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What is the Difference Between a 1099 Subcontractor and an Employee?

Many business owners prefer hiring contractors to bringing on employees for one simple reason: cost. With 1099 contractors, employers don’t provide benefits, cover employment taxes, or pay for supplies and overhead.

Employers should use caution, however, when they classify workers as independent contractors. The IRS notes that while employers are not required to withhold and pay taxes for independent contractors, they generally are required to pay Medicare, Social Security, income and unemployment taxes on employees.

Like employees, independent contractors provide compensated work for both individuals and businesses. Employers should protect themselves by fully understanding the distinctions between contractors and employees along with legal protections for 1099 contractors.

Defining Independent Contractors

Federal law classifies workers as either independent contractors or employees. The distinction largely is determined by the degree of control by the employer over the contractor and the level of independence the contractor has. While no one rule firmly establishes a worker’s status as a contractor or employee, contributing factors include:

  • The temporary or permanent nature of the business relationship.
  • How much the worker invests in materials and equipment for doing the job.
  • The level of control over the work by the employer and the contractor.
  • The worker’s vulnerability to loss or profit from the work.
  • The level of importance of the work to the core nature of the employer’s business.
  • The level of effort required for the worker to excel against competition in the open market.

Method and regularity of payment, licensing of the worker by the government, and the existence of a written independent contractor agreement usually do not factor into a worker’s legal status as a contractor.

However, businesses and independent contractors usually establish a relationship with a written or oral contract stipulating the work to be completed. Written agreements may lay out specific requirements for the work along with the pay rate and terms.

When Is a Contractor Really an Employee?

Independent contractors — often referred to as 1099 contractors for the relevant tax form — are business owners in their own right. Even as sole proprietors with no employees, contractors offer services to businesses based on a contract.

In most cases, contractors have more than one client, and they set their own work hours. They also make all decisions pertaining to their business, and they purchase their own equipment, software and supplies for completing the agreed-upon work. Contractors bear sole responsibility for paying their own taxes.

A worker is probably an employee rather than a contractor if:

  • The worker performs duties for a single employer.
  • The worker performs duties at the employer’s place of business.
  • The employer provides all needed materials, tools and equipment for completing the job duties.

If a worker is an employee, the employer must withhold and pay all local, state and federal taxes for the worker. Classifying a worker as a 1099 contractor does not relieve the employer of the responsibility of paying taxes if the worker is an employee in the eyes of the law.

Misclassifying workers and failing to pay taxes due can result in penalties, such as back pay to the worker, compensation for other benefits, and taxes and associated fees. Small businesses, in particular, may classify workers incorrectly because owners feel that their businesses are too small to attract tax audits.

Legal Rights for 1099 Workers

Companies that hire 1099 contractors are clients, not employers. Independent contractors enjoy a number of rights and responsibilities under the law, including:

  • Behavioral control, including when, where and how the contractor completes work, along with a lack of direction from the client company. However, contractors must meet agreed-upon deadlines and other requirements as specified in written contracts.
  • Financial control of the business aspects of every job, including procurement of all needed tools and supplies, making services available to the market as a whole, incurring a profit or loss, and incurring business expenses that are not reimbursed.
  • Sole liability for payment of all taxes and government fees.

Independent contractors do not enjoy some of the rights afforded to regular employees, including:

  • Minimum wage and overtime pay guarantees.
  • Worker’s compensation coverage for on-the-job injuries or illnesses.
  • Other benefits such as paid vacation and health insurance.
  • Protection from anti-discrimination and safety laws.
  • Participation in employee unions.

Classifying Workers Appropriately

If you’re a business owner, classifying workers under the law is an important step for protecting your interests. Determining the appropriate classification can be complex; a qualified business attorney can assist you in understanding and applying the law correctly. To speak with an attorney, please contact Gertler Law Group, LLC.