How to Hire & Pay Independent Contractors
Did you know that the doctor you see walking around your local hospital may not be an employee of the hospital at all?
Some doctors are not hospital employees and are instead independent contractors.
Independent contractors are a key aspect of many companies' workforces, particularly to fill roles for which you may struggle to hire full-time workers. However, there are important things to know before hiring an independent contractor.
Let’s cover the basics of hiring and paying independent contractors, plus what to know about different contracting roles.
Refresher: What Is an Independent Contractor?
An independent contractor is a self-employed individual, or even an organization, that provides services to another individual or organization under terms laid out in a contract.
Your company may pay an employee and an independent contractor for the same or similar work. However, according to the Internal Revenue Service (IRS), if an organization has the “legal right to control the details of how the services are performed,” then an employer-employee relationship exists, and that person is not an independent contractor.
Independent contractors typically have the flexibility to make their own schedules and to work for multiple organizations simultaneously. So if an electrician is fixing wiring in your machinery, they are not prohibited from working in the warehouse down the street as well. If your organization often handles sensitive information or has to protect trade secrets, you may want to consider using a nondisclosure agreement (NDA) to bind contractors legally to keep certain things secret.
It’s important to note that independent contractors may be ineligible for benefits that may be available to your employees. While independent contractors may require a higher hourly rate than employees, the overall cost may be lower because contractors are responsible for their own benefits and overhead expenses. Hiring independent contractors can also help you avoid costs related to office space, equipment, training, and supplies.
Common Kinds of Independent Contractors
There are many jobs that may qualify as contractors, and you may be familiar with many of them without realizing it. For example, the IRS describes some jobs that may fall within this spectrum:
Those working in these roles are not always independent contractors. For instance, if a small clinic employs two doctors who are full-time, then they would be considered employees of that hospital, not independent contractors. Full-time employees require Form W-2 from their employer and have their own Form W-4 for tax purposes, versus an independent contractor who requires Form W-9 and has Form 1099.
Conversely, a doctor working in a hospital may not be an employee of that hospital. Instead, a doctor may work as an independent contractor for the hospital so they can utilize the hospital space and resources.
An agreement like this may be attractive to doctors who desire access to medical equipment or resources only hospitals have handy, like magnetic resonance imaging (MRI) machines or sophisticated biopsy testing. The hospital may find advantages as well, as a contracted doctor specializing in a certain field may be less cost-prohibitive than hiring a full-time specialist.
You’re probably familiar with other common contractor roles, like plumbers, electricians, carpenters, etc. A consultant hired by your company to advise on a project may also be considered an independent contractor (in which case, look into NDAs to ensure proprietary information is well-protected). These are people hired to perform a specific service that you may not require often, so it’s more strategic to contract someone than to employ in-house specialists.
How to Hire an Independent Contractor
Hiring independent contractors may not be too different from how you hire employees. You may receive applications, review resumes or work portfolios, interview, compare individuals or organizations you may choose from, and more.
Before you begin looking for independent contractors, ensure you have a strong independent contractor policy in place to create structure around your contracting practices. Since contractors aren’t employees, it’s critical to ensure that certain guidelines are followed, and expectations are set before you even begin interviewing.
Consider everything you may need in addition to your policy, like termination agreements for when the project or needed service ends—or is unfulfilled to a satisfactory level. If a contractor doesn’t complete the work outlined by their contract, you want to have documentation so you can seek recompense.
More positively, hiring an independent contractor may be easier in some respects than hiring an employee. Your organization doesn’t need to add independent contractors to the payroll; therefore, they are not subject to payroll tax, which can remove them from your concern. In fact, they pay their own taxes, called the self-employment tax (SET). They also don’t go through enrollment as they are ineligible for your company’s benefits.
How to Pay an Independent Contractor
When you first hire a contractor, you need to give them a copy of Form W-9 to complete and return. Form W-9 is simply a way for employers to collect and verify a contractor’s taxpayer identification information (TIN). For individual taxpayers, their TIN will be their Social Security number. For businesses contracting with your organization, their TIN will be their employer identification number (EIN).
Employers use Form W-9 to generate a Form 1099 for each contractor—similar to how you use Form W-4 to generate a Form W-2 for each employee. There are many types of Form 1099, but since 2020, employers have used Form 1099-NEC to report nonemployee compensation to contractors. As with Form W-2, employers must distribute Form 1099-NEC to workers by January 31 each year for the previous year’s compensation.
Remember, even though employers are not required to withhold taxes, independent contractors are still required to pay them, using Forms 1099-NEC.
Some freelancers have attempted to avoid reporting income from the sale of goods and services by using third-party apps such as Venmo and PayPal. But as part of the American Rescue Plan, the IRS announced that those payment processors will be required to report commercial transactions totaling $600 or more, starting in the 2022 tax year. Earners meeting those conditions will receive a Form 1099-K to report that income in the next year. The IRS provides more information on this form and how to fill it so you can remain compliant.
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