainly equipped with the expertise for which you may be in need. Seeking guidance from our firm will proved you the opportunity to work with individuals armed with broad and deep financial knowledge, able to provide advice on a wide range of issues. As a full-service public accounting firm, our professional services will surely help you succeed and thrive. Please feel free to reach out to Allman & Allman APAC via email at [email protected] or via phone at 760-773-1120 (Palm Desert) or 310-544-1120 (Rolling Hills Estates) to discuss your situation and find out how we can help you grow. We look forward to hearing from you.

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