Who Is An Independent Contractor?

A "hot button" topic these days is whether a worker is an independent contractor or an employee. This topic arises both in work and tax arenas, and is not a simple issue. In the work arena the issue often arises when someone applies for unemployment compensation benefits. In Pennsylvania someone who is an independent contractor is not eligible for unemployment compensation benefits, and is considered self-employed.

Pennsylvania Courts use a two-part test to make this distinction. It is:

(1) whether the worker was free from control and direction in the performance of the work; and
(2) whether the business is one that is customarily engaged in as an independent trade or business.

If the alleged employer opposes a claim for benefits based on an independent contractor defense, the alleged employer generally has the burden to prove that the worker was not an employee.

To determine whether a worker is free from the control and direction of an employer in the performance of work, Pennsylvania Courts frequently consider and weigh eight factors.

1) How the job was performed? Does a worker set his own hours, create his own work/task agenda, and/or decide how many other workers are needed for a particular task?

2) Whether there was a fixed rate of pay, who decides the cost of the services being provided, and who decides when/if raises are granted? The amount of money a worker earns is not significant in the analysis.

3) Whether taxes are deducted from the worker's pay, or is a W2 or a 1099 issued?

4) Whether the alleged employer supplies the tools necessary to carry out the services being provided?

5) Does the alleged employer offers on-the-job training?

6) Whether there were regular meetings with the alleged employer?

7) If the business fails, will the worker only lose his job, or will he have the responsibility to satisfy the business's potential creditors? Does the worker work exclusively for one employer, or is he free to accept other jobs at the same time?

Ultimately, all of the above factors can be reduced to two words: The first is FREEDOM. Does the worker have the freedom to set his own schedule, to establish his own pay rate, to compete with the business? The second is RESPONSIBILITY. Does the worker pay his own taxes, use his own tools, and/or bear the risk and burden of financial loss in the business?

Generally under the IRS regulations, a worker is deemed to be an independent contractor rather than employee if the employer has the right to control or direct only the result of the work and not the means or methods by which the results are accomplished. A worker is classified as an employee if the employer has the right to control what will be done and how the services will be performed.

The IRS regulations focus on

(1) relationship of the worker and the business,
(2) the degree of control exercised by the business on the worker, and
(3) the worker's degree of independence.

The IRS also has regulations specific to certain jobs and salespeople, drivers, and other persons who generally don't work in an office setting and has further criteria to determine if federal taxes should be withheld for them. In some cases although W 2's versus 1099's are provided, some taxes need not be withheld and some expenses can still be deducted by the worker.

The IRS seeks to qualify as many workers as possible as employees rather than independent contractors, so that taxes can be collected. IRS regulations take into account the behavioral control, financial control, and the type of relationship of the parties in making this analysis. Many of these factors are the same ones as discussed above in the unemployment compensation context, so they won't be repeated. Other factors which are considered in determining the relationship between a worker and an employee are: whether there is a written employment contract; whether the worker is provided any benefits such as insurance, pension plan, vacation pay, or sick pay; and whether there is a finite end date for employment of the relationship.

If a worker is erroneously classified as an independent contractor rather than an employee, the employer will be held liable for all of the employment taxes, but if the employer has a reasonable basis for misclassifying a worker, they will not be held liable. Such relief is only provided if the employer filed all required federal information returns on a basis consistent with the treatment of the worker, such as showing that all workers in a substantially similar position were classified in the same manner.

Businesses should consider reviewing their current payroll practices. Documentation and record-keeping procedures should be reviewed and updated if necessary. Even if a worker is found to be misclassified by the employer, the employer may still be entitled to partial relief from federal employment taxes if they participate in the Voluntary Classification Settlement Program (VCSP). There are specific requirements for participation which I won't delve into here. SUFFICE IT TO SAY THAT THE QUESTION OF EMPLOYEE CLASSIFICATION IS QUITE COMPLICATED AND BECOMING MORESO.

By: Faye Riva Cohen, Esquire
Law Office of Faye Riva Cohen, Esquire
2047 Locust Street
Philadelphia, PA 19103
P: 215-563-7776
F: 215-563-9996
Email: frc@fayerivacohen.com
URL: http://www.fayerivacohen.com