Independent Contractor Versus Employee

By: Joel J. Greenwald, Esq.

Many clients ask us how they can increase their use of independent contractors.  More and more companies are becoming aware that, in certain situations, using independent contractors rather than employees can result in substantial savings to a business.  Improper categorization of employees as independent contractors, however, can result in substantial liability, under a myriad of employment as well as tax laws.  Something as simple as a former worker that you classified as an independent contractor filing for unemployment insurance and naming your company as a former employer can trigger an audit of years worth of your records by any one of a number of state or federal agencies.

Many businesses believe that having a written agreement with a contractor is all that is necessary as protection from such liability.  Independent contractor agreements are an excellent first step.  While they may be extremely helpful in analyzing whether these individuals are indeed independent contractors, the agreements, by themselves, are not dispositive.  An agreement that does no more than expressly state that a worker is an independent contractor does not necessarily mean that the worker will be viewed as an independent contractor by a court or a government agency.

In fact, some recent court cases across the country have ignored or rejected contracts that expressly designated workers as independent contractors.  These courts have considered written contracts less important than the actual working relationship between the company and the purported independent contractor. 

The exact test of whether an individual qualifies as an independent contractor or an employee varies depending on the jurisdiction and/or the law under which the analysis is made.  The analysis, however, of whether an individual is an independent contractor often revolves around the degree of control a company exerts over the individual's work.  The less control exerted by the employer and the more freedom the individual has, the more likely that the individual would be considered an independent contractor under the law.  There are also many other factors to consider in this analysis.

Thus, while not determinative by themselves, independent contractor agreements should be drafted detailing the degree of control you exert over the contractor, as well as addressing other factors that will make the independent contractor status more likely to be upheld.  Among other things, a well-crafted agreement will clarify that an independent contractor is a business entity, separate and apart from your company, that controls its own finances to the extent that its profit or loss is not solely based on the number of hours worked for you.  The agreement should also specify the end result that you expect to gain from the independent contractor, but make clear that you do not intend to directly control the independent contractor's means of achieving that result.

If you receive a notice from a government agency, announcing that an inspection or audit will take place in a few weeks time at your place of business, and that you must have all of your employment records for the past several years available for inspection, do not panic.  Take the time to contact knowledgeable counsel in this area of law.   An experienced employment attorney knows how to slow the process down, help you organize and present your records, and negotiate a favorable settlement in the event that an agency reclassifies any of your workers and assesses you for back taxes, penalties and/or interest.

It is preferable and, of course, far less expensive, to seek help to define your relationship with an independent contractor at its outset. 

This article was originally published in Exhibit Builder in June of 2004.

The materials contained within this article are for informational purposes only and are not legal advice nor are they to be used as a substitute for legal advice.  These materials have been prepared by Greenwald Doherty LLP and should not be reproduced without permission.  © 2006 Greenwald Doherty LLP all rights reserved.