Yes. A sole proprietor can hire employees: a sole proprietorship is a way of owning a business, not a limit on hiring. What changes is that you become an employer. You need an EIN, you must verify each hire's work eligibility, withhold and pay payroll taxes, report the new hire to your state, and follow your state's rules on unemployment insurance and workers' compensation. Before any of that, make sure the person is really an employee, because that depends on the facts of the relationship, not on what you call it.
Employee or independent contractor?
For federal employment taxes the IRS applies common law rules and weighs three kinds of evidence: behavioral control (your right to direct what work is done and how), financial control (who bears expenses and invests in tools, whether the worker can make a profit or suffer a loss, how the worker is paid) and the relationship of the parties (written agreements, employee-type benefits, how permanent the arrangement is, whether the work is a key part of your regular business). No single factor decides it (IRS Topic 762).
| What you look at | Points toward employee | Points toward contractor |
|---|---|---|
| Who controls how and when | You set the schedule and the methods | The worker decides; you judge the result |
| Tools and expenses | You supply tools and reimburse costs | The worker supplies tools and carries the costs |
| Pay | Regular wage or salary | A price per project, invoiced by the worker |
| Other customers | Works only for you | Offers services to the market |
| Profit or loss | Cannot lose money on the job | Can profit or lose depending on how the job goes |
| Permanence | Open-ended, part of your daily business | A defined project or period |
The columns are an illustration built from the IRS categories above, not an official checklist. Weigh the whole relationship.
The Department of Labor uses a separate "economic reality" test for minimum wage and overtime, asking whether the worker is economically dependent on you for work or is in business for themselves. That test is in flux. The DOL says it no longer applies its 2024 rule in investigations, proposed a replacement in February 2026 and closed public comment on April 28, 2026, and the proposal says actual practices count more than what a contract allows in theory (DOL rulemaking page). Check dol.gov for the version in force when you hire. The DOL's Fact Sheet 13 is blunt about labels: what the worker is called is not relevant.
Getting it wrong is expensive. The SBA says a contractor later found to be an employee can leave you owing back taxes and penalties, and possibly benefits and wages under the Fair Labor Standards Act. If you are unsure, Form SS-8 asks the IRS to decide for a specific worker, and the Voluntary Classification Settlement Program lets employers reclassify workers with partial relief from federal employment taxes. Contractors you do pay are reported on Form 1099-NEC, which the IRS requires for payments of $2,000 or more made in 2026.
Day-one paperwork
| Item | Who | When | Notes |
|---|---|---|---|
| EIN | You | Before the first payroll | Free from the IRS. The SBA lists it as the first step in setting up payroll. The registration guide shows how to apply. |
| Name and Social Security number | Employee gives, you record | Before your first Form W-2 | Enter them on Form W-2. Do not accept an ITIN in place of an SSN for work. |
| Form W-4 | Employee | At the start, effective with the first wage payment | Keep it on file. With no completed W-4, withhold as if the employee is single. |
| Form I-9, Section 1 | Employee | No later than the first day of employment | The IRS says employers must complete it for every individual they hire. |
| Form I-9, Section 2 | You | Within three business days of the start date | The employee chooses which listed documents to show; you cannot specify them. You keep the form on file. |
| New hire report | You | Within 20 days of the hire date, sooner if your state says so | Goes to the State Directory of New Hires in the state where the employee works. |
Sources: IRS hiring employees page (page reviewed February 2026), USCIS Handbook for Employers M-274 and the SBA hire and manage employees guide.
E-Verify, the online check that compares I-9 information with government records, is a voluntary program in general. It is required if you hold a federal contract with the FAR E-Verify clause, if a state law says so, or under a court order, according to E-Verify's own background page. The federal new hire report has seven data elements: employee name, address, Social Security number and date of hire, plus your name, address and federal tax ID. Federal law does not require reporting independent contractors, but some states do (HHS Administration for Children and Families).
Payroll taxes and how they are paid
- Social Security and Medicare. Employer and employee each pay 6.2% Social Security tax on wages up to the 2026 wage base of $184,500, and 1.45% Medicare tax with no wage base limit (IRS Publication 15). Your share is a cost to you. The employee's share is withheld from their pay and you send it in with the income tax you withheld.
- Federal unemployment tax (FUTA). The rate is 6.0% on the first $7,000 you pay each employee. You can take a credit of up to 5.4% for state unemployment tax paid, which brings the effective rate to 0.6%. Form 940 is due January 31, or February 10 if you deposited everything on time (IRS Topic 759).
- Deposits and returns. Form 941 reports withholding and both halves of Social Security and Medicare. New employers are generally monthly depositors in the first year, with deposits due by the 15th of the following month. If a quarter's liability is under $2,500 you may be able to pay with the return. All federal deposits go in electronically, through EFTPS, an IRS business tax account or IRS Direct Pay for businesses (IRS Topic 757).
- Records. Keep employment tax records at least four years.
State rules, workers' comp and minimum wage
Much of the first-hire work is state work. The SBA says state employment taxes vary by state and often include withholding, unemployment insurance and workers' compensation, and that you may need to register with your state workforce agency for unemployment insurance. A few states also require temporary disability coverage.
- Workers' compensation. The SBA describes coverage as required through a commercial carrier, on a self-insured basis or through a state program. The Labor Department sends private-sector employers to their state workers' compensation board and keeps a list of state officials. Ask your board who must carry coverage and from how many employees, before the first day.
- Minimum wage. The federal rate is $7.25 an hour, and many states set their own. The DOL's state page, updated July 1, 2026, lists each state's rule, and local rates may differ again.
- Posters. The SBA says you must display certain posters that inform employees of their rights, and the Labor Department provides them free.
Mistakes that cause trouble
- Calling an employee a contractor to avoid payroll taxes. The facts decide, not the label or the 1099.
- Skipping the I-9 because a hire is part-time or short-term. The IRS wording is every individual you hire.
- Missing the new hire report or a tax deposit. Schedule a deposit by 8 p.m. Eastern time the day before it is due, or you risk a late payment.
- Pricing the job from wages alone. Add employer taxes, insurance and software, and revisit your rates with the hourly rate guide.
Hiring does not force you to change structure; the sole proprietorship guide covers the basics. If you later form an LLC, it has to use its own EIN for employment taxes, as the LLC conversion guide explains. Tax and labor rules change, so confirm each figure on the agency's site.
Frequently asked questions
Do I need an EIN to hire my first employee?
Yes. The SBA lists getting an EIN as the first step in setting up payroll, and IRS Publication 15 says a valid EIN is required when you file employment tax returns or make payments. An EIN is free from the IRS.
How fast do I have to report a new hire?
Federal law says within 20 days of the date of hire, and states may set a shorter deadline. The report goes to the State Directory of New Hires in the state where the employee works.
Can I treat my first helper as a contractor to avoid payroll taxes?
Only if the relationship is genuinely independent under the IRS and Labor Department tests. A contract, a 1099 or an off-the-books arrangement does not settle it, and misclassification can leave you owing back taxes and penalties.
Do I need workers' compensation for one employee?
The rules are set by each state, including which employers must carry coverage and from how many employees. The SBA says coverage is required through a commercial carrier, self-insurance or a state program, so ask your state workers' compensation board before the first day.
Sources: IRS Topic 762, Independent contractor vs. employee · IRS, Hiring employees · IRS Publication 15 (2026), Employer's Tax Guide · IRS Topic 759, Form 940 and FUTA · IRS Topic 757, Forms 941 and 944 · IRS, Form 1099-NEC and independent contractors · DOL Wage and Hour Division, 2026 independent contractor rulemaking · DOL Fact Sheet 13, Employment relationship under the FLSA · DOL, State minimum wage laws · DOL, Workers' compensation · USCIS, Handbook for Employers M-274 · E-Verify, Background and overview · HHS Administration for Children and Families, New hire reporting FAQ · SBA, Hire and manage employees
