Contractor or Employee: What You Need to Know

What Is a Contractor?

Simply put, an independent contractor (or consultant) is someone who performs work for a company without being hired on as a dedicated employee. These types of workers may bill and be paid in hourly increments or by the project, but they are not subject to the same rules and regulations, nor are they entitled to the same benefits as employees.

Contractors are typically classified as individuals who set their own work hours, who provide services to multiple companies, and who primarily utilize their own equipment to complete tasks. They generally operate with a greater level of autonomy, and possess both the skills and authority to complete tasks without direct input from an employer (e.g. janitorial service providers).

Obligations of the Employer

Independent contractors have increased in popularity in large part due to the diminished responsibilities that employers must fulfill when utilizing them. Legally speaking, contractors are not entitled to company-offered benefits, unemployment benefits, worker’s compensation or overtime pay. Furthermore, these individuals are not necessarily protected by the same work safety or anti-discrimination laws as employees are.

Independent contractors are also obligated to pay their own taxes, and standard withholdings are not deducted on a regular basis as with standard employees. Contrary to employed workers, a contractor’s gainful relationship can effectively be ended at any time, with or without cause. Since they are not officially members of the companies they serve, they are also not able to form or join unions.

Consequences of Misclassification

In addition to the lost protections and potential compensation from the worker’s standpoint, there are several collective consequences of misclassifying employees as contractors. Both the federal and state governments are impacted by way of reduced tax revenues; the same is true for workers’ compensation and state unemployment insurance funds. Furthermore, businesses operating legally share in the burden created by those who, for whatever reason, do not play by the same rules.

As a response, the Department of Labor (DOL) and the Internal Revenue Service are now collaborating on an initiative to curb the problem, engaging in partnerships with 28 different states to clamp down on offenders. Other affected organizations taking part in the efforts include the Occupational Health and Safety Administration, Employee Benefits Security Administration, the Office of the Solicitor and the Office of Federal Contract Compliance Programs, highlighting the seriousness of this issue in today’s economy.

Fluid Definitions

For many businesses, the challenge is in properly classifying a worker. Many contractors contribute to specific companies regularly and for long periods of time, blurring the line between themselves and legally-recognized employees. From a legal standpoint, there is no hard and fast rule to establish which category a worker falls under when there is a dispute. Instead, a variety of factors are weighed in order to make determinations on a case-by-case basis. Such factors include the permanency of the working relationship, the percentage of equipment and materials invested in by the worker in question, said worker’s degree of control and independence, his or her capacity to manage own profits or losses, and finally, the necessary level of skill, anticipation and creativity for the worker to compete successfully in the open market.

Legal Protection

As more companies seek out the services of contractors as a means of cutting costs, the courts have become more stringent with regard to improper classifications. It should also be noted that several factors are typically not weighed when determining whether a worker is a contractor or an employee. These can include a differing time and method of payment when compared with common employees, whether a worker is licensed in his or her specific trade and whether a formal contractor agreement was previously reached between the worker and company in question.

Whether intentional or not, employers who misclassify employees as consultants can be required to pay back wages; this can result in significant financial burdens, depending on the length of the work relationship. Investigations performed by the Wage and Hour Division of the DOL resulted in over $74 million in total back payments for the fiscal year 2015, a sum distributed to more than 100,000 workers affected across a wide range of industries.