A common question from our clients is how to determine if a worker should be considered an employee or a contractor. Typically, this issue comes up in the process of setting up a new business. Let’s explore some differences between employees and contractors to help you classify your workers properly.
Why it matters
Employees can be entitled to some benefits that could include paid time off, and workers’ compensation, health, and unemployment insurance. Employees can also be subject to protections of various overtime pay rules and certain work and safety regulations.
Some companies try to cut costs by classifying an employee as an independent contractor. Classifying a worker as a contractor when they really are an employee can open the business up to becoming subject to fines by both the IRS and other government agencies.
You can read about the distinctions between employees and contractors from the IRS and the Small Business Administration.
To help you to determine if a worker is an employee or a contractor, here are some questions to consider:
- How much control do you have over the work being done?
- Does the worker rely on you for their living?
- What do you have in writing?
Let’s delve deeper into each question.
How much control do you have over the work being done?
With an employee, the business typically defines how, when and where the work is to be done. The business generally furnishes the tools and equipment needed and provides training on how to do the job.
With a contractor, you may tell them what work needs to be done but most likely you are not telling them how to do the work. Typically a contractor will have their own procedures and methods to complete the project. A contractor generally will use their own tools and equipment to do the work.
Does the worker rely on you for their living?
If a worker works exclusively for you they are financially dependent on you. Most often, an employee works for one employer.
A contractor typically has multiple clients. A contractor may even have their own sub-contractors or employees. A contractor typically invoices for projects and defines how they will invoice and how they will be paid. A contractor most likely will also have business expenses that are not related to the work that they are providing to you.
What do you have in writing?
Regardless of the worker’s status, it is best practice to have a written agreement outlining the work to be performed, how compensation is to be paid, and so forth.
If you are providing a worker with company benefits such as health insurance, pension, or paid leave, this can indicate that they are an employee.
A contractor will generally provide a written contract outlining the tasks to be performed and the scope of the work. Often such contracts contain a fixed fee or a schedule of payment as work progresses.
If you are unsure as to the status or a specific worker, you can contact the IRS and have them review your worker’s status (check out IRS Form SS-8).
What now?
When you understand the differences between employees and contractors, you are better equipped to identify potential issues and to determine if your worker is an employee or contractor.
Looking for an easy solution to pay both your employees and contractors on time? Check out our review of Gusto for your payroll and contractor payment needs.
Updated 11/25/2020