California recently adopted a three-factor test, referred to as the ABC test to determine if a worker is classified as an employee or an independent contractor. Due to this change, many workers find themselves being reclassified into an employee status. The presumption under the ABC test is that a worker IS an employee unless all 3 conditions of the ABC test are met.
The conditions are:
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, commonly known as the Borello “control test” (S.G. Borello & Sons, Inc. v. Dept. of Ind. Rel. (1989) 48 Cal.3rd 342);
The worker performs work that is outside the usual course of the hiring entity’s business; and
The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed.
If you are one of those workers who is being reclassified as an employee, here are some things you need to know:
- What will be your new rate of pay? Generally as a W-2 employee your rate of pay is less than someone who is a 1099 worker. This is because the employer is picking up half the cost of the FICA/Medicare (self-employment) taxes. If this is the only item that changes, then you might be compelled to think that receiving an hourly pay that is 92.35% of your 1099 hourly compensation would make your pay equivalent. However, there are many other considerations.
- Do you have expenses that you normally deduct against your 1099 income on our tax return? (like mileage, or cell phone usage etc.). As a W-2 employee these will for the most part, no longer be deductible for tax purposes, so you would want to make sure the employer would reimburse you for these expenses or your rate of pay is adjusted up to reflect this change.
- What benefits are being offered? As a 1099 worker, your health insurance is probably deductible on your tax return as self-employed health insurance. You then need to know if health insurance is a benefit being offered, and if so, is the portion you pay deducted on a pre-tax basis. Retirement benefits should also be reviewed. If you had a Solo 401k as a 1099 worker, and you utilized the profit sharing portion of the plan, then you received a tax deduction that would probably not be available to you with an employer sponsored 401k plan. However, the employer match would be an addition to you income, instead of being funded by you. Any other benefits that are offered should be quantified as an annual monetary value. This will help you determine if the deductions you give up as a self-employed person are overcome by the benefits and compensation you are offered as an employee.
There are many variations on deductions and benefits, so please talk with your tax advisor prior to negotiating your new wage as an employee.