I have conversations every week with Small Business Owners who have coped with this issue, so I thought that I comprehensive blog post was in order.
A new approach with respect to worker classification has been adopted by the IRS. Rather than using the IRS’s 20 Factors, the approach now is to group items of evidence into three categories of control. To determine whether a test is satisfied, all three categories of evidence must be analyzed. However, the significance of each will depend on the particular facts and circumstances. To avoid future problems, employers should periodically review the nature of their relationship with all independent contractors.
Behavioral Control
Evidence in this category focuses on whether there is a right to direct or control how the worker performs the specific task for which he or she is hired.
- Furnishing tools: Independent Contractors more often furnish their own tools and materials.
- Approval: If approval is required to be obtained before taking certain actions, employee status is indicated.
- Order or sequence: If this is controlled, employment is indicated.
- Services rendered personally: If the worker is required to provide services personally, employment is indicated.
- Reporting: The more the worker is required to report, the more likely employment is indicated.
- Periodic or ongoing training: Training provided on procedures and methods indicates employee status.
- Business identification: If the worker must wear a uniform or place the business’s name on a vehicle for security purposes, it is a neutral fact.
- Hiring, supervising and paying assistants: A worker’s responsibility, for assistance indicates Independent Contractor status.
- Job evaluation systems: A job evaluation system used to measure compliance with work performance standards indicates employee control.
- Nature of occupation: Highly trained professionals who offer services to the public are more likely to be Independent Contractors.
Financial Control
Evidence under this category focuses on whether there is a right to direct or control how the financial aspects of the worker’s activities are conducted.
- Method of payment: Independent Contractors are more often paid by the job for a flat fee than on an hourly, daily, or weekly basis.
- Investment: Independent Contractors more often invest in facilities used in performing services.
- Realization of profit or loss: A worker who can realize a profit or loss from his or her services is generally an Independent Contractor.
- Making services available to the public: This indicates Independent Contractor status.
- Unreimbursed business expenses: Independent Contractors are more likely to have large amounts of unreimbursed expenses.
Relationship of the Parties
Evidence in this category focuses on how the relationship is perceived.
- Written contract: Although a contract describing the worker as an Independent Contractor indicates Independent Contractor intent, the facts and circumstances are determinate.
- Permanency of relationship: An indefinite work duration is generally considered employment intent.
- State law: Laws classifying workers as employees for purposes of various benefits should be discounted.
- Discharge/termination: An Independent Contractor can’t be fired as long as the contract specifications are met. If services can be terminated without liability, an employment relationship is indicated.
- Employee benefits: If a worker receives benefits such as paid vacation and sick leave, health, life or disability insurance, or a pension, employee status is indicated.
- Regular business activity: If the services performed by the worker are a key aspect of the regular business activity of the company, employee status is indicated.
- Incorporation: A worker who creates a corporation through which to perform services will usually be treated as an employee of the corporation.
Factors of Lesser Importance
The IRS has highlighted factors that will typically provide less useful evidence of whether a worker is an independent contractor or employee.
- Full or Part-time Work: Devoting full time to one business is common with either status, And providing services to multiple businesses is no longer significant evidence of Independent Contractor status.
- Work Location: Whether or not work is performed on business premises is not an issue unless it helps determine the right to control work performance.
- Hours of Work: Flexible hours can indicate either Independent Contractor or employee status.
PENALTY NOTICE: As required by U.S. Treasury regulations, you are advised that any written tax advice contained herein was not written or intended to be used (and cannot be used) by any taxpayer for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.