The PM Group

The determination of the worker’s status depends on the facts in each case. These facts define the business relationship of the parties at the time the services are rendered.

Generally, a common law EMPLOYEE works for and performs services under the control of the party which pays for the services.  On the other hand, an INDEPENDENT CONTRACTOR is an individual in business for himself or herself, and performs the services free of control from the party which pays for the services.

Employment taxes apply solely to the remuneration paid to workers classified as EMPLOYEES.  The employer’s obligation is to deduct federal income tax withholding (FITW), to deduct as well as “match” social security (for 2011 the employee rate is 4.2%, the employer rate is 6.2%) and Medicare taxes (FICA), and to pay federal unemployment tax (FUTA).  Also, there may be state income tax to be withheld and the employer and/or employee may have to pay state unemployment compensation contributions and state disability insurance.  A business normally is not required to withhold taxes from payments made to independent contractors.

In addition, certain federal and state laws governing benefit plan participation, wage payment, working conditions and workers’ compensation, apply ONLY to employees and not to independent contractors.  For example, only employees may participate in a Section 401(k) pension plan, and only employees are protected by minimum wage and overtime pay laws.

I.R.S. Guidance
When determining under common law whether an individual is an employee or an independent contractor, the IRS stresses that ALL evidence of the degree of control and degree of independence must be considered. The IRS no longer uses a list of 20 factors (the “20-Factors Test”) to evaluate a specific worker’s situation.  IRS’ official guidance can be found in Publication 15-A, Employer’s Supplemental Tax Guide (Supplement to Publication 15 (Circular E), Employer’s Tax Guide).  This information outlines the facts that provide the evidence of the degree of control and independence which fall into three major categories:  behavioral control, financial control, and the type of relationship between the parties:

• BEHAVIORAL CONTROL Facts that show whether the business has the right to direct and control how the worker does the task for which the worker is hired, include the type and degree of:
  • Instructions the business gives the worker An employee is generally subject to the business’ instructions about when, where and how to work.  Even if no instructions are given, sufficient behavioral control may exist if the employer has the RIGHT to control how the work results are achieved.
  • Training the business gives to the worker
    An employee may be trained to perform services in a particular manner.  Independent contractors, however, ordinarily use their own methods.
• FINANCIAL CONTROL Facts that show whether the business has a right to control the business aspects of the worker’s job include:
  • The extent to which the worker has unreimbursed business expenses
    Independent contractors are more likely to have unreimbursed expenses than employees.
  • The extent of the worker’s investment
    An independent contractor often has a significant investment in the facilities or tools used to perform services for someone else, but this is not mandatory.
  • The extent to which the worker makes services available to the relevant market
    Employees tend to work for a single business.
  • How the business pays the worker
    An employee generally is paid by the hour, week or month.  An independent contractor usually is paid by the job.  However, it is common in some professions, such as law, to pay independent contractors at an hourly rate.
  • The extent to which the worker can realize a profit or incur a loss
    An independent contractor can make a profit or loss.
• TYPE OF RELATIONSHIP Facts that show the type of relationship between the parties, include:
  • Written contracts describing the type of relationship the parties intended to create
  • Whether or not the business provides the worker with employee-type benefits, such as insurance, a pension plan, vacation pay, or sick pay
  • The permanency of the relationship
    If one engages a worker with the expectation that the relationship will continue indefinitely, rather than for a specific project or period, this is generally considered evidence the intent was to create an employer-employee relationship.
  • The extent to which services performed by the worker are a key aspect of the regular business of the company
    If a worker provides services that are a key aspect of the company’s business activity, it is more likely that the company will have the right to direct and control his or her activities.  This would indicate an employer-employee relationship.

Upon request, the IRS will determine whether a worker is an employee.  File Form SS-8 (Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding).  Note that some state unemployment compensation programs define “independent contractor” more narrowly than the IRS.

The IRS has informed taxpayers of revising the optional standard mileage rated for computing the deductible cost of operating an automoblie for business, medical or moving expenses purposes and for determining the reimbursed amount of these expeneses that is deemed substantiated.  The increases take affect July 1, 2011.

The revised standard mileage rates are:

Business –  55.5 cents per mile

Medical & moving - 23.5 cents per mile

National Association of Tax Professionals (NATP) Appleton, WI – In 1990, 132,000 individual taxpayers paid alternative minimum tax (AMT), a tax created to ensure that high-income taxpayers paid their fair share of taxes. Because Congress has not indexed the AMT for inflation, increasing numbers of middle-income taxpayers will end up footing the bill in the future. Unless things change, the nonpartisan Congressional Budget Office estimates that by the year 2016, AMT will affect 33 million taxpayers to the tune of $81 billion

Think you’re exempt from AMT? Think again. Consider George Greatheart (fictitious name to protect identity), whose elderly parents are in declining health and incurring some astronomical medical bills. George’s father requires the use of a wheelchair and needed an accommodating home. George, in caring for his parents, took over their support and purchased a small wheelchair-friendly house in which his parents could more comfortably reside. He planned to deduct the real estate taxes paid on his own residence and two years of back taxes on the house purchased for his parents, anticipating a significant refund. Instead, George found out that the over $17,000 in medical expenses and $11,000 in real estate expenses are AMT ‘preference items’ and they put him over the 7.5 percent adjusted gross income threshold. Instead of a much-needed refund, George got stuck paying the AMT. After the sick feeling he got when he saw his tax return, he enlisted the help of a tax professional so he knows how to better leverage his expenditures and avoid similar situations in the future.

Stan Smoothtalker (another fictitious name), a regional sales manager earned a nice fat W-2 of about $350,000. However, he also had to pay his own business expenses which were substantial because travel comprised about 80 percent of Stan’s work time, plus he worked out of a home office. Stan learned that instead of a sizeable tax refund check, he instead owed another $10,000 in taxes. Stan, like an increasing number of middle-income taxpayers, was caught by another AMT preference item – employee business expenses. Stan’s tax preparer, Linda Burney-Fuhr, an NATP member and enrolled agent from Lewisville, Texas, worked with Stan to fix this problem so it wouldn’t happen in subsequent years. Here’s how they did it: Linda and Stan developed a plan that Stan took to his employer. It restructured how Stan was paid by having him take a drastic salary cut in exchange for his employer reimbursing his expenses under an accountable plan. This puts Stan in a positive cash flow situation. By planning now, Stan greatly reduces his chances of getting caught by AMT again in the future.

“AMT is like a ‘stealth tax’,” contributes NATP enrolled agent Kevin Huston of Arden, North Carolina. “It comes out of nowhere when you least expect it, and catches you by surprise. All the rules for regular tax planning are turned upside down when you are planning to avoid or minimize AMT. It looks very much like a flat tax, where you don’t get to use your deductions – with AMT, planning is critical, as tax professionals cannot usually fix it after the end of the year,” Huston adds. However, Dawn J. Renner, CPA, MBA of Minnetonka, Minnesota, mentions that that in some cases there is a glimmer of hope, “In years after paying AMT, tax preparers can see if filing Form 8801, Credit for Prior-Year Minimum Tax, will allow you to recoup some of the AMT paid.” Renner also reminds that many states also have an AMT and the state AMT may be computed differently than federal taxes.

Depending on your circumstances, you may be a target for AMT. Here are the top ten AMT preference items that could potentially hurt you in the future:

Personal exemptions.
Standard deduction.
State and local income, sales, and property taxes.
Mortgage interest on refinanced or second mortgages and home equity loans not used to buy, build, or improve a home.
Medical expenses.
Miscellaneous itemized deductions subject to the two percent floor.
Exercise of incentive stock options.
Long-term capital gains.
Tax-exempt interest from private activity bonds.
Business tax deductions.

If you are part of the potential group of middle-income taxpayers that may be ensnared in the coming years by AMT, talk with your tax preparer when you have your taxes prepared this year, to avoid being caught in coming years. Small changes can reap big rewards.

The IRS will allow employers with SIMPLE IRA plans until December 31, 2006 to update their plans to reflect the provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA).

Remember the tough, new auto-donation rules are in effect for 2005. In the case of donated motor vehicles (as well as boats and airplanes) with a claimed value of more the $500, the amount of a taxpayer’s charitable deduction for the donation depends on how the vehicle is used by the charity.

If the charity sells the vehicle without any “significant intervening use” or “material improvement” the donor’s charitable deduction generally can’t exceed the gross proceeds from the charity’s sale. If the significant-intervening-use or material-improvement tests are met, the taxpayer can generally claim a deduction for the full fair market value (FMV) of the donated vehicle. The FMV deduction can also be claimed if the charity sells the vehicle at a price significantly below FMV (or gives it away) to a needy individual.