Because of the controversy surrounding the classification of workers as independent contractors or employees, my accountant put together the 20 factors the IRS uses to make the determination. What's at stake? If a worker is an independent contractor, the employer need not withhold income or payroll taxes, nor pay the employer's portion of FICA taxes. Also, health insurance and other employee benefits generally need not be provided. In recent years greater numbers of businesses, feeling the crunch of the recession, began treating workers as independent contractors. The IRS has come down hard on the classification issue, targeting the health care, trucking, and construction industries; messenger services; and those companies that tend to use professional consultants. In light of the IRS's crackdown on independent contractors, it is vital that companies considering classifying workers as independent contractors first seek professional advise. Here are the IRS's 20 factors. These factors are used by the IRS to determine whether a recipient of services has enough control over a worker to be an employer. They are intended only as a guide to help determine whether there is sufficient control to show an employer-employee relationship. Answering "Yes" to the first 16 factors tends to indicate control and employee status. Answering "Yes" to 17-20 tends to indicate independent contractor status. The IRS says that the importance of each factor depends on the facts and circumstances of a particular case, and on the industry and type of services being provided. 1. Instructions: Do you have the right (whether or not exercised) to make the worker comply with your instructions on when, where, and how he or she must work? 2. Training: Do you train a worker (on your premises or the worker's) by requiring him or her to work with someone experienced, or by having him or her attend meetings, or via correspondence? 3. Integration: Are the worker's duties an integral part of your operation? Is the worker's function necessary to your business? 4. Services rendered in person: Do you require the worker to provide the services personally, or can he or she delegate them to someone else? 5. Hiring/Firing: Do you hire, fire, and pay the worker's assistants? (If the worker contracts to provide both labor and materials, and is responsible only for the ultimate product, this tends to show independent contractor status). 6. Relationship: Is there a continuing relationship between the worker and yourself? Are services performed frequently (although irregularly)? 7. Hours: Do you set hours during which the individual must perform the work? 8. Full Time: Must the worker devote all of his or her time to your job? (Independent contractors can work when and where they please.) 9. On Premises: Must the worker work on your premises, especially if the work could be performed elsewhere? (Or do you have the right to designate travel routes or times or otherwise control the time and place of performance?) The IRS says that the absence of this factor does not necessarily negate an employee relationship. 10. Ordering: Do you have the right to set the order in which services are performed, whether or not you exercise that right? 11. Reports: Do you require the worker to give you written or oral reports? 12. Hourly, Weekly, or Monthly Pay: Do you pay the person by the hour, week or month? (A worker might still be an independent contractor and be paid on this basis. Contractors tend to be paid by the job or on straight commission, but could be paid monthly or weekly so as to spread out contract payments.) 13. Expenses: Do you pay the worker's business or travel expenses? 14. Tools and Materials: Do you provide the worker with tools or materials? 15. Right to Fire: Do you have the right to fire the worker? There can be a tricky distinction between controlling workers by the threat of firing if they do not follow your instructions - which would indicate employee status - and having the right to terminate a contract because the contractor has not performed according to specifications. 16. Worker's Right to Terminate: Can the worker quit at any time? Remember: Answering "Yes" to the rest of the questions tends to show independent contractor status! 17. Investment: Does the worker have a significant investment in equipment or facilities that are not typically maintained by employees? 18. Profit or Loss: Can the worker incur a profit or loss as a result of his or her work (in addition to the profit of payment for the work)? A contractor should bear an economic risk over and above the risk of not being paid. 19. More than One Job: Does the worker work for more than one business at a time? (Note: The IRS says that a worker could be an employee of numerous service recipients.) 20. Service Available to the General Public: Does the worker offer services to the general public on a regular basis. What Does The IRS Look For In Employment Tax Audits? The IRS might ask for copies of all Forms 1099 issued by the business. The Forms 1099 would give the IRS an idea of the number and identity of workers treated as independent contractors by the business. Generally a Form 1099 is required when $600 or more is paid during a year by a business to certain independent contractors providing services. The IRS will also want to see cash disbursement journals, payroll records, and vouchers for accounts payable. Again, the purpose of such a request would be to gather information on the identity of independent contractors, the amounts paid them and the type of services rendered. The IRS might also ask to see any written contracts dealing with services. This would enable them to determine whether the workers are independent contractors under the 20-factor test. Written contracts relating to services, which are not usually used by the business, may be useful in validating independent contractor classification. The consequences to a business of an employment tax audit can be financially burdensome. If the IRS wins a reclassification dispute, then the workers will have to be classified as employees from that date forward. That's not the end of it, though. The IRS might also assess back taxes. Generally, the IRS cannot access further back than three years. This three year deadline is generally counted back from the date the employment tax return is filed. But, if the employer didn't file such a return, then tax year going back more than three years are also open to assessment. Note, however, that the IRS has a general policy of not going back further than six years to assess, even though the years are "open" The IRS might also assert penalties. What can you as a business person do? Businesses can help themselves by being prepared for an employment tax audit by the IRS. It is recommended that records be kept to back up the position taken. The importance of recordkeeping cannot be emphasized enough.