Determining a Worker's Tax Status

For tax purposes, when you hire someone to perform a service for your business it's important to consider the nature of your relationship with that individual because their are tax and legal consequences involved with how you classify workers.

Are you hiring and employee or an independent contractor?

When you hire an independent contractor, your relationship is entity/client. When you hire an employee, your relationship is employer/employee.

How you classify someone determines your tax payment obligations with respect to that person and your tax reporting responsibilities.

There are also legal considerations. For example, states have laws requiring employers to carry workers' compensation insurance to cover employees injured while at work.

Independent Contractor or Employee?

Generally, it's not too difficult to figure out whether someone is an independent contractor or an employee. We know when we hire someone to do a one-time job for our business that person is an independent contractor.

But what about a person hired to do an ongoing job for our business? For example, your hire a person that provides accounting services. He comes in once a month to get the information needed to update your books, does the work at his own office using his own equipment and materials, and sets his own work schedule.

Now let's say you hire a bookkeeper to keep your books. You provide the desk, computer, printer, and all other materials and information needed to do the job, and you also set the work schedule.

Both individuals are doing the same job, yet one is an independent contractor and the other is your employee. But why? Read on.

Control is the Key Factor

A key factor in determining whether a person you hire to perform services for your business is an employee or independent contractor is the extent of control you have over what, when, and how the work is to be performed.

If you control the means and methods and set the schedule for a person to perform a service for your business, you have an employer/employee relationship.

If the person you hire offers his services to the public, generally has other clients, advertises for business, has his own equipment and materials to get the work done, and sets his own work schedule, then, your relationship with that person is entity/client and that person is an independent contractor.

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