More and more dealers are trying to save money and paperwork by hiring Independent Contractors instead of employees. At first glance this seems like a great idea. The money you save in workers compensation and social security alone makes it attractive. The thought of not having to produce those payroll reports and W2's just about ices the cake. But, you had better think about it a little more before you jump into it. There are a number of risks associated with it, so before you begin to "work around the system" you should do a little research. Believe it or not, the IRS doesn't think good thoughts about an employer who tries to "fool the system". Fines and penalties can hurt.... not to mention the civil liabilities you face when the "non-employee" gets hurt on the job and then wants you to pay his medical bills, expects you to pay his lost wages, and then turns around and sues you personally and corporately. Even the DMV has gotten into the act. They have determined that you may not rent or loan your dealer license to any other person. The only persons who may buy or sell vehicles off your license are employees, as proved by w2s from payroll, and legitimate non-employee agents, as proved by 1099s given out at the end of the year.
The IRS, in association with many State agencies, applies a 1987 Revenue Ruling known as the "20 factor test" to determine whether a person really is an employee. A failing response to any one of the questions means you failed the entire test. There are a few specific exceptions under the law, but none of them refer to car dealers or their personnel. To make things as confusing as possible, everyone knows someone who uses independent contractors in contradiction to these rules and still passed an audit. Sometimes, it depends on the auditor and the circumstances, and sometimes maybe a little bit of old fashioned luck. The following is a copy of the "20 factor test" as constructed by the IRS and accepted by most state agencies.
1. Instructions -- Is the person required to comply with instructions about when, where, and how the work is to be done? If a person is required to comply with instructions as to when and how to perform the work, that person is generally considered an employee.
2. Training -- Is the person provided training? Did the individual receive training by another experienced employee working with him or her? Training typically points to employee status, since it indicates that the employer wants the services to be performed in a particular manner and is exerting considerable control.
3. Integration -- Are the services for the operations of the company? The more integrated the individuals task is, the more likely the company has control -- making the individual an employee.
4. Service Rendered Personally -- Are the services provided personally by the individual? If the service must he rendered by a particular individual, then the employer likely has control, meaning the service provider is likely an employee.
5. Hiring, Supervising and Paying Assistants -- Does the company hire, supervise or pay assistants to help the person? If the company controls these activities, employee status is indicated.
6. Continuing Relationship --Is there a continuing relationship between the person and the company? An ongoing relationship with an individual in a company tends to indicate the existence of an employer/employee relationship.
7. Set Hours of Work -- Does the company set the work schedule? If the company can set specific hours when the individual must be on the job the individual is most likely an employee.
8. Full Time Required --Does the person devote his/her full work time to the company? If the company requires an individual to devote full time to the business, that individual will be considered an employee.
9. Location of Work --Is the work performed at the companys place of business or at specific places designated by the company? Control is the key word. Control over the place of work -- on company premises or a site determined by the company -- indicates an employer/employee relationship.
10. Order or Sequence of Work -- Does the company direct the sequence of the work performed? If the employer can set the sequence in which services are to be performed, then control is being exercised -- and the individual providing services is an employee.
11. Oral or Written Reports --Are reports regularly given to the company? If oral or written reports are required by the company, then control and an employer/employee relationship is indicated.
12. Payment by Hour, Week or Month -- Is the person paid hourly, weekly, or monthly (as opposed to by the job)? An independent contractor is normally paid by the job or on a commission basis, rather than on a schedule or by a guaranteed amount.
13. Payment of Business and/or Travelling Expense -- Does the company reimburse the person for business or travel expenses? The fact that the employer will pay for an individuals work-related expenses is indicative of control -- and employee status.
14. Tools and Materials -- Does the company supply materials or tools to the person? Providing tools and materials to an individual suggests that a company is also exercising control, which again means that the individual is an employee.
15. Significant Investment --Does the person have equipment or facilities to perform services? If an individual has a significant personal investment in facilities or equipment, that person is likely to be an independent contractor.
16. Profit or Loss Potential -Is there an exposure to loss, or the potential of profit for the individual? A person who is in a position to realize a profit or suffer a loss as a result of the service provided is more than likely an independent contractor.
17. Working for More than One Firm -Does the person work exclusively for the company? If an individual works for more than one company at the same time, the person is normally an independent contractor.
18. Making Service Available to the General Public -- Does the individual in question make his services available to the public at large? Advertising to the general public the availability to perform a particular service normally indicates an independent contractor.
19. Right to Discharge -- Can the worker be dismissed for reasons other than non-performance of contract specifications? The right to discharge an individual is clearly an act of control and is indicative of an employer/employee relationship.
20. Right to Terminate --Can the person terminate his relationship with the company without liability for failure to complete the job? Employees can usually terminate the relationship with the employer at any time without incurring any liability. An independent contractor normally has obligations to complete specific jobs or a legal obligation to satisfactorily perform a particular service.
What at first seems like a smooth way to avoid some expenses and keep the paperwork simple can suddenly become a nightmare. Fines and Penalties can suddenly be placed against you personally as well as against your company. The fact that the IRS, DMV, and various other state agencies are taking a closer look at this area should make you a little more cautious.
Most dealers pay their salesman a commission based on sales. Even if a written contract exists, IRS usually takes the position that car salesmen are employees and are subject to the usual withholdings. Porters and drivers usually are employees. Even if they earn less than $600, they should be reported on payroll. If a porter, or driver does in fact have his own business and reports earnings from other dealers you may be able to argue his status and win, otherwise you have an employee. IRS may determine that they might or might not be independent contractors, based on individual facts and circumstances. Buyers or brokers may sometimes be considered as employees and sometimes as independent contractors. Again the facts and circumstances determine the true status. For example, some buyers or brokers will work for several dealers while others will work exclusively for one dealer. One element of proof boils down to the existence of multiple form 1099s issued by each of the participating dealers. Of course, it makes it a little confusing when a buyer does not have his own dealer license and works off the license of a specific dealer... then buys vehicles for other dealers as well. The DMV may want to know more about the circumstances, and the answer you give may not sit well with the IRS.
You really can't have it both ways. If you claim that someone is not an employee, and then they have an accident in one of your vehicles you may be wanting to sing a different song. For your garage liability policy to kick in and pay, the driver had better be named as an insured on the policy. Casual drivers, such as customers on a test drive, are usually covered; but, if you have independent contractors running around you had better declare them with your insurance company.
The responsibilities and problems that arise when you try to fool the IRS somehow sneak up on you and sooner or later bite you in a tender spot. When you are found to be out of compliance with regards to a person that you classified as an independent contractor when he really should have been an employee the IRS can assess for back taxes and impose fines against you. First, there is income tax withholding, then there is FICA, up to 40% of the employees share and all of the matching employer's share will be paid by you. And, that will apply to the entire period of time that you misclassified the employee. The IRS will retroactively reclassify the employee and you are now responsible for making up taxes, fines, and penalties from the beginning of your relationship with that employee. And don't forget, the IRS talks very loudly, so the appropriate state agencies will probably learn about you and then they will want to talk to you about things such as unemployment taxesand workers compensation insurance.
It should be very obvious by now that the right to control is really the issue when determining whether a person is or is not an employee. The more control you exercise over a person, the more likely it is that the IRS will see him as an employee. If you choose to use independent contractors, you would be wise to seek the advice of your CPA or Attorney before you do so. I'm only reporting what I think are the facts. For actual advice, go somewhere else.