In the United States, Contingent Worker Payroll refers to the tasks a company must execute to ensure temporary W2 Workers and 1099 Independent Contractors (ICs) are paid correctly and on time in accordance with their contract or Statement of Work (SOW).
The contingent workforce is on the rise as the employers take a more flexible approach to employment. In fact, a recent Gartner survey revealed that 32 per cent of companies in the United States are replacing full time employees with contingent labor as a cost-saving measure.
The truth about the contingent workforce
Yet, while engaging contractors comes with many benefits, operating a contingent workforce payroll program, regardless of your program model, is often complex and confusing to employers who must stay compliant or risk legal, financial and reputational damages to their company and employer brand.
As such, if your company is considering engaging contractors, it's critical to understand the legal and tax obligations that come with operating a contingent workforce and the common misconceptions surrounding contractor payroll.
Contingent worker payroll 101 U.S.
Contingent workers can go by many different names - temporary workers, gig workers, contingent labor, Independent Contractors, freelancers, temporary talent, contractors or pre-identified contractors; yet they all refer to the same type of non-traditional worker.
However, depending on the method in which the worker is engaged to perform the work - whether directly sourced through the company itself or by way of a third party, there exists separate obligations to workers when it comes to payroll.
Contingent workers: What's the difference between Temporary W2 workers and 1099 Independent Contractors?
Specifically, a W2 temporary worker is employed by the MSP or staffing firm that engaged that worker, while an Independent Contractor is self-employed. Many companies in the United States operate a contingent workforce that engages both temporary W2 workers and 1099 Independent Contractors. Below is a breakdown of the differences between the two contingent worker types:
Temporary W2 Workers
These types of contingent labor are typically highly skilled or niche workers who are engaged at companies for specific projects or roles. Temporary W2 workers are contingent workers that are engaged through a third-party agency such as a Master Services Provider (MSP) or a staffing agency.
As such, these contingent workers are considered to be employed by the third-party and are legally entitled to certain benefits from these organizations as the legal employer of the worker.
These contingent workers can count towards the total number of employees the client company employs, as such, these contingent workers are considered when determining if the client company is covered by laws such as the Family Medical Leave Act (FMLA).
1099 Independent Contractors
These contingent workers are self-employed and are not employees; therefore, companies are not responsible for the withholding, collecting or paying of taxes nor any other payments afforded full-time employees or Temporary W2 workers.
How to determine whether your workers are contingent workers vs. traditional employees
It's critical that business owners correctly assess whether the individuals providing services are employees, or contingent labor such as temporary workers or Independent Contractors.
The determination of whether a worker is an employee or a contingent worker depends upon whether an "employer-employee" relationship exists between the payer and the payee.
The ABC test is a guide for employers to use in the determination of if a worker is considered a contingent worker or an employee in the eyes of the government. Several states require the use of the ABC test—in part or in whole—to determine the status of workers and employees as it relates to the contingent workforce.
Ensuring proper classification and taxation
Engaging contingent labor and operating a contingent workforce also brings risks associated with unintended co-employment and relationship misclassification. The determination of whether a worker is a traditional employee, Temporary W2 worker or an Independent Contractor depends upon whether an "employer-employee" relationship exists between the payer and the payee.
Co-employment risk is the term used to refer to situations where two or more organizations exert some level of control over a worker, and are therefore are considered to have employer obligations toward the employee. Co-employment risk can often exist when organizations use staff that are provided by third parties.
Misclassification happens when an organization incorrectly identifies the relationship that exists between them and the contingent worker. This serious mistake can result in hefty penalties for the company and back payments to the worker.
Two keys factors involved in making this determination are the amount of control and independence in the relationship.
As many states are currently under the gun financially with the less than expected tax income, it's predicted that many companies will look to enforcement as a good area to increase this income. Misclassified contingent workers are a prime target for payroll taxes, fees and fines. Having a partner who understands the legal landscape protects you from these unexpected costs.
Payroll taxes: Employer obligations to Temporary w2 Workers and Independent Contractors
Temporary W2 Worker obligations
Many companies outsource the management of their contingent workforce in part or in full to an MSP or staffing agency. As such, the third-party organization is considered the 'employer' and is responsible for payroll processing and tax payments.
The third party will invoice the client company for that worker's wages, taxes and other administration fees. This invoice is recorded in the company's books and without the obligation to file taxes, compensation insurance or other Human Resources costs.
Technically, the official employer of a Temporary W2 worker is the third party.
Independent Contractor employer obligations
Other times, companies will also engage contingent talent independently of a third party, these workers are considered Directly Sourced and must be paid through the company's internal contingent workforce payroll program.
When operating a contingent workforce payroll program, companies are not responsible for withholding government taxes from Independent Contractors or providing them with benefits.
Tax forms for Temporary W2 workers and Independent Contractors
Temporary W2 Workers tax forms
For Temporary W2 workers, the MSP or staffing agency that engaged the worker on behalf of the client organization where the work is being completed is required to give these workers a Form W-4 to complete in order to determine the amount of federal income tax to withhold from payroll. Companies must make sure to provide these forms to Temporary W2 workers no later than the end of January each year in order to file their tax return with the IRS and applicable Agency. Employers are also required to file the W-2 with the Social Security Administration.
Independent Contractor tax forms
For Independent Contractor Payroll, employers are required to provide contractors with a Form - 1099 to complete. Independent Contractors must include his or her name and taxpayer identification number on the form.
However, In the United States, any company or organization engaged in a trade or business that pays more than $600 to an Independent Contractor in one year is required to report this to the Internal Revenue Service (IRS) as well as to the worker, using Form 1099-MISC.
Cost saving benefits of a formal contingent workforce payroll program
Managing vendors from a central data hub allows employers to save on costs in many ways. With VMS technology, business owners can:
• Tap into talent pools already within the system - saving on additional recruitment costs and time to hire,
• Better manage payroll and flag errors in overtime pay and higher than usual rates,
• Provide insights into rate cards in order for employers to make better data-driven hiring decisions.
• Pay rate negotiations that lead to savings on overhead, onboarding and even training, as well as reducing or eliminating the amounts an employer would pay in taxes and benefits for full-time employees. Good negotiations can provide payroll savings from 10 - 15 per cent.
When paying contractors, it's critical to implement payroll solutions that will help engage proven talent and reduce administrative burden- allowing employers to increase the time spent moving business forward.
Performing a Contractor Payroll Maturity Assessment
Performing a maturity assessment of your Contractor Payroll Program is the key to determining whether your organization has the Onboarding, Rate Management, Worker Management and Value Add attributes needed to ensure risk mitigation and really drive cost savings.
We invite you to take a complimentary Contractor Payroll Maturity Assessment below. You will receive feedback on the maturity level of your program and recommendations for improvement.