What Kind of Employee is He? Independent Contractor vs. Employee
Having worked as an accountant for several CPA firms over the years, I have had many businesses as clients. I have seen a few make the mistake of classifying workers as independent contractors and not as employees. These business owners think they can “elect” to treat them as contractors to avoid the cost of taxes, fringe benefits, and the headache of having employees. But misclassifying a worker can result in unpaid taxes, tax penalties, interest on taxes, and more headaches.
To determine the status of a worker the “common-law” test was developed by the courts. Using the common-law test, if an employer has the right to tell the worker what to do; how, when, and where to do the job, then they are an employee and not an independent contractor. Under the IRS Revenue Ruling 87-41 the following factors determine the right to direct and control a worker.
1. Actual instruction or direction of worker – If a worker is required to comply with instruction about when, where, and how to work is ordinarily an employee.
2. Training – If training is provided either by correspondence, by required attendance at meetings, or other methods either periodically or at frequent intervals then the worker is considered an employee.
3. Integration – Integration of the worker’s services into the business operations of the company is an indication of employee status.
4. Services to be rendered personally – If a business requires the work to be done by that individual then control is being exercised which indicates employee status.
5. Hiring and supervising of assistants – If a business hires, supervises, and pays others on the same job; then all workers are considered to be employees.
6. Duration of relationship – A continuing relationship between a worker and a business indicates employee status.
7. Hours of work – If the amount of hours worked are set by the business then the worker is usually an employee.
8. Full-Time work – If the worker is required to devote full time to the business then they are considered to be an employee.
9. Place of work – If work is done on the premise of the business this indicates employee status.
10. Order of service – If a worker performs services in the order or sequence set by the business indicates employee status.
11. Reports – If a business requires regular oral or written reports this indicates employee status.
12. Manner of payment – Payment by the hour, week, or month points to an employer and employee relationship. Independent contractors are usually paid by the job or by commission.
13. Payment of business expenses – If a business pays the worker business and traveling expenses that indicates employee status. Independent contractors take care of all incidental expenses.
14. Furnishing tools and materials – A business providing tools, materials, etc. indicates an employer and employee relationship. Some occupations (such as artisans) provide their own tools.
15. Investment – Lack of investment by a worker (such as facilities and equipment) suggests employee status.
16. Profit or loss possibility – A person that can realize a profit or a loss as a result of their services is usually an independent contractor.
17. Working for a number of people – A person that usually works for a number of businesses is not an employee.
18. Availability of services to the public – Individuals, that make their services available to the public, are usually independent contractors.
19. Right to discharge – The right to discharge a worker indicates an employee/employer status.
20. Right to quit at any time – An employee can usually end a relationship with an employer without incurring liability.
There are other tools that can aide us in determining an employer and employee relationship. There are several questionnaires (Social Security Form SSA-7160-F4 and IRS Form SS-8) which use the common-law control test and the occupational group test. Sometimes these tests do not provide us adequate information to make a determination. It is at that point evidence should be reviewed by the IRS, Social Security Administration, State, and/or local officials. This can save you money and headaches.
Terry is the accountant for CS3 Technology. She manages the payroll and HR with Sage Abra Suite. She also handles all accounting functions with Sage 500.