1. The Case of the Employee vs. the Contractor
From the moment he brushed the chalk from his fingers, Walter knew. This “Ernest” was going to be trouble.
Two weeks had passed since Walter hired Ernest “The Chalk” Johnson. For two weeks, Ernest had created chalk art for the menu boards of Walter’s Bread, Bagel, & Butter bakery. And the question still lingered:
Does the IRS consider Ernest “The Chalk” Johnson an employee or a contractor?
Here at Tax1099, powered by Zenwork, we strive to simplify your tax filing process. You may not realize that this process begins the moment you hire a worker. You are responsible for collecting information from that worker. An important step is classifying the worker.
What do we mean by “classifying the worker?”
Drawing a distinction between employees and contractors can be difficult. Just ask Walter.
Walter from Bread, Bagel, & Butter hired three workers:
- Vivian, to construct a new display case for the bread and bagels,
- Marni, to work the front counter, and
- Ernest, to create chalk art for the bakery’s menu boards.
“Do I direct the when, where, and how of the work?”
No single factor determines the status of a worker. But the answer to this first question helped Walter reveal the status of his workers, Vivian and Marni. This question encompasses many of the factors involved in the determination, such as:
- The amount of instruction and training
- The flexibility of schedule and demands for full-time work
- The provision of tools and materials
Vivian is self-directed in building the bread and bagel case; she decides when, where, and how to work on the case.
Vivian works from her workshop, using her own tools. Vivian hires and instructs assistants for this task. She receives no instruction from Walter on how to cut the boards, insert the glass, etc. Vivian makes her own schedule for the work. When the job is complete, the working relationship will be terminated.
All things considered, Walter identifies Vivian as a contractor.
Marni agrees to work 5 am – 11 am every Sunday – Friday at the bakery. Marni will work a total of 36 hours a week.
Walter requires Marni to go through company-sponsored training for customer service. Walter provides the cash register and bakery items. Walter intends for Marni to stay on as a cashier at the bakery indefinitely.
Marni is most likely an employee.
But what about Ernest, the chalkboard artist? To Walter, solving that mystery was like running up against a brick wall.
So Walter turned an eye to the cold, hard facts:
Walter asks Ernest to work on the menu boards in the bakery every Monday at 8pm. Walter leaves the artistic interpretation of the menu items up to Ernest. For this task, Ernest brings his own chalk and supplies. Ernest expects that giving the menu boards a new look will take around 3 hours a week.
This could make Ernest either a contractor or an employee.
To get a better senses of Ernest’s worker status, Walter looks at some other determining factors.
Degree of business integration:
Does Ernest’s work significantly affect the success of the company?
Ernest’s Instagrammable chalk art adds to the success of the company. He might be an employee.
Control over discharge & right of termination:
Does Ernest have the ability to terminate his services?
Ernest’s contract with Walter states that either party can terminate the services. This could mean that Ernest is an employee or a contractor.
Continuity of relationship:
Will the relationship continue indefinitely? Or is the relationship based on multiple, sequential projects?
Ernest’s chalk art projects might fall under the category of sequential projects. This could mean that Ernest is an independent contractor with Walter’s bakery.
Work for multiple companies:
Does Ernest provide chalk art for other unrelated companies?
Ernest makes his services available to the general public; he is open for hire. This indicates that Ernest is an independent contractor.
Does Ernest need to provide Walter with a status report?
Ernest is not required to provide Walter a status report – Ernest comes in, creates the new menu board art, then leaves the bakery. This sounds like the work process of a contractor, rather than an employee.
Method of payment:
How/when is Ernest paid?
Walter plans to pay Ernest each week. Payment upon project completion could indicate a contractor relationship.
Payment of business or travel expenses:
Does Walter pay for the materials involved in Ernest’s art?
Walter expects Ernest to bring his own chalk and supplies. Walter does not reimburse Ernest for chalk used in designing the menu boards. This suggests a contractor relationship.
Taken together, the answers to the questions above suggest that Ernest is a contractor. Of course, Walter references a full list of questions regarding worker classification, which he found here.
Walter likes to play it safe, so he opts for another safeguard. Walter can base Ernest’s classification off the “safe harbor” reasonable basis test.
Walter can make a determination based on how the IRS has classified similar workers in the past. Walter might look into longstanding, recognized industry practices.
Say Walter wants to be absolutely sure of Ernest’s status, though.
The IRS provides Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding.
Either Walter or Ernest can file this form. The determination can take six months … so, if Walter wants to file that form, he should file quickly.
Deciding whether a worker is an employee or a contractor depends on several factors. The IRS cites these as the three most important:
- Behavioral: Does the company control, or have the right to control, what the worker does? When, where, and how the job is complete?
- Financial: When is the worker paid? Are tools provided? Are expenses reimbursed?
- Type of Relationship: Are there written contracts? Employee benefits, such as insurance, vacation, retirement? Will the relationship continue?
Walter has determined the status of his workers. Just as he’s ready to enjoy a cup of joe, he realizes … he’s got no leads on Ernest’s legal name and TIN. Will Walter collect the information before it’s too late?
Tax1099 provides fast, secure, and accurate e-filing. We also offer vendor management services: e-solicitations of W-9’s, and TIN matching. Click here to get started.