There are many benefits to hiring independent contractors (ICs), but there are some disadvantages as well. Before you decide how to staff a particular job, you'll need to weigh these pros and cons -- and make sure that your choice will pass muster with state and federal auditors.
There are several major advantages to using independent contractors rather than employees, with financial savings topping the list.
You will probably save money. Even though most employers pay ICs more per hour than they would pay employees to do the same work, it usually ends up costing employers more to hire employees. When you hire an employee, you will have to pay a number of expenses that you don't have to pay for ICs, including employer-provided benefits, office space, and equipment. You will also have to make required payments and contributions on behalf of your employees, including:
All together, these expenses can easily increase your payroll costs by 20% to 30% -- or more.
You have staffing flexibility. Working with ICs allows employers greater leeway in hiring and letting go of workers, which can be especially advantageous for employers with fluctuating workloads. You can hire an IC for a specific task or project, knowing that the worker will be gone when the job is finished. You won't have to face the trauma, expense, and potential legal trouble that can accompany firings and layoffs.
You may also enjoy greater efficiency when you use ICs. Because most ICs bring specialized expertise to the job, they are usually productive immediately, eliminating the time and cost of training.
You reduce your exposure to lawsuits. Employees have a wide array of rights under state and federal laws -- and therefore, a variety of legal claims they can potentially bring against their employers for violating those rights. Because ICs are independent businesspeople, they are not protected by many of these laws. Among the rights that are available to employees but not to ICs are:
Employees may also be able to sue their employers for wrongful termination. ICs cannot bring this type of lawsuit (although there may be restrictions on your right to terminate an IC relationship, depending on what the written IC agreement says -- see Nolo's article Put Your Independent Contractor Agreement in Writing for more information on IC contracts).
After reading about the possible benefits of hiring ICs, you may be thinking that you'll never hire an employee again. But there are also some significant drawbacks to using ICs -- and the risk that your classification decision may be questioned by government agencies.
You have less control over your workers. Unlike employees, whom you can closely supervise and monitor, independent contractors enjoy a certain autonomy to decide how best to do the task for which you hired them. If you interfere too much in an IC's work, you risk making the IC look like an employee, for whom the law says you should be paying payroll taxes, workers' compensation insurance premiums, and more. If you want to exercise significant control over what your workers are doing and how they're doing it, classify them as employees.
Your workers will come and go. Many employers use ICs only as needed for relatively short-term projects. This means that workers are constantly coming and going, which can be inconvenient and disruptive. And the quality of work you get from various ICs may be uneven. Employers who want to rely on the same workers day after day are better off hiring employees rather than ICs.
Your right to fire an IC depends on your written agreement. You do not have an unrestricted right to fire an IC, as you might with your employees. Your right to terminate an IC's services is limited by the terms of your written IC agreement. If you fire an IC in violation of the agreement, you could be liable for breach of contract.
You may be liable for injuries an IC suffers on the job. Employees who are injured on the job are usually covered by workers' compensation insurance. In exchange for the benefits they receive for their injuries, these employees give up the right to sue their employer for damages. ICs are not covered by workers' compensation, which means that if they are injured on the job, they might be able to sue you and recover damages.
You may not own the copyright in works created by an IC. If you hire an IC to create a work that can be copyrighted -- such as an article, book, or photograph -- you might not be considered the owner of the work unless you use a written agreement transferring copyright ownership from the IC to you. (See Nolo's article How to Protect Your Intellectual Property Rights in Works Created by Contractors for more information on these agreements.) In contrast, if an employee creates such a work, in most circumstances you will automatically own the copyright.
You face a risk of government audits. State and federal agencies -- particularly the IRS -- want to see as many workers as possible classified as employees, not ICs. The reason is financial: The more workers are classified as employees, the more tax and insurance money flows into government coffers, and the harder it is for workers to underreport or hide their income from the tax man.
Any number of state and federal agencies might audit your business if they believe you have misclassified employees as ICs. At the federal level, you might face an audit from the IRS; the Department of Labor, which enforces federal minimum wage and hour laws; the National Labor Relations Board, which enforces employees' rights to form a union; or the Occupational Safety and Health Administration, which enforces workplace safety laws.
At the state level, you could attract the attention of your state's unemployment compensation or workers' compensation agency if a worker you classified as an IC applies for benefits. You could also face an audit from your state's tax agency.
To learn more about hiring independent contractors, freelancers or consultants, read Working With Independent Contractors, by Stephen Fishman (Nolo).