As employers struggle with controlling costs during these difficult economic times, organizations sometimes choose to use independent contractors to supplement staffing needs. Organizations use independent contractors to save on benefit costs such as insurance, workers compensation and social security tax. While this could be a fiscally sound strategic decision, having a good understanding of how the law interprets contract labor is important.
According to Wikipedia, an independent contractor is “a natural person, business, or corporation that provides goods or services to another entity under terms specified in a contract or within a verbal agreement. Unlike an employee, an independent contractor does not work regularly for an employer but works as and when required, during which time she or he may be subject to the Law of Agency. Independent contractors are usually paid on a freelance basis. Contractors often work through a limited company, which they themselves, own, or may work through an umbrella company.”
The major difference between an independent contractor and an employee is in how they are controlled by the employer and how they are taxed.
The following should be used as a guideline when determining whether someone is an independent contractor or an employee:
- An employer controls the work of an employee, but does not control how the work is performed by a contractor;
- A contractor typically has an agreed upon time by which to complete a project or services;
- A contractor is paid according to an agreed upon amount for a project or service;
- A contractor uses their own equipment or tools;
- A contractor controls how the work is performed;
- A contractor is responsible for the results of the work performed;
- A contractor sets their own work schedule including number and frequency of breaks;
- A contractor offers their services to others and uses a business name for their services;
- A contractor has an office that is different from where they are performing their work;
- A contractor is listed independently in a telephone directory and may carry a license to perform their services;
- A contractor is responsible for filing their own taxes;
What happens if the IRS determines a worker is misclassified?
- The employer may be charged with back taxes, penalties and interest.
- There is a possibility of criminal charges.
- The employee may come back and sue the employer for lost benefits for the time they should have been classified as an employee;
It is easy for the lines to get blurred when using contract labor so it is important to use the above guidelines for making the determination. Keeping accurate files and written contract agreements can also safeguard the organization from employee misclassifications. If there are questions beyond these general guidelines, it may be wise to contact a tax attorney for guidance.
Photo by: Daniel Y. Go
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