When engaging workers to provide services for your company, it is important to understand the classification of hired workers as employees or independent contractors, as there are differing liability and tax implications between the two classifications.
One helpful metric to use when determining the classification of workers is to use the three-factor common law test, which the IRS implements to determine classification as it relates to tax liability. In the IRS common law test, the facts of the relationship fall into three categories: (1) Behavioral (analyzing whether the company controls or has the right to control what the worker does and how the worker does his or her job), (2) Financial (analyzing how the business aspects of the worker’s job is controlled by the payer), and (3) Type of Relationship (analyzing the contracts and benefits offered to the worker, the length of engagement, and type of work being performed).
Facts of the worker relationship contribute to a sliding scale, and are not on their own indicative of an employer/employee or an independent contractor relationship. Here is a list of various considerations to think about when trying to determine the relationship between the company and its workers:
- Extent of personal services. Companies that insist on a particular person performing the work assert a degree of control that suggests an employment relationship. In contrast, independent contractors typically are free to assign work to anyone.
- Control of assistants. If a company hires, supervises, and pays a worker’s assistants, this control indicates a possible employment relationship. If the worker retains control over hiring, supervising, and paying helpers, this arrangement suggests an independent contractor relationship.
- Level of instruction. If the company directs when, where, and how work is done, this control indicates a possible employment relationship.
- Amount of training. Requesting workers to undergo company-provided training suggests an employment relationship since the company is directing the methods by which work is accomplished.
- Degree of business integration. Workers whose services are integrated into business operations or significantly affect business success are likely to be considered employees.
- Requirements for reports. If a worker regularly must provide written or oral reports on the status of a project, this arrangement indicates a possible employment relationship.
- Sequence of work. If a company requires work to be performed in specific order or sequence, this control suggests an employment relationship.
- Method of payment. Hourly, weekly, or monthly pay schedules are characteristic of employment relationships, unless the payments simply are a convenient way of distributing a lump-sum fee. Payment on commission or project completion is more characteristic of independent contractor relationships.
- Payment of business or travel expenses. Independent contractors typically bear the cost of travel or business expenses, and most contractors set their fees high enough to cover these costs. Direct reimbursement of travel and other business costs by a company suggests an employment relationship.
- Provision of tools and materials. Workers who perform most of their work using company-provided equipment, tools, and materials are more likely to be considered employees. Work largely done using independently obtained supplies or tools supports an independent contractor finding.
- Investment in facilities. Independent contractors typically invest in and maintain their own work facilities. In contrast, most employees rely on their employer to provide work facilities.
- Realization of profit or loss. Workers who receive predetermined earnings and have little chance to realize significant profit or loss through their work generally are employees.
Type of Relationship
- Continuity of relationship. A continuous relationship between a company and a worker indicates a possible employment relationship. However, an independent 1 contractor arrangement can involve an ongoing relationship for multiple, sequential projects.
- Flexibility of schedule. People whose hours or days of work are dictated by a company are apt to qualify as its employees.
- Demands for full-time work. Full-time work gives a company control over most of a person’s time, which supports a finding of an employment relationship.
- Need for on-site services. Requiring someone to work on company premises— particularly if the work can be performed elsewhere—indicates a possible employment relationship.
- Work for multiple companies. People who simultaneously provide services for several unrelated companies are likely to qualify as independent contractors.
- Control over discharge. A company’s unilateral right to discharge a worker suggests an employment relationship. In contrast, a company’s ability to terminate independent contractor relationships generally depends on contract terms.
- Right of termination. Most employees unilaterally can terminate their work for a company without liability. Independent contractors cannot terminate services without liability, except as allowed under their contracts.
- Availability to public. If a worker regularly makes services available to the general public, this supports an independent contractor determination.
These considerations are not exhaustive, and different weight will be applied to various facts on a case-by-case basis. If you need additional guidance regarding the classification your workers or the implications associated with such classification, please schedule a consultation with us. Call us at 720-306-1001 or email email@example.com.
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