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EMPLOYEE AND INDEPENDENT CONTRACTOR STATUS - WITHHOLDING TAXES AND PENALTIES

As a business owner who pays for the services provided by other persons, you must be in compliance with United States withholding tax obligations.   We have prepared this memorandum to assist you in determining whether an individual is an "employee" or an "independent contractor". Generally, persons who provide services for your business are considered to be "employees".   An error in the classification of a service provider can be very costly to the businessperson.

GENERAL RULES

Generally, an individual is an "employee" if the person for whom he/she works has the right to "direct" and "control" him/her in the way he/she works, both as to the final results and as to the details of when, where and how the work is to be done.   The concept of "direction" and "control" is based upon many factors which may be present in a given situation.

All of the following indicators are used in determining whether an individual is an employee or independent contractor.  When making the determination, always keep in mind the intent of the parties when entering into the relationship. Also, consistent treatment for a class of individuals performing the same or similar functions is necessary.  It is important to have a written contract between the parties where there is an independent contractor relationship.  Be sure that Forms 1099 are issued annually to those persons treated as independent contractors.

EMPLOYEE RELATIONSHIP

The Internal Revenue Service, in considering the form of relationship between an employer and a worker, considers the following to be evidences of an employer/employee relationship:

  1. A person who is required to comply with instructions about when, where and how he/she is to work is ordinarily an employee.
  2. The existence of a continuing relationship is indicative of an employee/employer relationship.
  3. The establishment of set hours of work indicates control and employee/employer status.
  4. The worker usually works full-time for one employer and is subject to dismissal.
  5. The worker can quit without incurring any liability.
  6. The worker is trained by the employer.
  7. If a person must perform services in the order or sequence set by the employer, control is indicated.
  8. If regular oral or written reports must be submitted to the employer, it indicates control.
  9. An employee is usually paid by the hour, week or month.
  10. Payment by the employer of the workers' business and/or traveling expenses is a factor indicating control over the worker.
  11. The worker's effort is integrated into the business' general operations.
  12. Doing the work on the employer's premises is not control in itself; however, it does imply control where the work is of such a nature that it could be done elsewhere.
  13. The furnishing of tools, materials, etc. by the employer is indicative of control over the worker.
    14.

INDEPENDENT CONTRACTOR  RELATIONSHIP

The following points are considered by the IRS to be indications of an employer/independent contractor relationship:

  1. The contractor is allowed to employ (and pay) his own assistants.
  2. A significant investment by a person in facilities (equipment or premises) used by him in performing services for another tends to show an independent contractor status.
  3. A person who is in a position to realize a profit or suffer a loss as a result of his services is generally an independent contractor.
  4. If a person works for a number of persons or firms at the same time, it usually indicates independent contractor status.
  5. Payment on a commission or job basis is customary where the worker is an independent contractor. Payment by the job includes a lump sum which is computed by the number of hours required to do the job at a fixed rate per hour; it may also include weekly or monthly payments if this method of payment is a convenient way of paying a lump sum agreed upon as the cost of doing a job.
  6. The contractor is allowed to work for someone else.
  7. The contractor sets his own hours.
  8. The contractor may take the work and do it at a location other than the employer's place of business.
  9. The fact that a person makes his service available to the general public is usually indicative of independent status.
  10. The custom of the trade or industry in which the work is to be performed may indicate independent contractor status.
  11. An individual who hires and supervises personnel and makes payment directly for such services has control over his personnel. Where these functions are performed by such individual as a result of a contract, it is indicative of independent contractor status for that individual.

  12. The contractor sets the order and sequence of his work.

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If you would like to receive our comprehensive memorandum covering Employee and Independent Contractor Status,

Please contact us:
Freeman & Davis LLP
14 Penn Plaza
(225 West 34th Street)
New York, NY 10122-0397

Tel:  212 594-8155
Fax: 212 465-0520
email: info@freemandavis.com

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