Employees vs. Independent Contractors
Employees
vs. Independent Contractors
Source: Internal Revenue Service
The tax law covering independent contractors is very
complicated. Before you can determine how to treat payments
you make for services, you must first know the business
relationship that exists between you and the person
performing the services. The person performing the services
may be -
An
independent contractor
A common-law employee (Employee)
A statutory employee
A statutory nonemployee
In determining whether the person providing service is an employee or an independent contractor, all information that provides evidence of the degree of control and independence must be considered.
It is critical that you, the employer, correctly determine whether the individuals providing services are employees or independent contractors. Generally, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. You do not generally have to withhold or pay any taxes on payments to independent contractors.
Caution: If you incorrectly classify an employee as an independent contractor, you can be held liable for employment taxes for that worker, plus a penalty.
Who
is an Independent Contractor?
A general rule is that you, the payer, have the right
to control or direct only the result of the work done
by an independent contractor, and not the means and
methods of accomplishing the result.
Example: Steve Smith, a computer programmer, is laid off when Megabyte Inc. downsizes. Megabyte agrees to pay Steve a flat amount to complete a one-time project to create a certain product. It is not clear how long it will take to complete the project, and Steve is not guaranteed any minimum payment for the hours spent on the program. Megabyte provides Steve with no instructions beyond the specification for the product itself. Steve and Megabyte have a written contract, which provides that Steve is considered to be an independent contractor, is required to pay Federal and state taxes, and receives no benefits from Megabyte. Megabyte will file a Form 1099-MISC (PDF). Steve does the work on a new high-end computer which cost him $7000. Steve works at home and is not expected or allowed to attend meetings of the software development group. Steve is an independent contractor.