Is the person performing services for your company an employee or an independent contractor? This is one of the most important questions facing many businesses when paying someone for services provided. On the surface it may seem easy to answer but a lot of times that's not the case. It's important to make the correct determination due to how payments to that person are treated.
Generally, you must withhold income taxes, Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. Conversely, no taxes have to be withheld from payments made to an independent contractor. With this in mind, it's easy to see which method is beneficial to employers and why the IRS is very interested in making sure businesses make the correct decision.
When trying to determine whether the person providing the service is an employee or independent contractor, all information that provides evidence of the degree of control and independence must be considered. The facts that provide evidence fall into three categories:
- Behavioral: Does the company control or have the right to control what the worker does and how the worker does his or her job?
- Financial: Are the business aspects of the worker's job controlled by the payer? Business aspects would include things like how the worker is paid, whether expenses are reimbursed, who provides tools or supplies?
- Type of Relationship: Are there written contracts or employee type benefits (pension plan, insurance, vacation pay)? Will the relationship continue and is the work performed a key aspect of the business?
Businesses must weigh all factors when making a determination. Some factors may point towards an employee while others say independent contractor. There is no magic number or formula of factors that makes the worker an employee or independent contractor. The business has to look at the "big picture" and determine to what extent is their right to direct and control the worker.
If, after reviewing all factors, the business cannot make a determination the IRS is here to help! Form SS-8, Determination of Worker Status for Purpose of Federal Employment Taxes and Income Tax Withholding can be filed with the IRS. The form may filed by the business or the worker. The IRS will review the facts of the scenario and make an official determination.