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Employing Independent Contractors in Your Manufacturing Operation

Posted by Alita Stratton, CPA on Dec 10, 2018 9:22:00 AM

The challenge of attracting and retaining skilled and unskilled workers continues to be one of the greatest challenges manufacturers face. To fill the gap, many manufacturers tap the expertise of independent contractors. Contractors can be an ideal solution to complete the essential functions of your operation exactly when you need the help. They often offer specialized expertise, flexibility, and less legal risk—all at a lower business cost.

However, it’s important that you correctly classify your workers to avoid IRS penalties and being in violation of state and federal employment laws. 

W-2 vs. Form 1099: What are the Differences?

Typically, employees get Form W-2s, and independent contractors receive Form1099s. It’s as simple as that. Or is it? Aside from tax law, employee status carries a multitude of nondiscrimination laws, pension and benefits laws, and wage and hour protections that apply to employees, but not to independent contractors.

Most of the time, businesses hire W-2 employees with the intention of working with them for an undetermined length of time. Employees are typically more committed to your company. They also offer more continuity and consistency.

Hiring 1099 workers can help you cut back on costs and legal responsibilities. For example, it’s much easier to pay a contractor than it is to administer payroll and manage other HR functions required of a business with employees.

If you make payments to an independent contractor for their services, you are required to report those payments to the IRS and send a copy to the contractor. A 1099 goes out to independent contractors if you pay them $600 or more to do work for your business during the tax year.

According to the IRS, what the employee classification process really boils down to is the level of control a business has over the worker. If the company controls most of the person’s work, then the worker is most likely a W-2 employee. If the person has a good degree of independence, they’re most likely a 1099 independent contractor.   

The IRS considers three major categories in determining whether workers are employees or independent contractors:

  1. Behavioral – Can your business control what, where, how and when the workers carry out their job?
  2. Financial – Who controls the economic aspects of the workers’ job? What’s the payment method (a regular salary or a flat fee)?
  3. Type of relationship – Do you provide the workers with employee benefits? What are the length and terms of this relationship, as outlined in a contract, employment agreement or other documentation?

Employers sometimes treat workers as independent contractors when they are clearly employees—something the IRS can easily spot. Are the cost and time savings really worth the risk? 

Don’t Risk the Penalties

There is a clear line in the sand between employees and independent contractors. When you cross that line, you could face stiff penalties from the IRS, or even a lawsuit against your manufacturing business. For example, the IRS could levy back taxes and penalties of more than 40 percent of the contractor’s pay. After determining they really ought to be considered a full-time employee and receive benefits, the Department of Labor could require you to pay wages going back three years.

Additionally, any W-2 worker misclassified as independent contractors can sue your business for denied benefits, such as overtime pay and health insurance.

When making the decision about bringing independent contractors on board, whether to address workforce shortages or address a specific need, it really comes down to your budget, the type of work and how much control you want to have over the final product. The answer in many cases is independent contractors. Done carefully – and legally – arrangements with independent contractors can work well for you and your business.

Goldin Peiser & Peiser works with manufacturers on tax strategies that will help them meet their financial goals and objectives. Learn more about the Manufacturing and Distribution Services Group at Goldin Peiser & Peiser.

For more information, please contact Alita Stratton, CPA, at 972-818-5300 or fill out the form below.

Note: This content is accurate as of the date published above and is subject to change. Please seek professional advice before acting on any matter contained in this article. 


Topics: Manufacturing, Independent Contractors