DESIGNATION OF AN INDEPENDENT CONTRACTOR

Many companies attempting to reduce costs associated with having to pay employee salaries and benefits have turned to hiring independent contractors to perform the company tasks. However, simply calling a worker an independent contractor as opposed to an employee is not enough to avoid an adverse ruling from the Internal Revenue Service (“IRS”). Even having a written contract classifying the worker as an independent contractor will not prevent the IRS from determining the worker is actually an employee and subjecting the company to the appropriate tax.

Several years ago, the IRS moved away from the “Twenty Factor” test to determine whether or not a worker was actually an independent contractor.  The IRS has switched to an 11 prong test, which focuses upon three main elements of the relationship of the parties. The first element involves behavioral control, which essentially addresses whether the company has the right to direct and control how the worker performs the work for which he or she is hired.  Some of the factors the IRS will consider in examining whether the company has the right to control the worker are:

  • where and when the worker performs his or her work
  • the instructions the employer provides
  • what tools or equipment the worker uses

The second element examined by the IRS in determining whether or not a worker is an independent contractor is financial control. Examples of whether the company exhibits the requisite financial control over the worker include:

  • does the company reimburse the worker for business expenses
  • has the worker made a significant investment in the facilities he or she uses
  • the manner in which the company pays the worker, i.e. wage, salary, commission, or a flat fee
  • the extent to which the worker can realize a profit or loss in performing the services

The third and final element examined by the IRS in determining whether or not a worker is an independent contractor is the parties’ relationship. Elements demonstrating the type of relationship between the company and the worker include:

  • does a written contract exists
  • whether the company pays the worker with employee-type benefits, such as insurance, pension, and vacation or sick pay
  • whether the relationship is for a set period or does it continue indefinitely

To learn more about determining whether a worker is an independent contractor or employee, feel free to contact me at cheyer@scuramealey.com or call me at (973) 696-8391, ext. 222