You know those people you see sitting in coffee shops plugging away on their laptops? Some of them might be students, but chances are, a number of them are independent contractors with the ability to work from any location they see fit.
An independent contractor is an employee who provides services for an employer on a contract basis. Unlike permanent employees, independent contractors don't typically have set working hours (though some do). Rather, they do their work on an as-needed basis, and there's no commitment on behalf of the companies that hire them to continue using their services long-term. Furthermore, whereas permanent employees have taxes deducted from their paychecks, independent contractors are paid in full as per the terms of their agreements and then must pay taxes themselves.
IMAGE SOURCE: GETTY IMAGES.
Why businesses hire independent contractors
It's not always in a company's best interest to hire permanent, salaried employees. A business, for example, might require 40 hours' worth of work in a certain area some weeks, but not others. Hiring a permanent, full-time employee would mean paying for services that aren't needed or being used. With a contractor, however, that company can choose how many hours per week or month it wants to pay for.
Permanent workers also tend to cost companies more money to employ. Not only do businesses have to pay taxes on their full-time employees, but they're often required to provide benefits. Independent contractors, however, cannot demand anything more than their agreed-upon rate, and the companies that hire them don't have to worry about tax implications.
Independent contractors versus permanent employees
The major difference between contractors and permanent employees is that contractors can generally dictate how, when, and where their work gets done. Permanent employees, on the other hand, don't get to call the shots in that regard. Rather, they're typically required to report to work at a certain time, and on a certain schedule. Furthermore, while permanent employees get a steady paycheck regardless of the work they actually do during a given pay period, independent contractors are only paid for the services they provide.
Another distinction is that independent contractors are generally responsible for providing their own tools for the job, whereas permanent employees are not. A company that hires a permanent IT worker will typically need to provide that person with a computer and related equipment. An independent contractor, however, is expected to have that equipment on hand at his or her own cost.
Finally, permanent employees have taxes withheld from their paychecks every time they receive compensation. Independent contractors, meanwhile, are responsible for paying taxes themselves, usually in the form of estimated quarterly payments.
Benefits and drawbacks of being an independent contractor
Going the independent route definitely has its perks, such as the following:
- The ability to set your own hours
- The option to choose which projects you want to take on
- The flexibility to dictate your work schedule, and work from home or abroad as needed (though some companies might insist that your work be performed on site)
- The opportunity to take business deductions to reduce your taxable income
On the other hand, being an independent contractor also means facing a unique set of drawbacks, like the following:
- A lack of job security (outside of what your individual contracts call for)
- Unpredictable income
- No paid time off or health benefits
- No unemployment insurance benefits; if the job offers stop coming in, you can't collect any money from the government in the interim
- The onus of making tax payments, not to mention a higher tax rate due to self-employment taxes
If you're thinking of becoming an independent contractor, it pays to weigh the pros and cons of that decision before making a move. Though independent contractors might seem to have a relaxed, come-and-go-as-you-please lifestyle, in reality, many of them work very, very hard to maintain that arrangement. And what you gain in freedom and flexibility, you might lose in the form of a reliable paycheck.
This article is part of The Motley Fool's Knowledge Center, which was created based on the collected wisdom of a fantastic community of investors. We'd love to hear your questions, thoughts, and opinions on the Knowledge Center in general or this page in particular. Your input will help us help the world invest, better! Email us at knowledgecenter@fool.com. Thanks -- and Fool on!
