Becoming an Independent Contractor: Part 1 - Taking the First Steps | Finance from AllBusiness.com
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Becoming an Independent Contractor: Part 1 - Taking the First Steps

With few business sectors spared the impact of the recession and many employees facing layoffs, the thought of becoming an independent contractor, consultant, or freelancer is an increasingly attractive option for many professionals. But as an independent contractor, you are now responsible for paying your own taxes, Social Security, unemployment taxes, workers' compensation, health insurance, and other benefits. You will also have to enter into contractual relationships with your clients that are quite different in nature to regular employer/employee relationships and obligations. The government provides a great deal of guidance for independent contractors on these topics.

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With few business sectors spared the impact of the recession and many employees facing layoffs, the thought of becoming an independent contractor, consultant, or freelancer is an increasingly attractive option for many professionals.

There are, after all, huge advantages to being an independent contractor. At the same time many independent contractors find themselves working even harder than they did in a full time job, without the reliability of a steady paycheck and benefits.

If you are not sure that being an independent contractor is right for you, it’s worth taking time to complete this quick Start-Up Assessment Tool. In an interactive survey format, it’s designed to help you better understand in less than five minutes whether or not you’re ready to take the plunge.

If you find that you are ready, there are a handful of things you should know right off the bat.

As an independent contractor, you are now responsible for paying your own taxes, Social Security, unemployment taxes, workers' compensation, health insurance, and other benefits. You will also have to enter into contractual relationships with your clients that are quite different in nature to regular employer/employee relationships and obligations.

The government provides a great deal of guidance for independent contractors on these topics.

Paying Your Taxes

This is one of the biggest adjustments independent contractors face after leaving full time employment for another company.

Independent contractors must pay federal taxes on income and FICA (Medicare); your client will not withhold taxes for you. As a contractor you will need to pay estimated taxes throughout the year instead of once a year on April 15th like employees do. It’s a good practice to put earnings aside each week, in a separate bank account if possible, to cover your estimated tax payments.

To get a good understanding of your tax obligations and specific requirements for independent contractors, bookmark the Business.gov 2009 Small Business Tax Center. From here you can find all the resources to help you understand how to pay federal and state taxes as an independent contractor.

Understanding Expenses and Deductions

If you are an independent contractor, it is worth taking the time to get a good handle on this area of tax law. Since most of your business costs are coming straight out of your pocket, knowing what can be expensed or depreciated is a must.

Read my blog post - Tax Deduction 101 for Small Businesses - to find out what you are eligible to claim. Or get comprehensive guidance for the self employed business owner here.

Making Sure Clients Classify You as an Independent Contractor

Because you or your client calls you an independent contractor doesn't mean that you one. There are legal requirements that classify workers into employees and independent contractors. Before starting your first job (or even your next one), it's important to become familiar with these distinctions.

As an independent contractor you do not have the same legal rights and protections as employees:
  • You are paid for the work performed. Your clients are not required to  pay overtime and minimum wage
  • You are not covered under your clients' workers' compensation benefits
  • You are not entitled to receive your clients' employee benefits
  • You are not covered under Equal Employment Opportunity laws as they apply to your client's relationship with its employees
  • Your taxes are not withheld and paid by your client, including income, FICA and unemployment
If your client misclassifies you as an employee, they may be required by pay back taxes and provide employee benefits, workers' compensation, unemployment, and more.

To find out more about these topics take a look at the advice and resources on Business.gov’s "How to Become an Independent Contractor" online guide.

In my next post I'll cover a point that may not be obvious - as an independent contractor, you're now becoming a small business owner - and I'll explain some of the regulatory obligations you'll need to be aware of as a new business owner.

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