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Employee VS Independent Contractor

In order to account for payments made to service providers, you must decide whether those service providers are your employees or independent contractors by take “Degree of Control” and “Independence” into consideration.

Click on this link to be directed to complete information on degree of control & independence.

http://www.irs.gov/businesses/small/article/0,,id=99921,00.html

If they are your employees, then

  1. You must withhold appropriate taxes per Form W-4 and pay them along with your portion.
  2. You must comply with all labor laws (i.e. Workers’ Compensation, Working Condition and Minimum & Overtime Wage Law, and etc.)
  3. You must report taxes withheld and wages paid using Form W-2.

If they are independent contractors, then

  1. You must have them fill out Form W-9.
  2. You must report the total payment in a given year on Form 1099.

Effects of Misclassification of Employees

Temporary employment or having a filled-out Form W-9 does not automatically give the title of independent contractor. When fraudulently misclassify employees as independent contractors just to save costs involving payroll related expense such as workers’ compensation insurance premium, minimum wages and overtime wages can be costly. If such activity gets caught during an audit, you may be liable up to 41.5% of all payments made to false independent contractors for the last three years as penalty and tax and also may be liable to other penalties that IRS may impose. Furthermore, you may pay penalties to labor department and you may go to jail on certain cases.