Before you can determine how to treat payments you make for services, you must first know the business relationship that exists between you and the person performing the services. The person performing the services may be a(n):

1. Independent contractor
2. Common-law employee (Employee)
3. Statutory employee
4. Statutory nonemployee

In determining whether the person providing service is an employee or an independent contractor, all information that provides evidence of the degree of control and independence must be considered.

It is critical that you, the employer, correctly determine whether the individuals providing services are employees or independent contractors. Generally, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. You do not generally have to withhold or pay any taxes on payments to independent contractors.

Caution: If you incorrectly classify an employee as an independent contractor, you can be held liable for employment taxes for that worker, plus a penalty.

Who is an Independent Contractor?

A general rule is that you, the payer, have the right to control or direct only the result of the work done by an independent contractor, and not the means and methods of accomplishing the result.

Refer to Paying Independent Contractor if you need information on what your responsibilities are when paying contractors.

Who is a Common-Law Employee?

Under common-law rules, anyone who performs services for you is your employee if you can control what will be done and how it will be done. This is so even when you give the employee freedom of action. What matters is that you have the right to control the details of how the services are performed.

To determine whether an individual is an employee or independent contractor under the common law, the relationship of the worker and the business must be examined. All evidence of control and independence must be considered. In an employee-independent contractor determination, all information that provides evidence of the degree of control and degree of independence must be considered.

Facts that provide evidence of the degree of control and independence fall into three categories: behavioral control, financial control, and the type of relationship of the parties. Refer to Publication 15-A, Employer's Supplemental Tax Guide for additional information.

Who is an Employee?

A general rule is that anyone who performs services for you is your employee if you can control what will be done and how it will be done.

Statutory Employees

If workers are independent contractors under the common law rules, and if they fall within any one of the following four categories (listed below), and meet the three conditions described under Social Security and Medicare taxes. Such workers may be treated as employees by statute (statutory employees) for certain employment tax purposes.

• A driver who distributes beverages (other than milk) or meat, vegetable, fruit, or bakery products; or who picks up and delivers laundry or dry cleaning, if the driver is your agent or is paid on commission.
• A full-time life insurance sales agent whose principal business activity is selling life insurance or annuity contracts, or both, primarily for one life insurance company.
• An individual who works at home on materials or goods that you supply and that must be returned to you or to a person you name, if you also furnish specifications for the work to be done.
• A full-time traveling or city salesperson who works on your behalf and turns in orders to you from wholesalers, retailers, contractors, or operators of hotels, restaurants, or other similar establishments. The goods sold must be merchandise for resale or supplies for use in the buyer s business operation. The work performed for you must be the salesperson's principal business activity. Refer to the Salesperson section located in Publication 15-A Employer Supplemental Tax Guide for additional information.

Statutory Nonemployees

There are two categories of statutory nonemployees:

1. Direct sellers
2. Licensed real estate agents

They are treated as self-employed for all Federal tax purposes, including income and employment taxes, if:

• Substantially all payments for their services as direct sellers or real estate agents are directly related to sales or other output, rather than to the number of hours worked and
• Their services are performed under a written contract providing that they will not be treated as employees for Federal tax purposes.

Refer to information on Direct Sellers located in Publication 15 Employer Supplemental Tax Guide for additional information.

Resources

• Tax Topic 762 Basic Information To determine whether a worker is an independent contractor or an employee, you must examine the relationship between the worker and the business. All evidence of control and independence in this relationship should be considered. The facts that provide this evidence fall into three categories Behavioral Control, Financial Control, and the Type of Relationship itself.
• Publication 15-B The Employer's Tax Guide to Fringe Benefits supplements Circular E (Pub. 15), Employer's Tax Guide, and Publication 15-A, Employer's Supplemental Tax Guide. It contains specialized and detailed information on the employment tax treatment of fringe benefits.

If you pay independent contractors, you may have to file Form 1099-MISC, Miscellaneous Income, to report payments for services performed for your trade or business. If the following four conditions are met, you must generally report a payment as nonemployee compensation.

1. You made the payment to someone who is not your employee;
2. You made the payment for services in the course of your trade or business (including government agencies and nonprofit organizations);
3. You made the payment to an individual, partnership, estate, or in some cases, a corporation; and
4. You made payments to the payee of at least $600 during the year.

The Form 1099-MISC, Miscellaneous Income, is transmitted with the Form 1096, Annual Summary and Transmittal of U.S. Information Returns, which is similar to a cover letter for your Forms 1099-MISC.

Refer to Instructions for Form 1099-MISC, and Publication 1220, Specifications for Filing Form 1098, 1099, 5498 and W-2G Magnetically or Electronically for more information.

Information Reporting Call Site

The IRS operates a centralized call site to answer questions about reporting on Form 1099 and other information returns. If you have questions related to reporting on information returns, call (304) 263-8700.

Refer up to Classifying Independent Contractors and Employees for help in distinguishing between the two.