Employee vs. Independent Contractor - for Churches As an aid to determine whether an individual is an employee under the common law rules, twenty factors or elements have been identified as indicating whether sufficient control is present to establish an employer-employee relationship. The twenty factors have been developed based on an examination of cases and rulings considering whether an individual is an employee. The IRS also categorized these into three general principles of how a church may have control over a worker. They are behavioral control, financial control, and relationship between the church and the individual.

The degree of importance of each factor varies depending on the occupation and the factual context in which the services are performed. The twenty factors are designed only as guides for determining whether an individual is an employee; special scrutiny is required in applying the twenty factors to assure that formalistic aspects of an arrangement designed to achieve a particular status do not obscure the substance of the arrangement (that is, whether the person or persons for whom the services are performed exercise sufficient control over the individual for the individual to be classified as an employee). The factors1 are described below and broken down into their respective categories.2 However careful note should also be taking to conform to the emerging seven part test following these factors.

Behavioral Control

  1. Instructions. A worker who is required to comply with other persons’ instructions about when, where, and how he or she is to work is ordinarily an employee. This control factor is present if the person or persons for whom the services are performed have the right to require compliance with instructions. See, for example, Rev. Rul. 68-598, 1968-2 C.B. 464, and Rev. Rul. 66-381, 1966-2 C.B. 449.
  2. Training. Training a worker by requiring an experienced employee to work with the worker, by corresponding with the worker, by requiring the worker to attend meetings, or by using other methods, indicates that the person or persons for whom the ser¬vices are performed want the services performed in a particular method or manner. See Rev. Rul. 70-630, 1970-2 C.B. 229.
  3. Integration. Integration of the worker’s services into the business operations generally shows that the worker is subject to direction and control. When the success or continuation of a business depends to an appreciable degree upon the perfor¬mance of certain services, the workers who perform those services must necessarily be subject to a certain amount of control by the owner of the business. See United States v. Silk, 331 U.S. 704 (1947), 1947-2 C.B. 167, Weber v. Commissioner, 103 TC 378 (1994).
  4. Order or sequence set. If a worker must perform services in the order or sequence set by the person or persons for whom the services are performed, that factor shows that the worker is not free to follow the worker’s own pattern of work but must follow the established routines and schedules of the person or persons for whom the services are performed. Often, because of the nature of an occupation, the person or persons for whom the services are performed do not set the order of the services or set the order infrequently. It is sufficient to show control, however, if such person or persons retain the right to do so. See Rev. Rul. 56-69.
  5. Hiring, supervising, and paying assistants. If the person or persons for whom the services are performed hire, supervise, and pay assistants, that factor generally shows control over the workers on the job. However, if one worker hires, supervises, and pays the other assistants pursuant to a contract under which the worker agrees to provide materials and labor and under which the worker is responsible only for the attainment of a result, this factor indicates an independent contractor status. Compare Rev. Rul. 63-115, 1963-1 C.B. 178, with Rev. Rul. 55-593 1955-2 C.B. 610.
  6. Furnishing of tools and materials. The fact that the person or persons for whom the services are performed furnish significant tools, materials, and other equipment tends to show the existence of an employer-employee relationship. See Rev. Rul. 71-524, 1971-2 C.B. 346.
  7. Set hours of work. The establishment of set hours of work by the person or persons for whom the services are performed is a factor indicating control. See Rev. Rul. 73-591, 1973-2 C.B. 337.
  8. Full time required. If the worker must devote substantially full time to the business of the person or persons for whom the services are performed, such person or persons have control over the amount of time the worker spends working and implicitly restrict the worker from doing other gainful work. An independent contractor on the other hand, is free to work when and for whom he or she chooses. See Rev. Rul. 56-694, 1956-2 C.B. 694.
  9. Oral or written reports. A requirement that the worker submit regular or written reports to the person or persons for whom the services are performed indicates a degree of control. See Rev. Rul. 70-309, 1970-1 C.B. 199, and Rev. Rul. 68-248, 1968-1 C.B. 431.
Financial Control

  1. Payment by hour, week, or month. Payment by the hour, week, or month generally points to an employer-employee relationship, provided that this method of payment is not just a convenient way of paying a lump sum agreed upon as the cost of a job. Payment made by the job or on a straight commission generally indicates that the worker is an independent contractor. See Rev. Rul. 74-389, 1974-2 C.B. 330.
  2. Significant investment. If the worker invests in facilities that are used by the worker in performing services and are not typically maintained by employees (such as the maintenance of an office rented at fair value from an unrelated party), that factor tends to indicate that the worker is an independent contractor. On the other hand, lack of investment in facilities indicates dependence on the person or persons for whom the services are performed for such facilities and, accordingly, the existence of an employer-employee relationship. See Rev. Rul. 71-524. Special scrutiny is required with respect to certain types of facilities, such as home offices.
  3. Realization of profit or loss. A worker who can realize a profit or suffer a loss as a result of the worker’s services (in addition to the profit or loss ordinarily realized by employees) is generally an independent contractor, but the worker who cannot is an employee. See Rev. Rul. 70-309. For example, if the worker is subject to a real risk of economic loss due to significant investments or a bona fide liability for expenses, such as salary payments to unrelated employees, that factor indicates that the worker is an independent contractor. The risk that a worker will not receive payment for his or her services, however, is common to both independent contractors and employees and thus does not constitute a sufficient economic risk to support treatment as an independent contractor.
  4. Payment of business and/or travel expenses. If the person or persons for whom the services are performed ordinarily pay the worker’s business and/or traveling expenses, the worker is ordinarily an employee. An employer, to be able to control expenses, generally retains the right to regulate and direct the worker’s business activities. See Rev. Rul. 55-144, 1955-1 C.B. 483.
  5. Making service available to the general public. The fact that a worker makes his or her services available to the general public on a regular and consistent basis indicates an independent contractor relationship. See Rev. Rul. 56-660.
  6. Working for more than one firm at a time. If a worker performs more than de minimis services for a multiple of unrelated persons or firms at the same time, that factor generally indicates that the worker is an independent contractor. See Rev. Rul. 70-572, 1970-2 C.B. 221. However, a worker who performs services for more than one person may be an employee of each of the persons, especially where such persons are part of the same service arrangement.
Relationship of the Parties

  1. Right to discharge. The right to discharge a worker is a factor indicating that the worker is an employee and the person possessing the right is an employer. An employer exercises control through the threat of dismissal, which causes the worker to obey the employer’s instructions. An independent contractor, on the other hand, cannot be fired so long as the independent contractor produces a result that meets the contract specifications. Rev. Rul. 75-41, 1975-1 C.B. 323.
  2. Right to terminate. If the worker has the right to end his or her relationship with the person for whom the services are performed at any time he or she wishes without incurring liability, that factor indicates an employer-employee relationship. See Rev. Rul. 70-309.
  3. Continuing relationship. A continuing relationship between the worker and the person or persons for whom the services are performed indicates that an employer-employee relationship exists. A continuing relationship may exist where work is per¬formed at frequently recurring although irregular intervals. See United States v. Silk.
  4. Services rendered personally. If the services must be rendered personally, presumably the person or persons for whom the services are performed are interested in the methods used to accomplish the work as well as in the results. See Rev. Rul. 55-695, 1955-2 C.B. 410.
  5. Doing work on employer’s premises. If the work is performed on the premises of the person or persons for whom the services are performed, that factor suggests control over the worker, especially if the work could be done elsewhere. Rev. Rul. 56-660, 1956-2 C.B. 693. Work done off the premises of the person or persons receiving the services, such as at the office of the worker, indicates some freedom from control. However, this fact by itself does not mean that the worker is not an employee. The importance of this factor depends on the nature of the service involved and the extent to which an employer generally would require that employees perform such services on the employer’s premises. Control over the place of work is indicated when the person or persons for whom the services are performed have the right to compel the worker to travel a designated route, to canvass a territory within a certain time, or to work at specific places as required. See Rev. Rul. 56-694.
The IRS published another perspective on the independent contractor versus employee issue in its Employment Tax Update – Review of Current Litigation, a part of the Exempt Organizations—Technical Instruction Program for FY 2003. In the document, the IRS differentiated between control and independence by examining behavioral control factors and financial control factors. This is the source of the three categories of factors. The document also provides an update of case law and law review articles over the preceding five years. Some of the cases covered in the publication are listed at the end of this document.

Emerging Test applied by the Tax Court

 

The United States Tax Court has applied a modified standard in determining whether a relationship is that of employee or an independent contractor. This is a seven factor test which has some overlap with the 20 factors above. As mentioned before whether an employer-employee relationship exists in a particular situation is a factual question3 and accordingly must be carefully analyzed on a case-by-case basis. In ambiguous situations there is a presumption of an employer-employee relationship.4

  1. Degree of control – This is considered the “crucial test.”5 The degree of control necessary to find employee status varies with the nature of the services provided by the worker. The emphasis in this test is not on whether there is actual control over how work is accomplished, but rather if there is a right to exert such control. The distinction here is whether the employer has more than a right to dictate the result to be accomplished, such as the means and methods to be used in accomplishing the work. If a relationship would extend beyond this result control then it would be indicative of an employer-employee relationship. Additionally, the fact a worker is able to set his own hours is not necessarily indicative that it is an independent contractor relationship, but rather it must be considered in the broader context of the situation.
  2. Investment in facilities – The emphasis in this factor is examining who is making the investment in plant, property, or equipment in order to accomplish the work. If the worker is not required to make any investment in order to complete the work then this would be indicative that there is an employer-employee relationship. Additionally, it should be noted that occasionally working from home and using a personal computer to complete the work may not necessarily be sufficient to be considered an independent contractor. The Tax Court ruled and affirmed this stance especially in cases where this was de minimis and voluntary.
  3. Opportunity for profit or loss – This factor examines whether the worker has an opportunity to profit or loss beyond hourly wages. If there is no such exposure to risk or loss then this would be indicative of an employer-employee relationship.
  4. Right to discharge – This factor examines whether the employer has the right to discharge the employee at any time. If this right exists this would be consistent with an employer-employee relationship.
  5. Integral part of business – This factor examines whether the performed work is part of the regular business of the church pay the compensation. Examples of integral parts of business indicating employee status includes: filing, photocopying, running errands and sending mail.
  6. Permanency of the relationship – This factor examines whether there is a sufficient time in which to create some permanence of the relationship thus indicating employee status. While a transitory work relationship may point toward independent contractor status.6 However, the mere fact that a worker could leave at any time for a better position is not sufficient to establish an independent contractor relationship.7
  7. Relationship the parties thought they created – This factor looks to the intent of the parties as to what type of relationship was to be created as well as to what formalities were followed in respect to the relationship. These formalities include specifically what tax forms are filed. If an independent contractor relationship is to be formed than it is important to file Form 1099-MISC for the non-employee compensation paid to the worker.
Section 530 Safe Harbor Provision

It should be noted that Section 530 of the Internal Revenue Act of 1978 has created a safe harbor provision for churches who desire to ensure that independent contractor relationships are properly preserved. There have been several changes over the years to this provision and it would be advisable to seek the council of a CPA or Attorney in order to ensure compliance with these requirements. Additionally, this section has been codified in the Internal Revenue Code under 26 U.S.C.S. Section 3401. For further reference and to check for updates this code section should be examined as this section is frequently revised.8

Requirements of Section 530 include the following:

  1. Independent contractor status will be preserved and therefore there will be a termination of certain employment tax liability if:
a.              The church has never treated the individual as an employee; and

b.              All tax returns (including informational returns) required to be filled by the church are consistent with the treatment of such individual not being treated as an employee.

  1. There are certain statutory standards that provide one method of satisfying the above requirements. A church shall be treated as having a reasonable basis for not treating an individual as an employee if:
 .               There is judicial precedent, published ruling, or a letter ruling to the church regarding this matter; or

a.              A prior IRS audit of the church in which there was not an assessment regarding the treatment of individuals holding positions substantially similar to the one in question;9 or

b.              A long-standing,10 recognized practice of a significant segment11 of the industry in which such individual was engaged.