As a small business owner, there will come a point when you need extra help and will start thinking about hiring either a full-time employee or an outside contractor. Don’t make the mistake of thinking they are the same thing. They aren’t. This article discusses the advantages and disadvantages of hiring employees vs. independent contractors as well as some of the misclassifications under the Fair Labor Standard Act (FLSA).
Although both kinds of workers do tasks for you, they are not viewed the same by the IRS. If the IRS suspects that you are not classifying your workers correctly, they could audit you. For example, if you are a restaurant owner and hire a few waiters, they would be considered employees. But if you contract a local handyman to fix things that break at the restaurant, that person would be an independent contractor, even if you pay them hourly. The employee works for you while the contractor simply shows up and fixes things his or her own way.
An employee is a person who works in the services of another person under a contract of hire which the employer has the right to control the details of work performance and it’s usually long-term. Here are some advantages and disadvantages of hiring an employee.
- Employees have more pride in their work because they feel like they are part of a team. Most people want job security and a job they can call home.
- Hourly wages for an employee are much less. If you were to hire out the same work to a freelancer, you would have to pay much more.
- No need to scramble when the workload increases. If you were to rely on a contractor in an urgent situation, they could be booked.
- You can delegate tasks permanently to others. Doing this will free up your time.
- You won’t have to train staff on how you like things done as often. They know you and your business and can do the work without constant direction.
- Take a vacation without worrying if all your bases are covered. Someone will be around to hold the fort down in your absence.
- Full-time employees will expect benefits. If you don’t offer them, you bet they are interviewing at other places that offer them.
- You’ll need to give them a paycheck like clockwork. Even when your business is in a lull.
- Payroll paperwork is legally required. You’ll also need to withhold your employees’ taxes, social security and Medicare.
- You are responsible for your employees’ training and professional licensing requirements.
Hiring Independent Contractors
In general, the IRS defines an independent contractor as: “An individual whose payer has the right to control or direct only the result of the work and not what will be done and how it will be done.”
- You will save money. Even though you’ll pay a contractor more per hour than you would pay an employee, you aren’t required to pay them any benefits or commit to a salary.
- You have staffing flexibility. When working with contractors, you have greater leeway in hiring and letting go of workers. Or if the contractor doesn’t work out, simply look for a new one.
- You reduce your exposure to lawsuits. Employees have a variety of rights under state and federal law which means they also have a variety of potential legal claims to bring against an employer.
- Easier to hire for a specialized service. Usually, you can find contractors that have many years of experience and you don’t have to train them.
- They are responsible for their own permits and professional licenses.
- Fewer tax responsibilities. You must report the amount you have paid them each year but you don’t have to withhold or pay FICA taxes on these payments.
- You have less control. Unlike a regular employee, you can’t closely monitor their work. You can guide them, but they usually decide how best to do the task that you hired them for.
- You are hiring short-term. It may be hard to get the same worker for the next project because they work on a first come, first serve basis. The quality of work may vary.
- Your right to fire depends on your written agreement. You don’t hold the unrestricted right to fire a contractor like you do an employee.
- No company loyalty. They are not part of your staff and therefore will not promote your brand on their own.
- You may not own the copyright to the work created by a contractor unless you have a written agreement about the transfer of copyright ownership. For example, articles, books or photographs.
Misclassifications Under the Fair Labor Standards Act
The Fair Labor Standards Act (FLSA) provides minimum wage and overtime pay protections to nearly all workers in the U.S. Sometimes employers incorrectly label workers who are employees under the federal law as independent contractors. This is called “misclassification” and this often times denies the employee access to benefits and protections like minimum wage, overtime compensation, medical leave and unemployment insurance. Here are some examples of misclassifications:
- Employers may not misclassify an employee for any reason, even if the employee agrees.
- Working off-site or from home with a flexible schedule does not make someone an independent contractor.
- Receiving a 1099 does not make someone an independent contractor.
- Signing an independent contractor agreement does not make that person an independent contractor.
- Being paid in cash, check, on the book or off the books, may still classify a person as an employee under the FLSA.
- Being labeled an independent contractor under another law (for example, tax law or state law) may still mean that person is classified as an employee under the FLSA.
- Having an employee identification number or working as a Limited Liability Company (LLC) does not make an independent contractor.
- “Common industry practice” is not a reason to misclassify.
Making the choice of hiring an employee or an independent contractor can be done on a case-by-case basis and should follow any FLSA guidelines. But you should be aware that the IRS considers a worker to be an employee most of the time unless you can prove otherwise.