In my practice consulting business owners, they ask this question all the time. What is the difference between an independent contractor and an employee? I found that most business owners misclassify their employees or contractors, which could lead to serious problems down the road. We answer this question by looking at substance over form, that is, actual work, not functions written on paper.
If you browse the IRS website, you will find that the IRS makes a general rule of thumb for defining an independent contractor. The IRS website states that “the general rule is that a person is an independent contractor if the payer has the right to control or direct only the output of the work and not what will be done and how it will be done.” This is a very broad definition and can be subject to interpretation. Additionally, the IRS site states that “you are not an independent contractor if you perform services that can be controlled by an employer (what will be done and how it will be done). This applies even if you are given leeway. What What matters is that the employer has the legal right to control the details of how services are performed. Again, this can be subject to interpretation.
So, as a business owner, how can you be sure you’re classifying your workers correctly to avoid unforeseen legal issues? You must look at the facts of each situation, what the worker’s job really consists of. Some of the factors to consider are: who directs the person’s work? Do you have a boss or work independently? Do you provide the necessary equipment for the job or does the worker? Does the worker have a set schedule with set meal/break times or do they come and go as they please? How are they compensated? Do they have a written contract with a start and end date? Are they provided with any benefits? Are they required to inform someone or just provide a finished product? An example I like to use when trying to distinguish between an employee and an independent contractor is this: Let’s say you need to paint your house. You hire a painter to do it. You tell the painter that he needs to paint between 9:00 am and 5:00 pm, he can take an hour for lunch, and you will provide him with the supplies for the job. He will pay them for all the hours worked. This painter will probably be considered his employee. On the other hand, you hire a painter to paint your house. You pay $3,000 for labor and materials and care only that the job is complete in 2 weeks. This painter will probably be considered a contractor. Please understand that this is just an example and is in no way intended to give an opinion on the painting profession.
As you probably realize, this is a very gray area of the law, but one with heavy penalties if not handled properly. Whether you’re hiring independent contractors or employees, it’s an objective question, a question that needs to be answered early on to avoid long-term problems. Don’t take this lightly. As a business owner, you should work with competent legal counsel to assist you in your analysis and save you money in the long run.