The Business Side

Category: Business
Published: January 2008

Worker classification is a hotly-contested audit issue that has caused anxiety for business owners all across the country. Whether a worker is classified as an employee or as an independent contractor can mean a substantial difference in the amount of employment taxes and workers compensation insurance that the business pays. Also, a misclassification of employee and independent contractor status can have a major impact on your company pension plan. And, as stories in the popular press have underlined, an incorrect classification can lead to interest, penalties and tax liens that can cripple an otherwise successful business.

Despite the high stakes, classifying a worker as either an independent contractor or an employee is not straightforward. The determination depends on a number of factors and can be quite complex. Control of how and when the worker gets the job done may or may not be the most important factor. Some workers are employees no matter how little or how much they are supervised. Others are independent contractors no matter how tightly a business controls them. For some, the IRS uses a 20-factor control test as an analytical tool.

A starting point for the determination of whether someone is an independent contractor or an employee is to look at the various items the IRS will review in determining whether a worker is really an employee.

These concepts fall into several broad categories. Who has financial control of the job? Who can exercise control over how the worker performs the specific task? And how do the parties themselves view the relationship? When reviewing these points, keep in mind you and the IRS need to make a final decision based on the whole picture, not just a single factor.

Workers are more likely to be classified as independent contractors if they:


• Make a significant investment in business property (a home computer is not significant);
• Pay their own business expenses;
• Receive a flat fee that is not based on an hourly or similar rate;
• Are not prohibited from doing work for other companies;
• Can pay subcontractors to get the job done;
• Are not performing services as an integral part of your regular business;
• Have a contract with an enforceable liquidated damages provision;
• Can make a profit;
• Can suffer a loss.

Workers are more likely to be classified as employees if they:


• Are given specific instructions and ongoing training in how to get the work done;
• Cannot work for others;
• Have expenses paid by your company;
• Are paid with a salary or hourly wage;
• Do not have a significant investment in their trade or business;
• Are an integral part of your regular business;
• Receive direct reimbursement for all, or almost all, expenses.

Other issues to consider that are less important than the previous are:


• Whether or not the work is performed on the business premises;
• Whether the worker has flexibility in setting hours;
• Whether the relationship is temporary or short-term;
• Whether the work is full- or part-time;
• Whether the worker performs services for one or more businesses.