Case — Independent Contractor or Employee?

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TL Case Summ

THE QUESTION

Is a lawyer’s wife his employee or an independent contractor?

THE DISPUTE

Taxpayer Says: She was an independent contractor. The payments she received from her husband were properly reported on Schedule C, and she properly paid self-employment tax.

Internal Revenue Service Says: The taxpayer should be classified as an employee.

THE LAW

From Boles Trucking, Inc. v United States, 77 F.3d 236, 239-240 (8th Cir. 1996): We presume that a worker classification determination made by the Commissioner is correct, but a taxpayer may rebut that presumption by demonstrating by a preponderance of the evidence that the determination was erroneous.

From Weber v. Commissioner, 103 T.C. at 386: Whether an individual performing services for a principal is an employee (rather than an independent contractor) is a factual question to which common law principles apply.

From Ewens & Miller, Inc. v. Commissioner, 117 T.C. 263, 270 (2001): In evaluating the relationship between the principal and the worker, we consider (1) the degree of control the principal exercised over the details of the work; (2) which party invested in the facilities the worker used; (3) the worker’s opportunity for profit or loss; (4) whether the principal could have discharged the worker; (5) whether the work was part of the principal’s regular business; (6) the permanency of the relationship; and (7) the relationship the parties believed they were creating.

THE CAUSE OF THE DISPUTE

The way you classify your workers impacts your federal and state employment taxes, pension plans, employee benefits, worker’s compensation insurance, liability in lawsuits, and union rules, among other things. Since tax law takes a facts-and-circumstances approach to the classification, employers and the IRS are often at odds.

In this case, the taxpayer, the wife of an attorney, performed work for her husband’s law office on two of his largest cases. She worked from home, which was 45 miles away from the office, performing legal research and reviewing documents with a client who had an eccentric personality.

While the taxpayer’s husband told her what he needed her to do, he allowed her to accomplish her tasks in her own time and in her own way. The taxpayer and her husband agreed that her husband could discharge her if the arrangement became unproductive. She received payment only when the cases she worked on had settled. The law office issued Form 1099-Misc for her work, and did not pay any of her expenses. She worked for the law office for five or six years, but did not work there after the cases settled.

The taxpayer classified herself as self-employed on her tax return, which she filed separately from her husband. She included her earnings from his law office on her Schedule C, Profit or Loss from Business, the form she used to report income from her sole-proprietorship office services business. She paid self-employment tax on the income and her husband’s law office did not pay any payroll tax on the amounts paid to her.

The IRS reclassified her as an employee.

The tax court based its decision on the seven factor analysis, with no one factor dictating the outcome.

1. Degree of control.

2. Investment in facilities.

3. Opportunity for profit or loss.

4. Right to discharge.

5. Regular business.

6. Permanency of the relationship.

7. The relationship the parties believed they were creating.

WHAT WOULD YOU DECIDE?

Make your selection, then see “The Court’s Decision” below for a full explanation

For the or for the

THE COURT’S DECISION

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View the full case in the window below, or download a complete copy of the PDF by clicking the “Download” link.

Note: Taxing Lessons provides a summarized version of sometimes lengthy court decisions. T.C. Memo. 2014-125 (Jones) includes facts and issues not presented here. Please use the link provided to read the entire case.

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HL Carpenter, an experienced investor and a CPA, specializes in reader friendly articles on taxes and investing for individuals and small businesses, and publishes two newsletters: Taxing Lessons and Top Drawer Ink. Visit TaxingLessons.com and HLCarpenter.com.

This information should not be considered legal, investment or tax advice. Taxing Lessons and Top Drawer Ink Corp. do not provide legal, investment or tax advice. Always consult your legal, investment and/or tax advisor regarding your personal situation.

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Right answer!
Sorry, wrong answer :(
For the taxpayer. After considering the record and weighing all of the factors, we conclude the taxpayer was an independent contractor during the years in issue.

Although some of the relevant factors suggest she was an employee, on balance the record indicates that she was an independent contractor.

Her husband did not control the details of her work; she worked from home, and he did not supervise her.

Although she ultimately worked for the law firm for several years, her service depended on the length of her cases and could have ended at any time without payment if the cases had not settled favorably.

Finally, the taxpayers did not believe they were creating an employment relationship and took pains to avoid such a relationship.

We think these factors sufficiently establish that the taxpayer was an independent contractor, and we hold accordingly.

Editorial Note 1. Here’s what the court decided on each factor.

1. Degree of control. Facts suggest independent contractor status.

2. Investment in facilities. Facts suggest independent contractor status.

3. Opportunity for profit or loss. Facts suggest independent contractor status.

4. Right to discharge. Facts suggest employee status.

5. Regular business. Facts suggest employee status.

6. Permanency of the relationship. Facts suggest independent contractor status.

7. The relationship the parties believed they were creating. Facts suggest independent contractor status.

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