Let’s brainstorm, shall we?

Take a moment and list all the ways you can think of that business owners can screw over their companies — and, most often, themselves. Things like embezzlement, not having proper or enough insurance, sexual harassment … the list goes on. But I’ll bet you a buck that you didn’t think about the risk independent contractors pose. If you’re rolling your eyes right now because you did know that, I’ll consider you an expert, and I owe you a dollar. But if the potential associated risks come as a surprise to you, keep reading (and you can send my winnings to my office).

Sure, hiring an independent contractor can be beneficial for short-term business projects, but their actions — unlike an employee’s — are harder to control, and therein lies the risk. Knowing the difference between employees and independent contractors becomes imperative when an injured customer or client decides to sue. When it comes to making the decision of hiring an independent contractor, do yourself and your business a favor: Do your research and protect yourself. Or, even better, consult with your lawyer.

Who is an Independent Contractor?

First things first: An independent contractor is not an employee. That means your construction workers, landscapers, housekeepers, web designers and janitors are usually independent contractors. This is the part where I bestow upon you the legal definition of an independent contractor, which the California Department of Industrial Relations states is most easily defined by “whether the person to whom service is being rendered has control or the right to control the worker both as to the work done and the manner and means in which it is performed.”

Basically, the general rule of first deciding whether someone is an employee or an independent contractor is based on the degree of control the payer (you) has versus the level of independence the payee (them) enjoys. This rule isn’t one size fits all, rendering it necessary to still closely examine the facts of each individual relationship. Additional signs someone is an independent contractor:

• If the worker supplies his or her own equipment, materials and tools
• If all necessary materials are not supplied by the employer
• If the worker can be discharged at any time and can choose whether or not to come to work without fear of losing employment
• If the worker controls the hours of employment

While these are all common factors, there is no good, single test for determining if an individual is an independent contractor or an employee. If you ever have any doubt, a look at the IRS or Small Business Administration websites can be a great aid in determining the difference.

Always prepare for potential liability risks. Not doing your research can lead to big legal troubles — to the tune of contract breaches and legal disputes. Independent contractors can pose a threat to your business because they don’t fall under California’s wage and hour laws, anti-discrimination laws or retaliation laws. Let’s get into the nitty gritty of three of the riskiest situations associated with hiring an independent contractor:

1. Misclassification

Hiring someone as an independent contractor might be more convenient and the benefits more fruitful (i.e. freedom from tax-withholding obligations and payment of workers’ compensation premiums), but you risk considerable tax fines, other penalties and a serious gap in insurance coverage if your independent contractors are later determined to actually be employees. Many small businesses hire independent contractors to fill positions such as administrative assistants, bookkeeping staff, personal assistants and other staff who would normally be considered non-exempt employees. But hiring someone like a personal assistant and classifying them as an independent contractor is a clear abuse of classification and will get you in big trouble.

In effect, when you elect to hire an independent contractor instead of an employee, you might be trading your immediate, limited savings on your workers’ compensation insurance for exposure to legal damages. Don’t believe me? A prime example is the March 2015 case brought against the popular ride-sharing company Lyft for misclassifying its drivers as independent contractors instead of employees. While the company settled and is reportedly now paying $12.25 million to drivers, which isn’t exactly chump change, the issue of whether or not Lyft drivers are contractors or employees still remains unresolved — proof that it’s a pretty complicated issue.

Lastly, in terms of payroll, by now you should already know that if a worker requires direction of how, when, where and what to do on the job, they are an employee that receives a W-2 with all income, social security and Medicare tax withheld. However, if the job will be done independently, your worker will receive a 1099 that is not subject to income tax and that worker will have to pay self-employment tax.

2. Non-delegable Duties

Independent contractors don’t assume legal responsibility to maintain a safe workplace or the safety of your employees. As a business owner, that task is solely your own. If a guard for a security service was hired as an independent contractor and failed to protect an employee from workplace violence at the hands of another employee, it is highly unlikely that you would avoid liability and be able to defend your business successfully.

3. Negligent Hiring

As a business owner, you also have a duty to screen independent contractors carefully. Don’t make the mistake of overlooking this small detail. Say you fail to call references or perform a thorough background check, and your newly-hired office clerk, classified as a 1099 worker, happens to have a history of violent behavior and injures one of your clients in the office. The hiring party (aka you) may be held liable for failure to practice care and discretion in the choosing of a “competent and careful” independent contractor.  

The Bottom Line

Any of the above can get you slapped with a lawsuit quicker than you can say, “I still owe Frank that dollar.” I’m not saying independent contractors shouldn’t be trusted; they aren’t better or worse than regular employees. I am saying, however, that as an employer you must take some extra precautions. First and foremost, you must absolutely classify your workers properly and then ensure compliance is being followed. Clearly communicating job expectations and type of work performed to all workers is key. While tedious and time-consuming, conducting regular audits often and thoroughly will also save you in the long run.