Contractors or Employees? Decoding the Classification Dilemma for Small Businesses
If you’re a small business owner you have probably hired a contractor to help out when things become too much for one person to handle. In many cases, as time goes on, small business owners will hire multiple contractors, some of which will end up working full time hours. At what point do you need to determine if your contractors are actually employees?
On January 9th, the Department of Labor announced an updated rule which will go into effect on March 9th, that increases restrictions on what it means to be a contractor. Now to make it even more complicated, the Department of Labor and the IRS have a different set of tests to determine the status. It’s recommended that you make sure your independent contractors satisfy both tests in order to keep them classified as so, but as you can already see, this can be an extremely complicated process with a lot of gray areas. So what can you do to make sure your team is classified correctly?
Job Descriptions
It’s important to have job descriptions for each role at your company. For classification purposes, it will act as a roadmap to bump up against some of the test questions.
If you’re starting from scratch, make a list of things you could offload and what you would like to do. From here you should have the bones for a job title and description. Most first employees have unique job titles and responsibilities so it may be best to engage an outside resource at this time. Consider if you will be dictating how and when they work. This is key when establishing classifications.
Tests
Now that you have your list of responsibilities and requirements, it’s time to determine the status of the role. Note, all employees under one title should have the same classification. So for example, if I’m an HR Manager and the job dictates that I’m a payroll employee, all employees hired under that role must be a payroll employee.
The DOL’s new ruling follows the following 6 questions:
The degree to which the employer controls how the work is done.
The worker’s opportunity for profit or loss.
The amount of skill and initiative required for the work.
The degree of permanence of the working relationship.
The worker’s investment in equipment or materials required for the task.
The extent to which the service rendered is an integral part of the employer’s business
The IRS looks at 11 questions under these 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 such considerations as how the worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)
Type of Relationship: Are there written contracts or employee-type benefits (e.g., pension plan, insurance, vacation pay, etc.)? Will the relationship continue, and is the work performed a key aspect of the business?
Classifications
Once you have gone through both tests it’s now time to classify your team. You may have independent contractors, employees or both! If you need to convert your contractors to employees, you will need to set up payroll, register in the state the employee resides, and determine not only compensation, but what the employee’s status will be.
Your options are Full Time or Part Time, and Salary (Exempt) or Hourly (Non-Exempt).
An employee is generally considered to be Full Time if they work 30 or more hours per week, or 130 or more hours per month.
Now for Hourly vs Salary, you’ll want to do another test- I know, more tests! There are a variety of factors that determine this such as annual base for the year, and a role specific duties test. I recommend contacting a professional to assist with this exercise as it can be very nuanced.
One of the main differences between the two classifications is that Non Exempt workers are entitled to overtime pay after 40 hours of work in a work week.
A client of mine asked a great question when going through this exercise with their team- “Why would they want to be on payroll?”
There’s a variety of things that you’ll have access to once on payroll:
Company Benefits or perks
Paid Time Off: Some states have Paid Sick Leave Laws
The ability to file for unemployment
Certain job protections & protections from discrimination
Not to mention, a steady paycheck!
I know this process overwhelms a lot of small business owners, but fear not, help is out there. HR Consultants and Employment Lawyers are at your disposal to guide you through this process of determination. Stay vigilant—employment laws frequently update, and expert assistance ensures smooth sailing in the world of employing others!
