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Employee Versus Independent Contractor Policy

Generally an employee relationship exists when the person for whom services are performed has the right to control and direct the individual who performs the services, not only as to the result to be accomplished by the work but also as to the details and means by which it is to be accomplished. That is, an employee is subject to the will and control of the employer not only as to what shall be done but how it shall be done. In this connection, it is not necessary that the employer actually direct or control the manner in which the services are performed; it is sufficient if he has the right to do so. The right to discharge is also an important factor indicating that the person possessing that right is an employer. Other factors characteristic of an employer but not necessary in every case, are the furnishing of tools and the furnishing of a place to work, to the individual who performs the services. In general, if an individual is subject to the control or direction of another merely as to the result to be accomplished by the work and not as to the means and the methods for accomplishing the result, he is an independent contractor. An individual performing services as an independent contractor is not as to such services an employee under the usual common law rules. Individuals such as physicians, lawyers, dentists, veterinarians, construction contractors, public stenographers, and auctioneers, engaged in the pursuit of an independent trade or business or profession in which they offer their services to the public are independent contractors and not employees.

Publications that deal with employee versus independent contractor situation:

• IRS Publication 539, Employment Taxes
• IRS Publication Circular E, Employer's Tax Guide
• IRS Publication 937, Business Reporting, Employment Taxes and Information Returns

Types of Employment Relationships
There are four common types of employment relationships recognized by the Internal Revenue Service. These relationships are as follows:

• A common law employee;
• A independent contractor;
• A common statutory employee; or
• A statutory nonemployee.

Individuals who follow an independent trade, business or profession are generally not employees. This category includes lawyers, contractors, subcontractors, accountants, auctioneers, etc. who offer their services to the general public. The general rule of thumb is that an individual is an independent contractor if you, the employer, have the right to control or direct only the result of the work and not the means and method used to accomplish the result.

Common Law Employee
Under the old common law rules, every individual who performs services that are subject to the will and control of an employer, as to what must be done and how it must be done, is an employee.

If you have an employee relationship it makes no difference how it is described. Consequently, it does not matter if the employee is called an employee, agent or independent contractor. It does not matter how the payments are measured, how they are made, or what they are called. Also, it does not matter if the employee is full-time, part-time or an employee hired for a short period.

Two of the usual characteristics of an employer-employee relationship are that the employer has the right to discharge the employee and the employer supplies the tools and a place for him to work. In an employee relationship it does not matter whether the individual is employed full-time or part-time and there is no distinction between classes of employees, i.e. managers, supervisors or other types of personnel.

Statutory Employee
A statutory employee is an individual who works for you but is not an employee within the meaning of common law employee as described above. Types of statutory employees are:

• An agent or someone who is paid on commission. For example this would include a driver who distributes bakery or meat products or picks up laundry or dry cleaning.
• A full-time life insurance sales agent who works primarily for one insurance company.
• An individual who works at home on materials or goods which you supply and which must be returned to you or someone you specify.
• A full-time traveling or city salesperson who works on your behalf and turns in orders to you from wholesalers, retailers, contractors, or operators of various establishments. The work performed for you must be the salesperson's principal business activity.

Statutory Non-employee
This category includes direct sellers and licensed real estate agents. Direct sellers are individuals who engage in selling in the home or at a place of business other than in a permanent retail establishment. Payments for services to these individuals are related to sales or other output rather than to numbers of hours worked.

Tax Reporting and Withholding Requirements

• Independent Contractors . You do not have to withhold or pay income or social security taxes on payments you make to independent contractors. Usually they will be sent a Form 1099-MISC at the end of the year if the payments made during the year aggregate to more than $600. Backup withholding may be required if the independent contractor does not furnish you with a Federal Identification Number.

• Common-Law Employees . Income taxes and social security will have to be withheld on payments made to common-law employees. In addition, your agency is responsible for the employer's portion of FICA and must make contributions to the Employment Security Commission or to the Trust Fund set up to cover payments to eligible unemployment compensation recipients. Common-law employees will receive a Form W-2 at the end of the calendar year for all compensation received during the year.

• Statutory Employees . You do not have to withhold federal income taxes on payments made to statutory employees; however, you must withhold social security. Your agency will have to make payments for unemployment compensation purposes for categories (1) and (4) above. A statutory employee will receive a Form W-2 at the end of the year.

• Statutory Non-employee . You do not have to withhold or pay income taxes on payments made to statutory non-employees. Statutory non-employees will receive a Form 1099-MISC at the end of the year.

Part Time Workers
For income tax withholding, social security, and federal unemployment tax purposes there are no differences between full-time employees, part-time employees, and employees hired for short periods. It does not matter whether the worker has another job or has the maximum amount of social security tax withheld by another employer. Income tax withholding may be figured the same way as for full-time workers.

Common Misclassifications for a Governmental Employer
One of the major differences between a governmental employer and a private sector employer is the presence of budgetary constraints. While a private employer may develop a budget to assist in the planning and operation of its business, this budget does not become the binding legal document that it becomes for a governmental employer. It is the effort to remain within the constraints of the budget process that can possibly cause a misclassification of workers for FICA and FITW purposes. The following are examples of the problem areas you may encounter.

• An employee may retire and return to work under a personal service contract to assist in the training of his replacement, to help out during a busy time, or on a permanent part-time basis. Although not a budgeted position, this worker may still be your employee for FICA and FITW purposes.

For employees who have returned to work following retirement and are presently receiving benefits under the Retirement Plan, the income limitations for State salary payments and State payments for contractual services are the same. See Your Retirement Benefits for more information.

• Due to an increased work load, there may be a need to hire workers although a budgeted position may not be presently available. Sometimes this is done with the intent of placing the worker in a budgeted position at such time as it is approved or becomes available. The worker may still be an employee for purposes of FICA and FITW.

• When a critical position is about to become vacant through retirement, transfer, or for whatever reason, it is sometimes necessary to find a replacement and have him trained before the position actually becomes available. Although the worker is not in a budgeted position while working under a personal service contract, he may still be an employee for purposes of FICA and FITW.

• When an employee is on extended leave for medical (including maternity), educational, military or for other purposes, it may be necessary to have his/her work performed by a temporary worker. In the past, the worker providing backup service has often been paid under a personal service contract. While acceptable for budgetary reporting purposes, this may not be correct for purposes of FICA and FITW.

• It may be necessary to contract with a worker to provide a service that would normally be provided by an employee, except for the fact the State's salary schedule is not satisfactory to attract qualified personnel. In this instance, the contracted worker may be an employee for purposes of FICA and FITW.

When reviewing the status of a personal service contract, the substance of the relationship with the person involved will be the controlling factor when in conflict with the actual form of the contract. Therefore, even though the worker's contract contains statements to the effect "this is not to be considered an employee relationship", "worker acknowledges he is responsible for all applicable taxes" or "worker is to be considered an independent contractor", etc., will not take precedence if under the common law factors the State exercises sufficient control over the worker to establish an employment relationship.

The following are workers that should not be considered employees for purposes of FICA and FITW.

• When the agency contracts with a temporary personnel agency or employee pool to have work performed, the personnel agency will be the employer of the worker for purposes of FICA and FITW. This is also the case with technical service providers who are employees of a technical service company.

• An individual performing services as an independent contractor is not as to such services an employee under the usual common law rules. Individuals such as physicians, lawyers, dentists, veterinarians, construction contractors, public stenographers, and auctioneers, engaged in the pursuit of an independent trade or business or profession in which they offer their services to the public are independent contractors and not employees. See discussion of control and the applicable common law factors for more details.

• Corporations, partnerships, joint ventures, estates, trust, non-profits or other legal entities are not your employees for purposes of FICA and FITW.

Elements of a Good IC Agreement

• Do not provide for excess control.

• Do not use words associated with employees. "employee", "manager", "officer", "supervisor".

• Do not provide for termination at will. Contract should demand specific performance.

• Follow agreement.

• Substance over form rule. A well drafted IC agreement will not turn an employee into an IC.