This topic gets confusing for many, so know that you are not alone. Having the proper knowledge and resources when it comes to deciding you want to bring someone on your team can make all of the difference. If you are still finding yourself with questions after you dive into the info below, send us a message, we will be happy to help.
While organizations might pay the same or similar wage to employees and independent contractors, there are major legal differences between both entities. When it comes to independent contractors, organizations do not withhold taxes. For employees, on the other, income taxes are withheld by the company. Additionally, labor and employment laws that do apply to employees don’t apply to contractors. The status of every individual is determined through various tests under unemployment insurance worker’s compensation laws.
There are many factors that a company weighs in order to identify whether an individual is an independent contractor or an employee. Read our detailed comparison of contractors vs. employees to understand the differences between the two. Let’s first talk about why the difference between these two terms and positions matter.
Contractors vs. Employees; Why Does the Difference Matter?
The taxes that you pay and the way that you pay them depends greatly upon whether you are classified as an independent contractor or an employee. It plays a major role in determining your eligibility for worker’s compensation, Medicare, unemployment benefits, and other protections. Typically, it is mandatory for employers to classify individuals working under their control and direction as employees. Any individual working other than a setting as such may be classified as an independent contractor.
Business owners must correctly determine whether the people providing services to them are independent contractors or employees. Generally, employers are required to withhold and pay Medicare and Social Security taxes, pay unemployment taxes to the employee, and withhold income taxes. This is not the case with independent contractors. Remember, if you are a contractor or business owner that performs services for other businesses, then you will be referred to as someone who is self-employed, i.e., an independent contractor.
Distinguishing an Employee from a Contractor; A Few Simple Steps
The International Revenue Service (IRS) takes certain factors into consideration to determine whether a worker should be termed as an employee or an independent contractor. Those factors include but are not limited to the following:
Whether the worker is required to execute company training. If they are, they are most likely classified as employees since independent contractors are usually not required to indulge in any sort of mandatory training sessions.
How, where, and when the work is performed. Whether the work is performed at the employer’s choice of place or if the worker performs the work at their own place are two important considerations to determine whether an individual is an employee or an independent contractor, respectively. The IRS also checks if the employee is working pre-set hours or if the independent contractor works at any time they want. Lastly, the IRS focuses on the tools used by the individual in question, whether the employee uses the tools provided by the employer to perform their work or the independent contractors utilizes their personal work supplies.
What is the duration of the job or tasks? The IRS checks whether an employee is performing ongoing/continual work or if the contractor is simply taking on temporary projects with defined endpoints.
The wages that an individual receives. An organization pays the employee monthly, weekly, or hourly wage, whereas the independent contractor simply receives payment once they complete a project.
Travel expenses. While travel expenses for employees are often covered by the company they work at, independent contractors pay for their own travel bills.
Out of the total 20 factors that the IRS takes into consideration before labeling an individual as an employee or an independent contractor, the aforementioned 5 factors are the most common ones used.
Now that you understand the importance of classifying employees and independent contractors into two separate groups, it is time to learn about the legal consequences of failing to do so.
Legal Consequences of Misclassifying Employees and Independent Contractors in Maine
It is illegal to misclassify employees and independent contractors in the state of Maine. This is because it usually leads to employees avoiding unemployment coverage, worker’s compensation insurance, and other withholdings and employer-paid taxes. When employers misclassify workers, it can result in serious consequences, including interest and tax penalties, expensive lawsuits, back unemployment insurance premiums, and safety and labor law violations.
If you, as an employer, classify an employee as a contractor without having a reasonable basis for it, you can be held liable for paying the employment taxes for that specific worker.
If you have a valid reason for treating an independent contractor as an employee, then you may be exempted from having to pay that worker’s employment taxes. However, you need to file all necessary federal information returns that are required to benefit from this relief.
Social Security Tax Forms
Workers can use Form 8919, Uncollected Social Security and Medicare Tax on Wages, if they believe that their employer has classified them improperly as an independent contractor instead of an employee.
Voluntary Classification Settlement Program
This optional program enables taxpayers to reclassify their workers as employees for employment tax purposes for future tax periods. Workers are required to submit an application using Form 8952, Application for Voluntary Classification Settlement Program, to participate in it.
The taxpayer may also provide the name of an authorized representative along with the application. The IRS will then review the application, verify the eligibility of the taxpayer, and finally, contact the authorized representative or the taxpayer to complete the process.
While an independent contractor isn’t paid through the payroll, employees are. Determine which one you are working with in order to optimize your business processes and steer clear of hefty penalties. If you are working with the latter, make sure to hire a local professional payroll service that can take all payroll responsibilities away from you, allowing you to focus on other important aspects of your business As always we are here to be a resource for you! Give us a call or send us a message if you need help navigating!