The IRS estimates that businesses have misclassified millions of workers across the country. Does your business know how to properly classify a worker as an independent contractor? Often, businesses, especially small businesses, will genuinely believe that someone is an independent contractor and not an employee, but proper classification depends on a number of factors that are often overlooked. Typically there is no one factor or group of factors that will conclusively determine if a worker is an independent contractor or an employee. Each individual circumstance is usually viewed on a case by case basis and a determination made. To make things even more complicated the IRS, Department of Labor and individual states may use different tests, or criteria, to determine how a worker is classified. Here are some tips that can help your business properly classify a worker as an independent contractor.
Behavior Control - you can control the outcome, but not how the worker gets there. If you want the worker to be classified as a contractor you can’t control how they get the work done, only what you want the finished product to be. Ideally, you should let them set their own hours, and determine how and when the work is done. You want little to no control over the workers’ tools and time.
Financial Control - don’t pay the worker a salary or guarantee them a minimum wage, this is going to lean towards them being an employee. Ideally, you will pay them a flat fee for a project, or job but there are certainly situations where an hourly rate will work as well. You’ll also want to try and make sure that the worker has made a “significant investment” in their business - this would obviously vary based on the type of work they are doing for you but look for them to have their own tools, have paid for any licenses they may need to do the work, or provide their own software to get a project or work done. Additionally, independent contractors are typically responsible for any job related expenses and travel costs associated with the work.
Relationship - the type of relationship you have with a worker also determines how the worker will be classified. If you bring someone on and expect them to work long term or indefinitely that tends to lean more towards an employee relationship. Typically, an independent contractor is working for a defined time, or there to complete a defined project. You also want to try and avoid having an independent contractor doing work on your key business activities. For example, if you own a bar and hire someone to create your marketing plan over the next six months, that person isn’t doing work on your key business activity (serving food and drinks) so you may want them classified as an independent contractor. One other thing to remember is that independent contractors usually don’t get any of the benefits that employees do, such as vacation and sick leave, insurance or retirement plans.
Keep a file - also helpful in classifying a worker as an independent contractor is keeping a file for each with important information, here’s what you should keep in the file:
- A W-9 Form so that you don’t have to withhold any income taxes from that individual;
- Application, Resume of Documentation of Qualifications;
- If you are using an application, make sure the worker understands that it’s not an application for employment as an employee, it’s probably better to get a resume that details the necessary qualifications.
- A written independent contractor agreement signed by both of you;
- A copy of any insurances you are requiring them to carry;
- If necessary for the work, get them to name you as an additional insured on the policy
Using independent contractors can be a good idea in many situations, just make sure to take the proper steps to classify the worker as an independent contractor and not an employee.
Classifying workers can be a headache for businesses to manage; if you are looking for help or guidance in that area feel free to reach out to us for a free consultation.