As companies look to expand their efforts and bring on more workers to complete necessary tasks, businesses have two hiring options: employees or independent contractors. There are important distinctions between the two groups, as well as different tax requirements. Here's what upper management should know about employees and independent contractors prior to employment:
The separation
Many companies rely on independent contractors as a means of cutting costs and creating more flexibility in the hiring and firing process. While employees are required to receive benefits and are protected by discrimination and harassment laws, independent contractors are not. As a result, there is reduced liability for employers when hiring independent contractors.
According to the U.S. Small Business Administration, there are several criteria that distinguish an independent contractor from an employee, including:
- Operating under an individual business name.
- Invoicing for the work completed.
- Working for more than one client.
- Keeping own tools, records and hours of operation.
- Controlling what services will be completed and the method for completion.
The main differentiation between an employee and an independent contractor is that an employee performs duties that are dictated and controlled by the employer, according to the IRS. Companies do not have legal rights to control the details of how services are performed in the case of an independent contractor.
Employees, on the other hand, only work for one employer and receive training for the work they complete.
Misclassification can be costly
It's vital for businesses to understand the differences between an independent contractor and an employee, as lack of knowledge could result in costly consequences. If a company is found to have misclassified a person as an independent contractor instead of an employee, the enterprise will be responsible for the distribution of legal rights.
First, the workers are entitled to the benefits, including healthcare and retirement options, they would have received if they had been classified correctly, according to HR Hero. In addition, employers would also have to reimburse misclassified workers for extra pay, such as minimum wage or overtime, under the Fair Labor Standards Act. Any misclassified injured employees would also be paid for worker's compensation benefits.
The misclassification of an independent contractor can result in costly reimbursement from employers, so understanding the distinction between the two types of workers is crucial.
What can human resources do?
Since HR is often in charge of the recruitment and hiring of workers, the team must be aware of the characteristics that differentiate employees from independent contractors. Although there is no test for the classification for a worker, the U.S. Small Business Administration recommends companies take the following guidelines into consideration:
- The nature of the relationship: Is it permanent or temporary?
- The amount of the contractor's investment in facilities and equipment.
- The nature and degree of control by the employer.
- The extent to which the services rendered are an integral part of the employer's business.
- The contractor's chance for profit and loss.
- Level of judgment, initiative and foresight that is required for the success of the contractor in a competitive market.
To avoid the misclassification of an employee, HR should write job descriptions that clearly specify the need for an independent contractor or an employee. Upon hiring, HR should make sure the company has a W-9 on file for every independent contractor. The form should be collected at the beginning of the contract. Additionally, independent contractors should take care of invoicing for all services. HR should guarantee this statement is listed in the written contract.
If employers are still unsure of the classification of a worker, HR or the worker can file IRS form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding. The IRS will review the details and determine if the person is an independent contractor or an employee. It's important to note that return of this form and classification can take up to six months, so HR should file as far in advance as possible.
Not knowing the difference between an independent contractor and an employee can have costly ramifications for companies. It is critical that HR has a clear understanding of the terms and offers the appropriate benefits and compensation based on the classification.