Glossary: Independent Contractor

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In tax terminology, an independent contractor is someone who performs services for a business but who is not an employee of the business.

Difference Between an Employee and a Contractor

With an employee:

  • The business must withhold income and FICA taxes from the employee’s pay
  • The business will owe FICA taxes and unemployment taxes
  • The business must issue a W-2 to the employee

With a contractor:

  • The business simply pays the contractor whatever the contractor earned; no taxes are withheld and the business owes no FICA or unemployment taxes
  • The business must issue a Form 1099-MISC to the contractor (if the contractor is paid more than $600).

Telling the Difference

Because no payroll taxes are owed on a contractor, it’s obviously to the benefit of a business to try and call everyone a contractor rather than an employee.

Unfortunately, a business can’t just “say” someone is a contractor. The key here is “control,” in particular behavioral and financial control. Examples:

  • “Behavioral” means, do you tell the employee when to show up, how long they need to work, what they should wear, what procedures they need to follow, etc.? If the answer is yes, the worker is probably an employee.
  • With financial control, the example I like to use is: whose equipment or tools are being used? Who is responsible for replacing those tools if they break? An employee will typically use your tools, while a contractor will bring his or her own tools to do the job.

Think of it this way: a contractor is typically someone brought in to do one particular job. Often, they provide a similar service to other businesses. They more or less set their own hours, use their own tools, and follow their own procedures for getting the work done.

For more tax terms explained in simplified terms, visit the Glossary page on this website.