By Howard Abrams
PBS Tax & Bookkeeping
Q: My owner-operator business is growing, and I need to have another driver. How do I pay him? Most drivers want me to just write them a check without withholding taxes.
A: Determining whether a person is an employee or an independent contractor has important tax consequences for the employee. Worker classification affects how you pay your federal income tax, Social Security and Medicare taxes, and how you file your income tax return.
As an employer, the worker classification affects your bottom line and will determine whether you have to file payroll tax returns (and incur additional costs) and include the worker in any fringe benefit plans you may offer.
Q: I don’t want to get involved with payroll taxes or payroll. What do I do?
A: You will need to hire a person who is an independent contractor. Hiring someone and simply saying that person is an independent can have dire effects on you. Failure to classify people properly can lead to penalties, interest and possibly IRS audits for failure to withhold and deposit payroll taxes if they are really employees.
Q: How will the IRS find out if I classify them incorrectly?
A: If you did not withhold payroll taxes from your workers and they get audited by the IRS for filing an improper income tax return or not filing at all, it could raise a red flag. It also could lead to you if you fire your workers or they quit and they file for unemployment benefits.
Since you did not pay payroll taxes, there are no funds in your unemployment account for the state to pay to your former workers.
Claims would then be filed and you would be in trouble with the IRS and your state.
Q: How can I be sure to hire an independent contractor?
A: Control is the key. If you have control over what work is being done and how it will be done, you are considered an employer and your hire is your employee. Therefore, you need to withhold payroll taxes.
Q: What is considered “having control”? How do I decide if a worker is independent or an employee?
A: A worker’s status is determined by a common law test. This result is determined by applying relevant facts that fall into three main categories: behavioral control, financial control, and the type of relationship itself. In each case, it is important to consider all the facts.
No single fact provides the answer.
Q: Can you explain?
Behavioral control: A worker is an employee when the business has the right to direct and control the worker. The business does not have to actually direct or control the way the work is done as long as the business has the right to direct and control the work.
- Instructions: If you give extensive instructions on how work is to be done, this suggests that you may be an employer. Instructions can cover a wide range of topics – for example, how, when or where to do the work, or what truck to use. If the workers are using your trucks, chances are they are an employee.
- Training: If you provide the worker with training about required procedures and methods, this suggests that the business wants the work done in a certain way and you may be an employer.
Financial control: These facts show whether there is a right to direct or control the business part of the work.
- Significant investment: A worker who owns his own truck may be an independent contractor. However, actual ownership may not be necessary to be an independent contractor. The worker can lease a truck.
- Expenses: If you do not reimburse for some or all business expenses, then your worker may be an independent contractor, especially if the unreimbursed business expenses are high.
- Opportunity for profit or loss: If workers can realize a profit or incur a loss, this suggests that they are in business for themselves and that they may be independent contractors.
Relationship of the parties: These facts illustrate how the business and the worker perceive their relationship.
- Employee benefits: If your worker receives benefits, this is an indication that he is an employee.
- Written contracts: A written contract should show what both the business and the contractor intend. LL
Everyone’s financial situation is different. This article does not give and is not intended to give specific accounting and/or tax advice. Please consult with your own tax professional.
This article is written by PBS Tax & Bookkeeping Service, a company that has been providing income tax and bookkeeping services to the trucking industry for more than a quarter-century. If you would like further information, please contact PBS at 800-697-5153 or visit their Web site at www.pbstax.com.