Are you and employer wondering: What is an Independent Contractor?
Public and private sector employers alike often face the challenge of requiring additional staff as the result of an increase in workload. This can be a positive and exciting situation for growing businesses, but also raises a number of questions. Is full-time or part-time help necessary? What sort of qualifications are required? What are the associated costs?
Should I hire an Independent Contractor?
Before answering any of the questions above, an employer must first answer: Should we hire an employee or an independent contractor for the work? There are substantial financial benefits to independent contractor arrangements, however, worker classifications are not interchangeable, and failing to properly classify employees can lead to significant liability for the employer in the future. The Department of Labor can assess significant fines and penalties for failure to properly classify workers, so it is imperative that employers evaluate this.
Worker classification is often categorized by the IRS tax documents that the workers receive. A traditional employee receives a “W-2” form, and the employer is required to withhold taxes from the employee’s pay, as well as pay the Pennsylvania unemployment tax, as well as half of the employee’s Social Security and Medicare tax. Numerous other state and federal rules and regulations regarding employee relations also apply.
Conversely, independent contractors are given a “1099” tax form. Employers are not responsible for any portion of the taxes for a 1099 employee, nor do they need to withhold any funds from the worker’s paycheck.
In many cases, an independent contractor arrangement is the more financially desirable option for the employer. However, there are strict criteria for who can be designated as an independent contractor – the label cannot be assigned arbitrarily.
Independent Contractor Criteria
Under current IRS regulations, there is a three-part test to determine what type of relationship is proper.
- Behavioral Control: In order to be an independent contractor under federal and Pennsylvania law, the worker must “independently control their working conditions.” In other words, if you train the worker, direct their tasks, set specific hours, and dictate how the work should be completed, the IRS is more likely to classify them as an employee. On the other hand, if the worker sets their own hours and decides how and when to get the job done, they could potentially be classified as an independent contractor. So a consultant who comes and goes on their own hours and largely performs tasks at their own discretion is likely to be a 1099 employee, while an employee is more likely to have set hours and regular supervision.
- Financial Control: If the worker is paid a salary or a guaranteed wage, they are likely classified as an employee. Independent contractors are also typically responsible for the purchase of their own “tools” and may work for other businesses. For instance, if you provide a worker a computer, office supplies, and a salary, it is likely that this is an employee, but if the worker is bringing their own equipment and paid by the hour, it is more likely to be a contractor.
- Type of Relationship: This portion of the three-part test is the most ambiguous, but essentially looks at the relationship as a whole and tries to determine if “employee” or “contractor” is the best descriptor. This qualifier examines the duration of the relationship, the nature of the work performed, whether the work is exclusive, and the expectations for the future. It is unclear at this time how this will work in practice, and at least until more specific criteria are developed, will require a deep dive into the exact nature of each relationship and the future expectations therein.
New Independent Contractor Definition Rule Taking Effect on March 8, 2021
The DOL has issued a final rule, dated on January 6, 2021, but not taking effect until March 8, 2021, that has set out new criteria for this evaluation. The DOL will continue to apply the three-part test, however, under the new analysis, two core factors will be critical in determining whether a worker is an independent contractor or not.
- The nature and degree of control over the work.
- The worker’s opportunity for profit or loss based on initiative and investment.
Other factors that are considered, but that are secondary to the above, are
- The amount of skill required for the work.
- The degree of permanence of the working relationship between the worker and the potential employer.
- Whether the work is part of an integrated unit of production.
The new rule affirms that the “economic reality” of the relationship is the controlling factor in any investigation or determination, not the terms of the employee contract or the handbook. As such any investigation will focus on the real, practical, and day-to-day nature of the work.
When will new independent contractor definition go into effect in the US?
At this time, it is unclear if the above rule will go into effect on March 8th, as the incoming Biden administration may choose to delay this ruling. Maiello Brungo & Maiello’s Human Resource attorneys are available to consult with you about any incoming workers in the new year to make sure they are properly classified. Contact us today at 412-242-4400 or [email protected] with questions.