This is a question that I am asked very often. The answer lies in who has control of the when and how the worker is paid and completes the work. Let's look at two scenarios. One in which someone comes into my office to work. The individual uses my computer and my software. I let the individual know when he or she will be working and how much the pay will be. I also explain to the worker the laws and regulations regarding the work to be performed. In this example, the worker is my employee. I am required to withhold payroll taxes and give this person a paycheck. Depending on your state, you may other considerations such as workman's compensation and liability insurance to pay for your employee.
The second scenario is one in which an individual comes to my office with his or own equipment. The worker decides when he will come in and how much the pay will be. This person also knows the regulations surrounding the trade he is in. This is a subcontractor and does not need taxes withheld from the payment and will not receive a paycheck. If the individual receives payment of $600 or more over the course of a year and is not incorporated, the payer needs to issue a 1099 before January 31 of the following year.
You can read here for more information from the IRS regarding this topic.
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