When hiring someone to do work for you, it’s important to determine whether to hire him or her as an independent contractor or as an employee.
For employees, you must pay and withhold Federal income tax, Social Security and Medicare taxes, Federal Unemployment tax; and you must report their wages, file tax documents, and issue statements (one or more W-2 documents) to the employees themselves.
For independent contractors, generally no withholding is required, although a 1099-MISC may be filed. A 1099-MISC must be filed with the IRS and issued to the worker for wages over $600.
There are simple common-law rules to determine whether someone is an employee or an independent contractor. Generally, a person who does work for you is an employee if you have control over his or her duties: behavioral control, financial control, and type of relationship. For example, if you can control or direct what is to be done and how, like a maintenance employee with regular hours who handles all landscaping projects during his or her shift, then he or she is most likely an employee.
On the other hand, if you can direct or control only the result but not how it is accomplished, such as hiring a maintenance person to trim the shrubs and mow the lawn weekly, the person is probably an independent contractor.
Another example would be a mail room clerk with a specific shift and access to a company vehicle for deliveries versus a delivery person who makes daily deliveries but keeps his or her own expense records and his or her own vehicle.
If you are unsure about how to classify a worker, you or the worker can file a form SS-8 with the IRS. That agency will review the facts and circumstances and officially determine the worker’s status. Please note that it can take at least six months to get a determination. If you continually hire the same kind of worker, it may be a good idea to file an SS-8 for future reference.
Once a determination is made by the business or by the IRS, you must file the appropriate forms and pay the associated taxes.
Misclassification of Workers
There is no set rule for classifying a worker. So it may seem preferable to simply hire workers as independent contractors, but there can be serious penalties for misclassifying them. If you misclassify a worker as an independent contractor instead of an employee without a reasonable basis, you may be liable for his or her employment taxes and can end up with substantial IRS tax bills. You might also face penalties for failing to pay employment taxes and for failing to file required tax forms.
If, on the other hand, you do have a reasonable basis for not treating a worker as an employee, there may be some relief from having to pay employment taxes for that worker. To get this relief, you must file all required federal information on a basis consistent with your treatment of the worker; and this treatment should be consistent with the treatment of other workers who have performed the same duties since 1977. Publication 1976 (Section 530 Employment Tax Relief Requirements) on the IRS web site has more information about this.
Workers, too, can avoid higher tax bills and lost benefits by being classified correctly. Workers who believe they have been misclassified as independent contractors by an employer can use Form 8919 (Uncollected Social Security and Medicare Tax on Wages) to figure and report the employee’s share of uncollected Social Security and Medicare taxes due on their compensation. You would be responsible for this amount.
Paying a worker as an independent contractor versus an employee also has important similar implications under state law. Each state may have different laws to determine the appropriate classification. Your state’s Office of Employment Security will be able to provide you the information regarding appropriate standard(s) in your state.
This information and more can be found at www.irs.gov in Publications 1779, 15-A and 1776, and on the pages titled “Independent Contractor or Employee”.