If you're a small business owner, when you first start out, it's going to just be you.  However, after you have a period of sustained growth, it may be time to hire some help.  Whether you need someone part-time or full-time, and how much you would pay a new hire are business decisions beyond the scope of this blog.  Before you make the decision to hire anyone, you need to make an important decision: Will your new hire be an employee, or an independent contractor?

Unfortunately, some business owners mistakenly believe that they can hire someone as an employee, and then treat them as an independent contractor, so that they do not need to deal with payroll taxes, liabilities, or employee benefits.  Some business owners might even refer to their staff as “1099 employees,” which is a misnomer.  Form W-2 is given to employees.  Form 1099 is given to independent contractors.  You should never give Form 1099 to an employee.  Never ever ever!

Let's start with the basics.  If you hire someone as an employee, you will need to deduct payroll taxes from their paycheck, possibly provide benefits to him or her, and definitely carry workers' compensation insurance, in case he or she gets injured on the job.  If you do not classify an employee properly (and classify them as an independent contractor), and the IRS finds out during an audit, the business will be subject to huge penalties and fines.  Businesses are also at risk for liability for the actions of their employees to others.  It is important to distinguish between your employees and independent contractors.

So, what is an employee?  And what is an independent contractor?  How do you tell the difference between the two?  There are several factors you should consider in classifying your staff appropriately as either an employee or an independent contractor.  The IRS looks at what is called the “totality of the circumstances” because no one factor is more important than another.  Here are six factors which you should consider in making the key decision if a new hire is an employee or an independent contractor:

1.  Tools, Materials & Equipment

The first factor your should consider in deciding if a new hire is an employee or an independent contractor is the tools, materials, and equipment.  An independent contractor typically provides his own tools, materials, and equipment.  However, an employee might use equipment provided by the business, or alternatively is reimbursed by the business for purchasing his equipment.  A business might make available to an independent contractor some tools, materials, and equipment, but if your new hire is required to only use the tools, materials and equipment, then the new hire is probably an employee.

2.  How & When the Work is Done

The second factor you should consider in deciding if a new hire is an employee or an independent contractor is how and when the work is done.  An independent contractor is generally free to decide how and when the work is done.  There may be an agreement as to a deadline for a project to be completed, but an independent contractor should have control of when he works, where he works, and how he completes his work.  Someone who is required to work certain hours, at a specific location, or work on a task in a specific manner is probably an employee.

3.  Training

The third factor you should consider in deciding if someone is an employee or an independent contractor is training.  The business should not need to train an independent contractor in order to complete a job.

4.  Can the New Hire Provide His Services to Others?

The fourth factor you should consider is whether the new hire can provide his services to others.  Independent contractors can provide services to others, e.g. more than one person or business.  However, employees are typically restricted to perform one kind of work to a specific employer.

5.  Invoicing

The fifth factor you should consider is invoicing.  Independent contractors should submit invoices to the businesses for their work in order to receive payment for their services.  Employees usually receive a regular salary or wage for tracked time, and also an employee will usually need to submit his or her time or work hours in order to be paid by an employer.

6.  Is the New Hire Permanent and Dependent?

Lastly, the sixth factor you should consider is whether the new hire is permanent and dependent.  Most of the time independent contractors are hired for specific projects, rather than for an indefinite period of time.  Also, an employee is usually dependent on the business as the sole source for his or her income.  However, an independent contractor should provide his services to more than one person or business, and therefore is not as dependent on the business for his or her livelihood.

Deciding whether a new hire is an employee or an independent contractor can be a difficult decision.  If you are confused about this issue, it is always best to consult with an attorney.  Receiving some up front, professional advice on this issue will save your business from huge penalties and fees if the IRS decides you got it wrong on an audit.

If you are interested in starting a small business anywhere in Oklahoma, or if you have a small business with legal issues, or you are looking to grow your business, please feel free to contact me at [email protected].  For more information about Liberty Legal Solutions, LLC, please visit our website http://www.libertylegalok.com.