Over the past several years, hiring activity has been on an upward trend for small businesses. At the same time, the types of jobs being generated by small businesses are shifting, as the general economy evolves and changes. Most notably, the “gig economy” is on the rise, and contracts between organizations and independent contractors for short-term engagements are becoming more prevalent.
The effects of this have spilled over to impact small businesses and the types of employment they are generating. In a report presented by Score in 2017, the area of largest hiring growth among those small businesses surveyed was in one-time project or gig workers at 37%. Furthermore, 18% of businesses reported replacing employees of any type with contractors over the past six months. There are a variety of reasons that small business owners choose to work with independent contractors. Some of the most common reasons include the need for their specialized expertise, the need to fulfill seasonal or temporary needs, and the benefit of not needing to have ongoing reserves for payroll that regular employees require. Many employers also hope to circumvent some of the added costs and complexities of offering employee benefits like health care and retirement plans.
Avoid IRS Crackdown
While hiring independent contractors frees employers from paying state and federal payroll taxes, and/or other employee benefits, classifying a worker as an independent contractor comes with an added layer of risk.
Understanding the difference between an independent contractor and an employee is critical for employers, especially because the IRS is cracking down on employers who misclassify employees as independent contractors. If you incorrectly classify a worker as an independent contractor without a reasonable basis for doing so, you may be held accountable for paying employment taxes for that worker.
That being said, it can be tricky to determine how a worker should be classified. As the IRS website states, “There is no “magic” or set number of factors that “makes” the worker an employee or an independent contractor, and no one factor stands alone in making this determination.” There are, however, three categories of evidence that can help an employer determine if a worker should be classified as an independent contractor or not. These categories include:
Behavioral: Does the company have the right to direct and control the work that the worker does? This makes the worker an employee.
Financial: Does the business control the economic aspects of the worker’s job, such as how the worker is paid, whether or not they are reimbursed, and who is providing the tools or equipment needed to perform the work? Employees are more likely to receive a regular wage, be reimbursed, and be provided with the equipment needed to perform the work.
Type of Relationship:How do the worker and business perceive their relationship to one another? If a worker is hired with the expectation that the relationship will continue indefinitely if they receive benefits, and if the services they are providing are a key aspect of the business, they are probably considered an employee.
The above categories of evidence contain factors that help an employer determine whether or not a worker is considered an employee or an independent contractor. Making this determination requires careful consideration and attention to unique circumstances. As the IRS website states, “The keys are to look at the entire relationship, consider the degree or extent of the right to direct and control, and finally, to document each of the factors used in coming up with the determination.”
In conclusion, more and more small businesses today are working with independent contractors. While working with independent contractors can be a great option for many small business owners, it comes with an added layer of risk and employers need to be adept at knowing whether to classify workers as independent contractors or employees to avoid IRS crackdown.
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Tom DiSilva has been providing professional human resource services for over 30 years. As the CEO of Navigate PEO, he actively partners with organizations of all sizes in the Greater New England area and across the country to help their businesses grow. He has expertise in HR and Labor Management, offering guidance and support for key areas of business such as negotiations, operations management, employee coaching, and employee benefits design.