Over the next few months, L.A. Financial Management will be doing a series on Independent Contractors vs. Employees. This will include information you need to know as a hiring manager and as an independent contractor.
Our first series focuses on the small business owner as the independent contractor. These days many people find themselves as small business owners or entrepreneurs in that they’ve picked up a few side gigs here and there. They are receiving one or maybe a handful of 1099s at the end of the year. And if you were previously a W-2 employee, you may not be sure what to do with these 1099s and you may not know how they affect you and your tax situation. Maybe you like the freedom of being a “freelancer” or a “consultant” and you want to grow your business. Or maybe you’re not sure if this work is for you, but either way, you certainly want to be prepared. There are many ways a “freelancer” can protect himself/herself from liability, the IRS, the EDD, or the city of “you name it.” Here are a few things you may want to consider to reduce your potential liabilities:
Protect your social security number.
Clients may ask that you complete a W-9 before issuing you a payment for your service. If you are running as a sole proprietor, go to the IRS website and get yourself an EIN. It’s easy, free, and quick.
Have a clearly defined scope of work and contract in place with clients.
This is your first step in having open lines of communication between you and your client.
Get general/professional liability insurance.
Hiscox is a good place to start if you are a new business. Some clients may even require proof of insurance prior to executing your contract.
Consider incorporating or creating a limited liability company (LLC).
(Consult your accountant and attorney for more information on what might be right for you.)
Open up a separate business checking and credit card account.
This should only be used for business. Retain all supporting documents related to your business to help prepare you for tax time.
Check with your city to ensure you’ve complied with any business license requirements.
Municipalities are normally much more accessible than the larger state and federal agencies and can provide you with the info you need.
Taxes!
Save 20-30% for state and federal tax payments. If unprepared, you may be in for a shock at tax time. (Consult your tax accountant for your specific situation)
Pricing.
As an independent contractor, many are inclined to translate their W-2 hourly rate to their 1099 hourly rate. No! These rates are not equivalent! Above, we provided information to you on things to do to protect yourself as an independent contractor. Most of these items have a cost associated with them. Some a significant cost. You will have to come with your own equipment, supplies, and applications. When you are an employee, your employer will provide you with a laptop, email address, notepads, pens, in-house software or other SAAS applications etc. As a contractor, your client will expect that you have these items already. All of these have costs associated with them. Depending on your profession, you may need to keep up on the requirements of a certificate through continuing education, etc.
Fringe benefits.
As an employee, you may receive PTO, vacation, sick, holiday pay etc. As a contractor, these are not provided. Health insurance can be costly and large employers are able to offer this and other benefits (e.g. 401K, life insurance, short-, long-term disability insurance) at scale. As a contractor, these carry heavy costs.
Client – Contractor Relationship
The relationship of a contractor and client is different from that of an employee and employer. There are many factors to consider in this regard. It is the function of your scope of work and the control over the work that will determine if you should be classified as employee or a contractor, not the contract or word of mouth agreement. This is where things can get tricky. For those in CA, please see the FAQ from the State that explains important factors to consider when putting together a contract with a new client.
An independent contracting agreement may be able to provide you with more freedom and flexibility than employment. But as you can see here, it can also involve more risk. Risk comes at a cost and should be reflected in your pricing. If you want further information, please visit our website at www.la-financialmanagement.com.