Employee vs. Independent Contractor

Contraposing Employee vs. Independent Contractor we empathize the main factors a business owned should take into consideration.

One of the basic decisions that a business owner must make for his business is how to pay compensation. One element of this “compensation” issue is whether to pay a worker as an employee or as an independent contractor.

If a worker is an employee, the business, as the employer, is required to withhold federal and state income taxes and FICA taxes (Social Security and Medicare) from the employee’s compensation. In addition, the business must make FICA tax payments with respect to the employee.

On the other hand, if the worker is an independent contractor, the business, as the employer, is not required to withhold federal and state income taxes and FICA taxes from the independent contractor’s compensation nor make FICA tax payments with respect to the independent contractor. In effect, the independent contractor is responsible to pay his own income tax liability (including self-employment tax liability).

Another key distinction is how employees and independent contractors are treated under the law for non-tax purposes. Employees are generally covered under Federal and state employment and labor laws, including unemployment insurance and workers’ compensation laws. On the other hand, independent contractors are generally not covered under these laws.

How do you distinguish between employees and independent contractors? The Internal Revenue Service has stated, “The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work, not what will be done and how it will be done. Small businesses should consider all evidence of the degree of control and independence in the employer/worker relationship.

Whether a worker is an independent contractor or employee depends on the facts in each situation”. The Internal Revenue Service further has advised considering 3 categories –

“Behavioral Control” (“A worker is an employee when the business has the right to direct and control the work performed by the worker, even if that right is not exercised”),

“Financial Control” (“Does the business have a right to direct or control the financial and business aspects of the worker’s job?”), and

“Relationship” (“The type of relationship depends upon how the worker and business perceive their interaction with one another”) – to better determine how to properly classify a worker as an employee or independent contractor.