Employee or Independent Contractor? Three Ways to Determine Worker Classification.

Incorrectly classifying your independent contractors or employees can really drive up your income taxes and workers’ compensation claims. When figuring out how to classify your employees, consider how you manage their work, and whether they’re legally entitled to be covered by workers’ compensation benefits. There isn’t much grey area when it comes to workers’ compensation, so be sure you’re following the law and classifying your workers correctly.

A general rule of thumb: the more control you have over your workers, the greater the chance that they should be considered an employee, and that you’re obligated to cover them under your workers’ compensation policy.

Here are three ways to determine worker classification.

You don’t have to guess how to classify employees. The Internal Revenue Service (IRS) has outlined the three criteria necessary to determine a worker’s classification:¹

1. Behavioral

Does your company control, or have the right to control, what job your worker does and how they do it?

2. Financial

Do you control the business aspects of your worker’s job? These might include, for example, how they’re paid, whether their expenses are reimbursed, and who provides their tools/supplies.

3. Type of relationship

Do you have a written contract with the worker, or offer them benefits enjoyed by employees (for example, a pension plan, insurance or vacation pay)? Is your relationship with them continuing? Is the work they perform key to your business?

If you answered yes to some of these questions and no to others, you have a problem. You must consider all three factors together, and answer all questions the same way to clearly determine if a worker is an employee or an independent contractor for tax purposes.

IMPORTANT NOTE: Still can’t determine the worker’s classification? Complete IRS Form SS-8. Submit it to the IRS and they’ll make an official ruling for you.

Protect your business from undue expenses and claims. Make sure you’re classifying your workers correctly.

The IRS estimates that millions of workers nationally are misclassified² — and misclassification carries consequences at both the state and federal levels. State governments are passing more laws to protect employee rights, and are cracking down on employers that aren’t meeting their obligations; at the federal level, more frequent IRS audits are exposing unlawful employers.

1. Independent Contractor (Self-Employed) or Employee?, IRS
2. Misclassification of Employees as Independent Contractors, Department for Professional Employees