Correctly classifying workers as employees or independent contractors in Indiana is an important legal requirement that impacts taxes, benefits, and regulatory compliance. Misclassification can lead to costly penalties for businesses and lost protection for workers.

Why Classification Is Important

• For Businesses: Misclassification can result in liability for unpaid employment taxes, unemployment insurance, etc., which can include penalties and interest.  
• For Workers: Misclassified workers lose access to minimum wage, overtime pay, workers’ compensation, unemployment insurance, and protections under laws like the Family Medical Leave Act and the Americans with Disabilities Act.
• For Governments: Misclassification reduces tax revenue and strains unemployment insurance trust funds, which can lead to higher taxes for compliant employers.

Check out in.gov for more info.

Classification of independent contractors or employees applies to taxes and benefits at both the state and federal level, so there are different requirements depending on the issue and regulating agency.

IRS Guidelines: The Three Key Factors

Employers need to pay self-employment and income taxes for their employees, but they do not need to pay taxes for independent contractors. To determine whether someone is an employee or independent contract for paying taxes, you should rely on IRS’s guidelines. The IRS uses common law rules to determine worker status, focusing on three categories:

1. Behavioral Control: Does the business control how the work is done? Extensive instructions and training suggest employee status.
2. Financial Control: Who controls the business aspects of the job—such as payment method, expense reimbursement, and tools?
3. Relationship of the Parties: Are there employee-type benefits, written contracts, or an expectation of permanence? Is the work integral to the business?

Businesses must weigh all factors; no single factor determines status. To learn more, check out the IRS page: Independent contractor (self-employed) or employee?If you are still unsure, employers can file Form SS-8 for an official IRS determination.

DOL’s Economic Reality Test

The Fair Labor Standards Act (FLSA) establishes minimum wage, overtime pay, recordkeeping, and youth employment standards affecting employees in the private sector and government employment. Under the FLSA, classifying someone as an employee or independent contractor depends on whether the worker is economically dependent on the employer or is in business for themselves. Factors include:

1. Opportunity for profit or loss depending on managerial skill,
2. Investments by the worker and the employer,
3. Permanence of the work relationship,
4. Nature and degree of control,
5. Whether the work performed is integral to the employer’s business, and
6. Skill and initiative.

Unlike IRS rules, the FLSA test is broader and focuses on the totality of circumstances rather than technical control. Even if the worker receives a 1099 and agreed to be classified as an independent contractor does not mean they are an independent contractor under the FLSA. If you have questions, check out the DOL website for more information.

Indiana’s 1-2-3 Test

Another benefit impacted by this question is unemployment insurance. Indiana employers need to pay into Indiana’s unemployment compensation fund for their employees, but this requirement does not apply to independent contractors. Indiana applies a three-part test to determine if someone is an independent contractor for unemployment insurance purposes:

1. The worker is free from direction and control in the course of their work.
2. The work is outside the usual course of the employer’s business.
3. The worker is engaged in an independently established trade or business.

Indiana Code 22-4-8-1

There is nuance in applying the above law, and issuing a 1099 alone does not prove independent contractor status.

If you have any questions or concerns about the classification of a worker in Indiana, reach out to our firm for legal consultation.