Now that it’s tax time are you sure you paid your workers correctly? Were you paid correctly? Did you issue W-2s or 1099s? If you’re working did you receive a 1099, but thought you were an employee? Oh ooh. Beware of those pesky employee classification rules. A W-2 is issued to an employee to provide an account of wages earned during the tax year. A 1099Misc is issued to someone who performed services for your business, but who is not an employee. Both a W-2 and a 1099 are ways of reporting income earned by someone to both the worker and the IRS.
The distinction between and employee and an independent contractor is important because there are different rules that apply to each kind of worker, including different federal and state tax implications. For example the Fair Labor Standards Act, 29 U.S.C. Sec. 201, et seq. govern certain kinds of employees and provide rules for paying minimum wages, overtime wages, comp time, etc. So knowing whether you have an employee or if you’re correctly classified as an employee is important to your bottom line as an employer or employee.
A leading 5th Circuit case on the issue gives us some guidance towards making the correct classification. In Brock v. Mr. W Fireworks, Inc., 814 F.2d 1042 (5th Cir. 1987), citing a 1947 Supreme Court[1] case, the 5th Circuit confirmed that the inquiry should be into the following factors to make the distinction between employee or independent contractor.
the degree of control exercised by the alleged employer;
the extent of the relative investments of the [alleged] employee and employer;
the degree to which the "employee's" opportunity for profit and loss is determined by the "employer";
the skill and initiative required in performing the job; and
the permanency of the relationship.
What it boils down to is this: If the alleged employer maintains a significant level of control over the worker, can direct the hours of work and the manner in which the work is performed, and where the worker has no control over the prices he/she can charge or no other source of income from work, the worker is most likely an employee. On the flip side, generally speaking, a worker will correctly be classified as an independent contractor if that worker maintains control over the price he can charge for his product or service, the manner in which the service is delivered and he can remain free to secure other work from other sources.
So, did you get it right? If not penalties can be assessed.
An employer who incorrectly classifies an employee as an independent contractor could be liable for back pay, liquidated damages equal to back pay, attorney fees, and court costs.
An employee who is misclassified risks losing overtime pay to which he or she may be entitled.
It pays to get it right. So ask yourself, W-2s or 1099s?
Stay tuned for a discussion covering hourly versus salaried employees, and non-exempt versus exempt employee.
Questions? Contact us at (713) 993-7310 or info@dcharleslaw.com
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[1] United States v. Silk, 331 U.S. 704 (1947), a case dealing with whether an employer owed Social Security taxes on certain workers.