One of the hardest decisions any small business owner will make is the decision to hire and how to hire. Whether you’re just starting out, have a few years under your belt, or are a seasoned small business owner, this decision will have more ramifications than most – for better or for worse.
Although common hiring factors like return on investment (ROI), pay rate, productivity, and fit with company culture can feel overwhelming, the most critical – how to classify an employee – is almost always overlooked. It’s not uncommon for small business owners to misclassify employees, even when they have the right intentions. How to classify an employee is one of the most difficult and critical decisions you’ll make in the hiring process.
The Financial Appeal of the Independent Contractor (1099)
For small business owners, the decision on how to classify and employee is often based on the financial benefits to the company of classifying a new hire as Independent Contractor(IC) rather than as an employee. The financial benefits of an Independent Contractor include:
- Not having to pay unemployment taxes, or payout unemployment claims at separation
- Not paying workers compensation insurance
- Not paying federal and state payroll taxes
- Not paying overtime wages
However, looking at only the financial benefits can cost you big. When considering how to classify a new hire, it’s important to factor in all of the legal requirements as well. Before that line of thinking gets you into trouble, consider the following factors when hiring:
Wage and Hour Lawsuits on the Rise
Misclassifying someone as an Independent Contractor rather than as an employee could result in a Wage and Hour claim being filed by the employee. This could cost the employer significantly more money than classifying them correctly in the first place. A single claim can open a small business up to a full audit of their pay practices, which could subject them to additional penalties and fines. In addition to that, the state can pursue the employer for back taxes associated with unemployment and payroll.
As it stands now, federal law recognizes only two categories for people who get paid to do work: an Employee or an Independent Contractor. It’s important to understand that there is no such thing as a 1099 employee. Someone is either an Independent Contractor and issued a 1099, or they are an employee paid by payroll and issued a W2. It’s one or the other and there isn’t anything in between.
Why Cleaning Companies Use the Employee Classification
In order to classify someone correctly as an independent contractor rather than an employee, the company cannot have financial control over that person. The company cannot control the work that they do, or don’t do, and they cannot control how the work gets done. They must also have to have the freedom to work for other companies.
So what does that mean for employers? If you are determining what someone will get paid, directing their work and controlling the outcome, providing them with all of the tools, training and instruction that they need to get the job done, then they should be classified as an employee. If the individual’s work isn’t being directed and they have control over the process and outcome, as well as their financial situation, then you may be able to classify them as an independent contractor.
A New Class of Worker?
Although these definitions seem very cut and dried, in recent years, there has been a shift in what is considered a worker, seemingly blurring the line. Many individuals are opting out of standard 9-to-5 situations and carving out their own place in the workforce through freelance work and contract jobs. This new breed of worker has provoked the discussion about a new type of classification: the Dependent Contractor.
However, it’s important to understand that this classification does not yet, or may never, actually exist. For a small business owner, it’s imperative to the success of their company that they classify employees correctly under the current law, not the way it may be written in the future.
Request a Voluntary Labor Audit
If you have any questions or concerns about how your current relationships with employees or contractors are structured, get in touch with an HR Consultant or managed services provider who can effectively address your questions. A voluntary audit, or even asking a few questions could save time, money and even your company in the long run.
Deanna Arnold is the President of Employers Advantage, LLC, providing solid human resources consulting and solutions for small businesses in various industries.