Your service providers, are they employees or independent contractors? Here are a few tricks and tips to help business owners make that determination correctly
The Internal Revenue Service (IRS) would like you to know that it is critical that you correctly determine whether the people providing services to your business are employees or independent contractors.
Properly identify YOUR SERVICE PROVIDER
A service provider is your employee if:
1. You provide extensive instructions on how the work is to be done. Examples: you decide:
– How, when, or where to do the work;
– What tools or equipment to use;
– What assistants to hire to help with work;
– Where to purchase supplies and services.
2. You provide training about required procedures and methods, so the work is done in a certain way;
3. You reimburse for some or all business expenses;
4. You provide the tools and supplies that are necessary to do the work;
5. You provide benefits such as insurance, pension, paid leave, etc.
A service provider is an independent contractor if:
1. You provide less extensive instructions about what work should be done;
2. You don’t provide instructions about how the work should be done;
3. You don’t reimburse him or her for some or all business expenses;
4. Your service provider is in an independent trade, business, or profession in which they offer their services to the public as:
– A sole proprietor or an independent contractor;
– A member of a partnership that carries on a trade or business;
– Someone who is otherwise in business for himself or herself on a full-time or on a part-time basis;
– A gig economy worker.
5. He or she has a significant investment in their work;
6. That service provider may realize a profit or incur a loss.
TAX CONSEQUENCES OF A WORKER MISCLASSIFICATION
Your service provider is an employee
When a service provider is an employee, you must:
- Withhold income tax, social security and Medicare taxes from their pay;
- Pay social security, Medicare, and unemployment (FUTA) taxes on their pay;
- Give them a Form w-2, wage and tax Statement, showing the amount of taxes that you took out from their pay.
Your service provider is an independent contractor
When a service provider is an independent contractor:
- You may be required to give them Form 1099-NEC to report what you paid them;
- You don’t withhold taxes from their pay. He or she is responsible for paying their own income tax and self-employment tax
If you don’t correctly determine whether the people providing services to your business are employees or independent contractors, you may be held liable for their employment taxes including the employer’s share and the employee’s share of payroll taxes.
In 2021, independent contractors accounted for 36% of the U.S. workforce. They contributed $1.3 trillion of revenue to the U.S. economy, an increase of $100 million compared to 2020. Additionally, 62% of independent contractors believe that they make more or the same amount of money as they would working for an employer. They enjoy the flexibility and freedom that only freelancing can bring. Independent contractors work mostly in the Arts & design, Marketing, Computers/Mathematics and Construction.