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March 10, 2016
Business Management  |  3 min read

Hiring Independent Contractors: Are You Breaking the Law?

By Rieva Lesonsky

Need help in your business, but not ready to hire full-time employees? Large and small businesses alike understand the advantages of hiring independent contractors. You save money by not having to pay benefits, you can hire by the project, and you can get the services of specialized workers you might not be able to afford to hire full-time.

Studies by the Bureau of Labor Statistics and the Government Accountability Office show there are currently more than 20 million freelancers seeking assignments. But before you hire an independent contractor, it’s important to be sure you’re in compliance with the Internal Revenue Service (IRS) tax laws.

If the IRS rules that an independent contractor should actually be classified as an employee, you may be liable for employment taxes for the worker’s wages. The IRS has consistently cracked down on companies for misclassifying employees as independent workers—so much so that some companies have shied away from using independent contractors altogether.

You don’t have to give up on hiring independent contractors—but you do need to understand some simple rules that will keep you in compliance. In general, whether a person is classified as an employee or an independent contractor is based on how much “independence” they have. These three tests used by the IRS to assess a worker’s independence.

1. Behavioral test

Do you instruct the worker what to do on a daily basis? Do you control the method used to complete the job? Do you require certain hours be worked or specific tools be used to get the job done? Do you require the work to be done on location at your business?

2. Financial test

How is the worker reimbursed for expenses? Or are they reimbursed at all? Who provides the equipment used? Is the person paid a salary or per project? Is the worker able to provide similar services to other companies without any restrictions?

3. Relationship test

Is there a contract with the worker, and does the working relationship continue or end when the project is completed? Does the worker get any benefits such as health insurance?

If you’re not sure how a worker should be classified, ask an expert like your accountant for help. You can also file Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding. The IRS will assess the specifics of your new hire and make an official decision as to the worker’s status. It’s long been rumored that the IRS targets businesses that may be misclassifying independent contractors, so be extra careful when hiring them.


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