What’s the Difference Between an Independent Contractor and an Employee?
A business may pay an independent contractor and an employee for the same or similar work, but there are important legal differences between the two. For the employee, the company withholds income tax, Social Security, and Medicare from wages paid. For the independent contractor, the company does not withhold taxes. Employment and labor laws also do not apply to independent contractors.
To determine whether a person is an employee or an independent contractor, the company weighs factors to identify the degree of control it has in the relationship with the person.
- Does the company control or have the right to control what the worker does and how the worker does the job?
- Does the company control the business aspects of the worker’s job? These include arrangements like how the worker is paid, whether expenses are reimbursed, and who provides tools and supplies.
- Is there a written contract or employee benefits such as a pension plan, insurance, or vacation pay?
- Will the relationship continue and is the work a key aspect of the business?
Each state also has tests to determine a person’s status under workers’ compensation and unemployment insurance laws. The economic realities test used in most states makes it harder to classify a worker as an independent contractor because, in addition to the degree of control test, it considers the degree the worker is economically dependent upon the business. State-specific information is available from state workforce agenciesvisit disclaimer page.
The table highlights some differences in the business relationship with employees and independent contractors.
|Covered by a number of federal and state employment and labor laws
|Not covered by employment and labor laws
|A potential employee completes an application that is handled by Human Resources. The approved applicant receives a job offer. After a person accepts the position, the employer must ask for additional information about the employee such as date of birth, marital status, and citizenship status.
|A potential contractor normally interacts with the person or department that wants a certain service or task completed. A potential contractor might complete a proposal. The contractor enters into a contract, including a Statement of Work with the legal or procurement section of the business.
|Provides name, address, Social Security number, tax filing status, and number of exemptions on a W-4
|Provides name, address, Taxpayer Identification Number, and certification about back up withholdingvisit disclaimer page on a W-9
|Payer’s Tax Reporting Requirements
|Reports all money paid to the employee during the tax year on a W-2
|Reports payments of $600 or more in a calendar year on a Form 1099
|Reporting to Other Agencies
|Reports for state and federal Unemployment Insurance
|Value of Work or Contract
|Earns either an hourly rate or a salary
|A contract may be for a total amount. It could be for an hourly, daily, or weekly amount that ends on a specific date or a total amount to be paid when the job is completed.
|An employee pay period must remain the same unless formally changed. Pay periods vary from one week to one month. Federal and state laws require that an employee be paid on the normal pay date or earlier if the pay check is not negotiable on the normal pay date, which can occur on holidays.
|Accounts Payable pays a contractor after receiving an invoice. The terms of the contract or Statement of Work dictate when payments are made, such as upon completion of a task or by periodic amounts. Contractors are not paid by payroll staff in most businesses.