With more than 1,000 Inman posts, Bernice Ross is a long-time contributor whose weekly column on real estate trends, luxury, marketing and other best practices publishes every Monday.
Brokerages and their independent contractor agents in California should prepare to redefine their relationships with each other in the near future as a result of several significant legal developments in employment law earlier this month.
A federal appellate court in early May clarified that a controversial 2018 California state Supreme Court opinion on employment status can be applied retroactively. The state Supreme Court opinion established a new three-pronged legal standard to determine whether someone is an independent contractor or employee.
The decision, Dynamex Operations West, Inc. v. Superior Court, significantly changed California’s established legal standards upon which businesses had relied to decide whether workers are independent contractors or employees.
After the 9th Circuit’s decision, the California’s Division of Labor Standards Enforcement issued its own opinion on how the California state Supreme Court’s new employment classification standard impacts the state’s Labor Code.
A lawyer for the California Labor Commissioner said in a letter to a question from an attorney at Bet Tzedek, a public interest law firm in Los Angeles, that the “ABC” test set out in the 2018 California Supreme Court opinion can be used in certain contexts as applied to the state’s rules on wage orders, which, as California State Supreme Court Justice Tani Cantil-Sakauye explained in her opinion on behalf of the court “impose obligations relating to the minimum wages, maximum hours, and a limited number of very basic working conditions (such as minimally required meal and rest breaks) of California employees.”
The “ABC” test
The “ABC” test is already used by other state authorities such as Massachusetts to determine whether state wage orders apply to workers. It stipulates that workers can only be classified as independent contractors if the hiring entity can demonstrate that they’re:
- Not directing or controlling how a worker performs or accomplishes the work desired (either in a contract, or an actuality)
- That the work performed is outside of the hiring entity’s main business — for example, a plumber comes to fix your brokerage’s plumbing system
- That “the worker is customarily engaged in an independently established trade occupation, or business”
“When a worker has not independently decided to engage in an independently established business but instead is simply designated an independent contractor by the unilateral action of a hiring entity, there is a substantial risk that the hiring business is attempting to evade the demands of an applicable wage order through misclassification,” wrote Chief Justice Cantil-Sakauye.
Having watched these and other developments unfold over the past few years, I worry that these developments may force California brokerages to treat agents as employees rather than independent contractors.
The biggest issue for real estate is the second test, which essentially says that if you’re a real estate agent who works for a broker whose primary business is selling real estate, you must be an employee.
What’s particularly notable is that the 9th U.S. Circuit Court of Appeals found that “applying Dynamex retroactively is consistent with the state’s ‘legal tradition’ to apply judicial decisions retroactively,” as Justine M. Phillips, an attorney at the law firm of Sheppard Mullin writes in the National Law Review.
She added: “While the Court acknowledged that there is an exception to apply judicial decisions retroactively, it held that the exception is not applicable to the Dynamex decision.
“Rather, the Court reasoned that there is a strong presumption in favor of retroactivity, Dynamex only clarifies existing law, and that California state courts provide no indication of an intention to limit Dynamex to new cases.”
You should read Phillips’ full piece regarding potential liabilities and other actions you should be thinking about in light of these facts. (But before you panic and dissolve your brokerage overnight, just note that these developments aren’t the end of the story.)
Multiple companies and organizations are duking it out to preserve the status of the independent contractor both in California and in states around the rest of the country.
Having said that, the smart move for California real estate professionals is to create a transition plan now in case they have to make a rapid transition into an employee model.
What Steps Can You Take to Protect Your Business?
If you’re a broker or an agent in California, start making a contingency plans that address how you will cope if you suddenly are faced with the prospect of converting all your independent contractors to full-time employees.
1. Agents who meet the minimum wage threshold
If you’re making at least $45,000 per year, the disruption to your business will be minimal.
You will have to negotiate a new compensation schedule as an employee. For example, this could be a basic salary (minimum wage) with some sort of bonuses or draw against commissions.
As an employee, your broker will be able to set guidelines about the systems and tools you use as well as sales quotas and performance standards. You will also be entitled to full-time employee benefits.
2. Obtain your broker’s license
If you meet the requirements to become a broker, begin studying for your broker’s license now.
This allows you to have the flexibility to operate as a solo brokerage. You could also affiliate with a consortium of other brokers who each have their own individual businesses, but share office resources, marketing, and administration.
In either scenario, you will need to set up an LLC or S-Corp with a taxpayer ID (EIN) for your business.
3. If you don’t meet minimum wage criteria
If you earn under $45,000 a year, you could be hired on an hourly rate basis to hold open houses, handle transaction paperwork, meet inspectors and appraisers, etc.
You could also cover for full-time agents who are on vacation, have conflicting appointments, or would like to take off evenings or weekends.
Your employer must provide you with breaks, withholding, workers’ compensation, and other hourly-rate employee benefits.
4. Referral programs
As more agents retire or exit the business, referral agent programs have grown exponentially.
These programs could now be used to help less productive agents transition into the employee model.
The agent’s leads stay in-house and are given to productive agents who will be most likely to close them.
Brokerage models that would be least impacted by a shift to an employee model include:
- Companies who already operate using an employee model.
- Solo practitioners.
- Agent team leads who have no independent contractor agents and are supported by full or part-time employee assistants and/or virtual assistants.
For those brokers who do not fall into one of these categories:
1. Have all agents sign an individual arbitration clause
Every California broker who supervises agents needs an individual arbitration clause in their Independent Contractor Agreements (ICA) to limit their exposure to class action litigation.
2. Cut overhead now!
Reduce the amount of square footage you have devoted to office space and look for ways to cut overhead in as many areas as possible.
If your brokerage has been surviving on fees from non-productive agents, those will be going away. The time to slash expenses is now.
3. Who stays, who goes, who becomes full-time vs. part-time?
If you have to move to an employee model, identify which agents would stay on (it will probably be the top 10-15 percent who earn at least $45,000 per year.)
Next, identify the second tier of agents who could possibly work on a part-time basis, and then the bottom tier that you will need to terminate.
4. See your employment attorney ASAP
Visit with your employment attorney to determine what an employee model would look like for your brokerage and to help you create a transition plan that you can implement quickly if need be.
Elements of this plan could be designed to fit with any of the agent models outlined above.
5. Consider making a move to a subscription plus a transaction fee
Given how tight brokerage margins are these days, moving to a flat rate subscription model with a transaction fee may be more profitable than operating in today’s current commission model.
Agents could contract with your brokerage for compliance, transaction coordination, marketing, technology tools, etc.
Alternatively, you could unbundle these services and provide them on an as needed basis, especially to solo practitioners.
California has always been a bellwether for other states. The real question will be to what extent large brokerage models can weather this storm, and if not, how that plays out across their businesses elsewhere in the country.
Sun Tzu, the author of The Art of War, once said: “In the midst of chaos, there is also opportunity.”
It looks as if there could be an abundance of opportunity in the not too distant future.
Bernice Ross, President and CEO of BrokerageUP and RealEstateCoach.com, is a national speaker, author and trainer with over 1,000 published articles. Learn about her broker/manager training programs designed for women, by women, at BrokerageUp.com and her new agent sales training at RealEstateCoach.com/newagent.