Contractor vs. Employee Classifications

Misclassifying workers as independent contractors can have severe consequences. Incorrectly classifying employees can result in substantial legal penalties and financial liabilities. If audited by the Department of Labor, CA EDD, or IRS, companies may face back wages for overtime pay and taxes, as well as other penalties. To avoid these risks, it's essential to accurately determine the nature of the worker-employer relationship.

While there's no definitive test, the following factors are key in determining whether your company is treating a contractor like an employee:

Income sources

If the worker has other clients and sources of income, they're more likely to be an independent contractor. If the company is the worker’s primary or sole source of income, then they may need to be classified as an employee.

Payment structure

Independent contractors should be paid for completed jobs or projects, not by the hour, week, or month. While monthly payments might be considered, they're more appropriate if the contractor has other clients and sources of income. A Consulting Agreement should be put in place with specific deliverables, payment terms, and a project end date.

Company involvement

Independent contractors shouldn't be essential to the company's day-to-day operations. They shouldn't manage employees, oversee major product lines, or directly handle customers. Instead, they should be engaged for specific, specialized skills and given the freedom to complete their work as they see fit.

Benefits and equipment

The company shouldn't provide benefits, paid time off, or equipment to an independent contractor. Contractors typically provide their own tools and benefits.
 

Other resources:
Department of Labor: Employee vs Contractor
The IRS definition of an Independent Contractor

If you would like assistance with your employee classifications, Countsy’s team of HR professionals is ready to help. Contact us today.