Hire a Contractor or an Employee?  

In our role as human resource advisor to small and medium size businesses, we are frequently asked to develop their staffing plan. Our first question is always, “Are you interested in employees or contractors?” Many choose contractors with the assumption that employees and all the regulations that go with hiring employees is a hassle.  Our second question, “If you are interested in contractors, then you are thinking part-time? They can set their own schedules, have other clients, correct?”

You guessed it, the answer to the second inquiry is often, “Well not really, we would like set schedules, we don’t want their schedules competing with other clients, especially if they are our competitors.” We find most business owners unfamiliar with the difference between employee and contractor. Here’s an SBA quick reference document that helped us build our workforce.

Independent contractors and employees are not the same, and it’s important to understand the difference. Knowing this distinction will help you determine what your first hiring move will be, affect how you withhold a variety of taxes, and avoid costly legal consequences.

Employee vs Contractor – What’s the Difference?

An Independent Contractor:

  • Operates under a business name
  • Has his/her own employees
  • Maintains a separate business checking account
  • Advertises his/her business’ services
  • Invoices for work completed
  • Has more than one client
  • Has own tools and sets own hours
  • Keeps business records

People who are not employed by the employer, such as independent contractors, are not covered by anti-discrimination laws.

An Employee:

  • Performs duties dictated or controlled by others
  • Is given training for work to be done
  • Is given the tools, equipment and workspace needed to accomplish a task
  • Is paid for hours worked
  • Normally works for only one employer

Many small businesses rely on independent contractors for their staffing needs. There are many benefits to using contractors over hiring employees:

  • Savings in labor costs
  • Reduced liability
  • Flexibility in hiring and firing

 Employment Information

There is no single test for determining whether an individual is an independent contractor or an employee under the Fair Labor Standards Act. However, the following guidelines should be taken into account:

  • The extent to which the services rendered are an integral part of the principal’s business
  • The permanency of the relationship
  • The amount of the alleged contractor’s investment in facilities and equipment
  • The nature and degree of control by the principal
  • The alleged contractor’s opportunities for profit and loss
  • The amount of initiative, judgment, or foresight in open market competition with others that is required for the success of the claimed independent contractor
  • The degree of independent business organization and operation

 Whether a person is an independent contractor or an employee generally depends on the amount of control exercised by the employer over the work being done.

 Why Does It Matter?

Misclassification of an individual as an independent contractor may have a number of costly legal consequences. If your independent contractor is discovered to meet the legal definition of an employee, you may be required to:

  • Reimburse them for wages you should’ve paid them under the Fair Labor Standards Act, including overtime and minimum wage
  • Pay back taxes and penalties for federal and state income taxes, Social Security, Medicare and unemployment
  • Pay any misclassified injured employees workers’ compensation benefits
  • Provide employee benefits, including health insurance, retirement, etc.

 Tax Requirements

Visit the IRS Independent Contractor or Employee guide to learn about the tax implications of either scenario, download and fill out a form to have the IRS officially determine your workers’ status, and find other related resources. Determination of Worker Status is an IRS form that quickly identifies the correct classification Employee or Contractor.

Still not sure how sure if you need contractors or employees? Visit our website, Facebook, Twitter or sign up for our newsletter where you will find more information about this and other business topics. We will guide you in conducting a hiring needs assessment and help you create a staffing plan for now and the future.

Sandy Cody,  MA, SPHR



***Disclaimer: This article is not intended to provide legal advice. Please do not act upon this information without further consultation from DrakerCody Inc or a licensed legal representative.