Does being your own boss appeal to you? Independent contracting may be an attractive alternative to the regular workplace grind.

You're an independent contractor if you work for yourself, rather than as an employee of a business.

Pros

  • You set your own hours, and decide where and how you want to work.
  • You may end up making more than employees who are paid by the hour.
  • You can take advantage of special tax deductions for businesses that aren't available to employees, and may end up paying less tax.

Cons

  • You must pay your own federal income tax, and self-employment taxes (social security and Medicare taxes), so there's more paperwork.
  • You don't have job security, like an employee would, or even guaranties that you'll be paid for your work.
  • You won't have unemployment benefits if your work ends.
  • You must pay for your own health care.
  • You must absorb the cost of vacations and time lost due to illness.
  • You won't have workers' comp coverage, but you can sue the company you work with if you're injured due to their negligence.

Employee Versus Independent Contractor

Different governmental agencies use different tests for deciding when someone is an independent contractor versus being an employee.

Internal Revenue Service Test

The IRS has a 20-factor test for determining whether you're someone's employee or an independent contractor:

Does the company have the right to control how you do your work?
  • Does the company give you extensive instructions on how, when or where to do the work?
  • Does the company provide you with training about procedures and methods?
  • Does the company set your work hours?

Does the company have financial control over you?
  • Are you reimbursed for your business expenses?
  • Does the company absorb the profit or loss from your performance?

How do you and the company see your relationship?
  • Do you receive benefits, like health insurance or a retirement plan?
  • Do you have a written employment contract that allows the company to fire you?
  • Do you have a continuing relationship with the business?
  • Are you paid by the hour?

The presence of these factors makes it more likely the IRS will consider you an employee rather than an independent contractor.

State Agency Tests

For unemployment compensation, workers' comp and state tax purposes, state laws vary as to whether a worker is considered an employee versus an independent contractor.

Some state agencies use what's called an economic reality testwhich focuses on how economically dependent a worker is on the "hiring" business.

Additionally, unemployment compensation laws in many states follow what's called the ABC test, which focuses on:
  • Whether the worker is operating a business independent of the hiring business.
  • Where the work is actually performed (onsite at the hiring business or elsewhere).
  • What control the hiring business has over the worker while the job is being performed.

You should check your state laws and find out what test it applies

If You're Set on Being an Independent Contractor

  • See a lawyer and CPA first to be sure you're setting your business up properly.
  • Get a written agreement with each company you work with setting out the type of services you'll provide, how those services will be performed, and how and when you'll be paid.
  • Pay your estimated federal income taxes quarterly, as required by the IRS.
  • Set savings aside to cover lean economic times, when available work is light and you can't collect unemployment compensation.
  • Shop around for the best health insurance available, on group terms if that is available to you.
  • Keep up-to-date on industry trends through professional organizations and publications.
  • Keep marketing to new companies, so that you're not dependent on just one company for your livelihood.

Question For Your Attorney

  • I want to be an independent contractor, what steps do I need to take?
  • Do I have to register anything if I want to be an independent contractor?

Tagged as: Labor and Employment, Employment Contracts, independent contractor, labor lawyer