The Difference Between Employees and Contractors (and how it affects your books)
When it comes to hiring help to see your passion turn a profit, there are important differences to note between employees and contractors. This is especially true when you’re looking to keep clean books and use that data in a books review to meet future financial goals for your business. Here, we share the difference between independent contractors and employees, specifically when it comes to your reporting and your revenue.
First, let’s acknowledge the obvious similarities the two share. You likely hire both contractors and employees yourself or through your HR personnel to perform specific tasks relevant to your business operations. Within these duties and deadlines, however, there can be stark differences between pay, benefits, and reporting of such come tax time.
Many small business owners hire employees to work either full or part-time. In newly updated employment stats (2020), 99.9% of all businesses are small businesses, employing 59.9 million people. While recent numbers can be a little misleading given the pandemic, this is an average at any given time in our nation. That said, your small business likely has employees or contractors! Naturally, your employees are likely either earning a fixed yearly salary or a wage hourly. When it comes to the IRS’ definition of an employee, this category of worker is one who you supervise, direct, and otherwise guide in both specific and general ways to act out work-relevant tasks.
As you know, when you hire on employees, it is common that all resources, tools and guidance by way of on-the-job training are done at your physical location. In typical fashion, employers can require an employee to only engage in work activities while they are with their company, “on the clock”.
Many employers like hiring employees because of the little risk involved. Simply pay for their time on the job and reimburse them for approved work expenses. What’s more, you can also schedule employees to work at specific times, ending their employment as you deem fit for myriad reasons, including, but not limited to, lack of productivity, incompetence, insubordination and absences. This is important to know in the event you desire to contest an employee’s claim for unemployment or similar debate.
There is differing paperwork for employees and independent contractors.
One of the most distinct differences between employees and contractors for hire is that employees are easier to “manage” or control when it comes to work expectations and legal protections. The rules about minimum wages, overtime payments, worker protections and other considerations are fairly cut and dry when it comes to the IRS. There are many regulations for tax classification and payment responsibilities that you must be aware of when you hire employees. Like, filing onboarding paperwork with the IRS which establishes employment eligibility in the U.S.
You’ll also be responsible for paperwork like W-2s and W-4s, ensuring you pay the appropriate amount of payroll tax for each employee. Even if you hire on Accounting staff to confirm this task is complete, the overall responsibility falls on your shoulders and yours alone if Uncle Sam has questions or qualms.
In typical American fashion, even amid a pandemic, people like yourself have found clever and innovative ways to start and maintain their side gigs or full-time entrepreneurial endeavors. Many of these independent contractors are acting as freelancers or consultants that are an asset to any business. The IRS deems them independent contractors. New research shows that 44 million workers—or 28.2%— are self-employed. Many of those are freelancing on the side. Though, a Forbes survey concludes that 14% of workers claim being an independent contractor as their primary job. Sure, this number is significantly shy of that of employees.
Many different businesses that use independent contractors on an ongoing or per-project basis.
In fact, there are several major advantages to using independent contractors rather than employees, with financial savings topping the list. As an employer, you’ll pay independent contractors more per hour for their expertise and targeted tasks. More than what you’d pay employees for – even if they are doing the same work. When you hire an employee, you will have to pay a number of expenses. Costs that you wouldn’t pay if hiring a freelancer or consultant. This includes employer-provided benefits, office space, and equipment. You will also have to make required payments and contributions on behalf of your employees. Think, Social Security and Medicare taxes, which totals 7.65% of the employee’s compensation.
With hiring an independent contractor, you basically agree to pay them for the duration of their time working with you solely, or per project. You simply can define a goal or objective as well as a deadline. Then, pay on the agreed upon rate you’ve discussed. You cannot, whoever, direct independent contractors to complete work in a certain way or during specific hours. Knowing this can help you when you are looking long-term at financial goals.
Oftentimes, outsourcing short-term projects or industry-specific tasks is the best and most efficient way to spend your marketing dollars.
Naturally, hiring an independent contractor comes with its own host of protocols for tax reporting. The IRS requires contractors to fill out a Form W-9, request for Taxpayer Identification Number and Certification. The IRS recommends you keep on file for at least four years after the hiring. Use this form to request the correct name and Taxpayer Identification Number, or TIN, of the worker or their entity. A TIN may be either a Social Security Number (SSN), or an Employer Identification Number (EIN).
With limited exceptions, if you pay the IC $600 or more for services provided throughout the year, you must provide him or her with Form 1099-NEC. January 31st is usually the due date that your company needs to have sent the 1099 form to its recipient. This is one area we at Two Sense Consulting can really serve to get your books clean and prepped in time for the mailing out of tax filing documentation.
Independent contractors generally provide their own tools and resources. This is outside of specialized equipment or information that only the business has access to. So, you end up saving time and money for your business’ bottom line. For this reason, we are hired for our Virtual CFO services often by business owners just like you!
Why is it so important?
Businesses may have to pay back taxes on employees who were improperly classified, which can quickly become a significant expense. Obviously, this depends greatly on the scale of both the business and use of independent contractors. The IRS offers independent contractors an option to report employers that they feel used or abused their services, treating them as employees. These incidents are bad for business and your relationship with revenue!
You don’t have time to be analyzing financial statements. Even worse wondering if you are doing so correctly? Inaccurate financial statements spell trouble for any business. They can create expensive mistakes and may mislead the management of your business. Don’t let confusion mess with your cash flow! Call us to get your books reviewed. We have the experience and the affordable prices you’re in need of!