For some, the line between an employee or an independent contractor can be unclear, especially if a business wants to save money. It doesn’t matter if an incorrect judgment is made inadvertently or purposely. The Internal Revenue Service imposes large fines on companies making this mistake, requiring business owners, employees and independent contractors to know the differences between each.
A person who is given training for the work expected is an employee. He generally works for only one employer, and his supervisors set the expectations regarding how his work duties will be completed. In addition, he is told what he will do while he is at work. His employer will decide what work he will do and the time frame in which it will be completed. The employee uses the employer’s equipment, such as desk, phone, computers, copiers, and fax machines.
The employer deducts federal and state income taxes from the employee’s paychecks, along with FICA withholding. The employee has 7.65 percent deducted from each paycheck and the employer pays the other 7.65 percent. He keeps detailed payroll records for each employee, including hours worked, sick/annual leave earned/used, and hourly pay rate, which helps ensure that paychecks are accurate.
An independent contractor, also known as a freelancer or a 1099 worker, has her own business name. She may keep a separate checking account for business expenses. She sends invoices out to each client on a regular basis so she can be paid for her services. She has several clients, which helps her create multiple streams of income. She advertises her services, either through word-of-mouth, print, banner ads or radio ads.
She maintains her own business records customized to her own business and its needs. She has bought her own tools, such as a computer, wireless router, copier, printer, fax machine, phone and a desk. She may rent office space. She may also have her own employees. As an independent contractor, she is able to establish her own working hours. Unlike the employee, she is responsible for deciding how work assignments will be completed. She can decide what actions are necessary for getting the work done.
The independent contractor is solely responsible for keeping accurate tax records. She is responsible for deducting her own income taxes, as well as 15.3 percent of her self employment, or her FICA deductions.
To cut payroll costs, some employers have classified employees as independent, or 1099 contractors. Employers can run afoul of the IRS if they incorrectly classify an employee as an independent contractor. If they have done so, they will be held responsible for paying back unpaid payroll taxes, to include penalties and interest. As it is conducting its investigation, the IRS will use several tests to determine if employees were incorrectly classified.