The difference between employee and independent contractor may seem like a subtle, meaningless distinction, but in fact it can have serious tax and legal consequences for your business. So what is the difference between employee and independent contractor and why does it matter?
Employee vs. Independent Contractor Basics
An employee is someone who works under fairly tight control of the company. Employees generally don’t have much say in what work they do, how they do their work, or when they work. Employees usually receive benefits from the company in one form or another and have an ongoing working relationship with the company.
An independent contractor, on the other hand, is someone who works much more independently, dictating when and how they work, and having more control over what they do. Independent contractors do not receive any benefits from the company and the relationship usually is only related to the work being done.
Legal Difference Between Employee and Independent Contractor
The biggest consideration when determining a worker’s status as either an employee or independent contractor is the company’s degree of control. According to the IRS website, there are three major categories to analyze:
- Behavioral: whether the company controls what work the person does and how the person does his job
- Financial: whether the employer controls how the worker is paid, reimburses expenses, provides tools/supplies/office space
- Type of Relationship: whether there are benefits offered to the worker like insurance, pension plans, vacation pay, etc. and whether the work being performed is a key aspect of the business relationship
Why the Difference Between Employee and Independent Contractor Matters
So now you have a better idea of the difference between employee and independent contractor, but who cares? Why does it matter? It turns out that whether someone is an employee or independent contractor has major implications for the business in terms of taxes and other legal matters.
If a worker is an employee, your company must withhold income taxes, withhold and pay Social Security and Medicare taxes, and pay unemployment tax on any wages paid to that person. If the worker is an independent contractor, you generally do not have to withhold or pay any taxes on payments to the contractor. But failure to properly classify an employee as an employee can cause costly legal problems for the company. (See this site to find out more about the consequences of misclassifying an employee as an independent contractor).
It’s extremely important when you are hiring anyone to work for your company to make sure you have a firm grasp of the difference between employee and independent contractor, and to classify and treat the person accordingly. Not doing so is sure to create legal headaches and can have dire effects on the company’s financial wellbeing.