If you are an employer who believes that you determine whether someone who works for you is an employee or an independent contractor, you are mistaken!
How many times have we heard an employer say that the worker is an employee and the worker agrees as evidenced by an independent contractor agreement that both parties signed? A written agreement between a worker and the worker’s employer does not control the worker’s status. Pennsylvania’s (PA) Unemployment Compensation (UC) law requires an examination of the facts to determine if the worker is an independent contractor. Whether the services are performed on a full-time or part-time basis is immaterial to an individual’s employment status.
Contrary to what some employers believe, the following factors are not conclusive in determining independent contractor status:
- Employer designation, either verbally or in writing, that an individual is an independent contractor
- Statement by an individual that he or she is an “independent contractor”
- Issuance of a Federal Form 1099
All employers doing business in PA must understand that under the PA UC law, for benefit and tax purposes, the term “employee” is PRESUMED to apply to EVERY individual who performs services for which he or she is paid. Unless specifically excluded from coverage, all work for which payment is made under any contract of hire, express or implied, written or oral, including work performed in interstate commerce or as an officer of a corporation, is covered by the UC Law. If you as an employer think that the deck is stacked against you, you are correct!
To be considered an “independent contractor,” the individual who performs the services must meet two conditions:
- The individual has been and will continue to be free from control or direction over the performance of the services involved, both under his or her contract of service and in fact, AND
- As to these services, the individual is customarily engaged in an independently established trade, occupation, profession or business.
Only if both of these conditions are met to the satisfaction of PA will the individual be regarded as an independent contractor. Unless and until those criteria are met, the services will be “employment” subject to the coverage of UC law.
Looking at the second test, factors that PA considers include:
- Possessing the essential tools, equipment and other assets necessary to perform the services independent of the person for whom the services are performed
- Realizing a profit or suffer a loss as a result of performing the services
- Performing the services through a business in which the individual has a proprietary interest
- Maintaining a business location that is separate from the location of the person for whom the services are being performed
- Previously performed the same or similar services for another person while free from direction or control over performance of the services both under the contract of service and in fact, or the individual holds himself out to another person as available and able, and in fact is available and able, to perform the same or similar services while free from direction or control over performance of the services
- Maintaining adequate liability insurance during the contract term
- As stated above, the burden of proof is upon the employer. Accordingly, employers should maintain sufficient documentation to support the reasons for classifying any individual as an independent contractor. PA will want to see the employer prove that the worker has been hired by others to perform work for them (and not be solely working for the employer being examined), that the worker is listed in telephone directories and the Internet as for hire, that the worker invoices the employer for services rendered on the worker’s stationery showing a business address, the worker’s federal and state tax ID numbers, and other indicia of self-employment. To obtain much of the requested information, the business owner will need the cooperation of the worker. If the worker is placing an unemployment claim against the employer, such cooperation in unlikely. As with all aspects of tax planning, it is best to obtain adequate documentation before the UC inquiry begins rather than afterwards.
There are perhaps some employers who realize that a worker being classified as an independent contractor is really an employee, but ignore the proper classification to avoid having to pay the employer’s share of Medicare and Social Security taxes, unemployment taxes, and workers compensation premiums. They tell themselves that since both the employer and worker have agreed to the independent contractor status, that PA can’t tax what they don’t know. This thinking is fraught with all types of issues. It is almost a sure thing that if the worker classified as an independent contractor loses his job or gets injured on the job, he will apply for unemployment benefits or workers compensation. Imagine the liability issue if a worker incurs a serious injury and the employer lacks insurance coverage. Since PA presumes that all workers are employees, PA will honor those claims. In addition, PA, the IRS, and the U.S. Department of Labor perform random audits of employers. If workers have been misclassified, the employer is placed in a very difficult position and could face very costly payroll penalties related to failure to timely remit payroll taxes. In addition, if the employer has employee benefit programs, the misclassified worker may be entitled to those same employee benefits.
One of the advantages of using an experienced tax professional is that you always have someone to call about your tax concerns. If you want to learn more about the classification of your workers and how working with a tax professional for tax preparation and tax planning services will benefit you, we invite you to call 610-594-2601 today to make an appointment at our Exton PA CPA office to discuss your situation. You can also schedule a consultation at Click Here.