If you are using 1099 independent contractors, it's important to understand the rules, risks and potential liabilities. Both the State and Federal government are stepping up their audit activity of employers using independent contractors. These audits are generating significant revenue in the form of back taxes, penalties and interest from employers that have inappropriately hired contractors instead of hiring these individuals as employees.
The government is concerned about the use of contractors for a variety of reasons including protection of workers, unpaid and underpayment of taxes from contractors, inability to garnish wages (dead-beat-dads), no revenue for the unemployment insurance fund, and no workers compensation coverage. Generally, employers must withhold income taxes, withhold and pay Social Security and Medicare taxes, pay unemployment tax on wages paid to an employee and provide worker's compensation coverage. Employers do not generally have to withhold or pay any taxes on payments to contractors.
The State and Federal government have similar criteria for evaluating independent contractor relationships, but the State's interpretations are considered more restrictive to employers. These criteria are often not known or misunderstood by employers. The auditor will evaluate the relationship in terms of financial control, behavioral control and the type of relationship. Financial control refers to facts that show whether or not the business has the right to control the economic aspects of the contractor's job. If the employer has that right, the government may consider that individual to be an employee. Behavioral control refers to facts that show whether there is a right to direct or control how the contractor does the work. A worker may be determined to be an employee when the business has the right to direct and control that worker. Type of relationship refers to facts that show how the worker and business perceive their relationship to each other. This can be a more complex analysis than it seems on the surface.
It appears that companies are selected for audit resulting from independent contractors filing unemployment and worker's compensation claims, employers filing an unusual number of 1099's or large sums paid to contractors. If a contractor has only one client and receives only one 1099 in a calendar year, it is a strong indicator that he/she is not in business to provide services elsewhere.
Employers should take a hard look at their practice of using contractors. A common mistake is having contractor's perform the same work as employees, and treating them as employees. It's critical that companies make correct decisions on these relationships. The costs of a wrong decision, even made in good faith, can be devastating to a business.
Bill Sewell can be reached at 760-720-1595 or [email protected].
The government is concerned about the use of contractors for a variety of reasons including protection of workers, unpaid and underpayment of taxes from contractors, inability to garnish wages (dead-beat-dads), no revenue for the unemployment insurance fund, and no workers compensation coverage. Generally, employers must withhold income taxes, withhold and pay Social Security and Medicare taxes, pay unemployment tax on wages paid to an employee and provide worker's compensation coverage. Employers do not generally have to withhold or pay any taxes on payments to contractors.
The State and Federal government have similar criteria for evaluating independent contractor relationships, but the State's interpretations are considered more restrictive to employers. These criteria are often not known or misunderstood by employers. The auditor will evaluate the relationship in terms of financial control, behavioral control and the type of relationship. Financial control refers to facts that show whether or not the business has the right to control the economic aspects of the contractor's job. If the employer has that right, the government may consider that individual to be an employee. Behavioral control refers to facts that show whether there is a right to direct or control how the contractor does the work. A worker may be determined to be an employee when the business has the right to direct and control that worker. Type of relationship refers to facts that show how the worker and business perceive their relationship to each other. This can be a more complex analysis than it seems on the surface.
It appears that companies are selected for audit resulting from independent contractors filing unemployment and worker's compensation claims, employers filing an unusual number of 1099's or large sums paid to contractors. If a contractor has only one client and receives only one 1099 in a calendar year, it is a strong indicator that he/she is not in business to provide services elsewhere.
Employers should take a hard look at their practice of using contractors. A common mistake is having contractor's perform the same work as employees, and treating them as employees. It's critical that companies make correct decisions on these relationships. The costs of a wrong decision, even made in good faith, can be devastating to a business.
Bill Sewell can be reached at 760-720-1595 or [email protected].