The US Department of Labor and the IRS have begun collaborating with many states to share information/resources that could potentially uncover some violations due to worker misclassification. Not only will some employers be required to pay back pay- if minimum wage requirements weren’t met- they may also be required to pay overtime, back taxes (including the employees’ portion), penalties, retroactive employee benefits staff time/effort, penalties, interest, fines, and even legal fees. Some of the other costs are not quantifiable- they have lowered the morale of staff and negative publicity.

The IRS has made it abundantly clear that there’s not a magic formula to determine how a worker is classified. Some specific facts come into play. Employers must start by considering whether they have the right to control the outcome of the work as well as how it’s done. Whether they exercise that right is not relevant. For example, sometimes organizations have highly experienced employees and therefore, provide very little guidance/oversight.

Common-Law Rules

When determining whether an individual is an employee or an independent contractor, the IRS considers the Common Law Rules. There are three main categories:

Behavior control
Financial control
Type of relationship

All three factors must be taken into account. There is no one particular factor that decides the status of a person.

Another thing you can do is to take the Economic Reality Test from the Department of Labor. This relates to whether the Fair Labor Standards Act is applicable. There are six factors to this. Additionally, it considers whether the worker has a real business that does not offer services that integrate with yours.

How to Prove Someone is an Independent Contractor

Several things need to be in place for a business to prove a worker is an independent contractor, not an employee. These things are:

Written contract
Proof of real, separate business
W-9 Form

Since the IRS has put some stricter employment laws in place, a business must do their homework before labeling a worker as an independent contractor.

Finally, there are some important ways that state laws are different than federal laws. A worker may fall under the classification of independent contractor by state standards- but unemployment insurance and workers’ compensation are paid on their behalf. Make sure to check with your state laws to make sure.


If you are a small business owner that needs help classifying your workers, contact Commercial One Group. We can help you make sure you have everything in order in case the IRS decides to look into your workers more closely.