Being your own boss (the tax edition)
Are you a freelancer or a 9- 5er and what are the tax implications of each?
Recently social media was abuzz when an employer expressed that they pay invoices instead of salaries. Off hand this seems like a fairly harmless statement, after all its money in the bank for the person rendering the services. However the classification between a freelancer known as an independent contractor for tax purposes and an employee affects the amount that will ultimately be paid over to the individual, the extent of the admin related to submitting their yearly tax return and remaining tax compliant in order to secure further bags.
First things first, am I an employee or an independent contractor?
SARS states that the default assumption when one party pays another for services rendered is that the income constitutes remuneration and said party is therefore deemed to be an employee and should be subject to employees tax.
In cases where the nature of this relationship might not be clear, it is the responsibility of the employer to determine whether or not the party who renders the service is an employee or an independent contractor. Should the employer incorrectly determine an employee as an independent contractor then the employer is liable for the employees tax that should have been deducted as well as the corresponding penalties. The employer however has the right to recover the tax paid from the employee.
In cases where it is unclear whether a person is an employee or carrying independent trade; two statutory tests are to be applied. The first test states that you are an employee if you are required to perform more than 50% percent of your duties at the employers premises and are subject to the control and supervision of that employer or a party acting on their behalf.
The second test states that when you employ 3 or more full time employees, who are not connected persons to you, to render services then you are deemed to be carrying on independent trade. The outcome of the second statutory test override that of the first test.
An application of the first test can be demonstrated by applying it to a journalist and a columnist, both render the service of writing for a publication.
The journalist performs his or her duties in the newsroom; their place of employment. They fulfill their duties under the supervision and control of an editor, the publication is entitled to all the majority of their productive hours. Therefore an employer- employee relationship exists. They are deemed to be employees.
Columnists on the other hand are not required to be present in the newsroom, they are in control of their productive hours and can decide which client to service at any particular time. They are therefore deemed to be carrying on independent trade.
If however the journalist employed three or more full time employees to render the writing service to the publication, albeit unlikely the conclusion of the first test would fall away and they would be deemed to be carrying on independent trade.
I am an employee, what are the implications?
If you are an employee, all amounts that you earn as a result of your employment constitute remuneration as defined in the Fourth Schedule and should therefore be subject to employees tax. The employer must include you in their payroll and withhold employees tax also known as pay as you earn (PAYE), SDL and UIF from your salary and pay it over to SARS on your behalf. The amounts then paid over to you is your salary net of tax and other corresponding deductions i.e medical aid.
When submitting your final tax return at the end of the tax year the total amount withheld as PAYE will be used to reduce your total tax liability.
I am an independent contractor, what are the implications?
If you are not an employee, the income you receive from service does not constitute remuneration and therefore you are not subject to employees tax. You are deemed to be a provisional taxpayer. When you submit an invoice to the employer or in this case your client, they will pay over to you the total invoice amount.
For tax compliance purposes, provisional taxpayers are required to make an estimate of their annual income and calculate their estimated tax liability for the year. After which they are required to make two mandatory provisional payments and possibly a third voluntary top up payment; should your income exceed the initial estimate and you have a higher tax originally anticipated tax liability. The first provisional tax payment is due within 6 months of the start of the year of assessment and the second no later than the end of the tax year.
SARS levies penalties if the second provisional payment is based on an understated taxable income, in addition to this interest is also charged at 9.75% per annum for late payments of the first, second and third payments.
In theory having your gross salary or invoice paid over to you seems like a dream but the option of outsourcing a portion of the headache that tax compliance can be to the employer's payroll staff can prove to be useful. Whether you are an employee or an independent contractor, you are ultimately liable for the tax you incur, SARS is however pedantic about the amount, timing and the manner in which it should be paid over to them.