The feds have come out swinging. The Internal Revenue Service is conducting random audits to uncover employee misclassification — and if your company’s found guilty, it’ll face penalties.
The problem: It’s so tempting to classify someone as an independent contractor — and save on federal, state and local taxes, as well as overtime and workers’ comp — if the person’s status as a worker seems fuzzy.
To help ensure companies get classifications correct — and proper tax payments end up in Washington — the IRS recently released a document offering businesses tips on classifying workers.
Here are three critical points businesses need to know.
No. 1 – The IRS uses three characteristics to determine the relationship between businesses and workers:
- Behavioral control. If the business has the right to control or direct not only what’s to be done, but how it gets done, then the worker is most likely an employee. But if the worker controls the means and methods of accomplishing a specific result, then he or she could qualify as an independent contractor.
- Financial control. The IRS wants to see whether the company has the right to direct or control the financial and business aspects of a person’s job. If the person has a significant investment in the work, or the person isn’t reimbursed for some or all business expenses, he or she may be an independent contractor. Also, if the person can earn a profit or incur a loss, it’s an indication the person’s in business for him or herself and is an independent contractor.
- Type of relationship. The IRS will also look at how the worker and the business owner perceive the relationship. If the person receives benefits, such as insurance, pension or paid leave, this is an indication that the person’s an employee.
No. 2 — Both businesses and workers can ask the IRS to make a determination on an individual’s employment status by filing Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding.
No. 3 — Additional information to help with determining a worker’s classification can be found in the IRS’ Small Business and Self-Employed Tax Center on its website. Other resources available include: