1 Worker Classification Getting it Right the 1 st Time – Level 1 Presented By: Andrew G. Poulos, EA, ABA, ATP

Worker Classification Statistics  In 2010 IRS began new initiative to audit 6,000 businesses for worker classification – further audits may be conducted  Voluntary Classification Settlement Program has been launched  State Labor Agencies have contracts with IRS to report state audit findings to feds  IRS is soliciting help from State Labor Agencies to conduct labor audits

Who Can Audit You?  Internal Revenue Service – YES!  State Labor Agencies – YES! (Reports to IRS)  State Revenue Agencies – Maybe  Taxpayers beware – Everyone is at risk!

Independent Contractor or Employee  Which one should it be?  How do you determine proper classification?  What affect does improper classification have on employer and worker?

Independent Contractors Should Expect  Expect to receive a 1099-MISC  Handle their own taxes usually on Schedule C  Not eligible for employer health insurance or retirement plan  Can deduct business expenses on personal tax return

Employer’s Can Expect  Don’t withhold federal, state, FICA  Don’t pay FUTA and SUTA  Savings of 7.65% in FICA + FUTA + SUTA  No health, retirement, or sick and vacation pay provided

Employee’s Can Expect To Get  Have FICA, federal, state taxes withheld by employer  Eligible for health insurance, retirement benefits, vacation and sick pay  Receive a W-2 instead of a 1099-MISC  Little hassle to file tax return

Worker Classification Affects  How you pay Social Security, Medicare, federal, and state taxes  How you file your taxes  Affects employer benefits, Social Security and Medicare matching by company

So How Do You Get It Right?  Is it at simple as it appears?  How do you determine if your workers are employees, or independent contractors?  What factors should you use to make the proper classification?

3 Categories for Classification  Worker classification facts are based on three main categories: 1)Behavioral Control 2)Financial Control 3)Relationship of the Parties

3 Categories for Classification  Must consider all facts in the case  Each case has different facts and circumstances  No single fact provides the answer  Can have major ramifications on employer and worker if you get it wrong

Behavioral Control  There is a right to direct or control how the worker performs the work  Worker is an employee when the business has right to direct and control the worker  Business doesn’t have to control the way work is done – can direct and control the work

Financial Control  Facts that show if there is a right to direct and control business segment of work  Does business or worker control financial elements such as expenses?

Relationship of The Parties  Facts that show how business and the worker perceive their relationship  Does the business perceive the worker as an independent contractor?  Does the worker think he/she is an employee?

So What Happens Next?  The worker perceives employee status, and business perceives independent contractor status  Who is right and who is wrong?  How do you proceed now?  Let’s review the IRS 20 Factor Test that can help us

20 Common-Law Factors  IRS uses 20 Factor test to classify workers  Using 20 Factor test when hiring workers can keep business out of trouble later!  20 Factor test helps provide clarity for behavioral control, financial control, relationship of the parties

Common-Law Factor 1  Instructions  Does business provide instructions? If so, how much instruction do they provide?  Extensive instructions on how to do work implies that worker is an employee  Less extensive instructions given about what should be done, but not perhaps how it should be done, worker may be an IC

Common-Law Factor 1 (Cont)  Instructions can cover topics such as  How, when, or where to do the work  What tools or equipment to use  What assistants to hire to help with the work  Where to purchase supplies and services

Common-Law Factor 2  Training  Does business provide training?  Is worker already trained and knowledgeable?  Business providing training on procedures and methods may indicate and employee-employer relationship  Training includes classroom, by co-worker, or any other means

Common-Law Factor 3  Integration  Does business integrate the worker’s services into their operations?  Does their business revolve around the worker?  Business integrating worker’s services into their operations shows worker is under control of the business, implying an employee-employer relationship

Common-Law Factor 4  Services Rendered Personally  Can worker hire someone to do the work in their place, or does it need to be done personally?  Worker being required to perform services personally shows control by the business  Perhaps an employee-employer relationship exists

Common Law Factor 5  Hiring, Supervising, Paying Assistants  Who hires, supervises, and pays assistants?  If business hires, supervises, and pays assistants, control is implied by the business over the worker  The worker may be an employee

Common-Law Factor 6  Continuing Relationship  Is there a continuing relationship between the parties, or is work a one time event?  A continuing relationship suggests there is an employer-employee relationship  A continuing relationship doesn’t necessarily mean work is performed at regular intervals

Common-Law Factor 7  Set Hours of Work  Does the worker have the ability to set his or her own hours?  Control is exhibited when business sets the hours or schedule for the worker  Lack of freedom by the worker to set their own schedule displays an employee-employer relationship

Common-Law Factor 8  Full-Time Required  Is worker required to devote full-time to the business?  Can worker devote their time to other work?  If not, the worker is probably an employee

Common-Law Factor 9  Doing Work on Company Premises  Does worker have his or her own place of business?  Is it required that the work be done at the business premises?  If so, this may suggest control over the worker creating an employee-employer relationship

Common-Law Factor 10  Order of Sequence Set  Does the worker have ability to set work schedule?  Does business provide the order and sequence to perform the work?  An independent contractor has flexibility to set work schedule and sequence of work

Common-Law Factor 11  Oral and Written Reports  Does business require oral and written reports?  If business requires reports from worker, this indicates an employee-employer relationship

Common-Law Factor 12  Payment Made by Hour, Week, or Month  How is worker paid – hourly, weekly, monthly, commissions, or by the job?  Hourly, weekly, monthly payments suggest worker is an employee  Commissions or payments by the job suggest an independent contractor relationship

Common-Law Factor 13  Payment of Business and/or Travel Expenses  Does business pay for business or travel expenses?  Does the worker pay for their own expenses?  Payments by business suggest employee relationship due to control of expenses

Common-Law Factor 14  Furnishing of Tools and Materials  Does the company provide or pay for worker’s tools, supplies, and equipment?  Does the worker have their own tools and equipment to do the work?  If business furnishes it could suggest an employee- employer relationship

Common-Law Factor 15  Significant Investment  Does worker invest in their own facilities?  Does worker rent his/her own office or building?  Does worker rent office space from the business?  Lack of significant investment by worker could suggest an employee-employer relationship

Common-Law Factor 16  Realization of Profit or Loss  Can the worker realize a profit or incur a loss?  Is there a real risk of economic loss?  Does the business bear the economic risk?  Worker bearing economic risk implies he/she is an independent contractor

Common-Law Factor 17  Working For More Than One Business at a Time  Can worker provide his/her services to more than one business at a time?  Is workers time consumed by only One business?  If worker can provide services to multiple companies at one time, it suggests an independent contractor relationship

Common-Law Factor 18  Making Services Available To The Public  Does worker make their services available to the general public?  Are the services available to the general public on a regular and consistent basis?  If so, this suggests worker is an independent contractor

Common-Law Factor 19  Right To Discharge  Can the business discharge the worker?  Can they discharge due to contract obligations not being met, or  Because worker is an employee and the business has control and can terminate employment?

Common-Law Factor 20  Right To Terminate  Can worker terminate the relationship at any time without incurring liability?  Can worker walk away from a contractual obligation to the business?  Terminating a true IC agreement most likely requires some notice  Depending on facts and circumstances worker may be an employee or independent contractor

What is the Verdict?  You have gone through the 20 Factor Test  You answered “NO” to 13 of the 20 questions  Does this mean your worker’s are employee’s or independent contractors?  What kind of determination do you think IRS will give?

Employees Under Common Law  A worker is usually an employee if business can control what will be done and how it will be done  If business has ability to control the details of how services are performed it indicates an employee- employer relationship  Workers in business for themselves are not employee’s

Who Are Independent Contractors  Accountants  Doctors  Lawyers  Veterinarians

Who Are Employees?  Food servers  Bartenders  Receptionists  Office managers

Statutory Employees  A Statutory Employee is a worker who can’t be classified as an employee under Common Law rules,  But is an employee for payroll tax purposes due to specific statutory requirements (Social Security and Medicare)

Who Are Statutory Employee’s?  An Agent or Commission Driver (food and beverage delivery driver – “No Milk”)  Full-Time Life Insurance Salesperson (Sells primarily for one company)  Homeworker (Works from home using materials furnished by business)

Who Are Statutory Employee’s? (Cont)  Traveling or City Salesperson (Full-time, works for One company taking customer orders)  Corporate Officers (One who provides No services or minor services and is not entitled to receive payment)

Who Are Statutory Employee’s? (Cont)  Statutory employee’s must have Social Security and Medicare taxes withheld if the Three Tests are met

3 Test for Statutory Employee’s 1)Service contract states or implies that almost all services will be performed personally by employee 2)The employee has little or no investment in the equipment and property used to perform the services 3)Services are performed on a continuing basis for the same company

Statutory Non-Employee’s  Two categories of Statutory Non-Employees  If worker falls into either category they can be classified as independent contractor  Statutory Non-Employee’s are responsible for federal income taxes, and self-employment taxes

Who Are Statutory Non-Employee’s?  Direct Sellers – (Must meet Three Factors to qualify)  Real Estate Agents

Who Are Direct Sellers?  Door-to-door salespersons  Home demonstration persons

Real Estate Agents  Provide services such as  Advertising  Showing real estate property  Acquisition of a lease to real property  Recruitment, training, and supervision of other real estate persons

Real Estate Agents  Property Management services are Not included  Property managers are not classified in the real estate agent category

Statutory Non-Employees  Statutory Non-Employee’s are not employee’s for federal tax purposes, but  They can be an employee for other purposes such as state worker’s compensation and tort liability

Possible Industries With Worker Classification Issues  Building and Construction industry  Trucking industry  Computer industry  Automobile industry  Legal industry  Taxicab industry

What Triggers an Worker Classification Examination?  The worker files Form SS-8 requesting a ruling  The business issues an “extraordinarily high number” of 1099-MISC forms  The business issues 1099-MISC forms with “high dollar” amounts

What Triggers an Worker Classification Examination?  The state unemployment agency conducts an audit or investigation and shares information with IRS  IRS performs “project audits” on a certain industry  Informant tips off IRS and provides audit lead (Be cautious of disgruntled former employee’s or vengeful competitors)

2 Types of Worker Classification Audits  Employment tax audits  Income tax audits

Information Document Request (IDR)  What you should expect to see on the IDR Copies of Form 941 for each quarter under audit Copies of Form 940 State unemployment tax returns Form 1096 and Forms 1099 Forms W-2, W-2C, W-3, W-3C

Information Document Request (IDR) Form W-4 if worker’s completed them Form W-9 if obtained from worker’s Payroll journal for exam period (including work papers) Cash disbursements journal for exam period General journal for exam year with adjusting entries

Information Document Request (IDR) Trial balance for exam period Copy of prior years’ federal audit reports Copies of contracts between company and workers Additional documentation may be requested

Conclusion of Examination  At conclusion company will receive one of the following notices  Good Notice – No problems continue what you are doing  Bad Notice – Assessment letter aka “30 day letter”. 30 days to appeal agents findings!

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