Employee Versus Independent Contractor

By Lawrence Gebhard, CPA

In recent years the IRS has taken a closer look at compliance in the employment tax area, including a three-year research project where 6,000 employers, including nonprofit organizations, will be the subject of employment tax audits. Therefore, knowing how to classify workers correctly can help you avoid costly interest and penalties on underreported amounts.

There used to be a standard tool for classifying workers called the "20-factor checklist." But now the IRS uses a three-factor test. The following are the three factors the IRS focuses on when determining the relationship between the employer and the worker:

• Behavioral Control - Does the nonprofit organization control the behavior of the worker? If the organization directs how the work is done through instructions or training and/or controls when and where the services are performed, then the worker is most likely an employee.

•  Financial Control - Does the nonprofit organization control the financial and business aspects of the worker's job? There are a couple of factors to consider. One factor relates to who controls the frequency of compensation. Does the worker invoice the organization after services are performed or does the organization pay on a regular basis (e.g., bi-weekly, bi-monthly, etc.)? The other factor is whether or not the worker makes his or her services available to other organizations or businesses.

• Type of Relationship - What is the nature of the relationship between the nonprofit organization and worker? Some factors to consider are whether the organization provides the worker with benefits, such as insurance, retirement plan benefits or paid leave; how long the relationship has been going on; and whether there is a written contract between the parties spelling out the relationship.

The more independently the worker operates, the more likely that the IRS will see the worker as an independent contractor.

Employers who misclassify workers as independent contractors can end up with substantial tax bills. They can also face penalties for failing to pay employment taxes and for failing to file required tax forms.

Please contact anyone on the non-profit team at Winter, Kloman, Moter & Repp, S.C. if you have any questions or need clarification on classifying workers.

At Winter, Kloman, Moter & Repp S.C., our not-for-profit team provides quality audit, accounting, tax, and consulting services to a variety of not-for-profit agencies, government funded businesses, private foundations, and assorted charitable organizations. Our experienced team has helped many not-for-profit organizations throughout Southeastern Wisconsin grow and thrive including:

• Human Service Agencies
• Cultural & Arts Organizations
• Charitable & Religious Organizations
• Educational & Day Care Institutions
• Professional & Trade Associations
• Assisted Living Facilities
• HUD/WHEDA Housing Projects
• Government-funded For-Profit Businesses

We concentrate on helping you best manage public or donated funds, analyzing how to get the most from your resources and helping you implement your plans to stretch every dollar. Our team of professionals understands your complex financial reporting needs, and will help you to accurately report your finances in an understandable way. We provide the independent audit and accounting services required by many of your funding sources by taking a value-added approach, implementing ever-changing tax reporting requirements, providing information technology consulting, and working with every aspect of your organization to support your success.