This article is accurate for returns filed through tax year 2017. Under the Tax Cuts and Jobs Act, some of the laws mentioned changed beginning in 2018. Learn more about the updated tax laws enacted under the Tax Cuts and Jobs Act here.
Understanding your employment status is important when it comes time to file your taxes. The taxes you are expected to pay will be based largely on how you earn your money. If you happen to fall into a category known as statutory employees, your taxes will reflect the unique nature of your employment.
The Big Picture
Before we get into the specifics of being a statutory employee, it will help to take a step back and look at the big picture. For most people, money is earned in one of two ways: as an employee in the form of wages, or as a business owner in the form of revenue.
For example, if you have a “traditional” job working for a company, that company pays you wages on a periodic basis. Taxes are deducted from your paychecks, and you receive a W-2 at the end of the year to detail your earnings and tax deductions.
On the other hand, if you operate your own business, you will earn money as revenue directly from your clients or customers. No taxes will be taken from this money when it is earned, so it will be up to you to pay all of the federal taxes at the end of the year. This is often referred to as nonemployee compensation.
What is nonemployee compensation? It is just as it sounds—money earned outside of a typical employer/employee relationship. People in this situation may need to pay quarterly estimated taxes (and any relevant state or local taxes, as well). You will not receive a W-2 at the end of the year, but you may receive a 1099 depending on the nature of the business.
So, what does all this have to do with statutory employees? The best way to think about this category is picturing it between these two ends of the spectrum. As a statutory employee, your tax status is a blend of a traditional employee and a business owner.
Like an employee, your employer is responsible for withholding Social Security and Medicare taxes. Like a business, you will report your earnings on Schedule C, and you will be able to deduct certain business-related expenses. While this might seem complicated at first, it is actually a fairly simple solution to a complex employment situation.
Meeting Specific Conditions
The conditions which must be met to be considered a statutory employee are rather narrow. In fact, there are just four categories of workers who qualify as statutory employees under the current tax code:
A driver who distributes beverages (other than milk) or meat, vegetable, fruit, or bakery products; or who picks up and delivers laundry or dry cleaning, if the driver is your agent or is paid on commission.
A full-time life insurance sales agent whose principal business activity is selling life insurance or annuity contracts, or both, primarily for one life insurance company.
An individual who works at home on materials and goods that you supply and that must be returned to you or to a person you name, if you also furnish specifications for the work to be done.
A full-time traveling or city salesperson who works on your behalf and turns in orders to you from wholesalers, retailers, contractors, or operators or hotels, restaurants, or other similar establishments. The goods sold must be merchandise for resale or supplies for use in the buyer’s business operation. The work performed for you must be the salesperson’s principal business activity.
As you can see, these categories will apply to only a small minority of workers in the United States. Those who are included, however, will need to know how to file their taxes properly based on this unique employment status.
Receiving a W-2
Unlike an independent contractor, a statutory employee will still receive a W-2 at the end of the year. A statutory employee W-2 is slightly different from one issued to a standard, common law employee. It is marked to indicate the employee’s status as a statutory employee, as seen by a check in box 13. When you receive this type of W-2, it is important that your earnings are reported on Schedule C, where you will be able to report allowable expenses along with your income.
General Tax Implications
If you work as a true independent contractor, you are responsible for all of the FICA taxes related to your income. That means you don’t have any help from an employer with regard to Social Security and Medicare taxes—you must pay the full share. This is why self-employed persons are often surprised at their first income tax bill after deciding to work independently. When FICA taxes are added to standard income taxes, the overall tax bill can be rather significant.
As a statutory employee, you will have an advantage in this regard. As far as FICA taxes are concerned, you are considered to be an employee. That means your employer is paying their share of the tax, and your overall tax bill will be lower as a result.
However, you are still considered an independent contractor for income tax purposes, meaning you can write off unreimbursed employee business expenses. While each case will vary depending on specifics, it is likely that your tax responsibility will be lower at the end of the year as a statutory employee as opposed to a fully independent contractor.
Of course, it will be important to track your business expenses accurately throughout the year. You need to have documentation to prove your expenses, and you also need to confirm that the expenses you deduct are eligible for deduction. This process will be simple in some cases, but those with complex deductions may be wise to consult with a tax professional before filing. Accounting for unreimbursed employee expenses correctly can go a long way toward helping you reduce your tax liability.
Know Your Status
You shouldn’t wait around to receive your tax forms to find out how you have been classified by your employer. Ask questions up front with regard to your tax status so you can plan accordingly. Are you a W-2 statutory employee, or will you be provided with a 1099-MISC instead? There is a significant difference in how you will file your taxes—and how much tax you will owe—between those two options.
For instance, to fill out a statutory employee schedule c correctly, you will want to have all revenues and expenses tracked precisely. If you know you’ll need to report to the IRS unreimbursed employee expenses, you can track them more carefully right from the start.
If you have ever wondered “What is a statutory employee on W-2?”, we hope we have answered all of your major questions. It may seem like a complicated category at first, but in the end, it is pretty simple to understand.
Just remember: you are treated as an employee with regard to FICA taxes, but you are seen as an independent contractor from an income tax perspective. While a limited number of people fall into the statutory employee category each year, those who do land in this group need to know exactly how to file in order to optimize their return.