What is a statutory employee? Definition, criteria, and tax implications

Business owners commonly interact with multiple types of employees over the lifespan of their company. Both traditional employees and independent contractors are fairly straightforward to work with, but what happens when you start mixing the two? A statutory employee is a hybrid between both, and a worker must meet specific criteria in order to become one. 

So what is a statutory employee? Below we’ll discuss the definition, criteria, and tax implications of having a statutory employee on your payroll.

• What is a statutory employee?
• Criteria for a statutory employee
• Tax implications of a statutory employee
• Advantages and disadvantages of a statutory employee
• Pros
• Cons
• Statutory employees vs. other types of employees
• Statutory employee vs. Traditional employee
• Statutory employee vs. Independent contractor
• Statutory employee vs. Statutory non-employee

• Statutory employee vs. FAQ and considerations

What is a statutory employee?

A statutory employee is an independent contractor that a company treats as a salaried employee for tax purposes. Because Medicare and Social Security are the only taxes employers are required to withold from their earnings, statutory employees are able to write off employment expenses. Contrary to traditional employees, employers are not required to offer statutory employees benefits or cover the costs of tools needed to perform their work.

The employer of a statutory employee will pay their portion of taxes, 7.65%, which is half of the total FICA taxes of 15.3%. We’ll go into more detail about this in the sections below.  FICA taxes are a combination of Social Security and Medicare taxes that both the employee and employer contribute to.

Criteria and examples of a statutory employee

The Internal revenue service has specific criteria that qualify somebody as a statutory employee. Here are the exact specifications from the IRS statutory employee website page:

• 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 or 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 of 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.

Tax implications of a statutory employee 

As we briefly touched on before, statutory employees have the same benefit as traditional employees, the tax break. The Federal Insurance Contribution Act, also known as FICA taxes, is made up of two contribution types:

• Social Security contributions: 12.4% total (6.2% from the employer and 6.2% from the employee)
• Medicare contributions: 2.9% total (1.45% from the employer and 1.45% from the employee)

This makes total FICA taxes 15.3%. If you are an independent contractor, you are responsible for paying the entire 15.3% come tax time. Statutory employees and regular employees are only responsible for half (6.2%), with the other half covered by the corporation they work for.

Advantages and disadvantages of a statutory employee

Statutory employees are seen as beneficiaries of extra perks that independent contractors don’t normally see. However, there are still some cons to being classified as a statutory employee.

Pros

Statutory employees have two advantages over traditional employees that are guaranteed by law. Any other perks provided are based on their employer’s company policy. Here are the pros:

• Partial tax payments from the company: Statutory employees are only responsible for half of FICA tax payments. Meanwhile, the company they work for covers the other half.
• Employment expense reduction: Statutory employees receive a benefit that traditional employees don’t have and can write off some qualified employment expenses. This includes wardrobe requirements, supplies, and other work-related expenses.

Cons

Although they hold the title of “employee,” statutory employees are still bound by independent contractor restrictions in some aspects. Here are the cons:

• Responsible for tools and essentials: Companies aren’t required to pay for an independent contractor’s tools or the essentials to perform their work. These are deemed as out-of-pocket expenses that they will have to pay themselves.

Not eligible for benefits: As with an independent contractor, statutory employees are omitted from receiving traditional employee benefits. These include 401(k) contributions, paid time off, and health insurance.

Statutory employees vs. other types of employees

To break down the differences even further, let’s look at three classifications and compare the similarities and differences between them. We’ll look at the statutory employee compared to a traditional employee, then an independent contractor, and finally a statutory non-employee.

Statutory employee vs. traditional employee

Statutory employees and traditional employees are the same in that they both receive W-2s and receive a tax deduction on FICA taxes. However, traditional employees qualify for benefits such as health insurance, while statutory employees don’t. To offset these benefits, statutory employees can write off some of their business-related expenses while traditional employees can’t.

Statutory employee vs. independent contractor

Statutory employees and independent contractors are the same in that they both receive business-related expense reductions. This means that they can write off a percentage of their business expenses. 

These business expenses include mileage, a home office, cell phone, and vehicle expenses, to name a few. However, statutory employees receive a W-2 as well as a 50% tax reduction in FICA taxes. Independent contractors are responsible for the full 15.3% FICA and will receive a 1099 at the beginning of the year.

Statutory employee vs. statutory non-employee

Statutory employees and statutory non-employees work a bit differently. A statutory non-employee is categorized as an independent contractor. You’ll notice in the diagram below that their similarities and differences match the independent contractor comparison exactly. The criteria to qualify as a statutory non-employee is what should be focused on. This includes:

• Statutory non-employees are subject to be exempt from withholding taxes only if their payment is directly related to services provided, not hours worked. 
• Statutory non-employee services perform services under a written contract providing that they will not be treated as employees for federal tax purposes.
• There are three categories of statutory non-employees: direct sellers, licensed real estate agents, and certain companion sitters.

The status of a statutory employee

Once you understand the foundational differences between statutory and non-statutory employees, you’ll see that there isn’t much to worry about in terms of hiring and payment. 

However, if you’re feeling confused about the taxes and accounting portion of the process, a tax expert may be able to help. For your next steps, make sure you’re using proper bookkeeping techniques to keep your books current for the end-of-year tax time.