Employment Tax Classification and Payroll Audit for a Gig Economy Worker

California payroll tax classification uses the ABC test under Labor Code §2775 and Unemployment Insurance Code §621(b). A worker is an employee unless the hiring entity can establish all three prongs: (A) the worker is free from control and direction in performing the work, both under the contract and in fact; (B) the work is outside the usual course of the hiring entity's business; and (C) the worker is customarily engaged in an independently established trade, occupation, or business of the same nature as the work performed. Applying prong A: RideNow sets fares, requires a dress code, provides training, and can terminate for low ratings. These facts show significant control, so prong A is not met. Applying prong B: RideNow is a rideshare company, and driving is the core of its business. Therefore, the work is within the usual course of business, so prong B is not met. Applying prong C: Alex worked exclusively for RideNow, did not have his own business, and did not offer services to others. Therefore, prong C is not met. Because RideNow fails all three prongs, Alex and the other drivers are employees. RideNow's argument that the drivers are independent contractors fails. The EDD's determination is correct. As employees, the drivers are entitled to overtime, benefits, and RideNow must pay payroll taxes, including unemployment insurance, employment training tax, and disability insurance. RideNow must also withhold income tax and pay the employer's share of Social Security and Medicare. The assessment of payroll taxes, penalties, and interest is proper. RideNow's argument that the assessments should be limited to Alex is incorrect because the EDD can audit and assess for all similarly situated workers, not just those who filed claims. The EDD has the authority to classify all drivers and assess taxes for all.

The EDD may assess payroll taxes for the misclassified workers, including unemployment insurance contributions, employment training tax, and disability insurance. It may also assess penalties for failure to file returns, failure to pay taxes, and fraud. Under the California Unemployment Insurance Code, penalties can include a 10% penalty for failure to file a return or pay tax, and a 15% penalty for willful failure. Interest accrues at the rate set by the Department of Finance. The EDD may also assess penalties under Labor Code §226.8 for willful misclassification, which can be $5,000 to $25,000 per violation. RideNow can appeal the EDD's assessment by filing a petition for reassessment within 30 days of the notice of assessment. The appeal is heard by an administrative law judge at the California Unemployment Insurance Appeals Board (CUIAB). RideNow can present evidence that the workers are independent contractors, but given the ABC test, it is unlikely to succeed. RideNow may also seek relief under the Voluntary Disclosure Program if it voluntarily comes forward, but that program is not available if the EDD has already initiated an audit. Alternatively, RideNow could argue that it had a reasonable basis for classifying the workers as independent contractors, but the ABC test is strict and does not allow for reasonable basis defense in most cases. RideNow should also consider the impact of AB 5 and subsequent legislation, which codified the ABC test. The EDD's assessment is likely to be upheld. RideNow may also face class action lawsuits from drivers for unpaid wages and benefits. To mitigate, RideNow should reclassify the drivers as employees, pay the assessed taxes, and consider entering into a settlement with the EDD.