A California Labor Ruling Just Said an Uber Driver Is an Employee. That’s Uber’s Worst Nightmare.

Taxi drivers protest against a new smart phones app 'Uber' during a 24 hours strike on July 1, 2014 in Barcelona, Spain.
That explosive.

Photo by David Ramos/Getty Images

In what could be an explosive decision, the California Labor Commission has found that a driver for Uber in San Francisco is an employee of the company. That’s from a ruling filed in state court on Tuesday and first reported by Reuters. It’s pretty damning. “Defendants hold themselves out as nothing more than a neutral technological platform, designed simply to enable drivers and passengers to transact the business of transportation,” the commission writes. “The reality, however, is that Defendants are involved in every aspect of the operation.”

The driver, Barbara Berwick, has been awarded roughly $4,000 in unpaid expenses, plus interest. Uber is appealing the ruling. Uber spokeswoman Kristin Carvell stressed in a statement that the labor commission’s decision is “non-binding” and applies only to a single driver.

The threat that Uber’s drivers could be deemed employees in the eyes of the law has loomed over the ride-hailing company for a while now—and it’s a big one. Uber’s vast business and multi-multibillion dollar valuation fundamentally depends on its assumption that drivers are independent contractors, and not employees. When drivers are treated as contractors, they carry the bulk of the company’s operating costs. Uber drivers are required to pay out of pocket for everything from gas to insurance to routine car cleanings and maintenance. It adds up fast. While Uber has boasted that drivers in certain markets like New York City can earn as much as $90,000 driving on its platform, after expenses are added into the mix, that take-home figure gets much lower.

Just as importantly, drivers who are contractors, and not employees, also aren’t required to get benefits and other labor protections that employees are traditionally awarded. For Uber and all its peers in the so-called 1099 economy, this is another key thing that helps to keep costs low, rides cheap, and thin margins viable.

Determining whether workers should be classified as contractors or employees is rarely a simple matter. Uber points to its drivers’ abilities to set their own schedules as evidence that they operate independently and shouldn’t be considered traditional employees. Drivers, on the other hand, argue that Uber sets strict standards for how many rides they need to accept while on the road, and how they ought to interact with passengers—and reserves the right to deactivate their accounts (basically, the equivalent of firing) if they don’t comply. In California, where the issue of whether drivers for Uber and its main rival Lyft are employees is headed to trial, U.S. district judges have in two separate rulings declined to make a final decision. “The test the California courts have developed over the 20th Century for classifying workers isn’t very helpful in addressing this 21st Century problem,” one wrote.

So until now, the big, scary question—the one that could decimate Uber, and Lyft, and all the 1099 companies like them—has basically remained a hypothetical. Which is why it’s so important that the California Labor Commission has finally stepped in to say, Yes, this Uber driver is an employee, and she’s owed $4,000 in expenses. Imagine if Uber suddenly had to pay $4,000 back to all of its drivers in California, much less across the U.S. Even its $5.9 billion in funding would presumably wilt at the thought. It’s undeniable that Uber drivers becoming employees would be a huge blow to Uber’s business model. What we still don’t know is: How huge?

This article has been updated to include a statement from Uber.

Correction, June 17, 2015: Due to an editing error, the original headline of the article misstated that the labor ruling said Uber drivers are employees. The ruling applies only to one driver.