Taxes

Freelancer or employee?

SBOCTeam — Wed, 09 Jan 2008 16:26:00 GMT

Understanding the difference may help your business avoid a costly headache

By Chris Freeburn

You know who your employees are, right? Of course you do. But are you sure the IRS will agree with you? That, it turns out, might be a problem. Small businesses often give their employees considerable flexibility in terms of hours and working conditions, and many rely on freelancers and independent contractors to perform specific tasks or take on temporary work. Such outside workers aren't considered "employees," right? Be careful: They may be.

Surprisingly, determining whether someone counts as an independent contractor or an employee does not depend on the amount of time that person works for a company, or even how or when that person is paid. The decisive factor is how much control the company exercises over that person's activities for the company. Generally, if you control only the outcome of the work, by accepting or rejecting the finished product, then the person is an independent contractor. However, if you control not only the finished product, but the means and methods by which it is produced, then the person is an employee. So even if a metalworker spends most of his time working in your shop, if he uses his own tools, sets his own hours, and is not under your control and supervision, he continues to function as an independent contractor. If, however, he uses your tools and materials, during hours you set, and is subject to supervision by company managers while he works, then he has become an employee.

Making the determination between independent contractor and employee is an important decision for you as an employer. Employers are required to withhold income taxes from an employee's salary, as well as pay Medicare, unemployment, and social security taxes on each employee. However, employers generally do not have to withhold and pay such taxes on payments to independent contractors. In the event that that you incorrectly classify a worker as an independent contractor, the IRS can hold you liable for that worker's unpaid taxes in addition to penalties and interest. No statute of limitations exists on these taxes. If the IRS decides that your firm has wrongly classified an employee, you will be liable for these back taxes and penalties for every year of that error.

The IRS defines four possible categories of workers: independent contractors, common law employees, statutory employees and statutory non employees. Statutory employees are workers who might otherwise be defined as independent contractors, except that their jobs have been defined as having employee status by law. Such positions include individuals working from home using materials and goods provided by an employer, which must be returned to that employer; delivery drivers (except for milk deliveries); full-time life insurance salespeople who sell life insurance or annuity contracts for one business; and full time traveling or local salespeople who work on one business' behalf. Statutory non employees comprise direct sellers and licensed real estate agents, who are, by law, treated as self employed. Employers must file IRS form 1099 MISC to report payments in excess of $600 made to independent contractors, but generally have no other tax liability, unlike with regular employees.

Ever vigilant for tax errors, the IRS closely examines taxpayers whose income is mostly reported on 1099 MISC forms, with an eye toward catching firms who improperly list employees as independent contractors. If your metalworker receives the majority of his or her income from just one firm, the IRS may choose to investigate whether he or she truly functions as an independent contractor. That can create a considerable hassle for you, especially if the IRS ultimately decides that the metalworker should have been considered an employee.

If you have difficulty determining whether a worker is properly defined as either an employee or independent contractor, or simply don't wish to risk IRS penalties, you can have the IRS decide the matter itself by submitting Form SS-8. The form asks for a complete description of the worker's duties, extent of employer supervision and salary. You can find Form SS-8 and a variety of advisory publications regarding the rules defining employees and independent contractors at www.irs.gov.

Chris Freeburn is an Associate Editor/Writer for Priority magazine

The Do's and Dont's When Facing An Audit

SBOCTeam — Fri, 19 Oct 2007 23:52:00 GMT

For most small business owners, finding a letter in the mail from the IRS can suddenly unleash a flood of emotions, from fear to anger to guilt to helplessness, and that's even before you even open the envelope. And among all the possible scenarios that can flash through your mind, discovering that you are about to be - gulp - audited, is for most small business owners, far and away the worst. Instead of panicking when the IRS comes calling, arm yourself with the information you need to get through the process:

DO:

Keep ALL of your small business's receipts back seven years.

Let the IRS know whenever you move. (Use IRS Form 8822.) If you don't, an IRS notice could go to your old address and an audit could begin without your being aware of it.

Wait a couple of weeks after receiving your audit notice to call the IRS and schedule an appointment. And then pick a future date that gives you as much time as possible to prepare.

Organize your papers (and thoughts) ahead of time so you can quickly answer questions.

Make copies of all correspondence you send the IRS.

Avoid giving auditors your original documents at all costs. Instead, ask that he either take notes or make a photocopy of them.

Treat the auditor politely and professionally, and expect the same from them. If an auditor is rude or disrespectful, you have the right to speak to his or her supervisor.

Consider hiring a tax professional as a consultant.

Have reasonable expectations. Nearly 90 percent of audits conclude with a higher tax bill, so an attitude aimed at simply minimizing your financial losses is often the best.

DON'T:

Fail to file a tax return. Ordinarily, the IRS can only examine returns going back three years. But if you don't file, the statute of limitations on that year never expires.

Estimate. Round numbers on your return tell the IRS you're not really tracking your cash

Forget to print out receipts or order confirmations for all your business's online purchases.

Let an auditor come into your business and freely interact with your employees and customers.

Volunteer information or answer questions that the auditor hasn't asked.

Be a pushover. Ask the auditor questions during the audit and insist that he explain the legal reasons behind any problems that he's found.

Tape-record the audit. Even though you have the right, this often causes the auditor to be even more stringent and, therefore, most experts caution against it.

File another tax return during an audit. Instead request an extension. If you do file during an audit, the IRS could expand its scope to include it.

Offer anything to the auditor that could even remotely be considered a bribe

Taking these steps, along with a talk with your tax advisor or accountant should aleviate some of the pressure should the IRS come knocking at your door.

Don�t procrastinate�use your tax extension to benefit your business

SBOCTeam — Sun, 29 Jul 2007 23:10:00 GMT

If your small business joined the nearly 10 million taxpayers that received an extension on filing federal taxes this year, there are some important things to consider over the next few months.
By Reed Richardson

Perhaps the most basic of these is to understand that getting an extension on filing your taxes is not an extension on paying your taxes. While most small business owners are savvy enough to recognize this distinction, every year a small minority forget to send in an estimated payment before the spring deadline and end up paying unnecessary penalties. The good news, though, is that even if you did forget to send the IRS an on-time payment, getting an extension on filing means you kept the damage to a minimum (late filing penalties are ten times higher than late payment penalties). Also, remember that the IRS doesn’t care as much about inaccuracy as it does inaction, so if you didn’t pay on time don’t wait six more months just so you can mail the exact amount—get that good faith estimate in the mail as soon as possible.

Next, small business owners should think about why they needed the extension in the first place. “The main reasons small business owners file extensions is that they either don’t have all their records ready or they just didn’t have the time to file,” notes Barbara Weltman, author of Small Business Taxes 2007. “Running their business just gets in the way.” But she points out that the IRS only gives one six-month extension, no matter what your reasons. “For businesses that are seasonal, an extension can work out well since they might have the time to focus on filing their taxes in the fall rather than the spring,” she says. However, year-round small businesses might not have this luxury and so, overworked owners must make a concerted effort to set aside time for filing throughout the summer, or else he or she could end up in repeating the same mistakes six months later. “For some, it will still be crunch time in the fall,” Weltman concedes.

To prevent this, small businesses might want to reconsider how they get their taxes done, particularly if they typically rely on a seasonal tax preparation service. “That tax prep store in the mall will be gone come May—that’s something to think about,” notes Weltman. “You might start thinking about using an accountant instead, someone who’ll be an adviser to you and help you take advantages of the right deductions all year long.”

There are other ways to take advantage of your extension. “For example, you have more time to put money into your retirement plan,” Weltman says. “You have until the extended due date of your return to set and fund things like a SEP plan.” In fact, she says that for most small businesses there are almost no downsides to filing for an extension. It might even be worth making it a part of your annual tax strategy. That is, of course, unless the IRS owes you. “It doesn’t make a lot of sense to do this if you’re getting money back,” Weltman points out. “Because if you are, and your small business is still missing the first deadline, you are doing something wrong.”

Reed Richardson is managing editor for Business 24/7 magazine.