The IRS estimates 15 percent of the 5.15 million employers misclassify 3.4 million employees as independent contractors.
Employers must correctly classify their workers as employees or independent contractors to determine their employment tax liability, FICA (social security tax) and FUTA (unemployment tax), and whether to withhold income taxes from a worker's pay. For independent contractors, an employer does not withhold or pay these taxes, but must file Form 1099 with the IRS.
However, corporate officers are employees for purposes of FICA, FUTA and income tax withholding, unless the services rendered are minor or nominal and they neither receive nor are entitled to receive compensation.
The IRS utilizes 20 factors to determine if an employer-employee relationship exists. The most significant factor is the degree or extent of the right to direct and control the worker.
The control factor is best illustrated in Ringling Bros.-Barnum & Bailey Combined Shows v. Higgins. The circus argued an employee was an independent contractor because management could not direct the manner by which a human cannonball would be shot from a gun.
However, the court found the performer was an employee because the circus could prevent the performer from appearing at any other circus and had a right to shorten an act and supervise the conduct of performers.
The IRS groups the 20 factors into three categories:
1) Behavioral: Does the company control or have the right to control what, how and when the worker does his or her job?
2) Financial: Are the business aspects of the worker's job controlled by the payer? Are they paid hourly, weekly, commission or by the job? Are expenses reimbursed? Who provides the tools and supplies? Can the worker realize both a profit or loss?
3) Type of relationship: Are there written contracts or employee benefits? Is the work performed a key aspect of the business? Can the worker work for more than one company at the same time?
In 2007, the IRS audited FedEx, claiming $319 million in back employment taxes and penalties for 2002, arising from FedEx's misclassification of 15,000 single-route drivers as independent contractors, because FedEx exercised too much control over these workers. The liability was estimated at $1.5 billion in taxes and expenses.
If your worker is reclassified as an employee, your company may be liable for FICA taxes, FUTA, federal and state income taxes, penalties, interest, trust fund recovery penalties, worker's compensation claims, adverse effects on a corporate retirement plan and lawsuits by employees who demand full benefits for the time they were misclassified as independent contractors.
If an employer fails to collect and pay employment taxes, the owners and executives responsible for paying and withholding wages and employment taxes can be personally liable for uncollected taxes.
For more information, call John Milikowsky at (619) 818-6799 or visit www.caltaxadviser.com.
Employers must correctly classify their workers as employees or independent contractors to determine their employment tax liability, FICA (social security tax) and FUTA (unemployment tax), and whether to withhold income taxes from a worker's pay. For independent contractors, an employer does not withhold or pay these taxes, but must file Form 1099 with the IRS.
However, corporate officers are employees for purposes of FICA, FUTA and income tax withholding, unless the services rendered are minor or nominal and they neither receive nor are entitled to receive compensation.
The IRS utilizes 20 factors to determine if an employer-employee relationship exists. The most significant factor is the degree or extent of the right to direct and control the worker.
The control factor is best illustrated in Ringling Bros.-Barnum & Bailey Combined Shows v. Higgins. The circus argued an employee was an independent contractor because management could not direct the manner by which a human cannonball would be shot from a gun.
However, the court found the performer was an employee because the circus could prevent the performer from appearing at any other circus and had a right to shorten an act and supervise the conduct of performers.
The IRS groups the 20 factors into three categories:
1) Behavioral: Does the company control or have the right to control what, how and when the worker does his or her job?
2) Financial: Are the business aspects of the worker's job controlled by the payer? Are they paid hourly, weekly, commission or by the job? Are expenses reimbursed? Who provides the tools and supplies? Can the worker realize both a profit or loss?
3) Type of relationship: Are there written contracts or employee benefits? Is the work performed a key aspect of the business? Can the worker work for more than one company at the same time?
In 2007, the IRS audited FedEx, claiming $319 million in back employment taxes and penalties for 2002, arising from FedEx's misclassification of 15,000 single-route drivers as independent contractors, because FedEx exercised too much control over these workers. The liability was estimated at $1.5 billion in taxes and expenses.
If your worker is reclassified as an employee, your company may be liable for FICA taxes, FUTA, federal and state income taxes, penalties, interest, trust fund recovery penalties, worker's compensation claims, adverse effects on a corporate retirement plan and lawsuits by employees who demand full benefits for the time they were misclassified as independent contractors.
If an employer fails to collect and pay employment taxes, the owners and executives responsible for paying and withholding wages and employment taxes can be personally liable for uncollected taxes.
For more information, call John Milikowsky at (619) 818-6799 or visit www.caltaxadviser.com.