In a previous article, “Contractor Vs. Employee: What Are the Differences?”, we looked at the ways to determine whether an individual is an employee or independent contractor by introducing the categories for the degree of control and independence – Behavioral Control, Financial Control, and Type of Relationship. In this article, we will compare the personnel differences between independent contractors and employees by examining these categories more closely, including the degree of cost control held by each.
With regard to the personnel aspect of running a business, Behavioral Control means, Does the business control, or have the right to control, what the worker does and how the worker does his or her job? If a worker is provided with extensive instruction on how work is to be done and is trained on procedures and methods, the worker may be considered an employee of that business. Examples of instruction may include what tools or equipment to use; work-site related information; assistants that could be hired to help; and where to purchase supplies and services needed to perform the work. If a worker receives less extensive instruction on what should be done, but not how it should be done, the worker may be more of an independent contractor than an employee.
Continuing to think about the personnel aspect of a business, Financial Control means, Does a worker have a right to direct or control the work that the business does? If a worker has a significant investment in equipment, they utilize to generate income, along with the potential for incurring a loss, that worker may be considered an employee. Further, an employee can have a significant investment in equipment used but not have the potential to incur a loss because he or she is covered by wages. Conversely, an independent contractor typically does not have investments in a business’s equipment or responsibility for incurring income or losses. An independent contractor is generally free to seek out business opportunities by advertising his or her services, maintaining a visible business location, and being available to work. These activities are not typically done by an employee.
Next, we look at the factors that determine the Type of Relationship. Contracts and agreements are used to describe a relationship these documents intend to create. An independent contractor would sign a contract or agreement with a business featuring details about the specific purpose or job to be one and outlining a specific time frame in which it will be done. On the other hand, an employee and a business would most likely sign a contract or agreement with what work is to be expected from the employee and the salary or hourly rate and benefits the employee will receive in return. A contract or agreement between an employee and a business assumes that it will be a more permanent relationship.
On March 11, 2024, the Department of Labor announced the final ruling for properly classifying an individual as an employee or independent contractor under the Fair Labor Standards Act. This ruling rescinds the 2021 Independent Contractor Rule emphasizing the degree of control over the work and worker’s opportunities for profit and loss.
Effective March 11, 2024, the following criteria must be used to determine if a worker is an employee or independent contractor:
- The nature and degree of an employer’s control over the manner of work performed;
- The worker’s opportunity for profit or loss depending on their managerial skill;
- The worker’s investment in equipment or materials or employment of others;
- Whether the work performed requires special skills/initiatives;
- The permanency of the working relationship; and
- Whether the services rendered were integral to the employer’s business.
Unlike the prior rule, which had emphasized two core factors (the nature and degree of the worker’s control over the work and the worker’s opportunity for profit or loss), no one factor under this new rule is intended to be weighed more heavily than another when analyzing whether a worker is properly classified. The economic reality test set forth by the final rule focuses more broadly on a worker’s economic dependence on an employer, considering the totality of the circumstances.
The misclassification of employees as independent contractors may deny workers a minimum wage, overtime pay, and other protections. This final rule is aimed at reducing the risk that employees are misclassified as independent contractors while providing a consistent approach for businesses that engage with individuals who are in business for themselves.
More information on the final rule can be found at https://www.dol.gov/agencies/whd/flsa/misclassification/rulemaking.
In addition, the IRS has resources to assist in determining whether a worker is an employee or an independent contractor. Search online for IRS Form SS-8 Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding. Also, Publication 15-A – Employer’s Supplemental Tax Guide for additional information on independent contractor status as well as IRS Publication 1779 (Rev. 3-2023).
For questions and additional information, please contact Scott Hersee, Small Business Department Supervising Senior Accountant at Tronconi Segarra & Associates LLP. He can be reached at (716) 633-1373 or shersee@tsacpa.com.
