Small Business Taxes - How to Determine a List of Employees.

According to the IRS, for small business taxes, "It is critical that you, the employer, correctly determine whether the individuals providing services are employees or independent contractors." Why? It costs money to make mistakes. If you classify an employee as an independent contractor, you do not have to withhold income taxes or pay Social Security and Medicare taxes, or pay an unemployment tax on wages paid to that person - however, you or your small business can be held liable for all small business taxes for that person, in addition to a hefty penalty levied by the IRS should it be discovered. Therefore, to avoid having to pay much more lately, it is important that you determine who is an employee and who is not, and be honest and forthcoming with the IRS about it.

The IRS puts people performing services into four, distinct categories :

-Independent contractors
-Common-law employees
-Statutory employees
-Statutory non-employees

Independent contractors are people over whom you have only the right to control the result of the work done, and not the means and methods of accomplishing the result. For example, if you hire a CPA to balance your books and handle your taxes, but you don't tell him how to do it, he is an independent contractor. You simply give him the information required, and he uses whatever tools, software programs and methods he wishes to render services - you don't tell him how to do his job.
A common-law employee is your typical, average, every-day employee. He or she provides a service, and you can control exactly what will be done, and how it will be done. "This is so even when you give the employee freedom of action," according to the IRS. "What matters is that your have the right to control the details of how the services are performed." An example of a common-law employee would be a secretary. Even though you may give your secretary freedom to handle calls, take dictation or organize files in whatever manner he or she wishes, you still have control over how that employee performs his or her job.

Statutory employees are independent contractors that are treated as employees by statute for certain employment tax purposes. They must, however, fall under a certain category and meet certain tax conditions. Those categories are, according to the IRS:

- "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 s Supplemental Tax Guide for additional information."

Statutory non-employees can be either "direct sellers" or "licensed real estate agents." They are treated as self-employee for all federal tax purposes, according to the IRS, if:

"1. 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
2. Their services are performed under a written contract providing that they will not be treated as employees for Federal tax purposes."

For help with questions about small business employees and small business taxes, please contact us.