As long as the job gets done and you get paid, does it really matter whether you’re technically an employee, self-employed or an independent contractor?
It does matter (mostly to the IRS). Your official employment status impacts every part of your small business, and it’s important to fully understand it.
What’s the difference between ‘self-employed’ and ‘independent contractor’?
The difference between self-employed people and independent contractors depends on many factors, including where you work, what industry you’re in and government agency. The following are generalities, so you’ll want to check with your lawyer or accountant when making business decisions.
All independent contractors are considered self-employed, but not all self-employed people are independent contractors.
Anyone working — but not as someone's employee — is considered self-employed. Examples of self-employed people could include anyone from an artist or a carpenter to a store owner or the founder of a large firm.
An independent contractor is a type of self-employed worker who works for a client, typically on a temporary or per-project or contractual basis, rather than as a permanent employee of a company.
For example, a self-employed person hired to design and construct a custom-made piece of furniture for a client would likely be considered an independent contractor.
But if you are self-employed and work without particular clients in mind, then you are probably not an independent contractor.
For example, a self-employed business owner who builds and sells furniture out of a store aimed at the general public would likely not be an independent contractor.
What’s the difference between ‘independent contractor’ and ‘employee’?
As the name suggests, an independent contractor has greater independence in their work than a full-time employee. Independent contractors have different rights than employees as well, so you’ll want to understand the differences to avoid misclassification.
But the line between the two classifications isn’t always clear-cut. To determine whether a worker is an independent contractor or an employee, U.S. labor law typically looks at three aspects of the relationship between the company and worker:
- Behavioral: Does the company control what the worker does and how they do it?
- Financial: Does the company control the business aspects of the worker’s job —like payment, expenses, and supplies?
- Type of relationship: Is there a contract and employee benefits? Is the relationship expected to continue? Is the work a key part of the company’s business?
Some state laws may differ on determining a worker’s independent contractor status. It’s a good idea to check with your local Department of Labor for exact information on what is considered an employee and non-employee.
Do independent contractors need a business structure?
Like other self-employed people, independent contractors need to have a business entity. Two of the most common business structures for independent contractors are sole proprietorship and limited liability company (LLC).
By default, self-employed individuals do not need to file any paperwork to be considered sole proprietors.
A limited liability company is an independent entity that separates a self-employed person's business and personal finances.
Learn more about which structure is the best for you.
How does being an independent contractor affect taxes?
One of the biggest differences between independent contractors and employees is how they make tax payments.
When you’re an employee, you pay income tax. You must also pay social security taxes and Medicare taxes equal to 7.65% of your income. Your employer contributes another 7.65%. Paying these taxes (called FICA taxes) is easy because your employer pays them for you by automatically withholding some of your earnings from each paycheck.
When you’re an independent contractor, you’re responsible for calculating and paying your own taxes. You must also pay both the employer and employee portion of the social security and Medicare taxes.
But there’s good news: independent contractors can take many tax deductions not available to employees. Here’s our guide to some of the best tax deductions for independent contractors.
Do I need insurance as an independent contractor?
If you’re self-employed, then general liability insurance and professional liability insurance are often a great idea. If you’re set up as a limited liability company, you may want to consider business insurance for an LLC.
Independent contractors don’t have the resources of a large company. That’s why getting coverage is so important — so you’re not the only one on the hook when something goes wrong.
How NEXT helps independent contractors thrive
At NEXT, getting independent contractor insurance is fast, easy and affordable.
In about 10 minutes, you can complete an application, see your policy options, get a quote and purchase coverage. As soon as your purchase is complete, you'll get access to your digital certificate of insurance.
If you have questions at any time, our licensed, U.S.-based insurance professionals are ready to help.
Get your free quote today.