Knowing whether a worker is an employee or an independent contractor is important for both workers and employers. Any worker should understand how they are classified, and what it means. As an independent contractor, you may have more freedom to choose how you complete your work, but you are responsible for paying your own taxes, getting your own health insurance, and paying into unemployment and workers comp funds if you wish to access those benefits. If you are an employee you are under the control of your employer, but also may have certain benefits provided by your employer including workers compensation, unemployment, and health insurance. Employers must be careful to make sure that workers are properly classified because a worker’s title does not determine whether they are an employee or independent contractor. It is the nature of the relationship that matters, and employers can be subject to stiff penalties if they misclassify workers. To find out more about what an independent contractor is and what the independent contractor status means for workers and employers, read below.
The company I work for tells me I am considered an “independent contractor.” What does that mean?
Most people who perform work for someone else are considered employees of that person or company. However, an alternative arrangement is to consider those who perform work to be independent contractors. The difference between employees and independent contractors is more than just the title.
If you are an “independent contractor,” your working terms are decided by an agreement or contract. The terms of the agreement may be a formal written contract, or may just be a verbal agreement. In fact, a contract for work can be created simply by doing things the way they have always been done, without writing down the terms and without even talking about them. However, even if your employer labels you an “independent contractor,” the U.S. Department of Labor (DOL) and the Internal Revenue Service (IRS) may still consider you to be an employee based on the nature of your work relationship.
What’s the difference between being an independent contractor and an employee?
If you are considered a contractor, you may not have the same legal rights as an employee. For example, most federal laws that prohibit discrimination only apply to employees. Another example: an employer is required to pay its hourly employees minimum wages and overtime wages, but contractors don’t have to be paid any specific amount. Employers that provide benefits to employees do not have to provide those benefits to contractors. An employer is required to deduct payroll taxes from the pay of an employee. No payroll taxes are deducted from money paid to a contractor.
A new category of independent contractors is called “on-demand” workers which are employees that work for online app-based companies that are gaining revenue and profits from these workers. An example of an “on-demand” worker is an Uber driver. In this field of employment, employers have faced criticism for their treatment of these “on-demand” workers; however, employers defend on the grounds that labor regulation will crush the innovation they seek to advance. Employers of “on-demand” workers further argue that they are not employers and these workers are not employees; however, critics of this arrangement now argue that these types of companies are performing a labor-brokering function. Thus, legislation is being developed to determine these workers’ rights on the job such as minimum wage for all hours worked, right to a voice on the job, social insurance programs, and many other benefits and protections a normal employee would obtain. Please check back for any developments surrounding the rights of “on-demand” workers.
Both the IRS and the DOL care about whether you are properly classified. Each of these agencies has guidelines to help you decide whether you should be paid as an employee or as an independent contractor.
Can employers just decide that I’m an independent contractor so that they don’t have to pay my taxes, wages, and benefits?
There is no single rule or test that determines whether you are an independent contractor vs. an employee. It is the particular facts of a situation that control. However, both the IRS and the DOL have developed guidelines to help both businesses and workers choose the correct status.
Why does the IRS care whether I am an employee or an independent contractor?
The IRS wants to be sure that proper federal taxes are being paid. The IRS collects income taxes from employers and employees. Taxes are deducted from employee paychecks. The employer is required to forward to the IRS the money collected from the employee deductions. If an employer is not properly taking deductions or forwarding the money, the IRS may act against the employer to correct the tax violations.
If an independent contractor is involved, the IRS has no authority to act against the employer, but the IRS does have the authority to audit the tax payments of the independent contractor. Contractors who earn over a certain amount also must pay what is known as a “self-employment tax,” which covers their share of Social Security taxes.
What factors are important to the IRS in determining my status?
Under IRS rules, workers are presumed to be employees. The burden is on the employer to prove that a worker is an independent contractor and not an employee. The IRS has recently simplified their previous list of 20 factors into a 3 category evaluation system to determine whether a worker is an employee or an independent contractor.
These 3 categories: (A)Behavioral Control, (B) Financial Control, and (C) Type of Relationship, include a total of 13 factors. The importance of each factor depends on your particular situation. These categories are detailed below:
Type of Instructions Given: Employees must follow the instructions of the employer as to when, where, and how to perform the work. Independent contractors can set their own hours and decide how to perform the job or complete the project. The company will review the finished project.
Degree of Instruction: Degree of Instruction means that the more detailed the instructions, the more control the business exercises over the worker and the closer the worker is to an employee. Less detailed instructions reflect less control, indicating that the worker is more likely an independent contractor.
Evaluation: If an evaluation system measures the details of how the work is performed, then these factors would indicate that you are an employee. If the evaluation system measures just the end result, then you could be either an independent contractor or an employee.
Training: The employer may hold classes, meetings or closely supervise on-the-job to train employees. Independent contractors can perform the work as they choose.
Significant Investment: Employees do not invest in the facility and do not buy equipment. Independent contractors must invest in their own workplace and equipment.
Unreimbursed Expenses: Independent contractors are more likely to have unreimbursed expenses than are employees. Fixed ongoing costs that are incurred regardless of whether work is currently being performed are especially important. However, employees may also incur unreimbursed expenses in connection with the services that they perform for their business.
Opportunity for Profit or Loss: The profit or loss of the company does not change the pay that employees earn. Independent contractors can profit or lose money based on good or bad results and time spent working on the project.
Services Available to the Market: Employees generally serve one employer. Independent contractors can provide services to the general public, advertise services, and recruit new customers–all while working for one or more other companies.
Method of Payment: Employees are paid on specific dates in regular amounts and may be reimbursed for travel and business expenses. The contract between the company and the independent contractor determines how payment is to be made. Independent contractors may include expenses as part of the contract or may pay expenses independently.
Type of Relationship
Written Contract: Although a contract may state that the worker is an employee or an independent contractor, this is not sufficient to determine the worker’s status. The IRS is not required to follow a contract stating that the worker is an independent contractor, responsible for paying his or her own self-employment tax. How the parties work together determines whether the worker is an employee or an independent contractor.
Employee Benefits: Employee benefits include things like insurance, pension plans, paid vacation, sick days, and disability insurance. Businesses generally do not grant these benefits to independent contractors. However, the lack of these types of benefits does not necessarily mean the worker is an independent contractor.
Permanency of the Relationship: Employees have an ongoing relationship with the employer. Independent contractors are hired for a specific job. When that job is finished, the working relationship ends.
Services Provided as Key Activity of the Business: If a worker provides services that are a key aspect of the business, it is more likely that the business will have the right to direct and control his or her activities. For example, if a law firm hires an attorney, it is likely that it will present the attorney’s work as its own and would have the right to control or direct that work. This would indicate an employer-employee relationship.
Why does the Department of Labor care whether I am an employee or an independent contractor?
The DOL monitors and regulates the wage and hour laws passed by Congress. If for example, an employee is not paid minimum wages or overtime, the DOL may act to correct the unfair or unlawful wage practices. If an independent contractor is involved, the DOL has no authority to act.
What factors are important to the Department of Labor in determining my status?
The Department of Labor states that “economic realities” factors are helpful guides to determine whether a worker is an employee or an independent contractor. While there is no single rule or test, the Supreme Court has held that it is the totality of the working relationship between the worker and employer that is determinative.
Although the factors considered can vary, the factors generally considered to determine whether a worker is an employee or an independent contractor under the Fair Labor Standards Act (FLSA) include:
The extent to which the work performed is an integral part of the employer’s business. If your duties are an integral part of the business, that fact leans toward finding you to be an employee. If your duties are not central to the primary business, that fact leans toward finding you to be a contractor.
Whether the worker’s managerial skills affect his or her opportunity for profit or loss. Managerial skill may be indicated by the hiring and supervision of workers or by investment in equipment. Analysis of this factor should focus on whether the worker exercises managerial skills and, if so, whether those skills affect that worker’s opportunity for both profit and loss. An employee usually has a set wage and only shares in the profits or losses of the business under a shareholder agreement or benefit program. A contractor can be more profitable by performing their services more efficiently. The profits and losses of a contractor are not linked to the profits and losses of the business that is using your services.
The relative investments in facilities and equipment by the worker and the employer. The worker must make some investment compared to the employer’s investment, and bear some risk for a loss, in order for there to be an indication that he/she is an independent contractor in business for himself or herself. A worker’s investment in tools and equipment to perform the work does not necessarily indicate independent contractor status, because such tools and equipment may simply be required to perform the work for the employer. If a worker’s business investment compares favorably enough to the employer’s that they appear to be sharing the risk of loss, this factor indicates that the worker may be an independent contractor.
The worker’s skill and initiative. As a contractor, you are free to exercise your own initiative and judgment. You can take advantage of open market competition to set your prices and pick your work. The employee is required to follow directions from the employer and under normal circumstances cannot compete with the employer.
The permanency of the worker’s relationship with the employer. More permanent relationships create an employee-employer relationship. Temporary services are more likely to create a contractual relationship.
The nature and degree of control by the employer.The more control the business has over the work you do, the more likely you are to be an employee. If you are free to perform your services without detailed direction or supervision, you are more likely to be a contractor.
Does my title affect whether I’m an independent contractor?
No. What you are called is not important. Employers in some cases have called their workers “freelancers” or contractors, but after a lawsuit, those workers were actually found to be employees.
What if I provide work for an app or web-based company?
The rise of on-demand services provided through app/web-based companies brings new challenges to worker classification. The United States Supreme Court recently considered the question of the worker classification of Lyft drivers. The Court used a “totality of the circumstances” approach utilizing the FLSA standards but ultimately decided a jury was needed to determine whether the drivers are employees or independent contractors. Thus, this question has yet to be answered.
However, at the state level, the California Labor Commissioner’s office recently ruled that an Uber driver is an employee, rather than an independent contractor. It is important to note that this ruling only applies to the individual employee who filed her case. Furthermore, Uber is appealing the decision. Nonetheless, at this time, whether you will be considered an employee or an independent contractor depends on your specific circumstances and the forum in which your case is heard.
The law in this area is changing very rapidly with the rise in on-demand employment and app-based services. If you work for one of these companies and question whether or not you are being paid properly, please consult with our employment lawyers to determine the current state of the law applicable to you.
I am paid a flat fee for my work. Does this mean I am an independent contractor?
Not necessarily. The time or method of payment is just one of the factors considered when deciding if you are an employee or a contractor. While a flat fee payment arrangement makes it more likely that you are an independent contractor, it is the totality of the circumstances of the working relationship that will ultimately determine whether you are an employee or independent contractor. Otherwise, employers could just offer each employee a flat fee for the completion of work, or choose any particular method that might circumvent the laws.
When our company has to lay off people, the independent contractors go first. Is an independent contractor eligible for unemployment if that happens?
An employer is not responsible for your unemployment benefits if you are an independent contractor. While employees are always eligible for unemployment benefits if they are laid off, an independent contractor will only be eligible if they pay separately into the state unemployment fund.
However, if your status as an independent contractor is questionable, filing for unemployment may be worth a try. While cases considering Uber drivers’ employment status are still making their way through the courts, a Florida Uber driver recently filed for and was granted, unemployment benefits as an Uber employee.
What happens if I am hurt at the site where I am working? Am I covered by workers compensation if I am an independent contractor?
As with unemployment benefits, an employer is not responsible for workers comp benefits if you are an independent contractor. Most states permit an independent contractor to be eligible for workers comp benefits by paying separately into the state workers compensation fund.
What happens if I am harassed at the site where I am working? Am I covered by discrimination laws?
Only employees are covered under federal discrimination laws, not independent contractors. However, some states have discrimination laws that define “employee” more broadly than the IRS and DOL. You should check your state and local discrimination laws to see if you would be covered, or consult with a local attorney who can help you find out how you might be protected.
I really need to have health benefits. If I am an employee, does the company have to give me health coverage?
Under the Affordable Care Act, also known as “ObamaCare”, Employers with 50 or more full-time employees, or a combination of full and part time employees equivalent to 50 full time employees, who do not provide a minimum level of affordable health care coverage to their employees may be required to make an “Employer Shared Responsibility” payment if at least one of their full-time employees receives a premium tax credit for purchasing individual coverage on one of the new Affordable Insurance Exchanges, also called a Health Insurance Marketplace (Marketplace).
Furthermore, if an employer subscribes to an IRS-approved medical plan that covers all employees, that plan must provide coverage without discrimination. If you are an independent contractor, you must provide your own health coverage.
If I’m paid as an independent contractor, does that mean I have to pay more taxes?
The IRS regulates the amount all people must pay for income taxes and contributions to Social Security, Medicaid, Medicare, etc. These taxes are automatically deducted from an employee’s paycheck. As an independent contractor, you must pay your own taxes. However, as an independent contractor, you may also take deductions for all of your business expenses, so you may actually end up paying lower taxes than an employee.
If I want to work as an independent contractor, what should I do so the company who pays me doesn’t get in legal trouble?
First, you should have a written agreement that explains why you are an independent contractor and not an employee. The company must be willing to give you broad discretion in how, when, and where you perform your duties. You must review all of the IRS and DOL factors and be sure that your agreement considers all of those factors. If the company has numerous people performing the same job that you perform in a company building, using company supplies and equipment, with supervisors controlling your assignments, even an independent contractor agreement may not keep you from being called an employee by the IRS or DOL.
I don’t want to file a lawsuit. I just want my employment status changed. What should I do?
Talking to company management is a good start. If your management is alerted that there may be a problem with your classification, that may be enough incentive for them to change your status to comply with the IRS and DOL factors.
I am currently treated as an employee, but I think I should be considered an independent contractor. What should I do?
If you are presently an employee and want to become an independent contractor, your job assignments must be consistent with the IRS and DOL factors. You should discuss your request with management to see if the company is willing to give you the freedom to be an independent contractor.
I am currently treated as an independent contractor, but I think I should be considered an employee. What should I do?
If there are job openings, you can apply for an employee position. But, if the company insists on calling you and paying you as an independent contractor, and you feel that the job you are doing fits the IRS and DOL factors defining an employee, the solution may be difficult.
First, you should talk to an attorney who can help you analyze your situation. Then, you can decide whether going to management or going to a government agency is the best way to address your concern. Where a company is avoiding employment laws by calling large numbers of workers independent contractors, the DOL may act to enforce federal law
I don’t think my company is operating under the IRS standards. Should I report them to the IRS?
First, you should talk to an attorney who can help you analyze the IRS factors. Even though reporting IRS violations is a protected activity, you might expose yourself to unlawful retaliation. If you want the IRS to determine whether you are an employee, you can file an IRS Form SS-8.
The IRS also has a hotline (800-829-0433) where you can make a report. For more information, and/or other ways to report IRS violations, see the IRS page, How Do You Report Suspected Tax Fraud Activity?
Who enforces the law?
The IRS, the DOL, and similar state agencies enforce wage, hour, and tax laws. Independent contractors must rely on the terms of their independent contractor agreement, or the implied understanding, and would have to go to court to enforce that agreement or understanding. Possible claims might include breach of contract and breach of promise, sometimes called promissory estoppel.
The Fair Labor Standards Act (FLSA) is enforced by the Wage-Hour Division of the DOL. The Wage-Hour Division’s enforcement of the FLSA is carried out by investigators stationed across the U.S. who conduct investigations and gather data on wages, hours, and other employment conditions or practices in order to determine whether an employer has complied with the law. Where violations are found, they also may recommend changes in employment practices to bring an employer into compliance.
It is a violation of the FLSA to fire, or in any other way discriminate against an employee, for filing a complaint or participating in a legal proceeding.
Willful violations may be prosecuted criminally and the violator fined up to $10,000. A second conviction may result in imprisonment. Employers who willfully or repeatedly violate the minimum wage requirements are subject to a civil money penalty of up to $1,000 for each such violation.
The FLSA makes it illegal to ship goods in interstate commerce that were produced in violation of the minimum wage, overtime pay, child labor, or special minimum wage provisions.
To contact the Wage-Hour Division for further information and/or to report a potential FLSA independent contractor violation, call:
Toll Free: 866-4-USWAGE (866-487-9243) TTY: (877) 889-5627 (available Monday – Friday, 8 a.m. – 6 p.m. Eastern Time)
You may also contact your local Wage-Hour Division office. If you need further information about your state’s law relating to independent contractors and/or wish to report a potential state law violation, then you may wish to contact the agency in your state which handles wage and hour/labor standards violations.
What are the remedies available to me?
If an agency or a court finds that you should have been treated as an employee, the company could be forced to classify you as an employee. If you lost income or benefits because you were not classified as an employee, you could be compensated for those losses.
There are several different methods under the FLSA for an employee to recover unpaid wages; each method has different remedies.
The Wage-Hour Division of DOL may supervise the payment of back wages.
The Secretary of Labor may bring suit for back wages and an additional penalty, called “liquidated damages,” which can be equal to the back pay award (essentially doubling the damages) if an employer willfully violated the statute.
An employee may file a private lawsuit for back pay and an equal amount as liquidated damages, plus attorney’s fees and court costs. An employee may not bring a lawsuit if he or she has been paid back wages under the supervision of the Wage-Hour Division or if the Secretary of Labor has already filed suit to recover the wages.
The Secretary of Labor may obtain an injunction to restrain any person from violating the FLSA, including the unlawful withholding of proper minimum wage and overtime pay.
Your state law may have different methods for recovery of unpaid wages, and different remedies to be awarded to those who succeed in proving a violation.
How do I file a complaint/How long do I have to file?
To file a complaint about unpaid wages under the FLSA, you may either go to the Wage-Hour Division of DOL, which may pursue a complaint on your behalf or file your own lawsuit in court.
Do not delay in contacting the Wage-Hour Division or your state agency to file a claim. There are strict time limits in which charges of unpaid wages must be filed. To preserve your claim under federal law, you must file a lawsuit in court within 2 years of the violation for which you are claiming back wages, except in the case of an employer’s willful violation, in which case a 3-year statute applies. However, as you might have other legal claims with shorter deadlines, do not wait to file your claim. You may wish to consult an attorney before filing your claim, but you are not required to have an attorney to file a claim with the state and federal administrative agencies.