Employee or Independent Contractor – Why Classification Matters

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Employee vs Contractor

The Department of Labor and the Internal Revenue Service have joined together in an initiative to end the practice of misclassifying employees as independent workers or contractors.

Millions of workers are misclassified as independent contractors instead of employees, which represents millions in lost payroll tax payments that are used to pay for programs such as Social Security and Medicare.

If violations are reported, an employer could be subjected to penalties that include 20 percent of all the wages paid, plus 100 percent of the FICA taxes (employer and employee share) as well as criminal penalties up to $1,000 per misclassified worker, potential prison time and other fines. (Internal Revenue Service Code-section 3509). Employers are also subject to fines and charges at the state level.

WHICH IS WHICH?

According to the Internal Revenue Service* an EMPLOYEE:

An employer must withhold income tax, social security, and Medicare taxes. An employer is responsible for paying social security, Medicare, and unemployment (FUTA) taxes on an employee’s wages. Employers must provide a Form W-2, Wage and Tax Statement, showing the amount of taxes withheld an employee’s pay.

Employees may deduct unreimbursed employee business expenses on Schedule A of their income tax return, but only if they itemize deductions and those deductions total more than two percent of the employee’s adjusted gross income.

According to the Internal Revenue Service* an INDEPENDENT CONTRACTOR:

An employer is not responsible for paying an independent contractor’s income tax and self-employment tax (Self-Employment Contributions Act – SECA). An employer does not withhold taxes from an independent contractor’s pay. Independent contractors may need to make estimated tax payments during the year to cover tax liabilities.

An employer may be required to provide Form 1099-MISC, Miscellaneous Income, to report what has been paid to an independent contractor.

Independent contractors may deduct business expenses on Schedule C of their tax return.

*Publication 1779 (revised 03-2012)

WHY THE RIGHT CHOICE MATTERS

Employee misclassification generates substantial losses to the federal government and state governments in the form of lower tax revenues, as well as to state unemployment insurance and workers’ compensation funds. Also, misclassified employees often are denied access to critical benefits and protections they are entitled to by law, such as the minimum wage, overtime compensation, family and medical leave, unemployment insurance, and safe workplaces.

The Internal Revenue Service provides a selection of scenarios at www.irs.gov to help understand how to classify workers as well as Form SS-8, Determination for Worker Status for Purposes of Federal Taxes and Income Tax Withholding. The IRS will review the circumstances and officially determine the worker’s status, which can take at least 6 months.

But we can help.

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