Key Takeaways

  • Independent contractors operate independently and are not company employees.
  • They determine how and when they work, often using their own tools.
  • Independent contractor salaries are based on project, hourly, or milestone payments—not a fixed salary or benefits.
  • Contractors must manage their own taxes, benefits, and insurance coverage.
  • Comparing independent contractor pay to employee salary requires considering taxes, overhead, and unpaid benefits.
  • A W-9 and contract (ideally written) are required before making payments.

What Is an Independent Contractor?

An independent contractor is an independent business owner who works on a contract basis doing work for a company. Independent contractors are not employees of the company they are doing work for nor are they under the direct control of the company. Anyone who is not an employee and doing work for your company could be considered an independent contractor. It is possible you may or may not have a written contract with the person or the company doing work for your business.

The Internal Revenue Service determines if a worker is an independent contractor or an employee based on the amount of control the person has over the work, the time of the worker, and the type of work being done for the company. Independent contractors are not eligible to receive worker's compensation coverage. State laws do not require employers to purchase coverage for independent contractors.

Whether there is a written or unwritten contract, independent contractors determine how a service is provided, who provides the service, and how the service will be accomplished. They work independently and free of the control or direction of the employer.

There are several ways an independent contractor can be identified:

  • Independent contractors generally provide the equipment necessary to do the job.
  • Consider the skill level necessary for the job.
  • Independent contractors tend to work for more than one company.

Independent Contractor vs. Employee: Key Differences

Understanding the distinction between an independent contractor and an employee is crucial to avoid misclassification issues that could lead to tax penalties or legal consequences.

Key differences include:

  • Behavioral Control: Employees follow company instructions on when, where, and how to work. Contractors decide how they accomplish tasks.
  • Financial Control: Employees have expenses reimbursed, while contractors typically cover their own business costs.
  • Relationship Type: Employees often receive benefits and have ongoing relationships with employers. Independent contractors have limited or project-based relationships.

The IRS and Department of Labor consider multiple factors in classification, including the degree of control, independence, and permanency of the relationship​.

Hiring an Independent Contractor

Hiring an independent contractor is similar to the process of hiring an employee, but when it comes to compensation, the similarities end. Contractors are paid based on the successful completion of the work at a set fee versus a flat 40-hour work week, for example. With no benefits involved, compensation for an independent contractor is based on the value of the work alone.

A contractor will present their own salary breakdown, which may be by the hour, by the quantity, by the piece, or by the entire project. In this aspect, independent contractor salaries are negotiable. To keep the pay competitive by looking at the pay rates for someone hired to do the same job, check the applicable region at the website for the Bureau of Labor and Statistics.

How to Evaluate an Independent Contractor Salary

Evaluating an independent contractor salary involves more than simply comparing hourly rates to an employee's wage. Contractors absorb costs that full-time employees do not, such as:

  • Self-employment tax (15.3%)
  • Unpaid benefits (health insurance, retirement plans, paid leave)
  • Overhead expenses (tools, software, internet)
  • Administrative costs (invoicing, legal, accounting)

When comparing offers or setting contractor rates, use the following formula:

Employee hourly wage × 1.5 to 2.0 = Comparable contractor hourly rate

This accounts for the added financial responsibilities a contractor bears. For example, if a salaried employee earns $100,000 annually (roughly $48/hour), an equivalent contractor rate might range between $72 to $96/hour​.

Paying an Independent Contractor

Three things are required before you begin paying an independent contractor:

Once the contract worker is hired, before they can be paid you must have a Request for Taxpayer Identification Number and Certification (Form W-9) form signed by the worker. The form identifies the independent contractor using the tax identification number and provides additional information needed to complete payments and submit to the IRS.

Independent contractors may be paid on an hourly basis, such as a computer programmer working on a series of tasks. Contractors may also be paid for work completed or by the job. An example would be a blogger who is paid by the number of blog posts written whereas a cleaning service is paid a set amount for cleaning an office.

Either way, the pay rate is determined in the contract, which may be verbal or written. However, written is preferred as all details relating to the payment will be in writing to avoid any misunderstandings. Other terms/conditions pertaining to the payment should be included in the contract. These include:

  • How often is the payment due?
  • What are the milestones for payment? This would outline specific deadlines for work to be completed and a specified amount of pay released.
  • What happens if the work is not completed on time?
  • What happens when the payment is not made on time?
  • What recourse is there if the work is not acceptable?

Independent contractors are responsible for paying their own income taxes and self-employment taxes. So, in most cases, federal or state income tax is not withheld from an independent contractor's pay. In the event the taxpayer ID is missing or incorrect, it may be necessary for you to withhold federal income tax from the independent contractor's payment(s). This is known as backup withholding.

Tax and Reporting Requirements for Contractor Payments

In addition to collecting a W-9, businesses must comply with IRS reporting requirements. Key considerations include:

  • Form 1099-NEC: Required for each contractor paid $600 or more annually. This must be submitted to the IRS and the contractor by January 31 of the following year.
  • Backup Withholding: If a contractor fails to provide a valid taxpayer identification number (TIN), you may need to withhold 24% for federal taxes.
  • Recordkeeping: Maintain clear documentation of all contracts, invoices, and payments.

Employers should also verify that the contractor is not subject to reclassification risks under federal or state laws. A legal review of independent contractor arrangements is advised in ambiguous cases.

If you're unsure about any classification, compensation structure, or reporting requirement, you can find a vetted attorney through UpCounsel to help guide you.

How Independent Contractors Set Their Salary

Unlike employees, independent contractors determine their own compensation structure. The "independent contractor salary" may be influenced by:

  • Market Rates: Based on industry, region, and specialization. Use the Bureau of Labor Statistics or freelance market platforms for benchmarks.
  • Experience Level: Seasoned professionals may command significantly higher rates.
  • Scope and Risk of Project: Larger or high-risk projects often require premium pricing.
  • Deliverables and Timeline: More urgent or complex deliverables may increase rates.

Contractors typically provide quotes in formats such as:

  • Hourly rate (e.g., software developers, consultants)
  • Per-project fee (e.g., designers, marketing professionals)
  • Retainer agreements (e.g., ongoing support or advisory roles)

Negotiating a fair independent contractor salary involves transparency, research, and a mutual understanding of project expectations.

Frequently Asked Questions

How is an independent contractor salary calculated?Contractor salary is usually calculated based on market rates, expertise, and the scope of the project. It typically includes compensation for taxes, overhead, and benefits not provided by the client.

Do independent contractors get benefits?No. Contractors do not receive employer-sponsored benefits like health insurance, retirement plans, or paid time off.

Is a contractor’s hourly rate higher than an employee’s?Yes. To compensate for taxes and lack of benefits, contractors often charge 1.5 to 2 times more than the equivalent employee hourly wage.

Do I need a 1099 for all independent contractors?You must file a 1099-NEC for each independent contractor paid $600 or more in a tax year, unless the contractor is a corporation (with some exceptions).

Can a contractor become an employee?Yes. A contractor can transition to an employee if the business decides to offer full-time employment and both parties agree.

If you need help with independent contractor compensation, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.