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  • Worker Classification I: What difference does the employee/contracted services choice make?

This post is for business owner/managers and their lenders.

Your business (or your business borrowers) have a choice when it comes to workforce:

  • Hire employees
  • Hire contract service providers

The choice impacts liability with the IRS, costs and ability to respond quickly to the marketplace.

In this first of three posts on Worker Classification, I’ll focus on the impact the choice makes on the business.


What is at stake?

A huge back-tax bill from the IRS! Would that impact your business or your business borrower?

And just in case the business has been skating under the radar, there is a move afoot to tighten this area up.

It is seen as one of the ‘Tax Gaps’ that better IRS enforcement could help close.

What is the business case for the choice?

From the perspective of the business, employees work for you. Contracted services are provided by an outside business. Sometimes that ‘outside’ business is an individual who provides similar services to your business and to others.

Here are the advantages to hiring employees:

  • Investment in training, skills and experience provide a longer pay-off
  • The workforce is there when you need it
  • You are not competing with others for the availability of contracted services when business picks up

And the advantages to using contracted services:

  • You do not have to pay employee benefits and payroll taxes
  • You do not have a continuing obligation so it is easier to downsize as needed
  • You do not need to pay severance packages or be as concerned about employment law if you need to downsize
  • You can bring in specialized knowledge to which you do not need access on a continuing basis

What does the business choice tell a lender?

If business is down but they are still holding onto their workforce, they may be taking the gamble that when the upswing comes, they will be more ready than their competition. Or, if a small business, maybe that employee is the owner’s husband’s brother. (That was funny. Feel free to chuckle.)

And if the business makes use of contracted services in an industry that has seen a large shake-out, the continued reliance on contracted services may cause them trouble when business rebounds and they have to compete for fewer sub-contractors.

It is a gamble either way!

A business that invests in maintaining their workforce may win out because they are recovery-ready. Or their competitor who cut back workforce may win out because they are in a better cash position to take advantage of opportunities.

Nobody knows! Business owners are making their best guess. Some will win and some will lose.

Next posts

In the next post on worker classification I’ll cover the IRS classification rules. And in the last I’ll cover what the business needs to do to succeed under ‘safe harbor’ rules should they be audited by the IRS.

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Linda Keith, CPA

Linda Keith CPA is an expert in credit risk readiness and credit analysis. She trains banks and credit unions throughout the United States, both in-house and in open-enrollment sessions, on Tax Return and Financial Statement Analysis.
She is in the trenches with lenders, analysts and underwriters helping them say "yes" to good loans.
Creator of the Tax Return Analysis Virtual Classroom at www.LendersOnlineTraining.com, she speaks at banking associations on risk management, lending and director finance topics.