Law Reclassifying Independent Contractors Will Harm California’s Startups
TLDR: Uber and Lyft may have to suspend their services in California after a San Francisco judge ruled last week that the firms must comply with a state law—Assembly Bill 5 (AB 5)—that requires California companies, including “gig economy” platforms, to reclassify many independent contractors as employees. Although the law is ostensibly targeted at larger platforms like Uber and Lyft, it is likely to be an existential threat for smaller startups.
What’s Happening This Week: Ridesharing firms Uber and Lyft have until this Thursday to appeal a California judge’s ruling that the two companies must reclassify their drivers as full employees. San Francisco Superior Court judge Ethan Schulman ruled last week that the companies must abide by AB 5, which would force many California-based firms to reclassify certain independent contractors. Reports say that several hundred thousand independent contractors in California have been affected by AB 5.
Uber and Lyft said after the recent court decision that they might have to temporarily suspend their services in California in order to comply with the law. California voters, however, will be able to weigh in on the law later this year after a group of companies was able to place a measure on the November ballot—known as Proposition 22—that would permanently re-classify app-based drivers as independent workers, but would also require firms to adopt new, alternative labor and wage policies for those app-based drivers, such as minimum compensation and healthcare subsidies based on their amount of driving time.
Why it Matters to Startups: AB 5 has drawn considerable pushback from the startup community because of the impact the law has on early-stage firms that rely on independent contractors to grow and scale their businesses.
For companies of all sizes that rely on gig-economy workers—like ride-sharing and delivery services—the law makes their business models unworkable. This will reduce the availability of services users have come to depend on, and it will cut off a valuable source of flexible work for Californians. But the law also has broader implications for businesses that rely on independent contractors outside of the gig economy space, and it will disproportionately hurt startups that don’t have the resources to navigate the law and the new compliance burdens it creates, such as considering questions about how the new definition of independent contractor applies to their workforce.
Studies have found that the average startup launches with approximately $78,000 in outside funding, making even small increases in operational costs potentially ruinous for new companies. By imposing these additional uncertainties and costs on startups, California lawmakers are, in effect, chilling startup growth and innovation by limiting the effectiveness of the capital these small startups depend upon to innovate and thrive.
Tech firms and businesses have mobilized against AB 5 since the measure was signed into law last year. Engine, along with TechNet and the U.S. Chamber of Commerce, previously filed an amicus brief that warned of the unintended harms of the bill on startups and entrepreneurs after AB 5 went into effect on Jan. 1st. As The San Diego Union-Tribune noted last year, AB 5 is primarily focused on ride-sharing platforms and food delivery services but “affects a huge swath of smaller tech companies that adopted similar models.”
AB 5 codifies an “ABC” test for determining when workers should be classified as employees. Under the test, a worker is considered a full employee unless: “A) the individual is free from control and direction in connection with the performance of the service, both under the contract for the performance of service and in fact; (B) the service is performed outside the usual course of the business of the employer; and (C) the individual is customarily engaged in an independently established trade, occupation, profession, or business of the same nature as that involved in the service performed.” By following this standard, many businesses that operate in California would be forced to reclassify gig workers as full employees.
Despite ongoing concerns about the California law from the tech community, House lawmakers earlier this year passed legislation—known as the Protecting the Right to Organize (Pro) Act—that would nationalize AB 5’s “ABC” test. While the Pro Act has stalled in the Senate, it is worrisome that lawmakers are already pursuing legislation to enact a stricter version of AB 5 before companies and workers gain a full understanding of the California law’s implications. AB 5 continues to be contentious, and California voters are already preparing to weigh in on the measure in the November election.
While Uber and Lyft are receiving the most attention right now for their opposition to AB 5, the law raises serious questions for early-stage startups. It’s crucial for federal policymakers to continue engaging with startups and entrepreneurs about the harmful impact that this type of misguided legislation will have on startup activity across the country.
On the Horizon.
The American Enterprise Institute (AEI) is holding a webinar at 2:30 pm tomorrow to discuss “attitudes, opportunities, and barriers in America’s STEM workforce.”
Protocol and the Information Technology Industry Council (ITI) are holding a virtual event tomorrow at noon to discuss ways of enabling a diverse future workforce.
