This step applies only if you’ve determined that a worker who is an IC under the common law test discussed in Step Two falls into one of the following categories:
- corporate officers
- home workers
- drivers who distribute food products, beverages or laundry
- full-time life insurance salespeople , and
- traveling or city salespeople .
If a worker you classify as an IC under the common law test comes within one of these categories, and if the additional requirements discussed below are met, the worker is a statutory employee. Statutory employees must be treated as employees for FICA purposes, so you must pay half of their Social Security and Medicare taxes yourself and withhold the other half from their paychecks. You must also pay federal unemployment taxes for statutory employees. You don’t have to withhold federal income tax from the workers’ paychecks, regardless of their status as a statutory employee (except for corporate officers). The following chart summarizes what you must pay for statutory employees:
Employer Treatment of Statutory Employees
Type of Worker
Income Tax Withholding
Social Security Taxes
Federal Unemployment Taxes
Corporate officer
Withhold
Pay and withhold
Pay
Agent or commission driver
No withholding
Pay and withhold
Pay
Life insurance salesperson
No withholding
Pay and withhold
None due
Traveling or city salesperson
No withholding
Pay and withhold
Pay
Home worker
No withholding
Pay and withhold if total pay is more than$100 in cash during the year
None due
You must give every statutory employee a Form W-2, Wage and Tax Statement, and check the Statutory Employee designation in box 15. The W-2 must show the Social Security and Medicare tax withheld, as well as the Social Security and Medicare income. You must also file a copy with the Social Security Administration. You can obtain Form W-2 and instructions for completing it by calling the IRS at: 800-TAX-FORM (829-3676) or by calling your local IRS office. You may also download those documents from the agency’s website at www.irs.gov.
Tip Don’t Forget to Check the Safe Harbor
If a worker is a statutory employee, you’ll still be able to avoid having to pay employment taxes if you qualify for Safe Harbor protection as discussed in Section E, below. However, it’s not likely that many firms that use statutory employees would qualify for the Safe Harbor.
For all statutory employees other than corporate officers, there are three threshold requirements that the worker must meet. The worker must:
- Do the work personally. The worker cannot subcontract the work out to others. A written agreement stating this will satisfy the requirement, but it is not required. If you explicitly tell a worker that he or she must perform the services personally, and the worker agrees, the requirement is satisfied. In addition, this requirement can be implied from the circumstances. For example, telling a person: “I want you to clean my house,” implies that you want him or her to perform services for you personally.
- Make no substantial investment in the equipment or facilities used to perform the services. This includes things such as office space and furniture and office equipment and machinery. It does not include tools, instruments and clothing commonly provided by employees in the trade—for example, uniforms that employees typically provide for themselves or inexpensive hand tools that carpenters typically have. Nor does it include education, experience or training. Statutory employees can also use vehicles for their transportation or for transporting goods.
- Have a continuing relationship with the hiring firm. This includes regular part-time work and regular seasonal employment. But a single project is not enough to constitute a continuing relationship, even if the job takes a long time to complete.
Things to Do If You Don’t Want Statutory Employees
You can avoid having a worker classified as a statutory employee by setting up the work relationship so that it does not satisfy one or more of the three threshold requirements described above. For example:
- Sign a written agreement with the worker stating that he or she has the right to subcontract or delegate the work out to others. But note that the agreement must reflect reality—that is, you must really intend to give the worker the right to delegate.
- Avoid having a continuing relationship with the worker. Use the worker for a single project, not ongoing work. Spread your hiring around by using lots of different workers instead of a few favorite ones. Also, avoid giving workers lengthy projects. Break down complex projects into separate tasks and hire different workers to complete them.
- Hire workers with a substantial investment in outside facilities.
Now that you know the threshold requirements, let’s look more closely at the categories of workers eligible to be statutory employees.
1. Corporate Officers
If a corporation’s president, treasurer, vice president or secretary (1) performs services for the company and (2) receives (or is entitled to receive) compensation, the officer is a statutory employee. (Note that both requirements must be met.) Compensation doesn’t just refer to wages. If the officer earns stock options, then this requirement is met.
EXAMPLE: Murray, his sister Rose and his brother-in-law Artie start a catering business, which they set up as a corporation. Murray serves as the president, Rose as the secretary-treasurer and Artie as vice president. Murray and Rose actually run the company. Artie contributed start-up funds, but does not work for the corporation and receives no pay from it. Murray and Rose are statutory employees of the corporation; Artie is not.
2. Home Workers
People who work in a home (theirs or someone else’s) or a workshop are statutory employees if they meet the threshold requirements described above and if all of the following criteria apply:
- they do the work away from the hiring firm’s place of business—usually in their own home or workshop, or in another person’s home
- they do the work on goods or materials furnished by the hiring firm
- they perform the work in accordance with the hiring firm’s specifications; generally, such specifications are simple and consist of patterns or samples, and
- the hiring firm requires the worker to return the processed material to the hiring firm or to some person designated by the hiring firm.
This group usually includes people who make or sew buttons, quilts, gloves, bedspreads, clothing, needlecraft products and similar products.
If all these requirements are met, you must pay the employer’s share of FICA. However, you do not have to pay FICA tax if you pay the home worker less than $100 for a calendar year.
If the worker does not qualify as an employee under the IRS common law test, you do not have to withhold payroll taxes or pay federal unemployment taxes (FUTA).
EXAMPLE: Rosa sews buttons on shirts and dresses. She works at home. She does work for various companies, including Upscale Fashions, Inc. Upscale provides Rosa with all the clothing and the buttons she must sew. The only equipment Rosa provides is a needle. Upscale gives Rosa a sample of each outfit showing where the buttons are supposed to go. When Rosa finishes each batch of clothing, she returns it to Upscale. Rosa is a statutory employee. Upscale must pay employer FICA (and withhold Rosa’s share of FICA). But it need not pay FUTA or withhold federal income tax unless Rosa is an employee under the common law test.
3. Food, Beverage and Laundry Distributors
If they meet the threshold requirements discussed above, drivers who distribute meat or meat products, vegetables or vegetable products, fruits or fruit products, bakery products, beverages other than milk or laundry or dry cleaning are statutory employees.
The products these workers distribute may be sold at retail or wholesale. The drivers may either be paid a salary or by commission. They may operate from their own trucks or trucks belonging to the hiring firm. Ordinarily, they service customers designated by the hiring firm as well as those they solicit.
EXAMPLE: Alder Laundry and Dry Cleaning enters into an agreement with Sharon to pick up and deliver clothing for its customers. Sharon has similar arrangements with several other laundries and arranges her route to serve all the laundries. None of the companies has any control over how she performs her services. She owns her own truck and is paid by commission. Sharon qualifies as an IC under the common law test.
However, she is a statutory employee because all three threshold requirements are met: Her agreement with Alder acknowledges that she will do the work personally, she has no substantial investment in facilities (her truck doesn’t count since it’s used to deliver the product) and she has a continuing relationship with Alder. Alder must pay employment taxes for Sharon—that is, pay half of her FICA and withhold the other half from her pay, and pay all of the applicable FUTA. However, Alder need not withhold federal income tax since Sharon is an IC under the common law test.
Delivery people who buy and sell merchandise on their own account or deliver to the general public as part of an independent business do not fall within this category. It’s easy to tell if drivers have independent businesses. Instead of merely delivering products owned and sold by others, they buy the products themselves and resell them.
4. Life Insurance Salespeople
This group of statutory employees includes salespeople whose full-time occupation is soliciting life insurance applications or annuity contracts, primarily for one life insurance company. The company usually provides work necessities such as office space, secretarial help, forms, rate articles and advertising material.
If a life insurance salesperson is a statutory employee, the hiring firm must pay FICA taxes. However, it need not pay FUTA taxes or withhold federal income taxes unless the salesperson is an employee under the common law test.
EXAMPLE: Walter Neff sells life insurance full time for the Old Reliable Life Insurance Company. He works out of Old Reliable’s Omaha office, and the company provides him with a desk, clerical help, rate articles and insurance applications. Walter is a statutory employee of Old Reliable. The company must pay employer FICA and withhold employee FICA from Walter’s pay. It need not pay FUTA or withhold federal income tax unless Walter is an employee under the common law test.
5. Business-to-Business Salespeople
Salespeople are statutory employees if they meet the threshold requirements described above and if they:
- work at least 80% of the time for one person or company, except, possibly, for sideline sales on behalf of someone else
- sell on behalf of, or turn their orders over to, the hiring firm
- sell merchandise for resale or supplies for use in the buyer’s business operations (as opposed to goods purchased for personal consumption at home), and
- sell only to wholesalers, retailers, contractors or those who operate hotels, restaurants or similar establishments; this does not include manufacturers, schools, hospitals, churches, municipalities or state and federal governments.
This group does not include drivers who distribute food, beverages or laundry. (For that group of people, see Section 3, above.)
Generally, this category includes traveling salespeople who might otherwise be considered ICs. Such salespeople are ordinarily paid on a commission basis. The details of their work and the means by which they cover their territories are not typically dictated to them by others. However, they are expected to work their territories with some regularity, take purchase orders and send them to the hiring firm for delivery to the purchaser.
EXAMPLE: Linda sells articles to retail bookstores for the Simply Sons Publishing Company. Her territory covers the entire Midwest. She works only for Simply and is paid a commission based on the amount of each sale. She turns her orders over to Simply, which ships the articles to each articlestore customer. Linda is Simply’s statutory employee. The company must pay FICA and FUTA taxes for her. However, Simply need not withhold federal income taxes from her pay unless she qualifies as an employee under the common law test.