The following is a guest blog post by Steve Jackson, Vice President, Benefit Services at PrimePay.
In our recent blog article Come Clean on Contractor Payroll Taxes Before an IRS Audit we discussed a new IRS program that will enable employers to resolve past worker misclassification issues by voluntarily reclassifying their workers. Many employers struggle with determining if an individual is an employee or an independent contractor. To help clarify the difference between these two types of workers, the IRS has created a 20 point list whereby your answers help guide you to correctly classifying employees.
It is critical that business owners correctly determine whether the individuals providing services are independent contractors (self-employed) or employees. Generally, employers must withhold income taxes, withhold and pay Social Security and Medicare taxes and pay unemployment tax on wages paid to an employee. Employers do not generally have to withhold or pay any taxes on payments to independent contractors.
Who is an Independent Contractor?
People such as doctors, dentists, veterinarians, lawyers, accountants, contractors, subcontractors, public stenographers, or auctioneers who are in an independent trade, business, or profession in which they offer their services to the general public are generally independent contractors. However, whether these people are independent contractors or employees depends on the facts in each case. The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work and not what will be done and how it will be done.
Who is an Employee?
Under common-law rules, anyone who performs services for you is your employee if you can control what will be done and how it will be done. This is so even when you give the employee freedom of action. What matters is that you have the right to control the details of how the services are performed.
IRS 20 Point Test for Classifying Employees
The IRS has created a 20 point list for helping to determine whether an individual is an employee or independent contractor. In general, "no" answers to questions 1-16 and "yes" answers to questions 17-20 indicate an independent contractor.
- Must the individual take instructions from your management staff regarding when, where and how work is to be done?
- Does the individual receive training from your company?
- Is the success or continuation of your business somewhat dependent on the type of service provided by the individual?
- Must the individual personally perform the contracted services?
- Have you hired, supervised or paid individuals to assist the worker in completing the project stated in the contract?
- Is there a continuing relationship between your company and the individual?
- Must the individual work set hours?
- Is the individual required to work full time at your company?
- Is the work performed on company premises?
- Is the individual required to follow a set sequence or routine in the performance of his work?
- Must the individual give you reports regarding work?
- Is the individual paid by the hour, week or month?
- Do you reimburse the individual for business/travel expenses?
- Do you supply the individual with needed tools or materials?
- Have you made a significant investment in facilities used by the individual to perform services?
- Is the individual free from suffering a loss or realizing a profit based on his work?
- Does the individual only perform services for your company?
- Does the individual limit the availability of his services to the general public?
- Do you have the right to discharge the individual?
- May the individual terminate his services at any time?