Case Study: Dynamex Operations West, Inc. vs. Superior Court

  • Goldberg, Phillip, CSA Attorney
| Jan 07, 2019

goldbergThe California Supreme Court's decision earlier this year in the case of Dynamex Operations West, Inc.  vs.  Superior Court created a new rule for classifying workers as employees or independent contractors. Under the new rule, it is virtually impossible for an anesthesia group to defend the independent contractor status of a physician providing anesthesia services for the practice.

At this time, it does not appear there will be a quick and simple legislative or regulatory fix exempting medical practices from the new rule.  As such, anesthesia groups need to consider their options for structuring their relationships and assessing their risk tolerance under the new rule. These relationships and risks can best be examined and understood in a case study.    

Consider a fairly typical anesthesia group of 20 anesthesiologists organized as a medical corporation. Thirteen of the anesthesiologists are shareholder employees, two are non-shareholder employees relatively new to the group, and five are independent contractors.  All employees (both shareholder and non-shareholder) are more less full time. The five independent contractors are all part time with some working on a very infrequent and irregular basis and others working as much as half time. All of the independent contractors have a relatively long relationship with the group and two are former full-time shareholder employees. None of the independent contractors have their own single shareholder medical corporation, so all are directly contracted with the group on an individual basis. Group leaders read about the Dynamex decision on the CSA website and considered and discussed the five following options.

The first option considered was to do nothing in response the new rule.  The anesthesia group and the five independent contractors are all happy with the current arrangement which has served everyone well for many years and any change was sure to be disruptive. This is a common response to the new rule and for many it may turn out to be completely workable. However, it requires a high-level of risk tolerance because the group would not be able to defend the independent contractor status for any of the five if challenged.  Since the most likely source for a challenge under the new rule is the independent contractor, the anesthesia group rates the risk as low since the independent contractors are happy with the current and long-standing arrangement. 

Of course, the risk assessment may change suddenly and significantly if the relationship with any of the independent contractors ends acrimoniously.  The former independent contractor may decide to bring a legal action against the anesthesia group just as the independent contractors did in Dynamex.  The independent contractor may assert that he was actually an employee and entitled to overtime pay on a number of occasions, that the anesthesia group failed to pay him promptly and frequently enough and failed to comply with other California Labor Code provisions such as the relatively new sick pay statute. Some of the statutory claims entitle the contractor to recover attorneys’ fees and can result in penalties being imposed on the group. The independent contractor may also assert that he was entitled to benefits as an employee including having his practice expenses such as malpractice insurance and CME costs paid by the group and entitled to participate in the anesthesia group’s retirement plan. Many of the potential claims are fact specific and the independent contractor is not certain to prevail in all. Beyond the fact specific defenses, the anesthesia group can assert a statute of limitations defense that may cut off claims arising from the misclassification of the anesthesiologist as an independent contractor dating back more than three or four years.  However, it will be an easy matter for the anesthesiologist to establish the foundational element of these claims:  that he is properly classified as an employee under the Dynamex rule.

The anesthesia group then considered a slight restructuring in light of the risk of doing nothing. Specifically, it considered requiring all independent contractors to create their own single shareholder medical corporation and contract with that corporation as the independent contractor instead of contracting directly and individually with the anesthesiologist. The single shareholder medical corporation, in turn, employs the anesthesiologist to provide services to the anesthesia group on behalf of the independent contractor corporation. As further protection, the anesthesia group includes provisions in its independent contractor agreement expressly requiring the single shareholder medical corporation contractor to comply strictly with all provisions of the California Labor Code and wage orders and to indemnify the anesthesia group for any claims by the anesthesiologist. This option is intended to disincentivize the anesthesiologist from suing the anesthesia group when and if their relationship ends unhappily. When and if the anesthesiologist sues the anesthesia group, asserting he was really an employee and entitled to recover under specific Labor Code provisions and wage orders, the anesthesia group files a cross-complaint against the single shareholder corporation for breach of contract and indemnity. 

For good measure, the anesthesia group files a special claim against the individual anesthesiologist asserting the individual is personally responsible for his single shareholder corporation's obligations as that corporation is the “alter ego” of the anesthesiologist. This would seem to be a substantial improvement over doing nothing, and it might be were it not for the policy stated in the Dynamex decision and other California law protecting employees. The independent contractors in Dynamex all had contracts acknowledging and agreeing to their status as independent contractors.  The court invalidated those agreements because they effectively had the workers waive legal protections that are not waivable. It would be an easy matter for the anesthesiologist to assert and the court to accept that the single shareholder corporation and special provisions in the independent contractor agreement were just an elaborate scheme to have the anesthesiologist waive protections that are not waivable. The resolution of this issue is likely to be fact specific. If the evidence shows the anesthesiologist insisted on being an independent contractor this would be much better for than anesthesia group than would be the case if the anesthesiologist wanted to be an employee and was forced into this elaborate scheme by the group. 

The weakness of the single shareholder medical corporation option compelled the group to consider a third option which is a variation on the second. Under this option, the independent contractor agreement is with another medical corporation that acts as an anesthesiologist leasing company or "temp agency." The anesthesiologist providing services for the anesthesia group is not a shareholder of the leasing company. Rather, he is one of many anesthesiologists employed by the leasing company and made available to various anesthesia groups under an independent contractor agreement between the anesthesia group and the leasing company. Under the contract between the leasing company and anesthesia group, the leasing company agrees to comply with all applicable employment laws as regards the anesthesiologist and indemnify the anesthesia group against claims by the anesthesiologist in exchange for payment from the anesthesia group to the leasing company. 

In this case, there is a bona fide employment relationship between the leasing company and the anesthesiologist and compliance with the applicable law. Although the anesthesia group and leasing company may be “joint employers” of the anesthesiologist, a claim by the anesthesiologist against the anesthesia group is not likely to be successful because the anesthesiologist got all non-waivable statutory benefits and protections from the leasing company. The typical anesthesia locums company arrangement is not the same as the third option. Rather, the locums company is merely a “finder” and does not directly hire the locums. This fact highlights the problem with the third option which is more practical than legal. It would be possible for an anesthesia leasing company to operate in California connecting anesthesiologists who want to (or are willing to) work on an irregular basis with anesthesia groups who need anesthesiologists to fill out the group’s schedule. To my knowledge, however, this company does not exist. There could be many explanations. One is that the more typical anesthesia locums company arrangement has worked up to now. Another is that the truly independent anesthesiologist does not want to be an employee of either an anesthesia group or a leasing company because he wants to have complete discretion on what combination of compensation and benefits to provide to himself.

Since the leasing company option was not available for reasons more practical than legal, the anesthesia group considered a fourth option which involves converting from a medical corporation to a general partnership and having all anesthesiologists providing services on behalf of the group do so as partners so that the group has no employees.  Specifically, the group considered a three-tier partnership with S class partners, NS class partners and IC class partners.  Only the S class partners have voting rights and are full time with long relationships with the group.  The NS class partners are also full time but relatively new to the anesthesia group. They may be compensated by the partnership in a manner only slightly different from the S class partners but have no voting rights. The IC class partners are all less than full time with the anesthesia group, may have varying compensation arrangements, and have no voting rights. 

This option may be attractive not just because it addresses the problem of independent contractors but because it also addresses the problem with employees.  The reason independent contractor relationships are attractive to anesthesia groups - and other businesses - is because they are extremely simple and easy to manage as compared to employment relationships which are highly regulated.  Most anesthesia groups and other group medical practices are organized as professional corporations rather than general partnerships because of the automatic liability protection in the medical corporation context.  Similar protection can be had in the general partnership context, but it requires extra effort to establish and maintain.  Even so, the general partnership option for medical practices has become more attractive as the complications with employees have increased.  These complications exist for both shareholder employees and non-shareholder employees.  The recently adopted requirement for paid sick days is one of many examples of increased regulation of employment.  (Limited liability companies, limited partnerships, and limited liability partnerships are not available to group medical practices in California.  General partnerships and medical corporations are the only options for physician group practices.)  This fourth option has legal limitations.  The different classes of partner are a practical necessity.  It may be very difficult for a long-time owner of the practice working full time to be an equal partner of someone new to the anesthesia group and just out of training. This partner may also be reluctant to grant equal partner status to someone working on an infrequent and irregular basis.  Where there are different classes of partners it is possible for those partners with lesser rights and privileges to assert that the true nature of their relationship with the anesthesia group is as an employee and not a partner.  In other words, just as the Dynamex rule may be used to reclassify an independent contractor as an employee, other authority allows partners to be reclassified as employees as well.

Finally, the anesthesia group considered the option of converting all independent contractors to employees.  Although there are administrative burdens associated with the employment of the former independent contractors, the total costs of hire does not have to increase.  As a legal matter it would be possible to pay wages and salary to the former independent contractors who are now employees that are lower than compensation paid to the anesthesiologists as independent contractors.  The difference could be based on the additional costs of hire incurred by the group associated with employment status including the employer portion of Social Security and Medicare premium taxes, workers’ compensation premiums, and benefit plan participation among other things. It is conceivable the former independent contractors would not be pleased with the reduced compensation and may not see the additional benefits as a fair trade for lower compensation. The former independent contractors may be unhappy with the loss of “self-employment income” that could have been applied to practice expenses as the anesthesiologist chose and not as dictated by the anesthesia group’s less robust expense reimbursement policy.  This in turn, may lead the independent contractors to negotiate for option two above which may be considered a compromise of the interests of the anesthesia group and the independent contractor. 

In considering the foregoing options the anesthesia group determined that none was ideal.  They also concluded there were differences of opinion among the group leaders and among the independent contractors as to which option was best.  The differences related to each individual’s assessment of the risk of each option and burdens of implementation.

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