What’s the Difference Between an Employee and an Independent Contractor?

It can be confusing to tell the difference between an Employee and an Independent Contractor (IC).

Whether you are a business owner, freelancer, or applying for a job, this article can help. You will see a comparison between these terms, and also why they are misapplied in Multi-Level Marketing.

What is an Employee?

An employee is someone who is hired to work for a company. She or he agrees to perform services in exchange for payment. Their performance, methods, and results are closely monitored and controlled by the company.

In the United States, income taxes are withheld by the employer, and the employee is required to submit a W-2 tax form.

Characteristics of an Employee

• Works exclusively for the company.
• Hired on a permanent basis to perform specific duties.
• Performs work that is vital to the company’s daily workflow.
• Works on a schedule set by the company.
• Does not control when, where, and how to perform the work.
• Receives guaranteed payment for hours worked.
• Paid an hourly or annual salary.
• Is paid for vacation and earned time off.
• Is covered by worker’s compensation, health insurance, retirement, and group benefits.
• Is not responsible for calculating or paying income taxes.
• Uses company resources to get the work done.
• Expenses are reimbursed by the company.
• Assumes no personal risk.

What is an Independent Contractor?

An Independent Contractor is someone who agrees to perform services independently. Their performance and methods are not controlled by the company. Continuation of their contract depends on the quality and timeliness of their work.

Independent Contractors are not considered employees. All of their earnings are subject to Self-Employment Tax, and they are required to submit a 1099 tax form in the United States.

Characteristics of an Independent Contractor (IC)

• Has no exclusive agreement; may work for other companies without restriction.
• Hired on a contract basis to perform specific duties.
• Performs work that is not vital to daily workflow.
• Works on a schedule determined by the IC.
• Controls all aspects of when, where, and how to perform the work.
• Payment is not guaranteed, regardless of hours worked, unless the contract is fulfilled (project is completed, sales target reached, etc.)
• Payment is predetermined (by the hour, by the project, or on commission)
• Is not paid for vacation or earned time; no restrictions on time off.
• Is not covered by worker’s compensation, health insurance, retirement, or group benefits and must pay for these independently.
• Is fully responsible for calculating and paying income taxes.
• Uses their own resources and tools to get the work done.
• Expenses are not reimbursed; they are the IC’s responsibility.
• Assumes all risk and financial liability.

Similarities Between Employees and Independent Contractors

Here are a few things Employees and ICs have in common:

• Both produce outcomes at the company’s direction.
• Both are paid for work that generates a profit for the company, not for creating value independently.
• Neither has any ownership or equity in the company.
• Neither has any authority to make strategic decisions for the company.

Comparison of Employees and Independent Contractors

	Employee	Independent Contractor (IC)
Exclusivity	Works exclusively for the company	No restriction; may work for other companies
Work Agreement	Hired to work on a permanent basis	Hired to work on a contract basis
Work Importance	Performs work that is vital to the company’s workflow	Performs work that is not vital to the workflow
Schedule	Schedule is set by the company	Schedule is up to the IC
Control	Has no control over when, where, and how to perform work	Controls all aspects of when, where, and how to perform work
Wage Guarantee	Is guaranteed payment for hours worked	Payment is not guaranteed unless the contract is fulfilled
Payment	Is paid an hourly or annual salary	Is paid by the job, per hour, or on commission
Time off	Is paid for accrued time off	Is not paid for time off
Benefits	Covered by the company	Not covered by the company
Tax Responsibility	Company takes care of taxes	IC is fully responsible for taxes
Resources	Uses the company’s resources to get work done	Uses their own resources to get work done
Expenses	Fully reimbursed based on company policy	Not reimbursed
Risk and Liability	No personal risk	IC assumes all risk

Multi-Level Marketing and ICs

Multi-Level Marketing companies use a business model that relies on recruiting new people to sell their products, and incentivizing those people to recruit yet others to join their “team.”

Rather than being employed by the MLM company, recruits are actually considered Independent Contractors (IC). At sign-up, new recruits are typically charged a fee and receive products and instructions on how to sell the products, who to sell to, and what to say in order to convince others to join the “opportunity.”

The MLM model relies on thousands of salespeople who are paid to generate new sales and to recruit additional ICs.

(Check out Examples of the Sneaky Promises MLMs Use to Attract New Reps)

Many MLM companies encourage their Independent Contractors to call themselves “Business Owners” or “Entrepreneurs,” even though they do not have any ownership of the parent company.

ICs also use a number of other titles such as sales representative, MLM consultant, distributor, member, promoter, and “Consultant.”

(Read more: Which Titles to Use if You’re an MLM or Direct Sales Rep)

Independent Contractors (ICs) who join MLMs and direct sales companies do not have ownership, strategic decision-making, or control in the parent company. At the end of the day, their role is simply to sell products and recruit new members on their team (often called a “downline”).

Although it sounds very attractive to be your own boss in an MLM, the opportunity to grow is actually quite limited depending on the degree of product saturation (too many reps in one geographic area), the quality and durability of products, and the sales conversion rate (there are only so many family members and friends who will want to buy the products).

Independent Contractors do not have the authority to make any changes to:

• the products being sold,
• the price point,
• production quality,
• sourcing of raw materials, or
• customer policies.

Alternatives to Joining an MLM

Rather than joining a Multi-Level Marketing company, a better option is to launch your own independent business.

Here are some ideas:

Design and sell products directly to consumers.
This is a great option for individuals who are creative or enjoy making things that have practical value to others.

Offer freelance services in a niche specialization.
The sky is the limit; there are hundreds of untapped opportunities waiting for the right service to appear.

Work in a contracted sales position for an organization that pays a commission.
In a legitimate sales job, you are paid based on your results and are not required to recruit anyone else (e.g., the MLM model). If you have excellent sales skills and don’t mind frequent rejection, consider working in a role that rewards your assertiveness.

Final Thoughts

Both Employees and Independent Contractors serve important roles in the workplace.

Companies that want permanent, exclusive output can benefit from hiring Employees, but this also comes at a cost of managing a structured schedule (Human Resources) and paying for both salary and benefits.

An Independent Contractor can fulfill specific duties with very little oversight by the organization, but this person is often paid at a higher hourly or project rate and is not obligated to do anything beyond the contracted agreement.

Interested in hearing how you can reduce profit leakage in your business? Find out more here.