One of the decisions that business owners must make is whether to hire employees or contractors. Tax implications and penalties may be incurred if an individual working for your company is misclassified. Here’s everything you need to know to make the right decision for a business.

First the Facts
To determine whether a worker is an employee or an independent contractor, business owners should analyze the facts that provide evidence of the degree of control and independence in the following 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 how a worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
  • Type of relationship – Are there written contracts or employee type benefits? Will the relationship continue and is the work performed a key aspect of the business?

The Penalties for Misclassifying an Employee
If a business owner treats an employee as an independent contractor and he/she has no reasonable basis for doing so, he/she may be liable for employment taxes for the worker. Intentionally misclassifying employees as independent contractors may result in being liable for criminal and civil penalties in addition to the employment taxes plus penalties and interest.

Business Owner’s Responsibilities for Independent Contractors

All business owners must maintain records for each independent contractor they hire. These records must include:

  • Independent contractors’ name, address, and Employer Identification Number or Social Security Number. You must obtain a signed W-9 form from each independent contractor.
  • Retain a copy of a service agreement with each independent contractor.
  • Keep records of each payment to an independent contractor (Date, amount paid, type of service, etc.)

Reporting Requirements
All business owners are required to file annual information returns (Form 1099-NEC (Copy A) and Form 1096) to the IRS for payments to independent contractors — other than corporations — for their services when total payments exceed $600 during a calendar year. Fees paid to attorneys need to be reported on Form 1099-NEC even if those attorneys are incorporated. The Form 1099-NEC and Form 1096 need to be filed no later than January 31 of the following year. 

Business Owner’s Responsibilities for Employees

All employers must maintain the following records for each person they employ:

  • Form W-4 Employee’s Withholding Allowance Certificate includes:
  • Employee’s Name
  • Social Security Number
  • Address
  • Tax Filing Status
  • Number of allowances employee wants to claim
  • For each payroll period:
  • The begin and end dates.
  • The days the employee worked and earning for each day.
  • All other payments made to the employee, including vacation pay, bonuses, dismissal pay, tips, the reasonable value of board and lodging and other forms of compensation.

Federal and State Withholdings
Employers are required to withhold and pay personal income taxes on wages, salaries, bonuses, commission, and other similar income paid to employees.

FICA Taxes
Employers are required to withhold three separate taxes from the wages to employees:

  • 6.2% Social Security Tax up to maximum taxable earnings
  • 1.45% Medicare tax (“Regular” Medicare Tax)
  • 0.9% Medicare surtax when an employee earns more than $200,000

Employers are required to pay the employer’s portion of the following two taxes on the wages paid to employees:

  • 6.2% Social Security Tax up to maximum taxable earnings
  • 1.45% Medicare tax (“Regular” Medicare Tax)

Reporting Requirements
Employers are required to report their payroll and pay unemployment insurance contributions each calendar quarter. Reporting forms must be filed even if the employer had no payroll in the quarter (some exceptions may apply for seasonal employers). Employers are also required to file Form W-2/W-3 annually and provide a copy of Form W-2 to each employee.

Employer Registration Number with Unemployment Insurance Division
Employers must apply and receive an eight-digit employer registration number assigned by New York State Department of Labor Unemployment Insurance Division.

Unemployment Insurance (NYS)
Unemployment insurance contributions are required on salary paid to each employee in a calendar year up to the annual wage base amount (i.e. $10,800 in 2021) times a combination of normal rate (0.525% lowest and 7.825% highest; 3.125% rate for New Employer in 2021) and subsidiary rate (0% lowest and 0.925% highest) calculated by the UI Division.

Re-employment Service Fund (NYS)
In addition to unemployment insurance contributions, employers are required to make an additional contribution to the re-employment service fund each calendar quarter in the amount of 0.075% of their quarterly wages subject to contributions.

Workers Compensation Insurance
Workers compensation insurance provides coverage for an employee who has suffered an injury or illness resulting from job-related duties. Employers in New York State are required to obtain workers compensation insurance through authorized insurance agencies.

Disability Benefits Insurance
Disability Insurance provides supplementary income to an employee who become disabled in the event of an illness or accident. Employers in New York State are required to provide statutory disability benefits insurance for their employees unless they are considered exempt (as defined by New York State Law). Premiums may be paid entirely by the employer or paid jointly by the employer and the employee. New York State allows employers to deduct up to 60 cents per week from employee’s salary to offset the cost of providing benefits.

New York Paid Family Leave Insurance
New York Paid Family Leave (PFL) provides employees with job-protected, paid leave to bond with a new child, care for a family member with a serious health condition, or help loved ones when a family member is deployed abroad on active military service.

In April, the Governor signed a law that guarantees job protection and financial compensation if they, or a minor child, are under an order of COVID isolation or quarantine.

PFL insurance is calculated through payroll deduction equal to 0.511% of the employee’s gross wages each pay period and is capped at the annual maximum of $385.34. New for 2021, eligible employees can take up to 12 weeks PFL. The time can be taken all at once or in full day increments.

If you have any questions about setting up your business or the right way to structure your business, please contact us. Here’s to your success!