How to Know if Your Employee is an Independent Contractor

A group of employees and independent contractors looks at their laptops, phones, tablets, and paperwork

Employees and independent contractors are treated very differently by the IRS and Department of Labor (DOL) because their functions in a company are very different. Although both workers perform services, the way they interact with the business and your obligations as their employer are very distinct.

To ensure you’re classifying your workers correctly, examine your relationship with them in its entirety. Their official employment status with you depends on these three things.

1. Behavioral control

Reflect on whether you have the right to control the worker’s behavior – even if you don’t exercise that right. To help you do that, ask yourself the following questions:

  • What type of instructions do you give to the worker? Generally, employees are required to comply with directions concerning when, where, and how they work.
  • Who provides training? The more coaching you offer to the worker, the more likely they’re an employee.
  • Who determines what tools to use? Often, an independent contractor will choose their own tools.
  • Can the worker hire their own assistants to help with the job? If the worker can hire, supervise, and pay people to assist with the project, they’re likely a contractor.
  • Who decides whether that specific person must perform the work? If the person you hired is the one that must complete the task, then they’re most likely an employee. Contractors will sometimes have their own teams and will assign another worker to do the job.
  • How is the work measured? If you measure how the work is being performed, the worker is probably an employee. If you only measure the end results, they might be a contractor.
  • Who determines the work schedule? If you set the hours that the person must work, they’re most likely an employee. Contractors often decide their own work schedules. Read also: How to Schedule Your Employees

2. Financial control

Next, review the financial aspects of your relationship with the worker, including how they’re paid and how expenses are handled. Ask yourself the following questions:

  • How is the worker paid? If the worker is paid an hourly, weekly, monthly, or annual wage on a regular schedule, they’re most likely an employee. If you pay them by the job, they’re more likely to be a contractor. Read also: 3 Ways to Pay Your Employees: Hourly, Salary, and Commission
  • Do you reimburse job-related expenses? Typically, a company will repay its employees for any job-related expenses. Often, a contractor will pay their job-related costs out of pocket.
  • Who pays for tools and supplies? In most cases, contractors will have made a significant investment in their gear or supplies.
  • Does the worker have the opportunity to make a profit or have a loss? If the worker can either make a profit or suffer a loss while performing the job, they’re likely an independent contractor.
  • Does the worker continue to offer their services to the market? If the worker is working on multiple similar jobs at the same time and/or still advertising to potential customers, they’re probably a contractor.

3. Type of relationship

Finally, review the overall nature of your relationship with your worker. Ask yourself:

  • Do you have a written contract stating the nature of your relationship? A contract often makes it harder for you to end a relationship with a contractor. 
  • Will the worker experience financial consequences for ending their relationship with you? Contractors will often be held financially accountable if they walk away in the middle of a project.
  • Do you offer benefits? If you provide benefits like sick days, vacation time, and a retirement plan, they’re most likely an employee.
  • How long will the relationship last? If your affiliation does not have a set end date, the worker is probably an employee. If you hired the person for a specific time or a particular project, they’re more likely to be a contractor.
  • Are the services provided an essential aspect of your business? If the work the person is performing is vital to the success of your company, they’re more likely to be an employee.

What if you’re still unsure?

As you can see, determining whether a worker is an employee or a contractor is not cut and dried. If you’ve examined your entire relationship with the person and are still unsure, you can file Form SS-8 with the IRS to help you determine.

Either the business or the worker can file the form. It is frequently used by people who think they were misclassified and don’t think they should be subject to self-employment taxes.

If you file the form, the IRS will also send it to the worker so they can review both sides before making their decision. Keep in mind, this process can take up to six months.

It’s important to understand the distinction, so you don’t misclassify your workers unknowingly. Here are some other common HR mistakes you can avoid in your small business.

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