Employee or Independent Contractor?

Employee or Independent Contractor?
In order for a business owner to know how to treat payments made to workers for services, he or she must first know the business relationship that exists between the
business and the person performing the services. A worker’s status determines what taxes are paid and who is responsible for reporting and paying those taxes.
A worker performing services for a business is generally
an employee or an independent contractor. If a worker
is classified incorrectly, the IRS may assess penalties on
the employer for nonpayment of certain taxes.
Penalties and Interest
When the IRS determines that a worker is actually an
employee rather than an independent contractor, the
employer is subject to penalties for failure to withhold
and remit income, FICA (Social Security and Medicare)
and FUTA (federal unemployment tax) taxes, interest
on the underpaid amounts, and penalties for failure to
file information returns. The state will also seek to collect
workers’ compensation and unemployment compensation
premiums for unreported wages.
Independent Contractor
An independent contractor is self-employed and is
generally responsible for paying his or her own taxes
through estimated tax payments. A business issues
Form 1099-MISC, Miscellaneous Income, to any one independent
contractor, subcontractor, freelancer, etc.,
to whom the business made $600 or more in payments
over the course of the tax year. The business is not generally
responsible for withholding income tax or FICA.
Employee
A worker treated as an employee will be issued Form
W-2 for wages paid. The business hiring the worker is
responsible for withholding income tax and FICA. The
employer is also liable for FUTA and various state employment
taxes. Also, the employee may be eligible for
certain fringe benefits offered by the employer, such as
health care.
Factors to Determine Worker Status
The general rules for classifying workers as independent
contractors or common-law employees center on who
has the right to control the details of how services are
to be performed. The factors can be grouped into three
categories.
1) Behavioral control. Factors that indicate a business
has the right to control a worker’s behavior include
the following.
• Instructions that the business gives to the worker.
Employers generally control when and where work
is to be done, what tools or equipment to use, what
workers to hire or to assist with the work, where to
purchase supplies and services, what work must be
performed by a specified individual, and what order
or sequence to follow.
• Training that the business gives to the worker. Employees
may be trained to perform a service in a particular
manner. Independent contractors generally
use their own methods. continued
Employee or
Independent Contractor
2018
TAX YEAR
TaxMedics, LLC
Taking The Pain Out Of Taxes
101 South Washington Street
Kennewick, WA 99336
Office: (509) 543-7600
Fax: (509) 497-2169
www.taxmedics.net
This brochure contains general information for taxpayers and
should not be relied upon as the only source of authority.
Taxpayers should seek professional tax advice for more information.
Copyright © 2018 Tax Materials, Inc.
All Rights Reserved
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There are many events that occur during the year that can affect
your tax situation. Preparation of your tax return involves summarizing
transactions and events that occurred during the prior
year. In most situations, treatment is firmly established at the
time the transaction occurs. However, negative tax effects can
be avoided by proper planning. Please contact us in advance
if you have questions about the tax effects of a transaction or
event, including the following:
• Pension or IRA distributions.
• Significant change in income or
deductions.
• Job change.
• Marriage.
• Attainment of age 59½ or 70½.
• Sale or purchase of a business.
• Sale or purchase of a residence
or other real estate.
• Retirement.
• Notice from IRS or other
revenue department.
• Divorce or separation.
• Self-employment.
• Charitable contributions
of property in excess of
$5,000.
2) Financial control. Factors that indicate a business
has the right to control the business aspects of a
worker’s job include the following.
• Extent of the worker’s unreimbursed business expenses.
Independent contractors are more likely to
incur expenses that are not reimbursed, such as fixed
overhead costs that the worker incurs regardless of
whether work is currently being performed.
• Extent of the worker’s investment. Independent contractors
often have significant investment in facilities
used to perform services for someone else, such as
maintaining a separate office or other business location.
• Extent to which the worker makes his or her services
available to the public. Independent contractors
are generally free to offer their services to other
businesses or consumers. They often advertise and
maintain a visible business location.
• Method of payment for services performed. Employees
generally are guaranteed a regular wage and work
for an hourly fee or a salary. Independent contractors
are generally paid a flat fee for a specific job. Exceptions
apply to some professions, such as accountants
and lawyers who charge hourly fees for their services.
• Extent to which the worker can make a profit. Independent
contractors can make a profit or a loss.
3) Type of relationship between the parties. Factors
that indicate the type of relationship include the
following.
• Written contracts that describe the relationship
and intent between the worker and the business
hiring the worker.
• Employee-type benefits provided to worker. Employers
often provide fringe benefits to employees,
such as health insurance, pensions, and vacation pay.
• Permanency of the relationship. Employer-employee
relationships generally continue indefinitely.
• Extent services performed by the worker are a
key aspect of the business hiring the worker. A
worker who is key to the success of a business is
more likely to be controlled by the business, which
indicates employee status. For example, an accounting
firm hires an accountant to provide accounting
services for clients. It is more likely that
the accounting firm will present the accountant’s
work as its own and would have the right to control
or direct that work.
Incorrect Treatment of Employees as Independent
Contractors
A worker who receives a 1099-MISC instead of a W-2
has two options.
1) Agree with the way the business has classified the
worker, file Schedules C and SE, and pay self-employment
tax on the earnings, or
2) File Form SS-8, Determination of Worker Status for Purposes
of Federal Employment Taxes and Income Tax Withholding.
The IRS will then decide if the worker should
have been treated as an employee, subject to income
and FICA tax withholding. If the IRS agrees that the
worker really is an employee, the employer will be liable
for employment taxes. However, if the IRS determines
that the worker is really an independent contractor,
the worker will be liable for paying SE tax.
Example: Harold owns a restaurant and hires Jim, a gardener,
to mow the lawn and weed the landscaping once a week.
The contract states that Jim will arrive at the restaurant on
Monday mornings, mow the lawn, pull weeds, and tend to
the landscaping. In exchange, Harold agrees to pay Jim $50
for this service each week. Jim supplies his own lawnmower,
weed eater, and hedge clippers. Jim decides what time he arrives
and how long the job will take him. Harold does not supervise
Jim in his tasks or dictate to him how they are to be
done. Jim is an independent contractor.
Example: Jeffrey owns Jeffrey’s Gardening Service and employs
three gardeners to perform services for his business.
Jeffrey pays his gardeners a fixed wage and withholds taxes,
FICA, and various benefits and remits those withholdings to
the appropriate government agencies. In addition, Jeffrey provides
his employees with the tools and equipment they need
to perform their work, instructs his employees which jobs to
go to, and supervises them while they are doing their work.
Jeffrey’s workers are employees.