Episode 61:  Should You Hire an Employee or a Contractor for Your Business?

 Welcome back to Creative Minds Smart Money, the podcast where we talk about all things finance for creatives, and hopefully make it a little less scary than it can be. And today’s topic is one that I should have done a long time ago, but one of my business friends reminded me of and one that I think is so, so, so important for all of us.

As business owners and for people who are looking and getting ready to hire and things like that. So today’s topic is gonna be all about employees versus contractors. You know when you’re ready and you really know that you need to bring on someone to help, but you’re just not quite sure. Who to bring on, whether they should be an employee, whether they could be a contractor, and of course not knowing who’s who picking the wrong type of classification can be a really costly mistake.

So I. It’s where a lot of business owners get stuck because they want support, but they just don’t want the IRS or someone else tore, be breathing down their neck or, you know, sign up for more than what they bargained for. So today we’re gonna break down what the differences are between employees and contractors along with the finance, legal, and emotional implications so that you can build the team that you wanna build the right way.

And of course, if you’re a solopreneur, you can still hire contractors and employees. And still be considered somewhat of a solopreneur. Um, mostly the time solopreneurs that I work with, they hire specifically contractors. But let’s dive right into it. So first of all, we want to understand what the actual difference is between a contractor.

And someone who’s an employee. So first of all, a contractor is someone who is already self-employed. They don’t work usually for another company. Sometimes they might, um, especially if they have like, maybe they’re doing like four to five contract jobs, but usually they’re self-employed. Uh, they could be invoice based or you can also pay contractors through payroll.

Um, there is payroll that you can use and we’ll, we’ll get into kind of like the payment apps and stuff like that in the next episode. This episode is all just about employees versus contractors. Um. And then of course they’re either short term or project based and they have minimal oversight. When I say minimal oversight, I mean someone who already kind of knows what they’re doing, that you don’t have to watch over or really like get under control so they actually already understand what’s going on and can just dive in.

An employee is on your company payroll, they usually receive a W2 at the end of the year, and they have an, they’re an ongoing support role. You usually need to give them more direction and you actually give them more control over the employee. So one of the biggest differences between like a contractor and an employee is the fact that a contractor is someone who can kind of do things their own way, whereas an employee is a little bit more.

Where someone you have like a little bit more control over what they do with their processes and things like that. Yes, of course you can have SOP set up for a contractor, but if a contractor doesn’t like the way something is done and they deviate from it, it, it’s a little bit less, more like you can be like, Hey, I’m gonna like write you up for that, or something like that.

Um, you know, so you have more control over an employee than a contractor. We’re obviously gonna get into a little bit more of this as we go through the pros and cons, but. If we’re looking at, um, you know, some sort of like metaphor, like what are we, what are we really thinking of when we think of like, what is a contractor versus what is an employee?

So for example, if you hired a photographer for a, a project basis, maybe you’re a magazine or maybe you have a social media, like you have a social media, maybe you have a social media. Okay. Maybe you have a social media agency and you hire a photographer to do some of your photography work. They are a contractor.

They’re there on a project basis. They’re not your employee. They most likely run their own business, and they’re just coming in to help complete that. Whereas if you had someone who was, let’s say. A junior social media manager under your agency, they are more like an employee and that kind of creates that clarity there around who’s an employee versus who is a contractor.

Now, there is a couple of things that we need to look at with the IRS tests. Um, there is like certain classifications that they look at, as well as most states have classifications on what would qualify as a contractor versus what would qualify as an employee. So first of all, one of the things that we have to touch on is behavioral.

So if they are someone who is working for you, if they are someone who’s working for you.

I mean, realistically. Realistically, it comes down to who’s in control and how integrated they are into your business. So if they are doing things on the side, they’re just doing small things and that’s their behavior kind of pattern, they’re likely more of a contractor. Whereas if they’re doing things that are vital and an integral to your.

They’re likely more of an employee and misclassifying them could cost you huge. There’s also obviously the financial implications. If you’re not paying their payroll taxes, then obviously they’re a contractor, and as well as the relationship, if it’s steady and consistent work, it’s more of an employee than it is a contractor.

Again, classifying these incorrectly. Could make or break not only your business, but the way the IRS views them as an employee or contractor. So let’s say you had someone doing steady, consistent work and you classified them as a contractor and you just let them go outta the blue because maybe that’s in your contract or contract or whatever it is, and they felt like they were more of an employee.

If they went to the IRS, you would be under a huge amount of fire because the IRS would be looking at everything that’s going on in your business. So let’s talk about the pros and cons between employees and contractors, and let’s start with contractors. So first of all, contractors are super easy to onboard, obviously, because they have no payroll set up.

You just need to really get a contract in there, state what they’re being paid, and then get them into your systems and get them working. Whatever it is that they’re doing, usually they either have an invoice or something like that. So it’s nothing really that. Um, complex. Now, obviously you can set them up on a payroll software like I was talking about, that will require them to enter a little bit of information, but it’s a lot easier than setting, setting up all the payroll, tax qualifications, everything like that.

So there’s no payroll taxes. Obviously you don’t have an employment insurance or workers’ compensation for any of those contractors, which is also again, another great kind of like advantage and then. They’re great for specialized or temporary products pro. They’re great for specialized or temporary projects, whether that’s setting up something, SEO, maybe they’re setting up like a dub sodo or a HoneyBook setup.

Maybe they’re doing some web design work. Maybe they’re just coming in. Like if it were using me as an example, as a bookkeeper, if I had someone come in and help me with a cleanup and then that’s all they were helping me with, that’s the advantage of a, of a contractor because they’ll come in, help me get everything cleaned up and then leave.

Um. And of course there’s flexibility in that, so there’s less commitment and less like staying power, I guess. So if you don’t have work for them, it’s not necessarily something that’s like a bad, uh, like a bad thing, if that makes sense. Now, obviously there are some disadvantages to having a contractor.

You are legally limited on how much control you can exert. So first of all, you cannot dictate their schedule. You can’t tell them that they need to come in nine to five, that they need to work nine to noon. You can’t tell them any of that. They’re a contractor. They have no, you have no control over them.

Yes, you are in a relationship, but you are not technically their boss, if that makes sense. And then of course, with processes, they can. Do. They can follow your process, but they can also deviate from your process if they think that some way is better. They’re, you don’t have control over that. You’re limited legally by that.

So yes, obviously we want contractors that are gonna follow our processes, but you’re legally limited by the fact that you can’t be like, Hey, you didn’t follow my processes. You’re doing things wrong because. They’re a contractor. Again, they’re not your employee. You can’t tell them what to do. Second of all, obviously your contractor might not be available long term or prioritize your business.

So if you’re hiring someone who is also running their own business, you may or may not have them be able to prioritize what you are working on, which can cause obviously a lot of issues and a lot of stress. Because if you’re looking for someone to get work done at a certain point in time, you know they’re doing something else.

They’re also. Doing other things. So of course that’s gonna be their priority. Now, obviously, usually they have a higher hourly rate because they pay their own taxes and expenses, so they’re asking for a little bit more. Sometimes contractors don’t it. You set the rate that they, you pay the contractor, but usually it does cost them a little bit more.

And then of course, there isn’t really a, a whole brand loyalty or internal culture building when you hire a contractor because. They’re a contractor. They’re, they’re, they’re essentially an outsider, if that makes sense. So if you have an employee, they’re an insider. Like if you were, let’s say like a family, your siblings are your employees and your, let’s just say for example, your friends or your contractors.

So there’s no internal brand loyalty or internal culture building because they’re technically not a part of your team. Yes, they are, but they aren’t So. I know that that kind of like, you’re like, okay, Samantha, but what if I have a bunch of contractors and they’re all amazing? That’s great, but they are.

Their own person. They’re not legally accountable to you. You know what I mean? So I just want that to be really, really clear. Now, obviously, we’re gonna go into the pros and cons of employees. So with employees, obviously have more control over their work schedule, the systems they use, and the communication cadence.

So if you want them to send you an email every morning, of course that’s something an employee can do. A contractor on the other hand does, has no obligation to do so. You can train them your way, which makes it easier to systematize your business. Again, training is an employee thing. So if a contractor comes in and you need to train them, they are technically already an employee.

Like if you’re sitting there with them for eight hours and you’re training them how to use your systems and everything like that, they’re an employee is, there’s no if sans or buts, you’ve classified them incorrectly. They are an employee. Um, so if it builds, obviously internal consistency and brand alignment because you have these people that are already working in your business, that’s what they’re doing, that’s what they’re there to do.

Um, and then of course they, you have long-term support and that loyalty is already built in because they are your employee, you are paying for them, whether that’s, you are also adding in benefits, things like that. Now, of course, the disadvantages are that you have to set up payroll. So whether you use a software, whether you hire someone to do it, you do have to set up some sort of payroll because you need to be paying not just, uh, federal taxes, but also state taxes depending on where they live.

You cover certain taxes, like unemployed, like you know. Certain state taxes, there’s an employer side to them, and then you also have to cover cover unemployment and workers’ compensation. Obviously there are, there is less flexibility because you have more legal obligations and then potential HR things that are going on.

So if you are hiring a bigger team, you are gonna wanna have somebody who’s in hr, whether they’re fractional or in-house. And then of course you become a boss because as a contractor you’re less of a boss and more of just like a, it’s a relationship. Whereas with an employee, you’ve become a boss. So there’s a lot more responsibility involved with that.

So obviously there are risks to misclassification, whether you’re hiring them as an employee or a contractor. And a lot of people hire employees that are act or hire contractors that are actually employees and. That is the issue. So that is why the IRS has that. So fir, first of all, there’s obviously penalties.

If the IRS were to find out that you misclassified someone and you’ve been paying them for a year, let’s say there’s back taxes, there’s penalties, there’s interest, there’s lawsuits, there’s a lot of different things that could come with that, especially if they felt like they were an employee, but you classified them as a contractor.

So. Again, if you have a contract that’s being treated like an employee, you know they’re working 40 hour weeks, you’re giving them the tools they can’t take on other clients themselves. It’s a huge red flag, and you need to get them to be an employee almost immediately because it’s gonna be a huge issue if the IRS catches you and.

I have gone through, and I will tell you this a hundred percent honestly, I have gone through an employee audit with one of my people that everybody in their business was a contractor. And I told them when I first started that we needed to get some people on as employees, and they’re like, oh no, we’ve been doing this for years.

It’s fine. They submitted their paperwork to the IRS, they got audited. The IRS found out that everyone was listed as a contractor and a non-employee, and they owed over, I think it was $95,000 in back taxes with penalties and everything like that. So I don’t say this to scare you, I don’t say this to scare you.

I say this to give you confidence to put people in the right positions. So if you are having someone who’s coming in and they are a junior bookkeeper, like me, for example, they’re an employee. I have no control over it. If they are coming into your social media agency and they are a junior social media manager or an account manager, they’re an employee and it’s very important that you classify them as such.

Because, you know, if they’re doing only project based work, if they’re coming in and they’re just doing some like graphics for you and then they’re leaving, or you know, they, they can do their own thing, then yes, of course, if they have time to take on other projects as well, that’s usually means that they’re, they’re more of a contractor.

Of course, again, if they don’t have time to take on other projects, that’s when again, it becomes that red flag. So. There are to some states that have even tighter restrictions. You really wanna be aware of what state you’re in and what’s going on. So I want to encourage you, as you’re picking someone to hire on your team and as you’re thinking about, okay, is this an employer or contractor?

I want you to ask these five questions and I want you to ask them with confidence, and I want you to be sure of what you’re hiring. So, first of all, is the role temporary or ongoing? If the role is temporary and you know. You don’t really need them for that long. It’s a contractor. If it’s ongoing, it’s an employee.

Am I outsourcing a project or building a team? So if you are building a team for your business, they’re an employee. If it’s just for a project, like you just need them really short term. It’s a contractor. Do I want flexibility or consistency? So flexibility again, is obviously going to be a contractor, whereas consistency is going to be more of that employee.

Do I need this person to represent my brand long term? So if you’re hiring them and you want them to represent you, then yes, of course you want them to be an employee. And will I be training and managing them regularly? That is an employee. If you are training and managing that person, they’re an employee.

They’re no longer a contractor. Again, I want you to be clear on what you’re classifying everyone as. And again, I want you to understand that you’re not just hiring someone, you are designing the business model that you kind of want for your business. So you wanna bring on the kind of help that says a lot about how you want to grow, whether that’s contracting, whether that’s an employee, so.

Now we wanna understand how do we get it right? Like if we’re hiring someone, like what do we do? What do we need to do? Like how do we make sure that we’re starting off correctly? So first of all, if you hire a contractor, any contractor, and I’m not just talking about like like a photographer or like someone who’s helping you with a project, I’m talking about any contractor.

Me, I’m talking about your social media managers. I’m talking about your photographers. Get a W nine, get a W nine. Even if you don’t owe them a 10 99 at the end of the year, it’s safer to get a W nine and not owe them one than it is to not get a W nine. And if they won’t give you a W nine, that’s fine. Um, you know.

You do obviously want one, but if they, if they know that they don’t need a 10 99, don’t push them for it. Um, but if you know that they need a 10 99, obviously you want to kind of push them for it. So obviously you want a contract as well. You want some sort of contract in place that protects both you and the contractor.

And at the end of the year, you’re gonna send them a 10 99 NEC depending on how you’re paying them. If they’re employee, you are going to get them to fill out obviously, a W2, and they will get a W four at the end of the year. You are gonna have to set up payroll, whether that’s through Gusto, QuickBooks, a DP, paychecks, whatever it is, we’re gonna go over those next week.

Uh, and then you also need to pay for workers’ compensation. You need an EIN, you need a whole bunch of other things. Usually you do get an EIN when you sign up for your business, but there are some people who choose not to get an EIN. And it’s very important to get one if you’re gonna hire employees. So.

One of the things I wanted to just clarify is don’t skip the contract even when you have contractors, because of course those boundaries will save relationships. If you’re hiring a friend as a contractor and you have that contract in place, it’s going to save your relationship because you, they already were aware of that.

Of course. Talk to either myself, a CPA, an employment attorney, if you’re unsure on whether this position could be a contractor or an employee, just to get clarity and make sure that the person you’re actually hiring is going to be classified correctly.

There is no one right answer, only the right answer for your business model. So obviously you can have contractors, you can have employees. It’s just you need to make sure that you are classifying them correctly and you’re not abusing, kind of like. The contractor versus the employee situation. I want to encourage you to audit the current team that you have and clarify your rules.

If you’re looking at someone and you’re saying, wow, this person is putting in 20 hours a week, they don’t have time to get other clients, they’re an employee, and you need to kind of re-think about reclassifying them and hiring them as such, um, you know, I want you to make sure that you are classified them correctly.

If you have any questions or you’re unsure of this, please feel free to email me or reach out to me on Instagram or threads, however you wanna communicate with me and ask me if you are unsure. I’m happy to answer these questions for you, free of charge, and just kind of give you a little bit more direction on this so that you can get off on the right foot.

If you found this episode helpful, please like, comment, leave a review, a shirt with a friend on social media so that other people can find us. Otherwise, I wish you the best week ever and we’ll see you next week. Farewell of fellow travelers. Okay.