September 2016

Ouch! Five Independent Contractor Myths That Can Land You in Hot Water

by Gail Cecchettini Whaley, J.D.; CalChamber Employment Law Counsel/Content

Alternative work arrangements, including the use of independent contractors, now represent more than 15 percent of the labor market, according to statistics released in early 2016, and these arrangements account for much of net employment growth since 2005.

Alternative work arrangements — including temporary workers from staffing agencies, independent contractors, freelancers, contract workers and other types of workers — move company work once performed by employees to large contingent workforces.

One reason for this shift is that many businesses see the move as a cost-cutting tool — saving on employer-provided benefits, payroll taxes, office space and equipment.

Another reason is the rise of businesses in the “on-demand” or “gig” economy, a.k.a. the “use an app on your phone to hire somebody to give you a ride, walk your dog or run errands for you” economy.

A study by Intuit estimated that 7.6 million Americans will be regularly working as providers in the gig economy by 2020, more than doubling the 2015 total of 3.2 million.

Some businesses — think Uber and Lyft — base their business strategy on the use of independent contractors. These businesses act like a broker between a consumer and a supplier (the independent contractor), rather than as a traditional employer.

Yet, when workers don’t actually meet the legal test for independent contractor status, the employer is exposed to significant legal liability. A misclassification mistake can result in civil penalties; liability for unpaid wages, including potential overtime pay; liability for meal and rest breaks; liability for employment taxes; and more. Class action lawsuits in this area continue to rise.

These alternative work arrangements are coming under increasing scrutiny from federal and state enforcement agencies, and falling for one of the many independent contractor “myths” out there can land you in hot water.

California Employer Update

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

Your guide to trends and court decisions impacting the California workplace

HR Library: Independent Contractors (CalChamber members only)

HRCalifornia: Independent Contractor Quiz (CalChamber members only)

CalChamber Webinar: Independent Contractor or Employee? Costly Mistakes Employers Make Sept. 15, 2016 10 a.m. - 11:30 a.m. (Available to all)

Related Resources

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California Employer Update

On the Lookout

California enforcement agencies, such as the Department of Industrial Relations (DIR) and the Employment Development Department (EDD), and federal enforcement agencies, such as the Department of Labor (DOL) and the Internal Revenue Service (IRS), have made it a top priority to crack down on the misclassification of workers as independent contractors.

These agencies are, of course, concerned about harm to workers who, if misclassified, are not protected by state and federal wage and hour laws. But, without a doubt, the agencies also are concerned about harm to the federal and state coffers.

The IRS finds wrongful classification in up to 90 percent of the firms it audits and estimates a gap of $35 billion a year in taxes not collected because of misclassification. The DIR estimates that misclassification results in a loss of $7 billion per year in payroll tax revenue not collected by the state.

Keep these common myths in mind before your business decides to use independent contractors.

Myth #1: He Wanted to Be Classified That Way

Many employers mistakenly think that if the worker asked to be treated as an independent contractor, they are safe. The intent of the worker is just one factor that enforcement agencies and the courts will consider and certainly is not dispositive. You can’t base your classification decision on accommodating the workers’ preference. You must make sure that your hire is properly classified using the legal tests.

In fact, the DOL recently released an administrative interpretation noting that most workers are employees, not independent contractors. And California’s DIR starts with the presumption that a worker is an employee.

With that in mind, it’s a difficult hurdle to meet the independent contractor test. Simply labeling someone an independent contractor, even if that is his/her wish, does not make the person an independent contractor.

Courts and agencies generally look to the degree of control the employer exercises over the worker; the more control the employer has over the details of how and where the work is done, the more likely the worker is an employee not an independent contractor. True independent contractors need to be able to exercise meaningful discretion to accomplish their work.

Are you exercising control over how the worker accomplishes the job? Is the work an integral part of your business? Is the worker economically dependent on you or truly in business for himself? These are just some of the factors that will be examined.

Myth #2: We Have a Written Agreement With Her

A written agreement is not enough by itself to make a worker an independent contractor and is not absolute protection from liability for misclassification. If the actual working arrangement doesn’t meet the legal tests for independent contractor status, what you call the worker in a written document won’t matter.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

Courts and agencies often disregard written independent contractor agreements. Instead, courts and agencies will look at what is actually going on in the day-to-day working relationship, regardless of what the document says.

Does this mean you shouldn’t have a written agreement? Absolutely not. An independent contractor agreement can be a helpful factor if properly drafted and preferably reviewed by legal counsel. The agreement needs to be customized to reflect the actual terms of the particular working relationship and should not be a boilerplate agreement used for all contractors. Put procedures in place to revisit a contractor’s agreement if the job duties or expectations change over time.

An improperly drafted agreement may end up being used against you in a misclassification audit or lawsuit. For instance, if your independent contractor agreement includes terms that apply to employees, especially references to “at-will” employment, this will lean toward a determination that the worker is an employee, not an independent contractor.

If you have the right to terminate the relationship and walk away at-will without any reason and at any time, this is usually an employment relationship. Independent contractor agreements should establish a set project length and consequences for early termination of the contract or failure to complete the contract. There should at least be a notice period required for termination of the contract.

Myth #3: He Meets the IRS Test, so We’re OK

This is a common myth. A determination by one government agency that a worker is an independent contractor for one purpose does not mean that a different government agency will reach the same conclusion. Although the right to control the worker is a common factor, different agencies use different tests and may place greater emphasis on certain factors.

From California’s Division of Labor Standards Enforcement:

Since different laws may be involved in a particular situation such as a termination of employment, it is possible that the same individual may be considered an employee for purposes of one law and an independent contractor under another law. Because the potential liabilities and penalties are significant if an individual is treated as an independent contractor and later found to be an employee, each working relationship should be thoroughly researched and analyzed before it is established.

Myth #4: She Did a Great Job, so Let’s Use Her Again

“Long-term” independent contractors are a mistake. If you keep using the same independent contractors on a long-term basis and are occupying the majority of their working time, it is likely that they have become employees. To be a true independent contractor, the worker should have his or her own business with a number of different clients.

According to the DOL, the ultimate inquiry under federal wage-and-hour laws is whether the worker is economically dependent on the employer (an employee) or truly in business for himself/herself (an independent contractor).

When you repeatedly use the same worker over long periods of time or occupy that worker’s schedule on a full-time basis, that worker is probably doing work that is integral to your regular business operations and also probably has become economically dependent on you.

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California Employer Update

In other words, he/she more closely resembles a regular full-time employee. As the saying goes, “If it walks like a duck …”

It is also a mistake to rehire former employees as independent contractors — especially when they are performing the same job functions they were performing before. This is a red flag for enforcement agencies.

Myth #5: It’s OK to Have My Independent Contractor Use a Timesheet for Pay

Don’t pay independent contractors the same way you pay your employees — for instance, don’t pay on an hourly or weekly basis or with a guaranteed payment, such as a salary. Enforcement agencies often view this as proof of employee status.

You should require your independent contractor to submit an invoice to you for work done, ideally on a per-project basis. The contractor also should have an employer identification number (EIN) and not just use a personal Social Security number. Independent contractors should receive the Form 1099 for amounts paid to them and be responsible for their own employment and income taxes. You should not be reimbursing independent contractors for any expenses they incur.

Submitting invoices, having an EIN and receiving a Form 1099 instead of a Form W-2 will not guarantee that the person is truly an independent contractor, but these items can help. Keep in mind, however, that enforcement agencies will look beyond these formalities to examine the underlying substance of the worker relationship and whether it really is an employer-employee relationship.

Best Practices

Companies that use independent contractors should analyze carefully how the contractors actually perform their work and how that work fits in to your overall business model. Ask yourself whether an in-house employee is better suited to perform the job.

You should also:

•Avoid controlling the manner and means by which the contractor performs his/her work. The independent contractor determines the best way to achieve the final result you have contracted for.

•Ask the contractor to use his/her own tools, equipment and supplies and don’t reimburse for expenses.

•Ask legal counsel to draft and/or review any independent contractor agreement.

•Make certain your independent contractors have the ability to, and in fact do, work for other clients.

•Avoid long-term relationships with any one independent contractor without any break in work.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

Good hiring and onboarding practices are important for companies of all sizes, but California’s very large community of startup companies face unique challenges when bringing on new employees.

In large part, the nature of being a “startup” is what creates those challenges.

Startups are different than small businesses because startups are designed to grow fast, according to Paul Graham, co-founder of Y Combinator, a well-known venture capital company in Silicon Valley that funds startups. To achieve that rapid growth, startups focus on making things that can be sold to a big market.

Startup vs. Small Business

A restaurateur may have plans to open one or two locations in a particular city — this is a small business. In contrast, the founder of a food-service startup may have plans to provide home-delivered meals to thousands of clients who order online from across the country.

Small businesses and startups often approach their funding and exit strategies differently as well. Small businesses typically obtain loans to get their businesses off the ground, and their lenders have no involvement in their management. Additionally, small business founders may have no plans to immediately sell the businesses they build, instead running them as ongoing concerns.

In contrast, startups may seek capital from angel investors and venture capital firms. These individuals and companies provide strategic advice in addition to money, taking a percentage of ownership in the startup. In exchange, the startup develops a plan to provide a return on that investment, typically by selling the company, or in the not-too-distant future.

“Because of their rapid growth plans and strategies for maximizing return on investment, startup founders can make some common missteps in getting their hiring practices off the ground,” said Erika Frank, Vice President of Legal Affairs and General Counsel for CalChamber.

Startups, in particular, should be aware of some of the risks associated with new hires.

Stock Options Are Not Wages

Until they receive outside funding (which can be difficult to obtain prior to developing a viable product and business plan), startups may have little money available to pay their workers. Amid the hope for a high valuation and an eventual successful sale of the company, what startups can offer is stock options. Unfortunately, stock options cannot be used to cover employee wages.

HRCalifornia: Hiring Checklist (CalChamber members only)

HR Library: Recruiting and Hiring (CalChamber members only)

CalChamber Store: Required Notices Kit (Available for purchase)

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Hiring Tips for Startupsby Michelle Galbraith, J.D.; HR Adviser, CalChamber Labor Law Helpline

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

All employees in California must be paid at least minimum wage for all hours they work. Additionally, employers must pay wages on a set schedule, at least twice monthly for nonexempt workers. Employers can’t defer payment of wages until the company has sufficient funds in the bank, nor can the company substitute other forms of compensation (such as stock options).

“Stock options can serve as an excellent incentive to attract quality workers to a brand new company,” Frank cautioned. “But stock options alone are not sufficient compensation for employees.”

Properly Classify Contractors

Because of startups’ rapid growth, founders often need to hire a number of skilled workers at the company’s inception. The task of recruiting quality employees can be very time-consuming, though, so many startups instead rely on contractors to get their businesses off the ground.

Occasionally these workers join the startup for a defined term to complete specific projects. Other times, they are essentially “trying on” regular, full-time employment with the company, potentially planning to join as employees. Startups, like all other businesses, must ensure that their contractors are properly classified and are not actually employees.

“Different agencies look at different factors to determine whether a worker is a contractor,” Frank explained. “The most important factor is the level of control you exercise over the worker.”

A true contractor is typically given a goal to achieve and is permitted to achieve that goal by whatever means are appropriate. He/she may hire subcontractors, work irregular schedules and possibly juggle other contracting jobs at the same time.

In contrast, an employee is given specific processes to follow in order to achieve the company’s goals. Employees are generally more closely supervised, and there is typically an expectation of an ongoing employment relationship.

An employer and a worker cannot simply agree that a worker is a contractor. If a government agency determines that a contractor is misclassified, a signed contract will not absolve the employer of liability. Penalties for misclassification can include claims for unpaid wages (including overtime and meal and rest breaks) as well as employment taxes.

Exempt/Nonexempt Classifications

All employees in California fall into two broad categories: those who are exempt from wage-and-hour laws, and those who are nonexempt (and therefore subject to those laws). All employees are nonexempt by default, unless they meet all the criteria for one of California’s specific exemptions.

Nonexempt employees are entitled to both daily and weekly overtime and must take appropriately timed meal and rest breaks. They track their hours and must receive an hourly wage for all hours worked.

To qualify as exempt, employees must meet both a duties test and a salary test. Different types of exemptions contain different duties requirements, and most require employees to receive a flat salary that is at least twice the state minimum wage. Employers should also be aware that beginning December 1, 2016, federal law will require a higher minimum salary for an employee to qualify as exempt: $47,476 per year.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

The computer professional exemption contains its own separate salary requirement, which is adjusted annually based on the Consumer Price Index.

“Startups should not presume that just because employees work on computers, those employees fall under the computer professional exemption, or that because they make more than twice the minimum wage they are automatically exempt,” cautioned Frank.

“Hiring managers must evaluate both the duties and the wages for every position, and consult with counsel if they are unsure as to the appropriate classification.”

Relying on Unpaid Interns

Startups can hold a unique appeal for college students: their founders often are not much older than the college students are, and startups can offer exciting opportunities to gain valuable work experience during a period of rapid growth.

However, a worker cannot simply agree to be an unpaid intern — the job itself must meet very specific tests to qualify as an unpaid internship.

“A true internship is basically a training program for the benefit of the intern,” Frank said. “Your company should not be deriving an advantage from the efforts of the intern, but should instead be providing them with useful skills.” In some instances, businesses also can work with colleges to obtain interns who receive school credit for their work.

Most interns are actually employees and should be paid at least minimum wage. Startups, like other types of companies, should consult with counsel prior to hiring unpaid interns.

Mandatory Sick Leave

As a startup gets off the ground, the founders’ focus is typically on building and launching the product and obtaining funding, often at a very rapid pace. However, startups should avoid the error of focusing solely on the product and overlooking state requirements for employee benefits.

For example, California employers, regardless of size, must offer paid sick leave to their employees. There is no exemption for new companies or for part-time workers.

“Paid sick leave is tripping up employers of all sizes recently,” Frank said. “The state of California implemented mandatory sick leave in July of 2015, but now municipalities across the state are passing their own, often conflicting, sick leave requirements.”

Employers must provide employees with a minimum of three paid sick days per year. A number of cities across the state impose greater requirements on employers, and companies must offer whichever plan is more beneficial to employees.

New Hire Paperwork

“Even if you are a brand new company, and even if you only have one employee, you must process all new hire paperwork,” Frank said. “California and federal laws do not exempt small or new businesses from filling out I-9s and providing their employees with required notices or forms, such as the W-4.”

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

Similarly, there is no exception to hiring paperwork for short-term employees or employees who work for an uncertain term. It is every employer’s responsibility to ensure that every worker receives mandatory notices, such as required pamphlets discussing sexual harassment and workers’ compensation information, State Disability Insurance and Paid Family Leave and your mandatory harassment prevention policy.

“Startups should not postpone providing appropriate notices to their employees simply because they don’t look like a traditional business,” Frank said. “You still need to hang all the relevant employment posters on your break room wall, even if the break room is in your garage.”

Consider Diversity

As of 2014, only 18 percent of startups had at least one female founder, according to technology database Crunchbase.

Racial minorities may be even more underrepresented, according to technology publication VentureBeat: popular startups Airbnb, Dropbox, Pinterest and Slack have disclosed that African Americans make up between one and four percent of their workplaces, and Hispanic and Latino employees comprise one to six percent.

Lack of diversity is not necessarily the result of discriminatory intent, however. Startups may need to conduct outreach in order to diversify their applicant pools: for example, consider posting job listings to networking organizations that specifically serve underrepresented groups, and ensure that all language used in recruiting is unbiased.

A recent study by the American Psychological Association found that some language used by employers in job descriptions may be unintentionally deterring women from applying. Employers have long been cautioned to avoid the use of gender-descriptive words, such as “mailman” or “waitress.”

But even more subtle word choices could prevent women from applying. The study authors drafted descriptions for the same jobs that contained either “masculine-themed” or “feminine-themed” words, and had randomly selected job seekers evaluate the positions for their overall appeal:

• “Feminine” job descriptions included words such as “community,” “relationships,” “proficient” and “support.”

• “Masculine” job descriptions included the words, “dominant,” “determined,” “competition” and “control.”

The authors found that female job seekers were more likely to find a position appealing if the job description contained feminine-themed words, even if the position itself was in a male-dominated industry. The choice of masculine or feminine words had the greatest affect on female applicants.

Startups attempting to build a diverse workplace should consider the impact their job descriptions may unconsciously have on their applicant pool. Simply avoiding overt references to gender (or any other protected class) may not be enough — hiring managers may need to draft language that specifically appeals to underrepresented groups to maximize recruiting options.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

More and more employers are using biometric identification systems in the workplace, such as for timekeeping and security purposes.

Although such systems may provide employers with more accurate and reliable records, employers should be aware of potential issues involved with the use of such systems.

What Are Biometrics?

Biometrics are defined as “the measurement and analysis of unique physical or behavioral characteristics (such as fingerprints or voice patterns) especially as a means of verifying personal identity.”

Biometric technology can be used to identify a person using physiological characteristics, such as fingerprints, hand prints or iris/retina scans.

How Are Biometrics Used in the Workplace?

Two key ways that biometrics are being used in the workplace are in timekeeping and security systems. In both, biometric data is collected from employees. When an employee uses the system, the employee’s biometric data is scanned and matched to data in the system to confirm the employee’s identity.

Employers may find that using biometrics in their timekeeping and security systems better allows them to track when and where employees are working at any given time.

A biometric timekeeping system may ensure more accurate timekeeping by avoiding some of the problems commonly associated with timekeeping. For instance, with paper timecards or even an electronic timekeeping system that requires employees to enter an identification number or password, employees can still clock in for other employees.

Employees may engage in this so-called “buddy punching” to cover-up a co-worker’s tardiness or absence. Employees also may claim that time records have been falsified in some way, such as by a manager who does so to minimize overtime hours paid to employees.

With a biometric timekeeping system, an employee cannot clock in or out without first confirming his/her identity using biometric data. That data may be collected a variety of ways, including through fingerprints or hand scans, or by a self-taken photograph submitted by the employee.

Such a system may ensure more accurate and reliable time records and help prevent fraudulent time records because only the employee can enter his/her time. Employees cannot clock in and out for each other. Although an employee could claim that he/she did not create an entry on a paper time sheet, a biometric system verifies that every clocking entry is done by the employee in question.

HR Library: Privacy (CalChamber members only)

HRCalifornia: Reasonable Accommodation and Interactive Process Checklist (CalChamber members only)

HRCalifornia Quiz: Records Retention (CalChamber members only)

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Biometrics in the Workplaceby Erika Pickles, J.D.; Employment Law Counsel, HR Adviser, CalChamber Labor Law Helpline

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

Biometric technology also can be used in workplace security systems to verify the identity of employees when entering and exiting the workplace or when accessing certain areas or equipment in the workplace. Biometric data may be used in place of or in connection with other security measures, such as passwords or badges, to provide a heightened level of security in the workplace.

Employers considering the use of biometrics in the workplace should be aware of some potential issues in doing so.

Legal Limits On the Use of Biometric Information

California Labor Code section 1051 makes it a misdemeanor for employers who collect photographs or fingerprints from applicants and employees to provide those photos or fingerprints to third parties.

An employer can collect fingerprints or photographs from employees but only for the employer’s own use. If an employer uses employee fingerprints or photographs in a biometric timekeeping or security system, the employer must ensure that the fingerprints or photographs are not shared with anyone else, such as the vendors providing the biometric systems.

Privacy and biometrics also is a rapidly changing area of the law. Although California law does not currently protect biometric data, that could change. The law currently protects personal data, such as drivers’ licenses, Social Security numbers, health information and financial account information.

A bill was introduced in the Legislature last year that would have expanded California’s data security statute to include biometrics within the scope of “personal information” that businesses must protect from unauthorized access, use and disclosure. Although the bill did not pass, it is possible that protections for biometrics could be forthcoming.

Employers also should have carefully drafted policies and procedures in place that govern the use of biometric systems, including notifying employees of what information will be gathered, how it will be used and whether the use of the system is required and, if so, the consequences of not using.

Employers using biometric systems also should take steps to ensure that the biometric data collected from employees is securely stored and safe from being compromised, such as by third parties hacking into the biometric system. Security precautions also need to be taken to prevent inadvertent disclosure.

Employers operating in other states need to be aware of any laws covering biometrics. For example, the Illinois Biometric Information Privacy Act requires notifications to the person from whom data is being collected and written consent.

Before implementing a biometric system in the workplace, employers should consult legal counsel to assess any potential legal implications.

Accommodation and Discrimination Issues

Employers also should be prepared to deal with employees who request an exception from the employer’s requirement that employees use a biometric system. If an employee requests an accommodation from the requirement because of a disability or on religious grounds, the employer should treat the request like any other accommodation request and promptly respond by engaging in the interactive process to assess whether the requested accommodation is reasonable.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

In at least one case, an employer was held liable for religious discrimination for failing to accommodate an employee who objected to using a biometric timekeeping system on religious grounds. In that case, the Equal Employment Opportunity Commission (EEOC) filed suit against CONSOL Energy, Inc. and Consolidation Coal Company on behalf of an employee who was forced to retire after the employer refused to accommodate the employee’s religious beliefs.

The employer had implemented a new timekeeping system that required employees to use a biometric hand scanner. The employee objected on the grounds that it violated his religious beliefs (he believed the hand scanner was part of an identification system used by the Christian Antichrist to identify his followers with the “mark of the beast”).

Rather than consider the employee’s request for accommodation, the employer informed him that he would be subject to discipline and termination if he refused to use the hand scanner. The employee claimed he had no choice but to retire given the employer’s refusal to accommodate his religious beliefs.

The case went to a jury trial and the employer was found to have violated federal anti-discrimination law because it refused to accommodate the employee’s religious beliefs. The employee was awarded more than a half million dollars in damages.

One of the key issues in the case was the fact that the employer provided accommodations to other employees who were physically unable to use the hand scanner because of disabilities but the employer did not do so for this employee. This case exemplifies the importance of an employer meeting its obligation to engage in the interactive process with employees who request accommodations to determine whether an accommodation would be reasonable.

If there is not a request for accommodation and an employee simply refuses to follow an employer’s directive to use a biometric timekeeping or security system, the employer may choose to handle the situation as a discipline or performance issue.

No current California law would give an employee the right to refuse an employer’s request to provide biometric information. However, as discussed above, this is a changing area of law, and employers considering disciplining or terminating an employee for refusing to provide biometric data should consult with counsel prior to doing so.

Best Practices: Implementing a Biometric Timekeeping System

•Consult with counsel to ensure compliance with privacy and other related laws before implementing a biometric timekeeping system.

•Work with the provider of the timekeeping system to understand the scope of information gathered and the means by which it will be kept private and safe.

•Create policies and procedures for the proper use and storage of biometric data.

•Provide notice to employees about the biometric timekeeping system, including what information will be gathered and how it will be used.

•Respond promptly to requests for accommodation related to the use of the biometric timekeeping system. Engage in the interactive process with any employee requesting accommodation to assess whether accommodation would be reasonable.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

A California appellate court recently ruled that a fact-finding workplace investigation report prepared by an attorney investigator on behalf of an employer is protected by the attorney-client privilege.

The court ruled that the report was privileged even though the investigator made only factual findings and did not provide legal advice to the client on which course of action to take as a result of the investigation (City of Petaluma v. Superior Court of Sonoma County, Cal. App. 1st Dist., No. A145437, June 8, 2016).

Although unpublished, the case still provides guidance in terms of how a court may characterize an attorney investigation.

This decision demonstrates that employers can use outside counsel to conduct workplace investigations and, when proper steps are taken, protect the investigation reports if litigation ensues. Such protection would not be available with an outside investigator who is not a licensed attorney, however.

History of the Case

Andrea Waters was hired as a firefighter and a paramedic by the City of Petaluma in 2008. In February 2014, Waters went out on a leave of absence and in May 2014, before returning to work, she filed a complaint with the Equal Employment Opportunity Commission (EEOC) alleging that, as the only woman in her position, she suffered harassment and discrimination from the moment she was hired.

Waters resigned from her position a few days after the city received notice that she filed her complaint with EEOC. After Waters resigned, the city hired an outside attorney investigator to conduct a fact-finding investigation into the allegations Waters included in her EEOC complaint. The investigator prepared a written investigation report, marked “confidential and attorney-client privileged communication.”

In November 2014, Waters sued the city under the Fair Employment and Housing Act (FEHA) for sex discrimination, harassment and retaliation. During litigation, she asked the city to produce a copy of the investigation report and other documents the investigator used or created in the course of her investigation.

The city refused to turn over the investigation report on the grounds that it was protected under the attorney-client privilege. The trial court disagreed and ordered the city to provide Waters with a copy of the report. The city appealed.

Law In Brief: Attorney’s Fact-Finding Investigation Is Privilegedby Zee Syed, Esq.; Attorney, Ellis Buehler & Makus, LLP

HRCalifornia Form: Sexual Harassment Guidelines by EEOC and FEHA (CalChamber members only)

HRCalifornia: Checklist for Developing a Harassment Prevention Policy (CalChamber members only)

HRCalifornia: Sexual Harassment Training Quiz (CalChamber members only)

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Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

The Investigation

By policy, the city investigated all claims of harassment and retaliation, either by internal staff or through the services of outside attorney investigators. In this instance, the city concluded that because Waters resigned shortly after filing the EEOC charge, she was preparing to file suit and was not interested in remedial or corrective action by the city.

Anticipating future litigation, the city retained an outside attorney to investigate Waters’ allegations to ensure that the investigation report and notes were protected by the attorney-client privilege and the attorney work product doctrine.

The investigation engagement agreement specified that the agreement created an attorney-client relationship between the investigator and the city. The investigator, who had more than 30 years of employment law experience, also specified in the agreement that she would use her expertise to determine what issues needed to be investigated and conduct an “impartial fact-finding” investigation into Waters’ allegations.

The agreement made clear that the investigator would not make legal conclusions in the investigation report and would not provide legal advice to the city as to what action the city should take after the investigation.

Attorney-Client Privilege and Work-Product Doctrine

Under the attorney-client privilege, a client may refuse to disclose confidential communications between it and the lawyer it hired. A party that seeks to protect communications from disclosure must establish that there was (1) a confidential communication made in the course of (2) an attorney-client relationship.

For purposes of the privilege, a “client” is defined as a person who consults a lawyer for the purpose of retaining the lawyer or securing legal service or advice (California Evidence Code section 951). A “confidential communication” means “information transmitted between a client and his or her lawyer in the course of that attorney-client relationship.

An attorney’s work-product is documents or communications produced in the course of her providing legal services or advice to her client. The privilege to protect work product is not absolute, but qualified. An attorney’s work product is not subject to discovery, “unless a court determines that denial of discovery would unfairly prejudice the party seeking discovery or result in an injustice” (Code Civ. Proc., section 2018.030, subd. (b)).

Privilege Even Without Legal Advice

The court looked at several factors to determine whether the attorney-client privilege applied to the investigation report.

The court first considered the terms of the agreement between the city and the investigator. The agreement referenced the investigator’s extensive employment law experience and stated that the investigator would rely upon that experience to identify issues and investigate them.

The court also considered the timing of the investigation and concluded that the main or dominant purpose of the investigation was to provide a legal service to the city. The court ruled that whether the report was privileged should not be considered separately, but as part of the entire relationship between the city and the investigator.

Five Independent Contractor Myths | Hiring Tips for StartupsBiometrics in the Workplace | Law In Brief: Attorney’s Fact-Finding Investigation Is Privileged

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California Employer Update

The court looked to the language that defines the attorney-client privilege in California and found that the privilege is established when a client retains a lawyer for legal service or advice.

In this case, the city did not retain the outside investigator solely to gather facts and relay them to the city. The “dominant purpose” of the retention was to provide professional legal services so that the investigator could gather information that was legally relevant to Waters’ claims, which would allow the city to determine the appropriate course of action. As a result, the court ruled, the investigation report was protected by the attorney-client privilege and not subject to disclosure.

The court also concluded that the attorney work product doctrine also applied to the investigator’s other work for the city.

No Waiver of the Privilege

During litigation, the city used the “avoidable consequences defense.” In California, an employer can defend against an employee’s harassment claim by proving that:

• The employer took reasonable steps to prevent harassment;

• The employee unreasonably failed to use the preventive and corrective measures the employer provided; and

• Reasonable use of the employer’s procedures would have prevented at least some of the harm that the employee suffered (State Department of Health Services v. Superior Court, 31 Cal.4th 1026, 1044 (2003)).

The defense reduces the amount of damages an employer must pay to an employee who was subjected to harassment.

Waters argued that the city put its investigation report into issue by asserting this defense, thereby waiving any privilege attached to the report.

She claimed that the report was the best evidence to show whether the city took reasonable steps to prevent harassment and whether Waters failed to use such measures.

The court disagreed. It ruled that the avoidable consequences defense focused on what the city and Waters did or did not do during employment. Because Waters had resigned by the time of the investigation, the investigation did not address whether the city provided remedial measures or whether Waters utilized them.

Best Practices

•Ensure engagement agreements with outside attorney investigators clarify that the investigator is providing legal services, even if the investigation does not call for the investigator to provide you legal advice on how to proceed after the investigation concludes.

•Retain only attorney investigators who are licensed to practice law in California.

•Protect all communications with attorney investigators to ensure the attorney-client privilege is preserved; this means knowing what communications you want to protect, and making sure you do not share them with third parties.

•Refrain from excessive email communication with attorney investigators, particularly when including several recipients.

•Limit communications with attorney investigators, particularly by email. Emails to investigators are likely subject to discovery if the employer decides to waive privilege during litigation. Make sure you do not include sensitive or other information that is not relevant to the investigation.

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California Employer Update

As a result, the city did not put the investigation report into issue by asserting the avoidable consequences defense. The court clarified that if the employer relied on the investigation or the investigation report to defend itself in litigation brought by an employee, the employer would waive the privilege and would be required to provide the investigation report to the employee during litigation.

Importance to Employers, Employees

Though the case was a win for the city, it also benefits employees who bring complaints. In most cases, investigations are conducted during the complaining employee’s employment. Employers can safely retain impartial attorney investigators who specialize in conducting investigations without fear of having to produce the report and other documents in litigation, if employers conduct these investigations under attorney-client privilege and refrain from bringing those reports into controversy should litigation ensue.

On the other hand, there is a great likelihood that the employer will rely on the investigation findings to take corrective action to eliminate improper conduct, thus preventing costly litigation in many cases. Attorney-client privilege is the client’s to waive, and being able to conduct investigations under privilege, even if it has to be waived later, provides employers with a greater repertoire of tools to create a harassment and discrimination free workplace for employees.

Employers should take note that an external workplace investigator must be a licensed private investigator or a licensed attorney in California (California Business and Professions Code sections 7520 - 7539). If an employer retains an attorney investigator, it can take advantage of the attorney-client privilege and protect investigation reports in litigation; the privilege does not apply to private investigators’ reports.

Editor Contributing Editors Shane Peterson Mike McCluskey, Katie Culliton

Information contained within is not intended to serve as legal advice. Readers with specific questions should consult legal counsel. Opinions expressed are those of the authors and not necessarily those of CalChamber.

California Employer Update (ISSN 1077-968X) is published monthly by CalChamber. P.O. Box 1736 Sacramento, CA 95812-1736. Order publications at: 1-800-331-8877 or ceu@calchamber.com.

© 2016 California Chamber of Commerce www.calchamber.com

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