California Payroll Taxes

Part 1 – Are you a Boss?

This first installment on our blog series regarding federal and state (EDD) payroll taxes for California employers focuses on whether a business owner is a boss or not.  In other words, are the people the business owner contracts with employees for federal employment tax and state employment tax purposes.  The IRS and EDD have different criteria that determine whether a particular worker is an employee or independent contractor for federal employment tax (IRS) or state payroll tax (EDD) purposes.  

The federal employment tax law and IRS generally use a multi-factor common law test to determine whether a particular worker is an employee.  The factors the IRS looks to include:  whether the hiring entity controls the manner in which the work is done, whether the worker provides his or her own tools or equipment, whether a worker has a continuous relationship with the hiring entity, whether the worker sets his or her own hours, whether the worker works full time for the hiring entity, whether the worker has the opportunity to realize profits and losses from his or her work, and whether the hiring entity and worker have the ability to freely terminate the relationship.  It is possible for workers who are properly classified as employees to exhibit some independent contractor like factors and vice versa.  While an independent contractor agreement may be helpful in determining whether a particular worker is an independent contractor, an independent contractor agreement is far from bullet proof and by itself will not determine a worker’s employee status.

There are certain groups of workers that are statutory employees for federal tax purposes.  These workers include certain insurance salespeople and certain delivery drivers.  These workers will always be considered employees for federal employment tax laws purposes regardless of what type of work arrangement they have with their employers.  There are also statutory non-employees like certain real estate brokers who will always be treated as independent contractors regardless of their working relationship with the companies they perform work for.  The California employment tax law has similar rules for statutory employees as well.

Prior to 2020, the EDD generally determined whether a worker was a worker was an employee using the Borello test.  The Borello test is a multi-factor test that is similar to the multi-factor common law test the IRS uses.  In 2020, AB5 went into effect.  AB5 was a law passed by the California legislature that revamped employment law.  Under AB5, the ABC test generally determines whether a worker is an employee.  Under the ABC test, a worker must satisfy all three prongs of the test in order to be considered an independent contractor.  

Prong A is control.  The worker must be free from control of the hiring entity.  The hiring entity cannot put restrictions on the worker like setting hours the worker must work.  The hiring entity may also not give the worker detailed instructions or specifications in order to satisfy Prong A.    

Prong B is the worker must perform services that are outside the usual course of the hiring entity’s business.  For example, a plumber’s work would be outside the usual course of a bakery’s business.  A plumber would pass Prong B of the test if it were hired by a bakery.  A baker hired by a bakery on the other hand would not pass Prong B because a baker’s  work (making baked goods) would be inside the usual course of the bakery’s business (selling baked goods).  

Prong C is the worker has an independently established trade or business for the work performed.  This generally means the worker performs services for other businesses and holds himself or herself for hire to the general public.  A worker that is exclusively employed by one hiring entity may not satisfy this Prong. C.  A worker that works for multiple businesses, has a website, has business cards, a business license, and other characteristics of an independent business  may satisfy Prong C.

The Borello standard is not completely dead in California.  Some groups of workers are not governed by the ABC test.  For example, some licensed professionals like attorneys or physicians have their employment status governed by the Borello standard rather than the ABC test.  Another exception to the rule is the  business to-business exception. Under the business-to-business exception, certain workers will have their employment status governed by the Borello standard if they meet certain requirements like having a business license and not performing work for a hiring entity’s customers.  

Determining whether a worker is an independent contractor or not is not always a trivial task.  Employment misclassification is a common issue in IRS Payroll Tax and EDD Payroll Tax audits.  RJS LAW has helped many businesses with EDD employment tax and IRS employment tax audits.  We also help businesses with independent contractor agreements and tax planning.  Contact  if you are a boss (or think you might be a boss) and have any questions or issues with California payroll taxes.  At RJS LAW, you are the boss^* and we help bosses.

* Unless we need to argue otherwise in a payroll tax audit.

Written by Joe Cole, Esq., LL.M.

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