405.627.6326 matt@whyhr.guru

In working with small businesses, I talk with a lot of people who have questions and misconceptions about employees versus independent contractors. Sometimes they think they have independent contractors but they really have employees. And often times, they don’t fully understand that the employer isn’t the one who actually decides whether a person is an employee or independent contractor.

The 20-point checklist

The IRS uses 20 different factors to determine whether someone is an independent contractor or an employee. (See a summary of those factors here.) The essence of it is about who has control. If you the employer have the majority of control over what the person does, what timeframe they do it in, and what equipment they use to do it, they are most likely your employee. If you as an employer are hiring an individual to deliver a specific product, have an agreed-upon pricing arrangement, and do not control how the final product is completed, they could be a contractor.

There are other factors involved, but that’s the essence of it. And it’s the employer’s responsibility to be aware of the guidelines and follow them. Fixed costs are attractive, especially for small businesses, but don’t fall into the trap of paying someone a fixed cost as a contractor when they aren’t really a contractor.

Also keep in mind that if you the employer decide to hire the contractor as an employee, you do not get to decide if they’re hourly or salaried. Those categories have set pre-qualifications as well to determine whether an employee is exempt or non-exempt.

Risk to your company

I’ve seen businesses of all sizes overlook the importance of determining employees versus independent contractors, and they usually end up paying for it. The IRS and Department of Labor look carefully at businesses that are using independent contractors because it’s so common to misclassify them.

If you have misclassified a working relationship and are denying benefits that an individual is entitled to as an employee, it creates risk for your company. And the risk grows substantially over time, especially if you have both independent contractors without benefits and employees with 401k, healthcare, vacation, and other benefits. Long-term denial of benefits could impact their health or retirement. If your company is audited by either of these agencies and that issue comes to light, you may be fined in addition to being forced to pay past benefits.

When you deal with independent contractors, the IRS is missing tax revenue from employment tax and that is not something that can be avoided long term. The longer the issue remains in effect, the more severe the penalties can be.

Set the right policy from the start

If you’re hiring new people, don’t bury your head in the sand when it comes to deciding if they’re legally an employee or a contractor. Take the opportunity to seek qualified counsel through an attorney, HR professional, or even someone you may know at the IRS or Department of Labor. We can help you walk through those questions.

Here are a few example questions from the 20-point checklist that we can help you answer:

  • Is the worker required to comply with employer’s instructions about when, where, and how to work?
  • Does the worker have a continuing relationship with the employer?
  • Is the payment made to the worker on a fixed basis regardless of profitability or loss?
  • Is there an expectation that the relationship will continue indefinitely rather than for a specified amount of time or project?

Unfortunately, many business owners are not aware of these regulations, even if they’ve been using independent contractors for years. It’s a significant ongoing issue for small businesses especially. Outside of exempt versus non-exempt classification, this is one of the biggest issues out there affecting small business and creating risk to those companies.

If you need help classifying employees versus independent contractors, give Why HR a call to discuss your specific situation and see if we can help.

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