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Employee vs Independent Contractor?

1099 vs W2 for Workers Compensation Eligibility

One of the most common issues when it comes to workers compensation insurance is the difference between employees and independent contractors. Because the line between the two can be a little grey, it’s easy to misunderstand them. Yet, knowing the difference is crucial when it comes to both federal taxes and workers compensation.

The Internal Revenue Service (IRS) has laid out certain guidelines that define the differences between and employee and an independent contractor. Some states also use specific guidelines to help determine the differences.

Three primary categories are used by the IRS to determine whether the status of a person is either an independent contractor or an employee. These categories are: 

* Behavioral Control – Who determines how the work is done and what materials or tools to use in order to do the work?

* Financial Control – Who has a significant financial investment in the work? Who pays the expenses incurred for the work? Who has the ability to realize a profit or loss from the work?

* Relationship of the Parties – Who pays for benefits like health or vacation? Does a written contract exist between the parties that explains who is responsible for what?

The Independent Contractor

An independent contractor is one who is self-employed. He or she determines how the work is done and what materials and tools are used to perform the work as well as providing them. Because the contractor is self-employed, he or she incurs all the expenses related to the work being done and is able to realize either a profit or loss from the work. Typically, an independent contractor has some type of written contract with the company for which he or she is working that outlines the responsibilities of each party.

According to the IRS, an independent contractor is responsible for his or her own income tax and self employment tax. Depending on the business and the state, he or she may be required to pay estimated payments towards these tax liabilities. Expenses for the work can be claimed by the independent contractor.

The Employee

An employee, on the other hand, is not self-employed, which means that he or she does not work for herself. The employee, in general, does not decide how the work is done or what materials and tools are to be used; these are typically decided by and provided by the company. An employee does not typically carry the expenses of the work, and aside from wages, he or she cannot realize a profit or loss from the work. Employee paperwork is frequently used to help define what is expected of the employee as well as company policies.

The company is required by law to withhold income tax and a portion of Social Security   and Medicare taxes     from the employee’s wages. It must also pay Social Security, Medicare, and unemployment taxes on those wages. The company is required to give the employee a W-2  , which shows the amount of taxes withheld from the employee’s pay. Work related expenses can only be claimed by the employee if they are equal to or greater than 2% of the employee’s adjusted gross income.

The Need for Workers Compensation Insurance

In short, yes. Carrying workers compensation insurance is a legal requirement. Employers who don’t carry workers compensation insurance can find themselves strapped with heavy fines, saddled with lawsuits, and even out of business.

Even if a company believes that it hires only independent contractors, it still needs to carry workers compensation. Without workers compensation, the company takes an unnecessary risk in the event that one of the workers gets injured. Since, in many states – though not all – independent contractors cannot get workers compensation insurance, it is not uncommon for a worker who incurs a serious injury while on the job to claim an employee relationship in order to receive medical benefits. Having workers compensation insurance can help protect the company from such cases in the event that the worker is, indeed, found to have an employee status.

A number of states have set up guidelines to help determine the status of a worker. In California and Arizona, for example, the guidelines closely follow the IRS guidelines  . Both states assume that workers are employees unless and until proven otherwise. In these states, employers are required to carry workers compensation insurance no matter how many employees they have or the terms of their employment. The amount of control the employer has over the worker is a primary determination of whether a worker is an employee or an independent contractor. Independent contractors and sole proprietors with no employees of any kind for any duration may choose to carry workers compensation insurance in these states, but it is not a requirement with the exception of roofers working in California.

In addition to the possibility of paying out workers compensation for a worker believed to be an employee, it is possible that, once the worker’s relationship is legally deemed “employee,” a company may face several lawsuits for violation of employment laws that otherwise would not have applied. These include wage and hour laws; minimum wage laws; state overtime laws; payroll recordkeeping laws; failure to withhold taxes, Social Security, and Medicare; discrimination laws; failure to carry workers compensation insurance; and the willful understatement of payroll to reduce the cost of workers compensation insurance. Having workers compensation insurance may help reduce the chance of lawsuits, which can cost thousands of dollars in legal fees as well as up to $50,000 in fines, penalties, and possibly prison time.

The Effect of Contractors on General Liability Premiums

Companies who have independent contractors or who pay their employees on a 1099 and report them as subcontractors generally pay a higher premium than necessary. Contractors are considered a higher liability, and therefore, cause premiums to go up. If the evaluation of these contractors reveals that they are, in fact, employees, changing their status can lower general liability premiums.

Common Sense Protection

A business is a big investment. Protecting it is one of the best things any owner can do. Before hiring anyone, employee or independent contractor, a company should seek out workers compensation insurance to protect itself in the event of a workplace injury. When hiring an independent contractor, ask for proof of insurance with specific coverage, including workers compensation if the state allows it, and verify that it is current. Those who are unable or unwilling to provide workers compensation insurance information should not be allowed on the job site. Otherwise, the company is immediately at risk for a workers compensation liability claim.

In the same respect, independent contractors should carry their own insurance including medical, disability, and if allowed by the state, workers compensation. Doing so not only protects the contractor, but his or her livelihood as well.

Whether you are a company looking to get workers compensation insurance or an independent contractor in need of your own  workers compensation insurance, you can get a free quote by filling out the form. You can also learn more about workers compensation insurance and other types of insurance available to help protect your greatest investment. So, whether you need insurance or are looking for a better deal, go to and fill out the free quote form.

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