Is your 'contractor' really an employee?

It’s all too common — employers simply deciding a worker is an “independent contractor,” to spare the company added costs of withholding, Social Security and Medicare taxes, insurance eligibilities and other hassles. More often than not, the employers are simply wrong; were the IRS or Idaho Department of Labor to examine the situation, they’d find their “independent contractor” is really an employee under the law, subjecting the employer to unexpected expenses, liabilities, and possible penalties.

Best to get it right up front.

Worker classification is not as simple as how an employer sees, or wants to compensate, a worker. There is a detailed analysis of each situation, involving considerations such as hours, direction and supervision, the skills of the worker, and who decides what regarding the work.

The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work, not exactly what will be done and how it will be done. Small businesses should consider all the following behavioral, financial, and relationship factors, and know that the IRS and state analyze each on a case-by-case basis. No one of these is determinative; they’re taken together to form a big picture.

Behavioral Control: A worker is an employee when the business has the right to direct and control the work performed by the worker, even if that right is not exercised. That includes:

- Type of instructions given, such as when and where to work, what tools to use or where to purchase supplies and services. Receiving the types of instructions in these examples may indicate a worker is an employee.

- Degree of instruction. More detailed instructions suggest an employee. Less detailed instructions reflect less control, indicating the worker is more likely an independent contractor.

- Evaluation systems to measure the details of how the work is done points to an employee. Evaluation systems measuring just the end result point to either an independent contractor or an employee.

- Training a worker on how to do the job (or ongoing training about procedures and methods) is strong evidence of an employee. Independent contractors ordinarily use their own methods.

Financial Control: Does the business have a right to direct or control the financial and business aspects of the worker’s job? Consider:

- Significant investment in the equipment the worker uses in working for someone else. Independent contractors typically furnish their own equipment.

- Unreimbursed expenses. Independent contractors are more likely to incur them.

- Opportunity for profit or loss is often an indicator of an independent contractor.

- Services available to the market. Independent contractors are generally free to seek out other business opportunities, and generally have more than one client (but not necessarily simultaneously).

- Method of payment. An employee is generally guaranteed a regular wage amount for an hourly, weekly, or other period of time even when supplemented by a commission. However, independent contractors are most often paid for the job by a flat fee.

Relationship: How do worker and business perceive one another?

- Independent contractor relationships often involve written contracts which describe the intended relationship, although a contract simply stating the worker is an employee or an independent contractor is not sufficient to determine the worker’s status.

- Benefits. Businesses providing employee-type benefits, such as insurance, a pension plan, vacation pay or sick pay have employees. Independent contractors don’t usually get these.

- The relationship’s permanency is important. An expectation that things will continue indefinitely, rather than for a specific project or period, is generally evidence of intent to create an employer-employee relationship.

- Are the worker’s services a key activity of the business? The extent to which services performed by the worker are seen as a key aspect of the regular business of the company.

Misclassifying an employee as an independent contractor without reasonable basis for doing makes employers liable for employment taxes. But if it’s an honest mistake, the federal Voluntary Classification Settlement Program (VCSP) offers certain eligible businesses partial relief. If a business owner isn’t confident of a worker’s classification, the IRS will help if Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, filed. IRS Publication 15-A, Employer’s Supplemental Tax Guide, is also a good resource. All are available at IRS.gov/forms-instructions.

Workers who believe they’ve been improperly classified as independent contractors can use IRS Form 8919 to figure and report the employee’s share of uncollected Social Security and Medicare taxes due on their compensation. Naturally this exposes the employer to the IRS’s attention, so it’s best not wait for an employee to act.

The Idaho Department of Labor can help employers determine worker classification and answer questions in Kootenai County at 208-457-8789; or 267-5581 (Bonners Ferry); 263-7544 (Sandpoint); 245-2518 (St. Maries); and 783-1202 (Silver Valley).

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Sholeh Patrick, JD, is a columnist for the Hagadone Newspaper Network.