Independent Contractor vs. Employee
Independent contractors are self-employed and provide specialized or requested services on an as-needed basis, while employees work for employers and often have little control over their work and performance.
It's important to understand the difference so you can classify your workers appropriately, otherwise, you might be subject to additional taxes, penalties or fines, interest, and/or other retroactive damages. Generally, you must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on wages paid to an employee. You do not generally have to withhold or pay any taxes on payments to independent contractors. (irs.gov)
If an employer-employee relationship exists (regardless of what the relationship is called), workers are not independent contractors, and their earnings are generally not subject to Self-Employment Tax. Make sure you're following both federal and state regulations to ensure you've classified a worker correctly.
Consider 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 things like 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 (i.e. pension plan, insurance, vacation pay, etc.)
• Will the relationship continue and is the work performed a key aspect of the business? (irs.gov)
If an independent contractor is paid at least $600 during a tax year, they will receive a form 1099 at the end of the year, which reports to the IRS how much money was paid to the contractor. In contrast, employees receive a W-2 regardless of how much they were paid during the tax year.
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