Are your workers employees or independent contractors? Classifying workers in the today’s economy…
Conflicts arise between employers and employees from large older manufacturing businesses such as General Motors (GM) to newer service companies such as Uber. The difficult question becomes how to categorize workers and what that may mean.
Properly classifying employees and independent contractors is an important legal and tax issue that carries serious economic consequences for businesses and their owners. For instance, an employer must do the following for an employee:
- Withhold income tax (federal and state) from wages
- Contribute social security and Medicare taxes
- Pay unemployment taxes on employee earnings
Additionally, an employer may have to provide the following for an employee:
- Vacation, sick and other paid leave
- Health insurance and worker’s compensation
- Other employee benefits based on company policy and government regulations such as 401(k) matching, bonus, education reimbursement, etc.
On the other hand, companies have no obligation to withhold or pay taxes, provide health insurance, or benefits to independent contractors.
The Worker Classification Issue
The federal and state government have a vested interest in proper categorization of workers as employees. Payroll taxes go to funding programs such as social security, Medicare, and unemployment compensation. Also, collecting revenue is easier when an employer withholds taxes from employee paychecks and sends payment electronically to the government. Auditing employees W-2’s and tax payments is much smoother for the government. Independent contractors are responsible for their own tax filings and payments which they require the government to review one at a time. Therefore, enforcement agencies prefer to have workers classified as employees and put more of the burden on companies.
Previously, federal and state auditors used similar lists of factors to evaluate the evidence presented in determining a worker’s category. This area has been filled with conflict between companies and governments.
Human Resources managers and owners should understand what auditors look for in this area and find ways to clearly distinguish between their employees and contractors.
Evaluating and Categorizing
Auditors will observe the following areas of control and influence companies have with their workers. Based on the evidence a determination will be made.
- Behavioral Control – Right to direct or control how the work is completed.
How, when, where to do the work
What tools or equipment to use
What assistants to hire
Where to purchase supplies and services
- Financial Control – Who bears the risk and benefits of outcomes.
Significant investment in your work-contractor
Expenses: reimbursement for business expenses
Profit or Loss: ability for either indicates an independent contractor
- Relationship of the Parties – Interactions formal and informal.
Benefits: insurance, pension, paid leave is provided to employees
Written contracts: document what the parties intend
Ability to offer services to others
Knowledgeable employers can use this background to conduct their own due diligence and formulate policy to minimize the risks of incorrect classification and unexpected assessments.
Walz Group recommends that employers review agreements (both oral and written). Employers should understand their needs and determine the level of control over the work and worker that fits these needs. Make a decision on how the worker should be treated and then document, document, and document. Done in advance, this approach can save the company a considerable amount of time and money. For further detail on this topic: https://www.irs.gov/businesses/small-businesses-self-employed/independent-contractor-self-employed-or-employee.
Darren is a Director in the firm’s Tax Division. He focuses on developing innovative solutions that generate cash savings, tax savings and increased efficiencies for our clients. To speak with Darren regarding any of your tax questions, contact us today!