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More Differences between an Employee and Contractor

Knowing the difference between an employee and an independent contractor is critical for both tax and legal purposes. If an independent contractor is misclassified as an employee the consequences can be costly.

There are multiple factors that determine the differentiation, and knowing them well is critical for any employer. If there is any doubt, it is generally safer to classify a worker as an employee rather than a contractor, to avoid penalties and other legal issues.  Misclassification may result in an employer being liable for unemployment insurance, health insurance, stock options, vacation, back taxes, unpaid overtime, and more.

Record Keeping and Tool Usage

Independent contractors maintain their own records and generally work for more than one client. They invoice the business owner for any work completed. Independent contractors generally use their own tools and products for the work that they perform.

Employees are not required to maintain payment records, and employees are usually provided with any tools needed to perform the work by their employers.

Taxes and Hiring

Independent contractors are responsible for paying their own taxes, however employees must have their taxes withheld by their employer. Hiring and firing a contractor is less complicated compared to hiring and firing an employee, and there are fewer potential legal issues involved as well.

Sub-contracting and Liability

Contractors may sub-contract their work to other people. A contractor also takes commercial risks that an employee does not take. A contractor can be held liable for issues with their work.

Employees are not allowed to sub-contract their work and generally must complete it themselves. Also, an employer is almost always liable for any legal issues resulting from their employees’ work.

Control over Work Performed

An independent contractor has the freedom to do their work however they prefer; an employer is not allowed to dictate work terms to them. There may be an agreement or written contract with some work terms that are specified, but those terms are mutually agreed to by both parties.

An employee is required to work as instructed by the employer, and employees are required to come into work at specific hours.

Payment and Financial Loss Risk

Contractors have more of a risk for a loss on a particular project, as they may be required to purchase tools or equipment for a project. They may also sub-contract the project to other workers which is another opportunity for a profit loss as well. At the same time, contractors may also gain a profit from their work. Employees are not responsible for financial losses that may occur during their work.

Employees are usually paid a guaranteed hourly wage or a salary, while independent contractors can be paid either hourly or with a flat fee. Independent contractors are paid based on the achievement of a specific goal or set of goals.

Knowing the Differences

The IRS has a 20-factor test that has been previously discussed on this blog that is also helpful for employee status determination. If there are any questions about the status of a worker, the IRS provides free support for advice regarding making a determination, and Form SS-8 is used for this determination.

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Erich J. Ruth

Erich J. Ruth provides technical support for National Software which is the parent company for 1099FIRE. 1099FIRE develops and markets a comprehensive range of products that enables any size of business or institution to effectively manage and comply with year-end filing requirements. 1099FIRE is an employee-owned company located in Phoenix, Arizona.

If you have any questions or comments about our software, feel free to contact us at any time.

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