Classifying Between Independent Contractors and Employees

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Ideally, businesses have an employment law attorney on a retainer basis. Remember that laws govern the operation of a business, and if you fail to comply with these regulations, you are susceptible to facing legal charges. Should that happen, you need an expert to offer you guidance throughout the process.

One way businesses get in trouble, with the Internal Revenue Services (IRS) specifically, is when they misclassify the people who work for them. There are two main categories of workers: employees and independent contractors. And there are very particular guidelines used to tell which is which.

Lawmakers have strengthened their drive for pursuing cases of workforce misclassification, if only to increase the collection of employment taxes. In Delaware, four people were charged with the crime as of late. To avoid facing the same legal woe, here’s what you need to know.

Independent contractors

Other names for independent contractors include contractors, contract workers, and freelancers. They are self-employed, running their own business or professional entity, which can be in the form of a sole proprietorship, limited liability partnership, or limited liability company.

These workers receive contracts from organizations in need of services for either short term or long term projects. They do not appear on the organization’s official payroll. Independent contractors normally service multiple clients at the same time.

Independent contractors are responsible for procuring the essentials for them to do their job. For example, virtual assistants pay for their internet connection and buy their own equipment such as computers and headsets. They do not receive additional and fixed benefits from their clients, except for some perks and privileges offered in goodwill.

Organizations do not pay employment taxes for independent contractors. That is the reason why some businesses misclassify their employees.

Employees

An employee is listed on the company’s official payroll. They receive a fixed remuneration package. That is on top of government-imposed benefits and company-directed perks and privileges. The latter may include health reimbursement accounts (HRAs), flexible spending accounts (FSAs), commuter benefits, and stock options. Their employers provide employees with everything they need to accomplish the job, including a work-conducive office, computer, telephone, and the likes.

Employees also get relevant training. The goal of these training and development programs is to carve a clear career path for the employee within the organization.

In return, employees are expected to show loyalty to their employers. They cannot be employed by another organization at the same time unless given permission by the first employer. They agree with their employees to have a portion of their salary withheld for relevant taxes such as federal income tax, Medicare tax, and Social Security tax.

employees in the office

The IRS Method

Employers are responsible for paying a portion of an employee’s Social Security tax (6.2 percent) and Medicare tax (1.45 percent). That is where some employers try to outsmart the IRS by misclassifying their employees as independent contractors. However, the IRS maintains a clear guideline for worker classification.

1. Behavioral control — The level of control an employer has over a worker determines classification. For example, if you dictate work schedule, location, and how a particular work is done, you are working with an employee. Ideally, the only control you have with an independent contractor is the actual output and not how it is accomplished.

2. Financial control — Workers paid a fixed monthly salary are employees. Workers paid on a per-project or assignment basis are independent contractors. If you pay for the work equipment and professional training of an independent contractor, the IRS will question your financial control over that worker. Lastly, you cannot demand an independent contractor to work exclusively for you.

3. Type of relationship – Hiring someone for a short-term basis likely classifies the worker as an independent contractor, to whom you are not responsible, whether financially or legally. Meanwhile, hiring someone long term most probably equates to hiring an employee, especially if that worker accomplishes core functions in your business.

Employee misclassification is a serious offense. To avoid having the authorities go after your business, make sure you properly declare your workers with the IRS. You do not know when the taxmen will come knocking on your doors to conduct a compliance review. You do not know when they will pick your business returns from a stack of documents for a blind audit.

More importantly, always have legal counsel on your payroll. You must be prepared for all eventualities, after all. And so you do not get in trouble, properly classify your legal team as well. The information above should guide you on how to do just that.

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