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How to Make the Right Choice: Hiring a Contractor Versus Employee

How to Make the Right Choice: Hiring a Contractor Versus Employee

Navigate the hiring maze as a solopreneur. Learn to distinguish between employees and contractors, avoid IRS misclassifications, and find your best fit. Streamline your business with Practice.


Here's what you need to know 

From marketing to billing and everything in between, you juggle a lot as a solopreneur. And sometimes there just comes a moment when, let’s face it, you need help.  

But how do you decide who to hire? The world of work has been changing rapidly in the last few years, and with the number of independent contractors and freelancers on the rise, you no longer need to default to hiring full-time employees.

But, what’s the real difference between a tried-and-true team member and a contract worker? How do you decide which option is best for your small business, and what happens if you accidentally misclassify your hires in the eyes of the IRS? There’s lots to know – and we’re here to break it all down for you.

Let’s start with the basics.

What’s an employee?

A typical employee works full-time hours and answers to the same manager (you!). They only work for one company and their work style (i.e. in-office, hybrid work, standard 9-5, etc.) is defined by the rules of their employer. They are typically hired and then onboarded and trained to do a specific type of long-term work, and they’re usually on salary, so their pay doesn’t depend on how much work they produce.

Regular employees are also entitled to specific benefits: like paid vacation time and workers compensation. They also typically receive retirement plan contributions and Medicare benefits – and, because regular employees are protected by federal and state wage laws, you'll also need to pay unemployment tax and overtime for them, if applicable. 

Contract employee vs. independent contractor

There are a few different types of employees: permanent employees (best described above), contract employees, and casual employees. Contract employees operate on a fixed-term contract and are typically used to cover maternity leaves, staff a big project or hire interns. They have the same rights and benefits as permanent employees and, if you keep extending their contract work over time, they may come to be considered full-time employees even if your employment contract states otherwise. Casual employees fall into the same category – their contracts do not guarantee them a certain number of hours, but – just like contract employees – they may become entitled to full-time employee benefits if they end up working more than originally anticipated on a regular basis. 

The key here is that, despite their similar names, neither contract employees or casual employees are independent contractors. 

What’s an independent contractor?

A contract worker, or independent contractor, is a self-employed person who works on a contract basis. Since they’re not affiliated with an employer, they have typically formed their own business entities – like a sole proprietorship or a limited liability company – to categorize their self-employment. They also set their own hours, work out of their own office or home, and are usually tasked with a specific request from their clients but have the freedom to complete their work according to their own methods.

Here’s where it gets trickier. While some independent contractors, typically referred to as “freelancers,” complete contract work for several clients simultaneously, many work only for one company, and some even work exclusively for one company long-term. It all depends on the specific independent contractor agreement between worker and client.

So, how are they different from employees? Here's the key: an independent contractor does not receive added employment benefits, so you're not obligated to pay for their overtime, vacation time, social security tax, Medicare tax, retirement planning contributions, workers compensation, and more – which, in some cases, can make them a more cost-effective option than a regular employee. But there’s a catch – if you hire a contractor on an ongoing, full-time basis, you can risk misclassifying them in the eyes of the IRS, which will get you into some pretty serious tax trouble. So, let’s discuss more of those details now.

How to be sure you’re hiring an independent contractor vs. an employee

The IRS has outlined 20 factors to help you ensure your team members aren't misclassified as contractors when they're really contract employees. For the most part, these fall into three main categories based on behavior, finances, and the worker employee relationship.

Here are the main questions to ask yourself:


  • Does your company control, or have the right to control, how this person completes their duties for you?
  • Do you decide when this person works, or are they free to set their own hours?
  • Are they required to perform their work at your place of business, or can they work from wherever they’d like?
  • Do they need to complete any onboarding or training before they’re able to complete their duties for you? 


  • Does your company control how this person is paid?
  • Do they only get paid once the project is complete?
  • Do you pay for any expenses related to this person completing their work (including travel)?
  • Do you pay for or provide any tools or software that this person needs to complete their work?  

Type of relationship:

  • Do you provide any employee benefits?
  • Are they completing work on an ongoing basis, or are they working on a specific project with a specific end-date?
  • Is there a written contract between this person and your company that defines the relationship in more detail?

It’s important to note that there’s no perfect equation to decide who’s a contract employee and who’s an independent contractor. So, if you’re having doubts about how to classify a team member after asking yourself the questions above, we’d recommend classifying them as an employee and complying with all taxes required by employment law.

Your next best bet? Talk to an employment lawyer or expert to discuss the specifics of your situation, and ensure any contract issued between you and your new team member has been reviewed by a lawyer to ensure it meets IRS guidelines.

What happens if you misclassify your contract employees?

We’ve alluded to all the bad stuff that can happen if you end up incorrectly classifying your contract employees, but now let’s talk through the specifics.

If the IRS determines that you’ve incorrectly classified your workers, you could be required to pay back taxes, unemployment and workers compensation liabilities and the full value of any benefits you should have been providing during the contract employee's period of employment.

According to UpCounsel, if the misclassification was unintentional, and you (the employer) simply filed a 1099 tax form, which would classify your worker as an independent contractor instead of a contract employee, then your liability for federal income tax withholding is limited to 1.5% of your employee’s wages, and your liability for not paying FICA (the U.S. federal payroll tax, or “Federal Insurance Contributions Act”) tax is limited to 20% of the employee’s share as well as all money owed by the employee. If you do not file any returns, you may be subject to double these amounts.

If the misclassification is deemed intentional, you will need to repay the full amount of income tax that should have been withheld, the full FICA amount that would have been owed by both you, the employer, and your contract employee, and any interest and additional penalties that are assessed. Plus, there’s a possibility that your company will face criminal charges and, if the worker sues you over the misclassification, you could also owe additional punitive damages.   

And – as if that wasn’t bad enough – there could be a dispute over who owns the work that was completed in the course of your team members’ employment.  

How to decide between an employee and an independent contractor

Now that we’ve got the scary stuff out of the way, let’s talk about how you can decide what is actually best for your business – employee or independent contractor.

Here are a few simple tips to guide you:

Type of expertise required  

Independent contractors have more autonomy in their work, so if you need someone with a particular expertise that you don’t have in-house, and you’re going to rely on this person to provide their niche skill-set sans training – a contractor might be the right option for you.

How much help you need

If you’re not sure how much work you will have, a contractor might get you more bang for your buck because you won't risk having a full-time staff member just sitting around. But remember: the law specifies that contractors can only work 1,040 hours for any single employer each year, so if you need a lot of support over a longer timeframe, you’ll need to hire an employee instead.

How quickly you need help

Don't forget that the hiring process can take time since you’ll need to post a job ad, source candidates, interview and screen them, and wait while they give notice to their previous employer. If you need help right away, an independent contractor could be your best bet to act quickly.

Your long-term hiring goals

You don’t have the opportunity to upskill contractors, retrain them, or ask them to do something that's vastly different from the original tasks you assigned to them – so, if you think the role you’re hiring for will evolve significantly over the long-term, than finding a permanent employee might be the right move.

Streamline your small business with Practice 

Once you’ve hired your new team member, why not find even more ways to save some of your precious time? At Practice, we’re committed to providing everything you need to streamline your business in one easy-to-use place. That’s why we created an all-in-one client management solution to simplify your contracts, billing, scheduling, file storage, and more. Start your free trial today! 

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