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Definition of an Employee

The definition of an employee is extremely important, since it directly impacts whether or not taxes are to be withheld from a person’s pay, which also must be matched in some cases by the business. The basic rule is that a person doing work for a company is an employee if the employer not only controls the person’s work output, but also the manner in which the work is performed. The second part of the definition is crucial, since the first part essentially defines a contractor, who can choose to create a deliverable for a company in any manner he or she chooses. This definition results in the following two classes of workers:

Employee. An employee is paid through the payroll system; the employing business is responsible for withholding taxes and paying matching tax amounts where applicable.
Contractor. A contractor is paid through the accounts payable system; the business that uses its services is only responsible for issuing a Form 1099 to the contractor at the end of the calendar year to both the IRS and contractor, stating the total amount paid to the contractor during the year. The contractor is liable for remitting all payroll taxes to the government.

If a company incorrectly defines an employee as a contractor, it may be liable for all payroll taxes that should have been withheld from that person’s pay. Consequently, when in doubt as to the proper definition of a worker, it is safer from a payroll tax law perspective to assume that the person is an employee.