Independent contractors are defined clearly by the IRS as business owners or contractors who provide services to other businesses. Independent contractors make up just over 7% of the workforce, and this group is growing.
A formal independent contractor agreement is vital for protecting your business, managing expectations, and avoiding any disagreements during your relationship. Many business owners create one standard contractor agreement that can be customized for each role. Here are some important sections to include in your basic independent contractor agreement.
Why do you need an independent contractor agreement?
An independent contractor agreement benefits both the business and the individual being hired to do the work.
A formal agreement outlines deliverables, deadlines, and pay rates. For the business, an agreement helps your company comply with labor laws and avoids misclassifying the worker as an employee rather than a contractor. Different regions have different labor laws, especially when it comes to taxes. It’s important to include language in your agreement that acknowledges this person is an independent contractor who is solely responsible for their own taxes and benefits.
Likewise, the agreement delineates the work arrangement clearly for the IRS. “If your relationship with your contractor starts to resemble an employee/employer relationship, you may create a misclassification risk. This can have serious consequences for your business, including penalties, fines, and reputational damage,” wrote Remote. “A formal agreement helps to avoid this.”
For the contractor, the agreement clarifies the scope of work and payment terms. If there’s ever a dispute over the work product, the agreement can be used to settle the disagreement or aid you if you take legal action.
[Read more: How to Write a Business Partnership Agreement]
Sections to include in your contractor agreement
It’s best practice to write a standard agreement or a template that you can customize as needed. Include the following sections to ensure you cover the important aspects of working together.
Scope, deliverables, and timelines
The core of your agreement should address the scope of work, deliverables, and deadlines for the project. A scope of work includes the specific activities and tasks for which the independent contractor is responsible. Make sure you cover:
- The specific services that the contractor will provide.
- The expected outcomes, documents, or products.
- Quality standards and expectations of acceptable work.
- Milestone dates and final deadlines.
- Metrics for success upon project completion.
Include the purpose of the partnership, the work that will be completed, and the duration of the agreement. “Specify whether the project has a fixed timeframe or is intended to be a longer-term engagement,” wrote MBO Partners.
Roles and responsibilities
Use this section to clarify that the person is an independent contractor, not a full-time employee. This section is also where you define the responsibilities of the contractor versus your team: who approves the deliverables, who assigns the work, and the preferred methods of communication for each side. By providing this structure up front, you can set your contractor up for success and ensure they understand the work they are to perform and when their deadlines are.
A formal independent contractor agreement is vital for protecting your business, managing expectations, and avoiding any disagreements during your relationship.
Payment terms and expenses
Typical payment terms are net 15 or net 30, although some contractors ask for vet seven or upon receipt of invoice, depending on the type of work they provide. It’s entirely up to the contractor and the business to negotiate the payment terms, but make sure you put it in writing, as well as the method of payment.
“Whether it's via ACH, pay card, or an electronic payment method, this should be laid out in the agreement,” wrote ADP.
This section is also the space to clarify if and how the contractor will be reimbursed for expenses over the course of the agreement. For instance, if a contractor manages a budget on your behalf, how will spending be approved? What transactions require receipts — every purchase or those over a certain dollar value?
Some contractors will also ask to include language to cover late payment penalties. States and some cities have enacted specific laws that define payment terms and penalties for late or nonpayment to independent contractors, but these laws vary widely. Make sure you consult with an expert for your specific area.
IP ownership, confidentiality, nonsolicit, and nondisparagement
Independent contractors work with many different clients. As such, you might want a confidentiality statement in your agreement to protect your intellectual property (IP). Even if your project doesn’t include proprietary information, it’s worth including a clause to define ownership of the work delivered.
“The agreement should specify that all work performed by the contractor on behalf of the business, and any and all materials and information shared while working for you, remains confidential, and that this is a legally binding agreement to do just that,” wrote MBO Partners.
Noncompete clauses are usually avoided by independent contractors. “[You] may want to insert an exclusivity clause, which restricts the contractor’s ability to work with other parties during the contract period. However, the contractor is under no obligation to sign this, and may opt to refuse,” wrote Remote.
You can ask to include a nondisparagement clause, however. These clauses typically cover negative statements that target the company’s reputation regardless of whether the statements are true, false, factual, or opinion-based. Some states don’t allow fnondisparagement clauses, so check with an expert before including them in your agreement.
Termination clause
Finally, it’s worth including a termination clause as a stopgap if something goes wrong. Some termination clauses simply state that the agreement is over when the work is complete.
If the work is ongoing with no defined term, then you might state that the contractor or business can terminate the agreement at will. Outline if there is a notice period, how notice can be provided, and specify a structured exit plan in case you need to terminate the arrangement based onr poor performance.
1099 and misclassification risks
Misclassifying employees as independent contractors is a violation of the Fair Labor Standards Act. A misclassification can result in severe consequences for your business, including:
- Wage law violations.
- Fines for failing to pay Social Security and Medicare taxes.
- Penalties for failing to pay state unemployment insurance.
- Unpaid workers’ compensation premiums.
- Antidiscrimination violations.
- Improper exclusion from benefits.
Misclassification is surprisingly common, and costly. “An analysis from the National Employment Law Project focusing on state-level reports on misclassification estimated that as many as 10–30% of employers misclassify their workers,” reported the Economic Policy Institute. Penalties vary by state; in California, businesses pay anywhere from $5,000 to $15,000 per violation and an additional $10,000 to $25,000 for repeated willful misclassification, according to one report.
To avoid these risks, make sure your agreement spells out tax and legal liability. Include language that says the contractor is responsible for filing and paying their own state and federal taxes, getting their own insurance, and paying for their own benefits and healthcare.
“The agreement should also clearly state any liability that your business won’t be held responsible for, such as any damages or losses that result from the independent contractor’s actions or omissions. This can include liability for things like property damage, personal injury, or third-party claims,” wrote Remote.
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