Label Independent Contractors Correctly
At its most basic, the employee-independent contractor controversy boils down the argument that by labeling an electronic security systems marketer or professional as an independent contractor rather than as an employee, an employer can avoid the high costs and voluminous paperwork of a payroll.
In fact, under federal tax rules, all the employer is required to do is issue a Form 1099-MISC to the independent contractor. The independent contractor reports all the income and pays the tax on his or her individual return. Sounds good, but unfortunately, it may be too good to be true.
No Independent ContractorThe term â€œindependent contractorâ€ is not defined in federal tax laws. Surprisingly, the tax laws specifically prohibit the Internal Revenue Service (IRS) from attempting to define the term. At least they are prevented from issuing new rules about independent contractors until lawmakers eventually decide to address the issue and hopefully end the controversy.
Instead, it is up to those electronic security systems operations and other businesses that wish to use independent contractors to create a situation in which they do not control how the security professional performs a particular task for them.
The courts have described 20 factors that demonstrate control over a worker sufficient to classify that person as an employee. The IRS has adopted that lengthy, 20-part test into the tax regulations.
That test asks questions such as:
ï€´ Do the individuals set their own hours?
ï€´ Do they bring their own uniforms to work?
ï€´ Are they paid by the hour or by the job?
ï€´ Do they have a business listing?
ï€´ Are they insured?
ï€´ Do they advertise?
ï€´ Do they work for other businesses?
Even with that test, the classification issue is difficult, because the presence of any one of the 20 factors in a business relationship may be sufficient to classify a security professional as an employee. At the same time, the presence of some of those elements to a lesser degree may not cause a reclassification of independent contractor to employee.
How can any electronic security professional ensure that the IRS and other government agencies classify their independent contractors as such? First and foremost, the independent contractors should retain control of their work.
The most fundamental difference between employees and independent contractors is that employers have the right to tell their employees what to do and how to do it. It is acceptable for an employer to give detailed guidelines for the results expected. However, independent security professionals would not ask for or accept instructions or orders about how to do their jobs.
If a security professional runs absolutely no risk of loss, he or she is not really an independent contractor. This can be as simple as charging a set price for a job or engagement. If the project price exceeds expenses, an independent contractor will make money. If too little is charged, a loss will result.
Independent contractors also look like independent businesses. They do not accept employment benefits. Instead, they charge enough that health insurance, paid vacations or pension benefits are affordable. Independent contractors also find it is a good idea to maintain separate business bank accounts.
Most importantly, independent contractors make their services available to more than one person or company. Hanging out a shingle, advertising their services or joining a professional organization are all strong indications of independent contractor status.
Safe Haven for EmployersIf the IRS discovers that an employer has incorrectly labeled a security professional as an independent contractor, employment taxes for those workers can be avoided if the employer meets the relief requirements of Section 530. In order to qualify for that relief, however, an employer must meet all three of the following requirements:
ï€´ Reasonable basis â€“ A reasonable basis for classifying a worker as an independent contractor exists if the employer relied on a court case, an IRS ruling or if an earlier IRS audit failed to challenge the status of similar workers. Reasonable basis also can include similar treatment by a significant segment of the industry.
ï€´ Substantive consistency â€“ An employer must have treated the worker and any similar workers as independent contractors. This provision is not available to any employer that treated similar workers as employees.
ï€´ Reporting consistency â€“ To take advantage of the Section 530 relief requirements, an employer must have filed a Form 1099-MISC for each worker labeled as an independent contractor. If the employer did not file a Form 1099-MISC or filed it for some but not all workers in similar jobs, relief is not available for those for whom the forms were filed.
By Any Other NameThe controversy over the status of independent contractors versus employees continues to simmer. Every day, unsuspecting employers find themselves embroiled in it and all-too-frequently have workers relabeled.
For the security professional labeling himself or herself as an independent contractor, the repercussions of that relabeling may mean the loss of business expense deductions in the past, present and future.