Running a business covers a wide array of duties most of which don’t have anything to do with the company’s core activities but nevertheless represent an integral part of the overall business process. And since they don’t produce such a critical impact on the revenue, business owners tend to push them into the second plan.
Managing contractors and handling the payroll can be definitely described as one of these activities.
Be that as it may, much like regular, full-time employees the contractors expect to be paid on time and the quality of their work, as well as the level of their engagement, will largely depend on your ability to handle this sensitive issue.
Let us then take a look at a couple of important payroll considerations you should know to make sure you always get the best possible contractor services available.
The legal difference between employees and independent contractors
This is the most basic thing you should keep in mind when handling the payroll of contract workers. According to The Fair Labor Standard Act (FLSA), the federal law recognizes the two different types of employment – employees and independent contractors. As for the employees, the federal government proscribes minimum wage as well as overtime pay. Also, the employer has the ability to control when some job is done and how it’s done.
On the other hand, independent contractors are not covered by employment and labor laws, work for the employer according to mutually agreed-upon Statement of Work, and gets paid according to that agreement, usually based on some of the three following models:
- Total amount when the job is done
Should you use contractor payroll service?
The specific legal situation regarding the employment law begs the question should you use a third-party contingent workforce payroll service. If we take Australia as an example of a developed country we can find countless companies relying upon professional contractor payroll services instead of performing these duties in-house
Similar examples can be found all around the globe which shouldn’t be that big of a surprise taking into consideration the following takeaways:
- A growing number of companies decide to outside payroll duties altogether
- Freelance services require separate bookkeeping
- Developing and maintaining in-house payroll service is expensive
- Navigating legal, accounting, and tax systems requires a skilled and experienced labor
- Failing to comply with federal requirements can cause severe penalties
Keeping these things in mind, we can only summarize that in most cases outsourcing the payroll to a third party represents a much more efficient and frugal solution than handling this issue first-hand. These considerations are especially important in the case of small and medium companies that operate on a limited budget as well as the ones that use the contractor services only at times.
The penalties for misclassification
Since, according to law, companies are not required to pay freelancers and independent contractors for their overtime work, some companies may attempt to purposefully misclassify their full-time staff and register them as independent contractors. According to recent estimation, this is the case with as many as 3.4 million US employees.
However, we also need to be aware that the IRS works diligently to root out this practice so misclassification of workers entails severe financial and legal penalties that, depending on the situation, can range from $1,000 per misclassified worker to one year in prison. In one of the most famous recent examples, FedEx had to pay out $240 million as a settlement to the 12,000 drivers that were misclassified as contractors.
That makes the necessity to adhere to all hiring and payroll regulations all the more important.
Tips for successfully managing contractor payroll for small businesses
Last but not least, let us quickly go through some of the tips that should help you to streamline the hiring and payroll process and cut the eventual legal problems at their very root.
- Assess what type of worker you need. When considering whether your workers are misclassified, the IRS will consider a variety of factors that can be divided into three groups – behavioral, financial, and the type of relationship. When hiring, make sure the workers have the appropriate type of contract and try to consider these same parameters.
- Have a system for collecting the necessary forms necessary for the Internal Revenue Service and a national tax agency. Don’t wait for the deadlines and handle these documents without any delay.
- Establish a clear time-tracking system and make sure the contractors properly report their work hours.
- Conduct regular audits to make sure you are keeping appropriate records and recognize any eventual mistakes before they start causing problems.
- Avoid submitting payroll without double-checking the timecards, postponing calculation of overtime hours, and tracking work hours, and paying out contractors manually.
We hope these few considerations gave you a general idea about the importance of proper employee classification and accurate payout. Due to their specific status in the national legal system freelancers and contractors leave too much space for eventual payroll mistakes. Even though these problems may seem menial at first, they can cause tremendous financial and legal problems and bring your company to a grinding halt. Don’t allow your company to slip over the obstacles that can be so easily avoided.