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What is an Independent Contractor Agreement?
An Independent Contractor Agreement is a written contract that outlines the terms and conditions of the working arrangement between an independent contractor and client, including:
- A description of the services provided
- Terms and length of the project or service
- Payment details (including deposits, retainers, and other billing details)
- Confidentiality, non-solicitation, and dispute resolution clauses
An Independent Contractor Agreement is also known as a:
- Consulting Agreement
- Consulting Services Agreement
- Freelance Contract
- General Contractor Agreement
- Subcontractor Agreement
- 1099 Contractor Agreement
What is an independent contractor?
An independent contractor is a self-employed individual or business entity which provides a product or service for a customer in exchange for monetary compensation based on a verbal or written contract with the client or customer.
A general rule for determining if an individual is an independent contractor is that a client only has control over a project's final product, but doesn't control how the work is done. By comparison, an employee's methods for completing a project are often guided by their employer.
Independent contractors are also known as consultants, freelancers, or 1099 contractors. (This last name is derived from the IRS Form 1099 which the customer fills out, sending one copy to the contractor and the other to the IRS.)
Who can use an Independent Contractor Agreement?
Independent Contractor Agreements are beneficial for contractors, freelancers, and consultants who want a written agreement with their clients. Likewise, customers, clients, or businesses, who wish to outline the service arrangement in a written contract, will also find them very useful.
All the involved parties can find value in a written agreement because the terms and conditions minimize the risk of any confusion or conflict down the road.
What is the difference between an independent contractor and an employee?
Differentiating between employees and independent contractors ensures a business can file taxes properly and comply with employment law.
There are many ways to distinguish a contractor from an employee. Here are some contrasting features to tell the difference between the two:
Independent Contractor
Some common characteristics of an independent contractor include:
- Discusses a project’s scope and terms directly with the customer
- Is not entitled to employment benefits from clients or customers
- Has a personal investment in contracting business and may incur profit and loss as a result
- May hire employees or subcontractors to help complete services
- Invoices customers for work done
- Signs an Independent Contractor Agreement
- Subject to the Self-Employment Tax
- Usually Works on a fixed-term or fixed project basis
- Uses their own tools or equipment
Employee
Some common characteristics of an employee include:
- Employer creates their job description
- Employer controls the employee's wages
- Employer controls when, where, and how the employee carries out their work
- Employers must pay a portion of payroll taxes on employees
- Has signed an Employment Contract
- May receive employment benefits, such as medical, pension, vacation, or sick pay
- May undergo employment reviews
- Receives in-house training
These are general characteristics and shouldn’t be solely relied on to determine if a worker is an independent contractor or an employee.
What happens when employees are misclassified as independent contractors?
The U.S. Department of Labor (DOL) and the Internal Revenue Service (IRS) conducts regular audits to investigate situations where a company appears to have misclassified an employee as a contractor. The severity of the consequences for this action depends on whether it was intentional, unintentional, or fraudulent.
The ramifications for classifying employees as independent contractors can include:
- A $50 fine for each unfiled W-2 form
- Monetary penalties for failing to withhold income taxes (potentially 1.5% of paid wages, 40% of FICA taxes not taken from employee wages, and potentially interest for late filing)
- A failure-to-pay tax penalty, which can total anywhere between 0.5% and 25% of the employer's taxes depending on how long the employer has misclassified the employee and failed to pay the appropriate taxes
How do I create an Independent Contractor Agreement?
You can easily create a customized Independent Contractor Agreement by filling out LawDepot's questionnaire. Using our template will ensure you complete the necessary steps:
1. State the location
Specify the region your company operates in, and LawDepot will customize your Independent Contractor Agreement to meet your state's laws.
2. Describe the type of service required
Include an accurate description of the contractor's services in your agreement. Providing a detailed description gives the contractor and client a clear idea of the expectations.
For example, if a client hires a contractor to do landscaping on their property, the Independent Contractor Agreement might include that the contractor is responsible for:
- Planting and maintaining flowers
- Installing a pond and drainage system
- Trimming trees and hedges
3. Provide the contractor’s and client’s details
Include the contractor’s and client’s contact details in your contractor agreement. The information can be a convenient reference if either party needs to contact the other.
Specify whether the parties are individuals or organizations, and include their names and addresses.
4. Outline compensation details
There are some details to consider when deciding how compensation will be exchanged, including:
- Billing rates
- Retainer or deposit
- Frequency of payments
- Late payment penalties
Billing details
An Independent Contractor Agreement needs to set the rate of pay. A contractor can charge an hourly, weekly, monthly, or annual rate. Alternatively, the contractor can charge a flat rate for the job. The rate that will be appropriate depends on the nature of the work and the length of the contract.
If the parties agree to an alternative form of payment, select "other" in the questionnaire and describe the compensation (e.g., the customer pays the contractor $10,000 plus 500 shares of stock).
Also, state if the amount includes sale tax or whether the tax will be added later.
Retainer
State the retainer amount if you wish to include one.
A retainer, also called a deposit, is a sum of money that the contractor receives from the client before completing any work. It acts as security or collateral for the delivery of a service. A retainer is usually 10 to 50% of the total contract amount, depending on the customer's trustworthiness and financial stability.
Payment Schedule
Describe when the contractor receives payments from the customer.
A customer can pay a lump sum when the contractor finishes the job or create a payment schedule (e.g., every week, two weeks, or month).
Late payments
Set a deadline so the client knows how much time they have to pay the contractor after receiving an invoice. The typical time frame for payment is 15 to 30 days. The contractor can then apply an interest rate to any late payments.
Reasonable late fees go up to 25% per year on unpaid sums. Some states don't allow interest rates above a specific percentage. Check with your state government about interest rate caps.
5. State the agreement’s terms
An Independent Contractor Agreement must cover the terms and conditions of the contractor’s and client’s working relationship.
Terminating the contract
If the option to terminate the contract early is something that both parties agree to, state how much written notice is required to end the agreement.
One week's notice is usually sufficient for most short-term contracts. However, it's better to require at least 15 to 30 days’ notice if the agreement extends beyond a few months.
Reimbursing expenses
There might be situations that require the contractor to use their own money to keep a project progressing (e.g., gas money for traveling or hotel accommodations).
State whether the client will need to reimburse the contractor for work-related expenses. If they do, describe the guidelines for any additional costs. For example, the client will likely prefer the contractor seek pre-approval before doing any additional spending.
Intellectual property
Intellectual property is any work that is a "creation of the mind." For example, any original music, logos, blueprints, and software is intellectual property. Sometimes this will be applicable to a service contract.
Specify who owns the intellectual property created during the project.
Confidentiality
You might need some confidentiality guidelines if the contractor is privy to a client's personal or business information. If the agreement requires confidentiality clauses, specify how long the information must remain confidential.
6. Include any additional clauses
Clients and contractors have the option to include additional clauses in their agreement. Some people might address factors like:
- Indemnity
- Return of property
- Liability
- Legal expenses
Adding these terms is optional and depends on your situation.
7. State the signing details
State the date the parties will sign the Independent Contractor Agreement and whether any witnesses will be present.
If you’re unsure when the parties will sign the document, you can provide the date later. A blank space will be available at the bottom of your agreement.
Confidentiality is a concern for customers when hiring independent contractors to carry out a service. It's crucial to ensure any private information, intellectual property, or trade secrets exchanged during the project remains confidential.
Clients can include terms to prevent a contractor from divulging information about their business in a contractor agreement. A contractor will breach the contract if they don't comply with its terms. There are also terms about non-solicitation and non-competition in the event conflicts of interest or risk of competition arise.
Who is the copyright owner of intellectual property created by an independent contractor?
According to U.S. copyright law, the copyright owner is the person commissioning the work (the client) that results in intellectual property. The person who creates the work (the independent contractor) in a "work for hire" situation isn't the copyright owner unless the Independent Contractor Agreement specifies otherwise.
You can tailor contractor agreements so that the contractor retains complete ownership of the intellectual property but gives the company license to use the material.
Are Non-Compete Agreements enforceable for Independent Contractor Agreements?
It’s unlikely that a Non-Compete Agreement will be enforceable as part of an Independent Contractor Agreement.
Non-compete clauses are designed to prevent executive level employees or former partners from gaining an unfair competitive advantage against their former employer by using information gained through working in that business. However, it’s in the nature of independent contractors to seek work with different clients.
An enforceable Non-Compete Agreement needs to be reasonable in time, space, and scope. Putting any restrictions on an independent contractor's ability to find work will likely be deemed unreasonable.
