By Sushil Kumar, CPA
The question of whether a worker is classified as an employee or an independent contractor is not as clear-cut as you might think. Getting it wrong can be extremely costly and may result in prolonged financial and legal ramifications.
A common misconception is that all parties involved can simply agree to call the worker an independent contractor. However, it is the facts of each particular situation that dictate the true classification as either employee or independent contractor. Although there is no one defining feature of the relationship, there is a range of aspects that the IRS takes into account to determine the true nature of the payer/payee arrangement.
A worker is more likely to be accepted by the IRS as an independent contractor if they:
?Operate under a business name
?Advertise their business and services to the public
?Have more than one client/customer to whom they issue invoices for work performed
?Have their own employees
?Supply, pay for, and insure all of their own tools and equipment necessary to perform the work
?Are permitted to perform the work in the manner they see fit and during the hours they choose, provided the finished product meets the payer’s expectations
?Maintain business records and files
A worker is more likely to be deemed to be an employee by the IRS if they:
?Work for only one payer/employer
?Are trained by the employer as to the methods of performing their assigned duties
?Are required to perform their work in a prescribed manner (i.e., the employer prescribes the what, how, when, and where of the day to day activities of the worker)
?Are required to work during set hours on a regular basis
Some of the benefits of hiring an independent contractor rather than an employee include: saving in labor costs, flexibility in engaging and terminating workers, and lower risk exposure. Generally, with an independent contractor the payer simply pays the worker an amount for the services performed. For an employee, however, the employer is required to pay wages, withhold taxes and include the employee under the business’s workers’ compensation.
Although there are many benefits to hiring an independent contractor, the consequences of incorrectly treating an employee as one include: having to reimburse wages that should have been paid under minimum wage and overtime legislation; paying back taxes and penalties for federal and state income taxes, Social Security, Medicare, and unemployment; being liable for workers’ compensation benefits if the payee is injured; and having to provide employee benefits such as health insurance.
If, after considering your unique situation, you are not certain whether your worker should be classified as an employee or an independent contractor, you can request the IRS to make a determination by submitting a Form SS-8. Although this process can sometimes take up to six months to be finalized, if you regularly hire workers under such circumstances it would be well worth it to have a definitive ruling that you can rely upon. Additionally, you may decide to also seek advice from your tax advisor.
About the Author: Sushil Kumar, CPA specializes in providing accounting and tax services to small business owners and professional practices in Queens, NY. For more information, go here: