How to mitigate risks while hiring independent contractors

The gig economy refers to the growing number of employees who work on a short-term basis—the term encompasses a broad umbrella of employment models that include temporary, contract, and freelance jobs. It’s a diverse field that includes both rideshare drivers and freelance designers. 

Independent contractors are self-employed individuals or entities contracted to provide services as a nonemployee. They do not receive benefits, such as insurance or retirement plans, and are responsible for paying their own taxes. 

In 2021, there were approximately 23.9 million independent workers in the United States alone. Globally, Brazil, the United States, and the United Kingdom have the highest percentage of citizens participating in the gig economy. 

Many employers across industries have embraced independent contractors for the cost-saving benefits, increased staffing flexibility, higher employment efficiency, and access to specialized expertise and knowledge, just to name a few advantages. 

While hiring independent contractors offers several benefits, there are also several associated risks. In this article, we’ll examine the most common risks associated with hiring independent contractors and identify ways to manage them. 

Misclassification

Misclassification refers to when employers hire independent contractors but treat them like employees. This is the biggest risk that comes with hiring independent contractors and can result in hefty fines, loss of credibility, and even class-action lawsuits in severe cases. 

It can be easy to misclassify employees because countries are often not clear about the distinction between employees and contractors, increasing the risk to employers. For example, in Germany, laws regulating the distinction between employees and independent contractors are governed by German labor courts and German administrative courts. Navigating the different criteria for each court can cause confusion for foreign employers. 

In order to mitigate the risk associated with misclassification, employers need to be aware of the local and federal laws that differentiate employees from contractors. This ensures that they do not make independent contractors do anything that would misclassify them as employees. 

One strategy that can help avoid misclassification is holding company-wide conversations about the distinction between employees and independent contractors. Transparency across the company will ensure that everyone is on the same page about the limitations of independent contractors’ work before making requests. HR employees should feel confident in their knowledge of company policies that impact both full-time employees and contractors. 

Another effective strategy is to create comprehensive and specific contracts that detail the timelines for deliverables, termination rules, and resources provided for independent contractors. Having documentation to reference can help to maintain consistent standards across teams and becomes increasingly important as employers consider hiring independent contractors from multiple countries. 

Clear communication at the beginning of the professional relationship protects both the contractor and the company. Both parties should have a clear understanding that the services to be provided will be within a contractor’s legal capacity. 

For some companies, it may be worth using a centralized program to minimize the risk of misclassification. Companies can partner with a third party that can provide an established methodology for evaluating and engaging independent workers. Federal government, state government, and agency tests can also serve as guidelines to help employers determine the appropriate employee classification. 

Co-employment

Co-employment refers to when two legal entities have enough grounds to both be considered employers for one employee. This occurs most often in cases where staffing agencies recruit independent contractors for a client. In this situation, both the agency and the client may be considered employers. 

In order to prevent this from happening, employers should properly define and classify independent contractors. Abiding by federal, state, and local laws should be a top priority for employers to mitigate risk. When working with a staffing agency to hire independent contractors, it is important to vet their classification process to avoid co-employment.

Another strategy to mitigate the risk of co-employment is to keep in mind that independent contractors are their own business entities. This involves creating certain barriers that differentiate your working relationship with contractors from the relationship your company has with employees. Independent contractors must be given more freedom in how they complete project work. For example, requiring that contractors work in an office can start to blur the lines and should be avoided where possible.  

Government audits

If you misclassify an independent contractor, your company will be at risk of an audit. There are several events that can trigger an audit, including an employee or contractor reporting misclassification or a contractor filing for unemployment. 

Employers can mitigate this risk by being prepared for any potential audits. This would include conducting regular internal audits to proactively identify and correct errors, creating guidelines for engaging independent talent to provide company-wide transparency, and forming a team to handle issues as they arise to quickly resolve any misclassification before it becomes a larger issue. 

Insurance

Independent contractors are not eligible for company benefits, including the company’s insurance compensation package. Full-time employees are protected by their employer in the case of being injured on the job. The company is legally required to compensate full-time employees for workplace injuries, and in return, the employee cannot sue the company. 

Independent contractors are not protected in this way and can sue their employer more freely. Employers can save significant costs by hiring contractors because they do not need to provide insurance, but this puts a company at greater risk for legal action and court cases for injuries and discrimination. 

The best way to respond to this risk is to make sure that any contractors you work with have purchased liability coverage on their own before signing an agreement with you. The contract should reflect this requirement, and you can ask for proof of insurance coverage before work begins. 

Any liability for workplace damages places the employer at risk of misclassification, as the contractor would be too close to being a full-time employee. Employers can ask for a Certificate of Insurance (COI) from a contractor to ensure that they have appropriate coverage to reduce this risk. 

It’s important to invest company resources into managing insurance. Hiring a compliance analyst or building a compliance department can provide extra protection and ensure that independent contractors are supplying the appropriate proof of insurance before they start working. This insurance must remain valid for the duration of the period that the independent contractor will work with your company. 

Another option is to have a non-static, “living” COI that automatically tracks the status of the contractor’s insurance policy and reflects any changes with respect to cancellation, policy modification, and renewal. This is a digital version that independent contractors can quickly share with employers. Having a live version can help employers stay on top of managing their contractors and mitigate the risk of misclassification.  

Effectively mitigate risks associated with hiring independent contractors

Hiring an independent contractor can be a rewarding and beneficial decision when done with the appropriate consideration and research to prevent unnecessary risk. Independent contract work can also provide a good entry point for global talent, before transitioning them into full-time employees. 

Oyster’s contractor vs. full-time employee analyzer helps you mitigate risks when hiring contractors by ensuring your workers are classified properly. It’s free to use, and all you have to do is answer a few questions to receive a report on potential risks and costs associated with converting contractors into full-time employees.

Try Oyster’s contractor vs. full-time employee analyzer today!

About Oyster

Oyster is a global employment platform designed to enable visionary HR leaders to find, engage, pay, manage, develop, and take care of a thriving distributed workforce. Oyster lets growing companies give valued international team members the experience they deserve, without the usual headaches and expense.

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