What is the Common-Law Test?
The Common-Law test is a set of criteria tax authorities use to determine whether an individual is considered an employee or an independent contractor for tax and employment law purposes. The distinction between employees and independent contractors is important because it affects the tax obligations of both the worker and the employer.
The Internal Revenue Service (IRS) in the United States and other tax authorities apply the common-law test to assess the level of control and independence in the working relationship. The test focuses on the degree of control that the employer has over the worker in various aspects of the job.
Key factors considered in the common-law test include
- Behavioral Control: Examines whether the employer can control or direct the worker’s activities. Factors include instructions on when, where, and how to perform the work.
- Financial Control: Assesses the degree of financial control exercised by the employer, such as the payment method, reimbursement of business expenses, provision of tools and equipment, and the extent to which the worker can realize a profit or incur a loss.
- Relationship Type: Considers the type of relationship between the parties, looking at written contracts, the provision of benefits, and the permanency of the working relationship. A long-term and ongoing relationship may suggest an employer-employee relationship.
It’s important to note that no single factor is determinative, and the overall working relationship is assessed based on the totality of the circumstances. Different jurisdictions may vary the specific criteria for determining a worker’s employment status.
If the common-law test determines that an individual is an employee, the employer is responsible for withholding income taxes, Social Security and Medicare taxes, and paying unemployment taxes. On the other hand, if the individual is considered an independent contractor, they are responsible for their own taxes, and the employer generally does not have tax withholding obligations.
Conclusion
Misclassifying workers as independent contractors when they should be treated as employees can have legal and financial consequences for employers, including fines and penalties. Therefore, it is essential for businesses to carefully evaluate the nature of their working relationships and ensure compliance with applicable tax and employment laws. Employers may seek professional advice or consult tax authorities to determine the correct classification of workers.
