Changes when you go from contractor to employee
Let’s say you’re a yoga instructor and you work a few hours a week at a studio. Right now, the owner pays you per class and sends you a 1099 at the end of the year. The fitness studio owner received advice from a friend to put all contracted instructors on payroll as employees. So, what would that mean for you?
There’s been an increased focus on the classification of employees and independent contractors in the last few years. As a worker, you may not think it makes much difference – as long as you get paid. But it’s important to understand that your job classification actually affects many aspects of your work.
Most people focus on the tax consequences of becoming an employee. And yes, we’ll go over the tax stuff. But the non-tax consequences are just as important!
Who’s the Boss?
As an independent contractor, you are basically running your own business. You are free to set your own hours and do the job your way. Your boss (or “client”) can set some boundaries, but you decide how you want to do your job. Of course, they always have the option of firing you.
As an employee, your boss can tell you when to come to work and when to go home. They can (and should) provide you with some training and the tools needed to do your job – but that also means that they can dictate how you get the work done. Of course, you always have the option of quitting.
What About Benefits?
Being your own boss is awesome, right? Sure, until you get sick. Or injured. Or you want to retire.
As an employee, you’re entitled to benefits that you won’t get as an independent contractor. At the very least, employees are typically covered by unemployment insurance and disability insurance. So if you lose your job or get injured, you can probably collect some money while you aren’t working.
An employer may offer additional benefits, such as workers’ compensation insurance (required in some states), health insurance, retirement plans (maybe with match), and more. These benefits can really add up, significantly increasing the amount of your total compensation as an employee. Plus, employees are protected by labor laws governing jobsite safety and working hours (hello overtime!).
Ready To Talk Taxes?
The move from independent contractor to employee drastically changes your taxes, including how you pay them, how much you pay in taxes, and even how you file your tax return.
As an employee, taxes are withheld from your paycheck. Keep in mind, these withholdings are just an estimate and you may still owe money or get a refund when you file your return. But, at least those payments are handled for you. As an independent contractor, no taxes are withheld from your pay. You must do your own calculations of your estimated tax payments and send them off each quarter.
It’s difficult to say exactly how your income taxes will change when you go from an independent contractor to an employee – it depends on your specific situation. Overall your taxes will either go up, go down, or stay the same. Helpful, right?! But one aspect of taxes that will definitely decrease as an employee is your self-employment tax (or payroll tax). As an independent contractor, you have to pay 100% of your Social Security and Medicare taxes. As an employee, your employer is required to pay half of those costs.
One of the biggest benefits of being an independent contractor is that you get to deduct your work-related expenses. The downside of that? You have to keep track of your work-related expenses, and file some additional tax forms (or pay your tax preparer more to file those forms for you).
Flexibility vs. Risk
There’s usually greater flexibility in working as an independent contractor. As we mentioned, contractors may be able to make their own schedules and choose how they get work done.
Just like an entrepreneur stepping out in a new business, contractors have greater flexibility, but it comes with a higher level of risk. Even if you’re hours are steady as a contractor, there’s an element of risk when you’re not covered by unemployment insurance, workers comp, and other benefits paid for by an employer.
Now you know that more than just your paycheck changes when you go from an independent contractor to a company employee. But you’ll need to discuss with your employer what differences they expect. Will you have a new schedule, new dress code, need to work toward company goals, or abide by new rules? Becoming an employee may allow you to sign up for benefits, but also require you to now attend staff meetings and start clocking in and out. Make sure you understand all of the implications, beyond switching from a 1099 tax form to a W2.