It is important for local governments to correctly determine whether individuals providing services are employees or independent contractors.
Generally, the city must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. The city does not generally have to withhold or pay any taxes on payments to independent contractors.
To determine if the person providing a service is an employee or an independent contractor, the city should review all information pertaining to the degree of control and independence the individual has. The information falls into three categories.
- Behavioral: Does the city 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 city? (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)? Will the relationship continue and is the work performed a key aspect of the city?
City officials must weigh all of these factors when determining whether a worker is an employee or independent contractor. Some factors may indicate that the worker is an employee, while other factors indicate that the worker is an independent contractor.
Elected officials and judges are always considered to be employees. The city should not issue a Form 1099-MISC to these individuals. They should receive a W-2.
According to the Internal Revenue Service, there is no "magic" or set number of factors that "makes" the worker an employee or an independent contractor, and no one factor stands alone in making this determination. Also, factors which are relevant in one situation may not be relevant in another.
IRS officials advise employers to look at the entire relationship, consider the degree or extent of the right to direct and control, and finally, to document each of the factors used to arrive at the final determination.
Employers may be held liable for employment taxes if they classify an employee as an independent contractor and have no reasonable basis for doing so.
If the city is unable to make a determination, the city or individual can request an official determination by filling Form SS-8 with the IRS. The IRS officials cautions that it can take up to six months to make a determination.