Many businesses will utilize independent contractors to save on expenses and their tax burden, but it is crucially important that these businesses classify them correctly. Improperly classifying employees as contractors can have significant fines and other penalties associated with it.
It can be difficult to properly identify whether your worker should be classified as an employee or an independent contractor in the eyes of the state. If a worker is classified as an employee, then the rule is that your company will need to withhold federal income and payroll taxes. However, if the worker is considered an independent contractor, you won’t have to worry about those obligations.
If you are worried that you may make a mistake and that the IRS might reclassify your employees, then make sure you are up to speed on exactly how your employees are classified and how what you require of them is classified in the eyes of the law. It is also helpful to understand how the IRS classifies independent contractors and employees, so you know what to look for.
Factors That the IRS Considers to Determine Contractors from Employees
Unfortunately, when it comes to the term “employee,” there is no set definition. For the courts and IRS, there is a general rule that if someone is an employee, then the company they work for has the authority to direct the way in which they perform their job. If they don’t fall under this expectation, then they may be considered independent contractors, contingent on a few more factors.
Other factors contribute to the classification, such as whether the company provides tools and pays expenses. If you happen to accidentally misclassify your workers as independent contractors, you may get some relief under Section 530. Section 530 affords business owners some protection if they regularly file their federal returns.
How To Classify Your Workers
To start, it will be up to the hiring firm or manager to determine whether any person is an employee or an independent contractor. So when is a worker classified as an independent contractor? Simply put, it is when a worker is running an independent business, and treating it accordingly.
To decide if a person is an employee or independent contractor, most government agencies assess the business’ control over the worker. If the person is an independent contractor, they will have complete control over the work they are contracted for. The business is then just limited to denying or accepting the final product.
The “right of control” is typically what the IRS and government agencies will use as a test to determine whether a worker is an employee or an independent contractor. If the hiring business has control over the worker, the way in which they perform their work, which hours they work, their attire, or any other relevant aspects of their labor, the person will likely be classified as an employee.
Tips to Help Distinguish Your Independent Contractors from Employees
As we mentioned earlier, misclassifying workers can be costly, especially for small businesses. Here are some helpful tips on how to treat your independent contractor as such:
- Be sure to require contractors to submit invoices so you can pay them like a vendor.
- Don’t give contractors an employee handbook or company policy manual.
- Don’t create working hours.
- Have the independent contractor sign a contract stating that they are not entitled to employee benefits and understand their categorization as an IC.
- Don’t pay for their travel or other business expenses.
- Don’t closely supervise the independent contractor or their assistants. You’ve hired them to submit work. Evaluate their work when it is complete.
- Don’t provide training or any ongoing instruction.
- Be sure not to provide equipment unless it is necessary.
Can The IRS Assist in Determining Employee Status?
Ultimately if you are unsure, you can consult the IRS through Form SS-8 on how to rule a person as an employee or an independent contractor. It should be noted that the IRS has on occasion classified workers as employees over independent contractors. If you are a business, you should consult someone before filing Form SS-8. By filing and not consulting, you could alert the IRS that you have issues with classification, and it can prompt an employment audit.
In most cases, it may be better to treat the worker as an independent contractor to make sure that their relationship will comply with tax regulations. However, if you think that getting an official determination will be better for your business, you may fill out Form SS-8.
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