Employee Classifications: Independent Contractor vs Employee

Over 10 million workers are independent contractors. The gig economy expanded, and even traditional companies use them. Many are looking into bringing on more freelance workers and independent contractors. Therefore, it is important to know how to handle these special cases in payroll procedures.

What is an independent contractor vs employee? A company does not employ independent contractors. Instead, they do a set amount of work for an agreed-upon period of time. Employers do not remove taxes from their pay. Therefore, they must be careful to classify contractors with accuracy or face penalties.

Protect yourself and your business. Understand exactly who qualifies as an independent contractor in employee classifications.

What Employers Need to Know About The FLSA

Worker classification as employees or independent contractors falls under the Fair Labor Standards Act. This prevents a business owner from refusing benefits. In addition, job protections extend to misclassified employees.

The FLSA makes it impossible to reclassify an employee who meets all other criteria of a W-2 employee. There is no legal way to make an employee into an independent contractor without changing their responsibilities. Even if your worker agrees to misclassification, you could have penalties for misclassifying them.

Paying under the table, signing an agreement, filing a 1099, and more still cannot change someone acting like an employee in a company. It's up to employers to understand what makes a worker an employee. In addition, they must avoid misclassifying them.

Classifying Independent Contractor vs Employee

Employee classification forces workers to fall under one of three tax categories: 1099, W-9, or W-2. Each class of workers also falls under different specifications. This includes different types of work assignments, company control, and business manager direction.

If a staff member has employee classification, it means the company is in charge of job elements. These include things like scheduling, equipment used, the performance of tasks, and more. Taxes are withheld and paid in part by the employer.

If a worker has independent contractor classification, the company has little say in the work details. The worker works any hours they need to. They use their chosen tools or software. Contractors get tasks done in a way that works for them. Their only responsibility is to meet the requirements outlined in their contract, such as deadlines.

What Are the Pros and Cons of Independent Contractors vs Employees

There are times when it makes more sense to have independent contractors complete work for your company. And times when it doesn't. Knowing when you need an employee vs a contractor is an important skill to cultivate.

There are benefits to using an independent contractor. These are most noticeable in companies with operations in foreign countries. Using contractors instead of employees in these cases can reduce staffing costs. It also eliminates the commitment of an employment relationship.

Employees come with the need to pay benefits packages and unemployment insurance. Independent contractors do not have these perks. Instead, they have an agreed-upon wage for a project.

However, there are some downsides to hiring independent contractors, as well. Given the lack of benefits and long-term commitment, loyalty is thin. Some independent contractors may lack the job dedication a full-time employee has. The relationship ends once the contract completes—unless you make a move to extend it.

The flip side is the pros of hiring a full-time employee. An employee is a long-term relationship. They pursue deeper involvement in projects and their co-workers. 

Employees choose jobs based on their benefits, including pensions and relocation expenses. These are incentives to continue high-quality performance and remain with the company for a period of time. For example, a vesting schedule in a 401k can help retain employees longer.

The cons of full-time employees are the costs of these benefits. Employers must also absorb things like paid vacation, sick days, parental leave, and pensions. Large benefits packages can be difficult for small businesses to offer.

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Avoid the Risks of Misclassifying Workers

Sometimes employees with very flexible schedules may experience misclassification. They may have independent contractor classification by mistake.

Other times, employers give in to the temptation to utilize independent contractors rather than employees to reduce costs. However, the danger of misclassifying a worker who would otherwise be a W-2 employee comes at both cost to you and the worker.

Employers caught misclassifying an employee get penalties. These include the expectation of paying back wages and unpaid overtime plus interest. You will also need to make good on unemployment insurance contributions and employment taxes.

Finally, you may face penalties for fraudulent actions. The financial and legal consequences of misclassifying workers are significant for small businesses.

Misclassification's Impact on Workers

Furthermore, misclassification can have a serious impact on workers. Independent contractors have so few labor protections. Misclassification as one when a worker is actually performing an employee's work puts them in a poor legal position.

For instance, if your misclassified employee needs to take leave, they may not be able to. Worker protections provide for time to care for a sick family member. But independent contractors do not qualify for protected leave under the Family and Medical Leave Act.

If your business folds, your misclassified employee has no way to file for unemployment. They also go uncompensated for any time off, including for serious illness.

Even if you both agree to a misclassification, it is wrong. It is your duty as an employer to consider the ramifications of this choice on your employee. Doing the right thing protects your valued worker in times of hardship.

Pay Your Contractors and Employees with Bulldog Payroll

Now that you know how to classify your workers as independent contractor vs employee, make payroll that much simpler. Calculate payment for both independent contractors and employees. With us, you are always taking out the right amount of taxes.

Reach out today with questions about getting your Bulldog Payroll set up. We handle the books so that you can get back to running your small business. Schedule a free consultation to learn more.

Are you looking for more payroll processing information? Check out our Ultimate Guide to Payroll Processing.

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