Sometimes as a small business owner, you might consider hiring someone under the table when there's only a small job to do, the worker doesn't have a bank account, or they request it.
While this can seem like a convenient way to reduce overhead costs and avoid paperwork, it often does you more harm than good.
How so? Let's take a look.
What Does it Mean to Work Under the Table?
Working under the table is when someone does work that isn't taxed or documented. You'll also hear it being called "working off the books," "unreported income," or "cash-in-hand employment."
You would typically pay workers in cash without properly noting it in your business records, making it harder to trace.
Is it Okay to Work Under the Table?
Having someone work under the table for you generally isn't legal because it implies that you aren't correctly documenting their work or reporting and paying taxes on their income.
There can be several consequences:
- Fines, back taxes, jail time: Not withholding taxes on an employee's behalf or making the necessary payroll contributions is a form of tax evasion. Penalties may include fines, back taxes, interest on unpaid taxes, and even jail time. The severity of penalties depends on factors like the amount of taxes owed, whether the act was intentional, and your history of noncompliance with employment laws.
- Lawsuits: If you let employees work under the table, you're also denying them the rights and protections legally employed workers have, such as minimum wage, unemployment benefits, workers' compensation, and fair treatment. This leaves you vulnerable to lawsuits, further fines, and even jail time.
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What Are the Benefits of Working Under the Table?
Generally, cash-in-hand work isn't beneficial because it puts business owners at risk of fines and jail time and leaves workers vulnerable when things go wrong. Let's dive deeper into the pros and cons of working off the books for each group.
For Small Businesses
For businesses, there really isn't an upside to paying workers under the table or working off the books if you're a contractor. Let's see why.
Benefits
- Money savings: Savings associated with not having to pay self-employment or FICA taxes or provide benefits like healthcare and paid time off to workers.
- Time savings: You don't have to take the time to collect and check tax documents from your workers or set up payroll tax withholdings.
Drawbacks
- Illegal: Off-the-books work is illegal, making any savings or improved cash flow a moot point.
- Fines and criminal charges: You'd be putting yourself and your business at significant risk because you could face hefty fines or even criminal charges if caught.
- Hard to find investors and business financing: Paying employees cash under the table and not keeping accurate bookkeeping records makes it harder to document your expenses and verify your business's financial health. As an entrepreneur, this can make it challenging to attract investors or secure business financing.
- Increased income tax bills: Since you won't be taking the labor deduction, you'll see a higher tax bill.
For Workers
There isn't much of an upside for workers either when you compare the benefits against the drawbacks:
Benefits
- More money: Workers might receive a higher take-home pay since taxes aren't withheld from their wages.
- Less paperwork: Workers don't need to take the time to fill out their W-4s.
Drawbacks
- Lack of protection: Since their income isn't reported, employees might have a harder time accessing benefits and worker protections that "on-the-grid" employees have, like paid sick leave, unemployment benefits, workers' compensation, and short-term disability.
- Harder to get loans: The lack of pay stubs can make it difficult for employees to prove their income when applying for loans (such as on a house or car) or receiving other financial services.
Who Works Off the Books?
Even though it's illegal, there are various professions and gigs where under-the-table work is prevalent:
- Yard work and mowing: You might hire someone to do yard work or mow your lawn occasionally, paying them cash without documentation.
- Babysitting: Many babysitters work on a cash basis and might not properly report their income.
- Home repairs and maintenance: When you need minor repairs or maintenance done around your home, you may be tempted to employ someone under the table to save money.
- Informal gigs: These include anything from dog walking to personal shopping. People working in these areas might appreciate the flexibility and cash.
- Small business support: As a small business owner, you might be looking for part-time help or someone to assist with specific tasks without getting into formal employment arrangements. You might be looking for someone to clean the office once or twice a month, help with inventory counts twice a year, or maybe simply sort and digitize documents in some old filing cabinets.
How to Prevent Breaking Employment Laws
You can prevent unintentionally breaking any laws by ensuring you're correctly classifying your workers and that you're aware of federal and local tax regulations. Here's more on how to stay within the law.
Properly Classify Your Workers
One of the best ways to stay within the law is to properly classify your workers as employees or independent contractors.
To find out which one your worker is, consider the degree of control you can exert over them, such as when, where, and how they work, and how much they earn.
If you have the final say in these factors, the IRS sees your worker as a W-2 employee. For example, while you can negotiate fees with a contractor, you can't dictate them.
The contractor is the one with the power to decide whether or not they accept your proposed fee. Getting the classification right is crucial in determining your obligations towards those workers concerning taxes, insurance, and benefits.
Understand and Follow Tax Laws
Staying compliant with tax laws is essential to avoid inadvertently supporting working under the table.
You'll want to deduct and withhold appropriate amounts from your employees' paychecks, such as federal and state taxes, Social Security, and Medicare.
For W-2 workers, you'll need to take out income tax based on the employee's W-4 information and federal, state, and local taxes. These tax deductions usually consist of:
Federal
Paid to IRS via EFTPS
- FICA taxes (Social Security and Medicare)
- FUTA (Federal Unemployment Tax Act)
State
Paid via your state's tax agency
- SUTA (State Unemployment Tax Act)
- FMLA (Family and Medical Leave Act Insurance Tax)
- SDI (State Disability Insurance Tax)
- State Workers' Compensation Insurance Tax
There are also other state taxes you may need to pay, depending on where you live. For example, in California, you'd owe:
- ETT (Employment Training Tax)
- UI (Unemployment Insurance)
- PIT (Personal Income Tax)
- SDI (State Disability Insurance)
Independent contractors are responsible for paying their own taxes, so there's nothing employers need to withhold for them. However, if you've paid an independent contractor $600 or more throughout the year in cash or with a check or bank transfer, you'll need to send them a 1099-NEC by January 31st of the following calendar year or the next business day if the 31st lands on the weekend.
Also, make sure to do these things:
- Pay your share of employment taxes, like Social Security, Medicare, and unemployment. This also includes providing disability insurance in some states.
- Issue W-2 forms to employees and 1099 forms to independent contractors detailing earnings and withholdings. Both forms are due on Jan. 31 of the following year.
- Keep accurate and up-to-date records of employee payments and taxes.
Implement a Payment System
One way to ensure you stay compliant is to implement a system for tracking payments, taxes, and deductions. If you haven't already, it's time to embrace automation and direct deposit services for a more streamlined approach.
Hourly is an app that can pay your workers, payroll taxes, and workers' comp insurance in seconds with a single tap.
Local, state, and federal payroll taxes are all done too. And you can always create a report to see your tax withholdings. It's everything you need to stay on the right side of the law. Get started today with Hourly.
Make Cash Payments the Right Way
Even though paying workers cash isn't illegal, you'd do better by going for payment methods that create a paper trail, like direct deposit, checks, or deposits into prepaid cards.
This helps you stay compliant with tax laws and protects your business from potential penalties related to unreported employment.
If you pay workers in cash, document these payments by having them sign and date a paper saying they received the money and how much they received.
That way, there can be no disputes later about nonpayments or incorrect payments, and you have a paper trail showing where the money went in case the Internal Revenue Service ever audits you.
How Does the IRS Find Out About Unreported Cash Payments?
The Internal Revenue Service uses various methods to check for unreported income:
- Audit triggers: These are red flags that could indicate you haven't reported all of your income. Common triggers include discrepancies between your reported income and expenses and any unusual deductions you may have claimed. And if the IRS requests your bank statements during an audit, they may scrutinize your transactions and look for any activities that suggest you have been paying employees under the table.
- High-risk gigs: The IRS gathers information about particular industries and occupations where under-the-table work is more prevalent. This allows them to focus their enforcement efforts. People receiving a lot of cash payments or tips are most often targeted. This includes those working in construction, home improvement, landscaping, restaurants, bars, delivery services, and beauty services like hair and nails.
- Informants: The Internal Revenue Service finds out about under-the-table work from tips and reports, like the SS-8. Tips can come from disgruntled employees, ex-partners, or other informants. They may launch an investigation if a current or former employee reports your business for paying them under the table.
Coming Clean: What to Do if You've Made Under-the-Table Payments
If you've made under-the-table payments as an employer or received these payments as a contractor, you don't have to panic. Your priority will be to rectify the situation as soon as possible. Here are some steps you can take to set things right:
- Determine the extent of the issue: Assess how long you have been paying employees under the table or receiving off-the-book payments and calculate the total amount involved. Gather any records you have of transactions and identify the employees affected.
- Consult with a tax professional: Speak with an accountant, tax attorney, or other tax professionals familiar with your situation to get advice on how to proceed. They can help you understand your options and the best course of action.
- File amended returns: If you've underreported your taxes due to under-the-table payments, you'll need to file an amended tax return. Your tax professional can help you determine which forms to submit and how to report the income and payroll taxes correctly.
- Pay back taxes and penalties: You may face penalties and interest for underreporting your taxes. Work with your tax professional to make arrangements for paying the amounts owed.
- Revise your payroll practices: Going forward, ensure you properly withhold taxes and report employee wages. Set up an appropriate payroll system with Hourly or consider hiring a payroll service provider to avoid future issues.
Stay on the Right Side of the Law
While it may seem like there are some initial financial benefits to employing workers under the table, the long-term risks far outweigh the rewards. Being mindful of the legal and financial consequences is essential for your success and financial stability.
If you've paid employees or have worked under the table before, you'll want to address it openly and proactively to minimize potential consequences from the IRS. Working with a tax professional and taking the necessary steps to correct the situation will help you come clean and avoid legal repercussions.
