The Costco Joint Employer Misclassification Landmark: Ending the "Shell Company" Tax Evasion Model in Logistics

HR Anchor
Dec 27, 2025
4 min read

HR Anchor by Ready Employer

In an era of increasingly complex workforce management, many enterprises attempt to slash labor costs through multi-layered subcontracting and 1099 independent contractor models. However, in October 2024, the California Labor Commissioner’s Office (LCO) issued a staggering $868,128 citation against Costco Wholesale, its logistics partner Ryder Last Mile, and their subcontractor Mega Nice Trucking. This ruling serves as a final warning: "shell" subcontracting is no longer a shield against labor liability.

I. Case Background: "Shadow Employment" Under the Guise of Subcontracting

The core of this case involves 58 delivery drivers in the San Diego area who were tasked with delivering heavy-goods for Costco.

The Supply Chain Loophole: Costco outsourced its big-and-bulky logistics to Ryder Last Mile, which in turn subcontracted the work to a smaller entity, Mega Nice Trucking.
The "Fake 1099" Model: Mega Nice Trucking classified all drivers as 1099 independent contractors. These drivers were denied overtime pay and meal breaks. Even after a superficial transition to W2 status in 2023, the company allegedly continued to pay fixed daily rates and falsified wage records to conceal unpaid overtime.
Piercing the Corporate Veil: Despite Costco and Ryder not being the direct signatories of the driver contracts, the LCO determined that all three entities held joint and several liability.

II. Core Controversy: Why Subcontracting Failed to Shield the Principals

The LCO applied the "Control Test" and the "Economic Reality Test" to determine the true nature of the employment relationship:

1. The Element of Control

Investigation revealed that although drivers signed contracts with Mega Nice, their daily operations were directly dictated by Costco and Ryder:

Mandatory Uniforms: Drivers were required to wear Costco-branded apparel.
Routing & Scheduling: Delivery windows and routes were strictly controlled by the upstream platforms.
Service Protocols: Drivers had to adhere to Costco’s specific customer service standards and were monitored in real-time. Legal Conclusion: Liability follows management. Subcontracting agreements cannot function as a "firewall" to evade statutory labor obligations.

2. AB5 and the "Fatal" Prong B of the ABC Test

Because this case originated in California, the ABC Test was the governing standard:

Prong B (Course of Business): This is the "Achilles' heel" for the trucking industry. The law states that if a worker performs tasks within the hiring entity's usual course of business (e.g., a logistics company hiring a driver to drive), that worker must be classified as an employee.
Since delivery is integral to Costco’s retail ecosystem and Ryder’s logistics service, the 1099 classification was legally indefensible.

III. Financial Impact: The Hidden Iceberg Below the Fine

The $868,000 citation is only the visible tip of the iceberg. For HR professionals and business owners, the true cost of misclassification includes:

Wage Restitution: $662,978 of the fine goes directly to drivers to compensate for unpaid overtime, minimum wage gaps, and liquidated damages.
Tax Back-Pay: Once reclassified as W2, the employer is liable for years of unpaid employer-side Social Security and Medicare taxes (FICA), plus unemployment insurance premiums.
Insurance Exposure: Under a 1099 model, employers typically forgo Workers' Compensation. In the event of a major accident, the employer faces direct civil lawsuits and loses the "exclusive remedy" protection provided by workers' comp.

IV. HR ANCHOR Compliance Recommendations

Based on this landmark case, HR ANCHOR advises all firms—especially those operating in California—to adopt the following risk-mitigation strategies:

1. Abandon the "Contract is King" Fallacy

Many owners believe that "as long as the driver agrees to 1099, I am safe." This case proves otherwise: A worker’s consent cannot override the reality of the labor relationship. Regulators look at facts—who controls the route, who provides the vehicle, and who sets the pay.

2. Beware of the "Flat Daily Rate" Trap

Trucking companies often prefer flat rates for simplicity. However, under W2 status, flat rates must still satisfy minimum wage requirements and must include 1.5x overtime pay for hours worked beyond 40. Falsifying records to make a flat rate look like hourly pay is a surefire way to trigger an audit.

3. Vendor Audits: Managing Joint Employer Risk

For large enterprises or logistics platforms, it is mandatory to conduct HR compliance audits on your subcontractors. If your subcontractor is operating illegally, you, as the beneficiary of that labor, will likely be named as a Joint Employer in California.

V. Reminders

The Costco case is not just a lesson for the trucking industry; it is a re-drawing of the "red line" for the entire gig economy and flex-staffing market. As the Department of Labor intensifies its crackdown on misclassification in 2026, the era of extracting profit through blurred employment boundaries is officially over.

HR ANCHOR Reminder: Compliance is not a cost; non-compliance is the most expensive gamble you will ever take.

Want to learn more about California’s AB5 Law or need a risk assessment for your fleet? Contact the professional consultants at HR ANCHOR for a comprehensive U.S. HR compliance solution.

Disclaimer: This article is for educational purposes only and does not constitute professional legal advice.