Key Takeaways
- Classification based on "Right to Control" under Common Law.
- Misclassification = employer liable for FICA, FUTA, income tax withholding.
- Section 530 Safe Harbor: 1099s filed, consistent treatment, reasonable basis.
- Form SS-8: request IRS determination of status.
- IRC §3509: reduced rates for non-willful misclassification.
- Employee obligations shift to employer; contractor handles own taxes.
Employee vs. Independent Contractor
Why This Matters for the Exam
Worker classification is heavily tested. Misclassification is one of the most expensive tax errors a business can make.
Exam Note: For the May 2025 - February 2026 testing window, you are tested on classification rules as of December 31, 2024 (Tax Year 2024).
Expect at least 4-5 questions on classification.
The Core Distinction
| Factor | Employee (W-2) | Contractor (1099) |
|---|---|---|
| Control | Employer controls how | Taxpayer controls result only |
| Income tax | Withheld by employer | Estimated taxes |
| FICA | Split 7.65% each | Worker pays 15.3% SE |
| FUTA | Employer pays | N/A |
| Reporting | Form W-2 | Form 1099-NEC |
| Expenses | Reimbursed | Schedule C |
Common Law "Right to Control"
| Element | Description |
|---|---|
| Key question | Does business control HOW work is done? |
| Not just result | Control over methods = employee |
| Contract label | IRS looks at actual facts |
Misclassification Consequences
| Liability | Description |
|---|---|
| Employer FICA | 7.65% of wages |
| Employee FICA | Often employer liable |
| Federal withholding | Statutory percentages |
| FUTA | 0.6%-6.0% |
| Penalties | §6651 (failure to file), §6656 (failure to deposit) |
Section 530 Safe Harbor
| Requirement | Description |
|---|---|
| 1. Reporting consistency | Filed 1099-NEC for worker |
| 2. Substantive consistency | All similar workers treated same |
| 3. Reasonable basis | Prior audit, judicial precedent, industry practice |
Form SS-8
| Element | Description |
|---|---|
| Purpose | Request IRS determination of status |
| Who files | Either worker or business |
| Caution | Often results in employee classification |
IRC §3509 Relief (Non-Willful)
| Filed 1099s? | Income Tax Rate | Employee FICA Rate |
|---|---|---|
| Yes | 1.5% | 20% of employee share |
| No | 3.0% | 40% of employee share |
Real-World Scenario
Scenario: Company misclassifies 10 workers as contractors but filed 1099-NEC for all.
- Section 530: May qualify (filed 1099s, consistent treatment).
- If not: IRC §3509 applies—reduced rates (1.5% income, 20% FICA).
- Without 1099s: 3.0% income, 40% FICA.
On the Exam
Expect 4-5 questions on classification, typically:
- Classification Questions: "Is this worker employee or contractor?"
- Safe Harbor Questions: "What is required for Section 530 relief?"
- Consequence Questions: "What taxes does employer owe?"
The key is to remember: Right to control = employee. Section 530 = 1099s + consistency + reasonable basis. §3509 = reduced rates if non-willful.
Plumber: own tools, sets hours, multiple clients, no supervision. Classification?
What must a business do for Section 530 relief?
Misclassified worker—what federal tax does employer owe?