What's the Difference Between Independent Contractors and Employees?

Employees are expensive. You have to have Workers' Compensation, Unemployment, and other lines of insurance for them. You have to pay taxes on them, and they require you to follow all types of federal and state labor, wage, and discrimination laws. What a mess! Wouldn't it just be easier to reclassify all of your employees as independent contractors instead? Find out why you can't do that below:

The largest expense for nearly any business is its employees. Not only does the employer have to pay their employees' wages, but they have to follow regulations and procedures, along with the taxes and insurance costs of having employees. These are huge financial burdens on companies, so why aren't businesses just reclassifying their employees as independent contractors to avoid these headaches?

Employment Classification:

Technically, any business could decide that their employees are now independent contractors. The problem is then convincing governmental bodies that the employees are now independent contractors. The IRS, state workers' compensation boards, state unemployment compensation boards, federal agencies, and the courts all have slightly different definitions of what an independent contractor is. 

Each one of these entities have their own jurisdictions and have the final say on whether or not someone is an employee, so you will need to convince all of them that you now have independent contractors. While you may be able to sneak by for a short time, big problems can arise if a 'independent contractor' gets hurt on the job and decides to sue you. Another problem could be if a supposed 'independent contractor' feels discriminated against, they might take you to court. Along with these scenarios, there are plenty more that could give rise to an investigation on the true employment status of your workers.

Determining Employment Status in Nebraska:

There's a lot of grey area between an employee and an independent contractor when it comes to federal bodies. However, in the state of Nebraska, the Department of Labor has a concrete three-point test for classifying someone as an independent contractor:

“(5) Services performed by an individual for wages, including wages received under a contract of hire, shall be deemed to be employment unless it is shown to the satisfaction of the commissioner that (a) such individual has been and will continue to be free from control or direction over the performance of such services, both under his or her contract of service and in fact, (b) such service is either outside the usual course of the business for which such service is performed or such service is performed outside of all the places of business of the enterprise for which such service is performed, and (c) such individual is customarily engaged in an independently established trade, occupation, profession, or business. The provisions of this subdivision are not intended to be a codification of the common law and shall be considered complete as written;”

A: This part is requiring independent contractors to be completely independent. Say you hire someone on a perpetual basis, they would automatically fail section A as an independent contractor is hired for a set amount of time. Additionally, if you hire someone and set their hourly wage and the hours they're supposed to working for them, they will fail the independence test of section A. To reiterate, an independent contractor must be hired for a set amount of time, and their payment, the quality of their work, and their schedule cannot be strictly dictated by you.

B: This means that the independent contractor must be doing a function that is atypical for an employee to do/atypical for your standard business operations. Example: you can hire a web designer to create a new website for your bakery, but you cannot have an independent contractor in charge of kneading dough. The kneader will be reclassified as an employee.

C: This section is mandating that independent contractors must be used to being an independent contractor, and when they started working for you, they initially intended on being an independent contractor. Additionally, the independent contractor must be in a field/profession that is commonly performed as an independent contractor. For example, you could hire an independent contractor to fix the sign in front of your bakery, but I've never heard of an independent contractor baker.

Risks of Misclassification:

Each governmental body has its own established financial penalties for misclassifying employees as independent contractors. On top of the fines that could be levied, you also expose yourself to huge liabilities by having misclassified 'independent contractors'. If the supposed 'independent contractor' gets hurt and sues you, the courts will correctly identify them as an employee, and you will be liable for the court fees and the damages yourself, as a Workers' Compensation policy should have been in place to cover this type of loss.

Many businesses try to avoid the extra costs of employees by improperly classifying their employees as independent contractors. While this might save on costs in the short term, the risks involved are great, and it's only a matter of time before problems arise.


Colten Zamrzla, CPCU

Colten first started in the insurance industry in 2010. He then pursued a Bachelor's degree in Finance & Insurance from the University of Nebraska at Lincoln. Once graduated, he immediately started studying for the CPCU and achieved it in just shy of a year. He is solely focused on commercial insurance, able to assist all types of businesses and nonprofits in risk management.

Colten has dedication and passion for his clients and the insurance industry as a whole. He dedicates time to furthering his knowledge on all things business and insurance, and he volunteers for the Independent Insurance Agents of Nebraska, a state-based trade association.