Hiring Independent Contractors: Small Business Growth or Trap?

As your business grows, you realize there are only so many hours in the day, and those 24 hours simply aren’t enough for everything that needs to get done: producing your product or service, marketing the business, making sure there is enough money to keep going, growing yourself as a leader and entrepreneur, etc., etc. At some point you simply need more help.

But taking on a regular payroll expense seems daunting and payroll taxes sound confusing and expensive. (After all, if you hire someone at $10/hr, it actually costs the business more than $10/hr…thanks Uncle Sam!) Many small (and some not so small) businesses in this situation decide to hire independent contractors instead. But is that truly the way to grow your business, or is it a trap waiting to spring?

Classifying Workers as Independent Contractors Can Save the Business Money

There are several benefits to hiring people as independent contractors instead of employees:

• No payroll taxes – That $10/hr really is just $10/hr.
• No overtime – No matter how much an independent contractor works, they are not entitled to overtime pay at “time and a half.”
• No benefits – As the business grows and does hire regular employees, independent contractors are not entitled to a fancy benefits package, which means no retirement contributions, health insurance expenses, or paid time off.
• No unemployment compensation – Not only does the business not pay unemployment insurance premiums, but you don’t have to worry about an independent contractor filing for unemployment and potentially raising your rates.
  
• No workers’ compensation – Just like with unemployment insurance, the business doesn’t pay workers’ comp premiums for independent contractors, and typically won’t pay anything if an independent contractor is injured while performing their duties.

Misclassifying Workers as Independent Contractors Can be a Costly Mistake

At this point, hiring an independent contractor may seem like a no-brainer, but you can’t make everyone an independent contractor just to save money. The IRS (or several other government agencies) can determine that the business misclassified a worker as an independent contractor when legally, the person should have been classified an employee. In that situation, the business can face significant penalties:

• Independent contractors aren’t issued with W-2s at the beginning of the year for tax purposes, which means the IRS will assess a penalty for each missing or late W-2.
• Remember those payroll taxes the business wasn’t paying? The IRS will require the payment of back taxes plus interest.
  
• You as the owner can be held personally liable for those back taxes, penalties, and interest, regardless of the kind of business entity you established.
  
• In addition to personal liability, you could also be held criminally liable and sentenced to up to one year in jail plus a fine of $1,000 per misclassified worker.
  

Small businesses simply cannot afford to make a mistake when it comes to deciding whether a worker is an independent contractor or an employee. We hear from small business owners all the time who assume that they can get away with misclassifying workers because they are “just” a small business; however, being a small business is not a defense.

If you have any questions about how your workers are classified, schedule your initial consultation today or watch our webinar on this very topic:

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