What Is An Independent Contractor?

FT Contributor  | 

For many people, an independent contractor is someone who ‘works for themself’ and seems to have all the freedom in the world. However, there’s a lot more to it than that.

Besides giving you an inside glimpse of the gig worker world, this article addresses common independent contractor issues, including what to know about filing taxes as an independent contractor and what to know about health insurance for independent contractors.

Who Is an Independent Contractor?

A contractor is defined as a person or business that performs a job or provides a service under a contract. In view of this, an independent contractor is a person or business that undertakes a job or provides a service on a contractual basis without the client’s direction or control, except what is clearly stated in the contract.

An independent contractor doesn’t work as an employee for a business. Put simply, an independent contractor is essentially self-employed.  Both independent contractors and freelancers can take gig economy jobs and work for organizations temporarily as part of the gig economy. Contractors and freelancers both have greater professional and financial independence compared to the typical employee, however, their roles differ in several key ways. For instance, contractors tend to work on larger projects with longer time frames compared to freelancers.

According to the IRS, the general rule is that “an individual is an independent contractor if the payer has the right to control or direct only the result of the work and not what will be done and how it will be done.” 

This means, for example, that accountants, doctors, writers, and attorneys can be considered to have independent contractor jobs. They must provide their own workspace and determine how best to accomplish a client’s requirements without the client interfering, even if this means that they subcontract as necessary to complete the requested work.

Independent Contractor Requirements

To be classified as an independent contractor, you have to fulfill several requirements to differentiate yourself from an employee. These requirements range from the scope of the work you do to how you handle your finances.

Independent Contractor vs. Employee

You’re an independent contractor if your client only controls or directs the result of the work you undertake. This means you’re not an independent contractor if your employer controls what will be done and how it will be done, even if you’re given freedom of action. In this case, you cease to be an independent contractor and become an employee.

To determine whether you’re an employee or an independent contractor, you have to identify how much control the employer has. You can determine this by asking the following:

  • Does the company or client control or have the right to control the job you do and how to do it?
  • Does the company or client control the business aspects of your job? For instance, does the company provide tools and supplies and determine how you’re paid or whether your expenses are reimbursed?
  • Do you have any employee benefits such as vacation pay and a pension plan?

If you answered no to these questions, then you’re an independent contractor. As an independent contractor, you’ll also receive a 1099 Form instead of a W-2 Form once you’re paid at least $600 during the tax year (this is why an independent contractor is also called a 1099 contractor).

For the independent contractor, employment and labor laws don’t apply and as such, you’re likely not eligible for any benefits, privileges, and perks that employees normally get, including health insurance and 401(k) plans. Additionally, for the employee, the employer withholds Social Security, Medicare, and income tax from the wages paid, but if you’re an independent contractor, it’s your responsibility to file your own taxes

Independent Contractor Taxes

As an independent worker, you’re generally required to file an annual return and pay estimated taxes quarterly. To determine if you’re subject to income tax, you first have to determine your net profit or loss by subtracting your business expenses from your income on Schedule C (Form 1040). You must file an income tax return if your income is $400 or more. If you meet other filing requirements, you may still have to file an income tax return even if your income is less than $400.

The IRS classifies independent contractors as self-employed and so in addition to income tax, you’re also subject to self-employment tax. Self-employment tax comprises Social Security and Medicare taxes and the tax amount you owe is determined by the profit you record on Schedule C. To pay your income and self-employment taxes you use the estimated tax method and you can figure out how much you need to pay by using the 1040-ES Form, Estimated Tax for Individuals.

Unlike conventional employees, as a 1099 contractor you can claim 20% tax deductions on self-employed income. For instance, you can deduct typical expenses such as internet and phone bills, meals, and rent. However, the IRS says that these expenses must only be business-related, not personal.

Should You Become an Independent Contractor?

The biggest thing about being an independent contractor is that you’re not a full-time employee and there are many things to consider before taking the independent worker route. The following are some pros and cons of becoming an independent contractor:  

Pros of being an independent contractor:

  • As a private contractor, you’re your own boss and you alone decide where, when, and how the work is done.
  • You can take on multiple projects from different clients and set your own rates. This means you can earn more than if you were an employee.
  • You may be able to work from any location.

Cons of being an independent contractor:

  • You don’t get any job security as all work is contract-based. Contracts expire and they can also be terminated.  
  • You have to procure your own work.
  • You don’t get benefits that employees get and you pay your own expenses.
  • You’re responsible for paying your own taxes.

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