Employee vs. Independent Contractor – The Consequences of Misclassification
In the shadows of a global pandemic, the economy is beginning to recuperate and business owners are opening their doors up again. Dental practices may see an influx in patient visits and appointments as individuals get back into their regular routines. In the dental industry in general, and now in the workforce as a whole, the idea of being “self-employed” versus the traditional employee has become increasingly popular. Aside from the many tax-breaks, however, there are also costly consequences for misclassifying an employee. Here’s what you need to know to correctly classify those in your practice.
Employee vs. Independent Contractor
It is critical that business owners correctly determine whether their employees are considered self-employed or independent contractors, or employees, especially in a dental practice. There are different implications for both classifications, and it is important you are aware of both.
Workers classified as employees, or recipients of Form W-2, requires an employer to withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. This additionally allows for the employee to access a range of employee benefits. On the other hand, independent contractor status, or recipients of Form 1099-MISC, avoids paycheck reductions for taxes, unemployment insurance, social security, and other similar costs.
Over 40% of the U.S. workforce in 2020 was made up of independent contractors, and as a result, has created a tax gap for certain federal programs.
The IRS uses its own test and multiple factors in evaluating whether the person providing service is an employee or an independent contractor. The degree of control is used to assess the business relationship that exists between an employer and the person performing.
The degree of control can be broken down into three categories:
- Behavioral: Does the company control or have the right to control what the worker does and how the worker does his or her job?
- Financial: Are the business aspects of the worker’s job controlled by the payer? (these include things like how worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
- Type of Relationship: Are there written contracts or employee type benefits (i.e. pension plan, insurance, vacation pay, etc.)? Will the relationship continue and is the work performed a key aspect of the business?
There can be costly consequences as a result of worker misclassification. This can include fines for each missed Form W-2 the employer failed to file, a penalty of 1.5% of the wages, plus 40% of unwithheld FICA (Social Security and Medicare) taxes, and 100% of the matching FICA taxes the employer should have paid. Each situation can be different, but the penalties can be costly and in some cases, devastating for a business owner.
Employers should exercise caution and seek expert advice in categorizing employees vs. independent contractors in their practice.
We encourage you to contact Harlene Stevens, CPA on 973-298-8500 for help assessing your situation and correctly identifying your practice’s needs.