LUTZ BUSINESS INSIGHTS
Employee or Contractor? A Critical Decision
SCOTT MILLER, LUTZ CLIENT ACCOUNTING SERVICES DIRECTOR
You see them all as unique individuals, but the IRS views them as two distinct groups.
Hiring your first employees? It’s an exciting time. You’re finally getting the help you need, and your business will soon get a new burst of enthusiasm, energy, and ideas.
You’re also in for a mountain of paperwork. One of your new managerial tasks will involve classifying your incoming workers for income tax purposes. Are they employees or independent contractors (freelancers), according to the IRS?
You may already know that your obligations as an employer are very different for each type of worker. You pay employment taxes and often benefits to employees, and you send them W-2 forms after the first of the year. You generally compensate contractors based on an hourly or project-based rate, and you supply them with Form 1099s annually.
But the IRS’ definition of these two classifications is not that simple. It mandates that you consider the whole relationship between you and your workers, and the facts and circumstances of each case. You must look at the, “…degree of control and independence” that exists in three areas.
Instructions, evaluation, and training are the three primary criteria here. First, instruction. Who decides how the individuals do their jobs? Will you tell them where and when they must work? Who is purchasing equipment and other supplies, and who decides where they’re bought?
When you prepare periodic evaluations, you can look at performance in two ways: how the work is being done or simply the end result. You might review and report on both. But the difference is important to the IRS.
Finally, training. Many companies provide training for new workers. They may also continue this process periodically. Do you plan to do this, or do you expect workers to take responsibility for their own learning?
This consideration is a bit more clear-cut. How are your workers compensated? Will you put them on a schedule (weekly, twice-monthly, etc.), and will they receive the same amount each time (with the exception of extras and/or garnishments)? Or will you pay for work performed only?
There are other considerations here, like the frequency and amount of unreimbursed expenses, and the workers’ freedom to take on assignments from other companies.
Type of Relationship
How are you defining your relationships with workers from the start? Are they open-ended? That is, do they have start and end dates, or could the workers be employed indefinitely? Two other areas the IRS considers: Will you provide benefits? And are you hiring the workers for “key activities?”
You may feel that your new hires fall clearly into one of these two camps. But there’s a lot of gray area here, and you may want to get expert help in deciding. In addition, different regulatory agencies, for example, state unemployment agencies, follow different factors in determining this distinction.
ABOUT THE AUTHOR
SCOTT MILLER + CLIENT ACCOUNTING SERVICES DIRECTOR
Scott Miller is a Client Accounting Services Director at Lutz with over 16 years of related experience. He specializes in business consulting for closely held companies and outsourced accounting replacement services.
AREAS OF FOCUS
- Outsourced Accounting Replacement Services
- Business Consulting
- Operational Analysis
- Provider Compensation
- Financial Benchmarking
- Strategic Planning
- Professional Services Industry
- Private Practice Healthcare Industry
- Dental Practices
- Construction Industry
- Restaurant Industry
AFFILIATIONS AND CREDENTIALS
- American Institute of Certified Public Accountants, Member
- Nebraska Society of Certified Public Accountants, Member
- Certified Public Accountant
- BSBA in Accounting, University of Nebraska, Kearney, NE
- Creighton Prep Alumni Board of Trustees, Past Member
- Ridgefield Homeowners Association, Treasurer
- Omaha Suburban Baseball Association, Board Member
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