It is critical that the US business owners correctly determine whether the individuals providing services are employees or independent contractors.
As a company, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. You do not generally have to withhold or pay any taxes on payments to independent contractors.
If you are working with an independent contractor of a self-employed person:
- They are a business owner or contractor who provides services to your business
- You as a company do not determine what or how the work is performed
- You as a company only determine the result of the work performed
For more information on independent contractor tax obligations, see IRS's Self-Employed Tax Center.
Determining Whether the Individuals Providing Services are Employees or Independent Contractors- Common Law Rules
There are three categories that determine the degree of control and independence of a service provider:
- Behavioral: Does the company control or have the right to control what the worker does and how the worker does his or her job?
- Financial: Are the business aspects of the worker’s job controlled by the payer? (these include things like how the worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
- Type of Relationship: Are there written contracts or employee type benefits (i.e. pension plan, insurance, vacation pay, etc.)? Will the relationship continue, and is the work performed a key aspect of the business?
A company must weigh all these factors when determining whether a worker is an employee or an independent contractor. Some factors may indicate that the worker is an employee, while other factors indicate that the worker is an independent contractor. According to the IRS, there is no set number of factors that makes the worker an employee or an independent contractor, and no one factor stands alone in making this determination. Also, factors which are relevant in one situation may not be relevant in another.
It would be best if you looked at each case holistically while considering 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.