Employee or Independent Contractor

One of the most important decisions that a small business owner has to make is when to hire employees. It is hard enough to find someone that is qualified that you can trust to do the job right but navigating the rules and regulations that revolve around paying your employees can be daunting.

So why not just hire someone and pay them as an independent contractor and not worry about all of the issues revolving around payroll? Because if the IRS determines that the person was actually an employee the business is liable for all of the back taxes…….the employers share as well as what the employee should have paid.

So how do you determine if the person that you hire should be classified as an employee or an independent contractor? The IRS has three categories or “tests” that determine how the person should be paid.

First is behavioral.  ”Does the company control or have the right to control what the worker does and how the worker does his or her job?” I will use myself as an example. My clients have input as to how I do their bookkeeping but most rely on my expertise and experience so I have more control which makes me an independent contractor. The owner or manager of a company would have much more control over how or what an in-house bookkeeper does. They may also be experts in their field but typically the owner or manager gives more specific instructions to an employee.

Next is financial. “Are the business aspects of the worker’s job controlled by the payer? (these include things like how a worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.).” Typically an Independent Contractor will tell the client how much they charge and an employer will tell the potential employee how much they will be paid. Plus an employer will have to provide a work station and supplies for an employee but an IC might provide their own tools and supplies.

Lastly is 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?” This is a hard one. My clients don’t provide me with health or retirement benefits but then again, employees don’t often receive those benefits either.  An easier way to determine the type of relationship is an independent contractor will do the same job for more than one company and may have a business license or business name. An employee may have a second job but it might not be in the same field and they might have to ask permission or at least communicate with their current employer that they are seeking a second job.

When I am trying to determine which category someone should be in I always ask “what, where, when, and how much.” An Independent Contractor has to the ability to determine what they do, where they do it, when they do it, and how much they do it for. An employee is told what to do, where to do it, when they will do it, and how much they will do it for.

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