If you’re wondering what statutory employee means, you’re not alone. When it comes to payroll taxes, there are so many complications and categorizations to remember, that many professionals are unaware of the term’s actual meaning. Most of the time, businesses either hire independent contractors or common-law employees. And also most of the time, workers qualify to work as one or the other.
However, at some point, you might need to hire a statutory employee and pay them correctly. If you find yourself in this situation now, or if you simply want to familiarize yourself with what a statutory employee is, you’re in the right place.
In this article, we will look at what is a statutory employee and the specific qualifications individuals need to be qualified as such. Then, we’ll look at examples of statutory employees outlined by the IRS and take a look at some of the benefits for employees. Lastly, we’ll take you through the process of paying statutory employees correctly and filling out a statutory employee W-2 form so the process is smooth and worry-free.
Table of Contents
What is a statutory employee?
A statutory employee is an employee that falls into a specific tax category in which employers are required to withhold Medicare and social security taxes from their earnings, but not income tax. In other words, employers can think of a statutory employee as something in between a regular employee and an independent contractor.
Like common law employees, employers should expect to partially withhold FICA earnings from statutory employees’ paychecks. Also, there is no need for employers to provide statutory employees with health benefits, fringe benefits, or perks that they would normally provide to common-law employees. Statutory employees fall outside of the independent contractor vs. employee dichotomy. Therefore, they require their own special treatment, payroll tax calculations, and compensation and benefits practices.
Who qualifies as a statutory employee?
To qualify for statutory employment status, individuals must satisfy the following requirements:
- The employee must complete all of the work entirely by themselves.
- Statutory employees mustn’t invest a large amount of money in the tools and space required to perform the work. The IRS refers to this as “facilities.”
- They must complete work for a single employer on a long-term and continuous basis. Otherwise, employees should be classified as independent contractors rather than statutory employees.
However, note that in certain circumstances, such as for traveling salespeople, statutory employees are allowed to have an occasional amount of side work in addition to working for their principal employer. In this situation, they would be classified as statutory workers for their principal employer and independent contractors for their outside jobs.
You’ll notice that many statutory employees have commission-based salaries or use business resources to complete their work. To give you a better idea, let’s take a look at some specific statutory employee job examples.
Statutory employee examples
Statutory employees can exist in a range of different industries. However, there is a very specific set of circumstances that allow for statutory employees. According to the Internal Revenue Service (IRS), they must fall within one of four specific categories:
- Drivers that distribute beverages (except milk), meat, vegetables, fruits, or bakery items. Also, this category includes drivers paid on commission for dropping off and picking up laundry/dry cleaning.
- Full-time life insurance sales agents. Specifically, agents that sell life insurance and/or annuity contracts for one primary life insurance company.
- Home-based workers who work with supplies and materials temporarily provided by the employer. In these cases, workers should return the supplies or materials to the employer or another specified person as soon as the work is completed.
- Traveling salespeople who turn in orders from wholesalers, retailers, hotel operators, restaurants, contractors, or organizations. These statutory employees must sell goods for resale or supplies that other businesses use to operate. Additionally, the IRS provides a guide to supplemental wages for employers with sales employees here.
While statutory employees might have essential tasks, normally their roles aren’t central to the business’s principal functions. Depending on the type of work that they are completing, employers may or may not offer them a permanent position.
Why are there statutory employees?
According to a recent paper issued by the National Bureau of Economic Research (NBER), there are more self-employed individuals in the United States than previously thought. The study indicates that roughly 15% of workers are actually independent contractors, who are either full-time or partially freelance.
Hiring independent contractors liberates businesses from many of the payroll expenses that come with hiring full-time permanent staff. Occasionally, businesses treat independent contractors like full-time employees and excuse themselves from tax obligations. The concept behind statutory employment laws is to provide workers that work principally for one company with protection from unfair pay practices.
What benefits do statutory employees receive?
Needless to say, being a statutory employee is often a good option for many workers. Statutory employees usually have better tax setup than independent contractors and they can benefit from much of the same autonomy that comes with being self-employed. Although there are some downsides, it’s generally considered to be a win-win situation.
First of all, statutory employees don’t have to pay all Medicare and Social Security taxes. Unlike independent contractors, employers are responsible for a portion of their FICA expenses, which usually works out to their advantage. Whereas, for many independent contractors, these costs on top of income tax can be a large financial burden.
Although they aren’t responsible for all of the taxes, statutory employees are qualified for some of the same advantages that independent contractors have. Namely, they can deduct work-related expenses. Statutory employees fill out a Schedule C tax form, which enables them to make larger deductions if needed.
Another benefit is that statutory employees can qualify for unemployment benefits in some situations. This largely depends on individual state policies.
How to pay statutory employees correctly
With statutory employees, payment isn’t so different from any other employee on your team. You can choose to pay them by the hour, on commission, or with a set monthly salary.
The biggest pay-related factor that sets statutory employees apart is tax withholdings.
Statutory employees’ tax withholdings
Like self-employed workers, statutory employees are responsible for withholding and reporting their own income tax. This means that they will need to fill out a W-9 form, rather than a W-4.
In addition, statutory employees will also need to complete a W-2 form as opposed to a 1099-MISC, which you would use for independent contractors. Below, we’ll share the details that you need to fill out this form correctly.
How to fill out statutory employee W2
One of the biggest ways that statutory employees differ from independent contractors is that they receive a W-2, rather than a 1099 document at the end of the year. However, there are some differences between the W-2s that statutory employees receive and the W-2s for common law employees.
Specifically, you should check box number 13 on the form to indicate that the individual is a statutory employee.
Also, in box 1 on a statutory employee’s W-2 form, employers should put in the employee’s earnings, which are considered “other expenses.”
In boxes 3 and 5, you should add the earnings that are subject to Medicare and Social Security taxes. Here, you need to indicate the amount withheld by the employer.
Employers should plan to send W-2s to statutory employees no later than January 31st. To ensure that you don’t miss anything, be sure to use an HR compliance calendar to stay on top of important tax deadlines.
Even though statutory employees are not considered to be self-employed, they need to fill out a 1040 Schedule C document to work for an employer. Like independent contractors, they are allowed to make deductions for business-related expenses. When they file taxes, employees should attach this 1040 Schedule C to their W-2.
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