13.2 Common Law Test (Behavioral, Financial, Relationship)
Key Takeaways
- IRS replaced the old 20-factor test with a three-category framework (behavioral, financial, relationship).
- Behavioral Control: right to direct HOW work is done (instructions, training, tools).
- Financial Control: opportunity for profit or loss; investment; unreimbursed expenses; multiple clients.
- Type of Relationship: written contracts, benefits, permanency, core-business function.
- No single factor is decisive — weigh the totality of facts.
- Training plus detailed instructions strongly indicates employee status.
Common Law Test (IRS Three-Category Framework)
Why This Matters for the Exam
The three-category test is the modern IRS framework for classification (it replaced the old 20-factor common-law test). For the 2026-2027 testing window you are tested on this rule as of December 31, 2025 — the framework itself was not changed by OBBBA.
Expect at least 3-4 questions on the common law test.
The Three Categories
| Category | Key Question |
|---|---|
| Behavioral | Does business control HOW work is done? |
| Financial | Who has opportunity for profit/loss? |
| Relationship | What is the nature of the relationship? |
Behavioral Control Indicators
| Factor | Employee | Contractor |
|---|---|---|
| Instructions | Detailed (when, where, how) | Minimal |
| Training | Required by business | None |
| Evaluation | How work is performed | End result only |
| Tools/equipment | Provided by business | Worker's own |
Financial Control Indicators
| Factor | Employee | Contractor |
|---|---|---|
| Investment | Minimal | Significant |
| Expenses | Reimbursed | Unreimbursed |
| Profit/Loss | Paid regardless of outcome | Can lose money |
| Market availability | One employer | Multiple clients |
Type of Relationship Indicators
| Factor | Employee | Contractor |
|---|---|---|
| Written contract | Less important to IRS | Often states non-employee |
| Benefits | Health, 401(k), PTO | None |
| Permanency | Indefinite | Project-based |
| Core function | Key to business | Ancillary |
Case Study (2025)
Scenario: Mark, a web developer:
- Behavioral: Daily meetings, mandated documentation style = high control.
- Financial: Monthly retainer, firm provides laptop = high control.
- Relationship: No other clients, indefinite engagement, work is core = high control.
Result: Mark is an employee — firm must withhold income tax, pay employer FICA (6.2% SS on wages up to $176,100; 1.45% Medicare uncapped), and pay FUTA on first $7,000.
On the Exam
Expect 3-4 questions on common law, typically:
- Factor Questions: "Which category does training fall under?"
- Classification Questions: "Based on these facts, employee or contractor?"
- Key Indicator: "What most strongly supports contractor status?"
The key is to remember: Behavioral = how. Financial = profit/loss. Relationship = benefits/permanency. Training = employee. Multiple clients + significant investment = contractor.
Consultant: flat fee, pays own travel, chooses tools/hours. Strongest contractor factor?
Designer: weekly training, company workstation/software. Which category?
Worker performs "key aspect" of business operations. IRS leaning?