There has been increased attention on the issue of mis-classification of contractors as employees. Does your business have the roles classified correctly? The stakes of getting the classification wrong are pretty high.
EMPLOYEE: Generally, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. Employees must also be covered under your state workers compensation insurance.
CONTRACTOR: You do not generally have to withhold or pay any taxes on payments to independent contractors.
Don’t get too excited about reclassifying all of your employees as contractors to avoid the tax & insurance requirements. Both the IRS and state governments have criteria in place for determining contractor eligibility. Here is a link to the IRS website on the subject.
Generally, you need to determine how much control and independence a person will have before claiming they are eligible for contractor status. Here is a list of some of the factors to consider, referred by the IRS as “Common Law Rules”:
Facts that provide evidence of the degree of control and independence fall into three categories:
1. Behavioral: Does the company control or have the right to control what the worker does and how the worker does his or her job?
2. Financial: Are the business aspects of the worker’s job controlled by the payer? (these include things like how worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
3. Type of Relationship: Are there written contracts or employee type benefits (i.e. pension plan, insurance, vacation pay, etc.)? Will the relationship continue and is the work performed a key aspect of the business?
Your local state workers compensation insurance board will most likely have their own set of criteria, so be sure to check with them as well before making any final decision. When in doubt, it is always prudent to classify a person as an employee.