Is Tutor Employee or Contractor?

Q: We have recently hired a tutor to coach our children. She comes twice a week during 10 months of the school year. What are the Social Security and other tax obligations of this arrangement? Should we be treating her as the government requires us to treat housekeepers and other domestic workers? --S.L.

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A: According to the Internal Revenue Service, a strict interpretation of the law would probably require you to treat the tutor as an employee. And if you pay the tutor more than $1,000 per year, you would be required to comply with the federal Social Security Domestic Employment Reform Act of 1994.

Now, you might ask whether this is a reasonable interpretation, and assuming it is, whether you are at terrible risk if you choose to ignore the conclusion.

Let’s examine the issue piece by piece. Your first task is to determine whether your tutor is your employee or an independent contractor. Although the IRS has tried to demystify the distinction, it remains as difficult as ever to determine who is an employee and who is an independent contractor. Even the authoritative IRS Publication 926, titled “Employment Taxes for Household Employers,” says that determining whether someone is an employee or an independent contractor depends on the facts of each case. Publication 937, “Employment Taxes,” lists 20 factors to help you make the distinction. (For a copy of these free pamphlets, call [800] 829-3676.)

In general, if your domestic worker is under your direct control, works the hours you specify, performs tasks you want and derives the bulk of his or her income from you, he or she is considered your employee. Payment of wages of $1,000 or more per year means your employee must be covered by Social Security.

Beginning this year, the law requires that you file a statement, Schedule H, with your annual income tax filing stating your status as a domestic employer. You must also include Medicare and Social Security taxes for your employees. Beginning in 1998, the government will require payment of these taxes either quarterly by the employer or through employee withholding.

California requires employers of domestic workers to register with the Employment Development Department within 15 days of paying a worker $750 in cash in a single calendar quarter. You are required to pay disability insurance to the state for these workers if they receive between $750 and $999 in a single calendar quarter. You must pay unemployment insurance, disability insurance and employment training taxes if the worker receives more than $1,000 in a quarter.

Although the IRS says it doesn’t have the resources or inclination to scrutinize the household help arrangement of every American home, the agency reminds us of the consequences of failure to adhere to the law. Just remember the trouble that this issue brought Zoe Baird, Kimba Wood, Michael Huffington and Pete Wilson. Are the few dollars that they saved decades ago worth the embarrassment that they suffered when the facts became known? Would some of these people be in positions of great power and prestige today if they hadn’t gotten caught cheating?

How Do Firms Handle Buying Stock Directly?

Q: When you buy stock directly from a company or reinvest your dividends directly with them, how are your stock sales handled? Do the companies charge a commission on the sale?--J.D.G.

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A: Although the exact fees and commissions will depend on the rules enforced by the company whose stock you hold, in general, you can expect to pay either a commission or handling fee--sometimes both are assessed!--when you sell shares the company is holding for you.

The fees will depend on the company’s own rules as well as the type of sale you are making. For example, if you sell all your holdings, the company will likely charge a termination fee of up to $15. You may also be assessed a sales commission if the company sells the shares and forwards the proceeds to you. If the company merely sends you a certificate for your holdings, you would of course be liable for a brokerage commission when you sell them for yourself.

Some companies allow you to cash out a portion of your holdings, and in most cases, these companies charge some sort of handling fee for that service. They may also levy commissions if they sell the shares on your behalf. Other companies require you to terminate your account entirely to sell any shares at all.

For a complete listing of companies offering direct stock purchase and dividend reinvestment plans, you might be interested in purchasing “Directory of Companies Offering Dividend Reinvestment plans” (Evergreen Enterprises, P.O. Box 763, Laurel, MD 20725). The price is $29.95 plus $2.50 for delivery.

IRS Can Levy Penalty for Underwithholding

Q: I know that we must pay estimated taxes on capital gains by the end of the quarter in which they are accrued. However, must we still do this if there are offsetting capital losses from other transactions? Why can’t we just wait until filing our tax returns to show the offsetting transactions? --R.W.

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A: The Internal Revenue Service says you may indeed follow the common sense approach you have outlined here. There’s no need, a spokesman says, to pay taxes when you know you are only going to get back that money in a refund. However, be warned that a lapse in your math or an unexpected windfall could put you in danger of being penalized by the IRS for underwithholding. Remember, the IRS wants you to prepay at the very least an amount equal to your previous year’s tax bill or 90% of your current year’s obligation. Failure to do so incurs a penalty.

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Carla Lazzareschi cannot answer mail individually but will respond in this column to financial questions of general interest. Write to Money Talk, Business Section, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053. Or send e-mail to carla.lazzareschi@latimes.com