How to structure relationships with independent contractors.
Last month, we compared independent contractor and employment relationships. The nature of the relationship between a worker and company depends on the circumstances. Greater control over workers and the performance of their work tends to point towards employment, whereas less control points to independent contracting. Rarely is the distinction clear.
In their audits, government agencies apply different standards. Thus, they can reach different conclusions. The IRS considers 14 factors in its analysis. Some agencies may consider 25 or more factors; some agencies consider fewer. No one factor is determinative. If the government reclassifies the workers, it can result in large penalties. The level of scrutiny and outcome may be politically motivated. The uncertainty and potential problems would seem to deter companies from hiring and incentivize outsourcing and offshoring to jurisdictions without such dangers.
It is difficult or impossible to hire a worker who meets every criteria of a contractor. In such cases, companies and workers should execute well-drafted independent contractor agreements. When there is doubt about the worker’s status, an agreement and the parties’ intent can be important. Parties can better guard against reclassification by drafting agreements and structuring relationships in light of the criteria that agencies consider. The following list explains some of those criteria:
Location: Workers who work offsite are more likely to be considered contractors than those who work on the premises.
Supplies and equipment: Contractors tend to buy their own supplies and equipment. Employers tend to supply employees with the things that they require to do their jobs.
Facilities: Contractors may invest significant capital in their own facilities.
Expenses: Contractors tend to pay their own business and traveling expenses. Employers tend to pay employees’ expenses in addition to a wage for their labor.
Risk of profit or loss: Because they pay for their own supplies, facilities and expenses, contractors bear the risk of profit or loss associated with a project.
Exclusivity: Contractors can offer their services to the public and have multiple customers. Typically, employees are barred from working with other employers or competitors while employed.
Compensation: Usually, companies pay contractors on a project basis. Employees and their employer have a continuing relationship.
Duration: Usually, contractor relationships have beginning and ending dates without automatic renewal.
Right to quit or fire: Where a worker is a contractor, either party can terminate the contract in accord with its terms. Employment relationships can be for a fixed period, but usually, employment is for an indefinite time (i.e., “at will”). At any time, an employee can quit, and the employer can sever the relationship.
Instructions: It is always important to explain the required work in as much detail as practical and possible. Independent contractor agreements should focus on outcomes. While the company can specify performance standards and details, the contractor does not have to accept instructions about how to perform the job. The company pays for the final product.
Sequence: A contractor can decide the order in which he will perform the work. An employee may not have that discretion.
Supervision and training: Often, contractors perform without direct supervision, whereas companies tend to train and supervise employees.
Skill required: Relatively high-skilled workers tend to be contractors, whereas relatively low-skilled workers may be employees.
Personal performance: A contractor can hire, pay and supervise his own assistants or subcontractors without the company’s approval. To ensure that the subcontractors have the requisite skill to perform the job, the company can specify that the work must meet a particular standard. An employer expects an employee to perform services personally.
Hours: A contractor determines his own hours, whereas an employer sets an employee’s hours.
Benefits: Normally, contractors do not receive benefits, but employees do.
Custom: An industry’s custom of using contractors or employees is an important consideration.
Tax treatment: Usually, contractors pay their own taxes.
If a worker is an employee, a variety of employment laws may apply. The company will have to withhold payroll taxes and purchase workers’ compensation insurance. Regardless of the classification though, written contracts are useful for outlining rights and responsibilities. Wherever possible, companies should use them.
Editor’s note: This column does not constitute legal advice.
Bryan L. Berson, Esq. is an attorney and mediator at The Berson Firm, P.C., a commercial and civil law firm specializing in business law, real estate, mediation and litigation. His e-mail is email@example.com. Connect with The Berson Firm on Facebook and Bryan on LinkedIn.