As an employer or payroll tax specialist, you know how important it is for taxable information to be accurate. However, sometimes it may feel like there is a thin line between distinguishing an individual as an employee or an independent contractor. Incorrectly classifying workers is a liability, and there are different employer requirements for employees and contractors. For example, independent contractors only have to complete a Form 1099-MISC at the end of the year, but employers have to withhold taxes, provide W-2s and meet several other requirements if a worker is classified as an employee. Here's everything you need to know to make the right classification decision.
The best way to determine the status of a worker is by analyzing the employment situation and taking all factors into account. If you use the same processes as the IRS or court system would when classifying workers, you'll be less likely to have incorrect classification issues.
Factors that are typically taken into account by the IRS are called Common Law Rules. These rules help to clarify the relationship between the worker and employer. Unfortunately, there is no sole factor that determines whether a worker is an employee or an independent contractor, and all factors do not need to be present in any given situation. Evidence of incorrect classification generally falls into these categories:
The extent to which the person receiving services has the right to control the service provider on how the worker does their job is a good indication as to whether or not they are an independent contractor or an employee. A worker is likely an employee if they've received:
Whether or not a business is able to control financial aspects of a worker's job is often an important factor in determining worker status. Analyze these facts:
The type of relationship a worker has with a business is one of the most significant factors to consider when classifying workers. It's important for a business to weigh factors like whether the relationship will continue and if the work performed is a major aspect of the company. When searching for evidence, refer to:
You may be curious about the risks of incorrectly classifying workers. There are less employer requirements involved with classifying a worker as an independent contractor, so incorrect classification can lead to issues with the IRS. For example, if the workers paid as contractors are later determined as W2 employees by the IRS, you will be responsible for paying the taxes that were not withheld. Risks of incorrect worker status include: