In the nearly two decades that I have been advising small business owners, I can't count the number of times the problems faced by the organization involved misclassification of staff as independent contractors (IC) instead of employees.
I totally understand the reasons for this error--the reasons make up the "Good" in the title of this article. But, aside from the positive aspects of hiring ICs, there are some downsides (the "Bad") and some risks (the "Ugly").
- Saving Money. It has been estimated by the Bureau of Labor Statistics that hiring an employee can cost around 30 percent more than hiring a freelancer or independent contractor to do the same work. For employees, you are responsible to match the Social Security and Medicare taxes, pay for workmen's compensation insurance, contribute to your state's unemployment compensation program, provide benefits such as vacation, sick leave and holidays, possibly pay overtime, and more. These costs can add some 20 to 30 percent to the base wage for an employee--not so for ICs.
- Flexibility in Staffing. You have greater flexibility when using independent contractors versus employees. By this I mean that contractors can be hired for a specific project or period of time. When that project is ended, the contractor just walks away and you don't have to face the stress, expense, and potential legal issues around firing. Additionally, contractors come with a specific skill set and don't require training. They can be productive right away--saving you the time and expense of training.
- Reduced exposure to some types of lawsuits. Aside from the exposure to litigation such as wrongful termination of an employee, independent contractors are not covered by wage and hour laws, discrimination laws (except race discrimination), the right to form a union, and the right to time off to care for family members.
So, based on these "good" characteristics, what could be "bad" about hiring independent contractors, you might ask. Read on...
- Less control over workers. Independent contracts by definition are "independent" of your control. They generally work away from the worksite and do things their own way. By interfering in the way a contractor does the work, you risk misclassification issues.
- Contractors come and go. They don't gain insight or "institutional knowledge" about your business or your clients and have no loyalty to your business. The next time you need their services, they may not be available--after all, clients are "first-come, first-served" to a contractor.
- Right to fire depends on contract. While we mentioned previously that you don't have the headaches accompanying firing an employee, you are not free to let a contractor go outside the bounds of the written contract. If you fire the contractor outside the terms of the contract, you may be guilty of breach of contract.
And now for the "ugly" face of using independent contractors versus employees. We have discussed some of the risks in a previous article, but let's look a little more closely here.
- Risk of government audits. Misclassification lawsuits against employers are steadily increasing and it is critical that you ensure compliance as you consider hiring freelancers, summer interns, and contractors. The U.S. Department of Labor, Wage and Hour Division (DOL - WHD) has agreements with 28 states to share information and coordinate enforcement to stop misclassification. In Fiscal Year 2015, WHD investigations resulted in more than $74 million in back wages for more than 102,000 workers in industries such as the janitorial, temporary help, food service, day care, hospitality, and garment industries.
- Injuries on the job. While employees are covered by workers compensation (WC) insurance, independent contractors are not. Under the WC rules, employees give up the right to sue the employer for injuries. But, should the IC become injured on the job, he would have the right to sue you.
- Copyright issues over some types of work product. Contractors who develop written material, photos, or software code are generally owners of the product unless your contract or agreement stipulates in writing that ownership of the product transfers to you at the end of the project. However, if an employee produces the same work, the ownership is retained by the employer in most situations.
Margaret Jacoby, SPHR, is the founder and president of MJ Management Solutions, a human resources consulting firm that provides small businesses with a wide range of virtual and onsite HR solutions to meet their immediate and long-term needs. From ensuring legal compliance to writing customized employee handbooks to conducting sexual harassment training, businesses depend on our expertise and cost-effective human resources services to help them thrive. This article first appeared on the MJ Management Solutions blog.