A common employment practice could lead to major tax liability

A common employment practice could lead to major tax liability

You started a company largely to generate profit and possibly to pursue your passion. Especially if your company has irregular or sporadic scheduling, maintaining a staff of full-time employees may not be realistic. Some companies get the talent they need by working with independent contractors instead of employees.

Hiring independent contractors can save your company money. You won’t have to pay employment taxes for them or secure workers’ compensation insurance to cover them. However, if one of those workers or the government claims your hiring practices involved misclassification, you could be on the hook for a lot of unpaid taxes.

What misclassification could do to your business

Perhaps an independent contractor got hurt while working on a project for your company. When they went to apply for workers’ compensation, they found out there was no coverage. They then proceeded to hire a lawyer and take legal action against you to try to claim they were really an employee.

Even if you had them fill out a 1099 instead of a W-2, your behavior toward the employee will matter more than the tax forms they executed. If the courts agree with them, your business might be in big trouble. Not only could there be financial penalties associated with the lack of workers’ compensation coverage, but you can face major tax consequences.

By classifying workers as independent contractors, you avoided paying crucial employment taxes. If it turns out that they should have been employees, you may have to pay all of those taxes, as well as interest, penalties and fines. In some cases, prosecution could result. Facing tax controversies related to your payroll practices can put your company and its financial solvency at risk.

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