Bringing on the right individuals with the necessary skills and experience is a key goal of any hiring manager—and work for hire can come in the form of paying contractors or taking on long-term employees. Contractors work for themselves and are paid to provide their services for specific projects or for agreed-to amounts of time. Employees, on the other hand, are on the company payroll and are typically provided benefits such as healthcare and retirement plan options.
Sometimes, it makes sense to convert existing contractors to full-time employees. Calculating the appropriate compensation involves identifying the differences between contractor rates and a full-time salary, as well as accounting for additional benefits and tax liabilities. Below, we outline how the two types of payments differ and offer some resources for determining an appropriate conversion.
The simplest answer for how salary and contractor rates compare is that contractors generally earn more. The more complex answer is that there are a variety of reasons why, and they can vary based on the individual and their contract. Salaried employees receive training and benefits that have cash value and should be considered part of their compensation.
Contractor and employee pay can differ significantly due to the benefits they receive and additional costs. Someone who works as a contractor is considered self-employed, which has significant implications. For example, contractors own the tax liability for their income. Rather than having taxes deducted from a paycheck, contractors need to keep records of what they’ll owe at the end of the quarter or year. There are some potential benefits of this. A contractor has the right to make tax deductions from their earned income for the costs of doing business. Applicable deductions vary based on tax law but can include new equipment used for business purposes, travel expenses, and meals. If managed well, this can lead to a significant decrease in tax liability for the individual.
One disadvantage of contractor work is the lack of benefits guaranteed to the individual. While many companies provide employees with healthcare benefits for both individuals and families, contractors aren’t usually provided with coverage. Similarly, they are responsible for their own retirement investments, whereas a company may provide their employees with a 401k or other investment plan or stock options.
There are other employee benefits beyond compensation for hours worked. Most employees receive paid holiday or vacation hours, and some companies provide paid time off for sick days, family obligations, bereavement, and even jury duty. While contractors can decide when they want to take on jobs, they aren’t usually given guaranteed time off while still being paid.
As you can tell, there are benefits of employment that aren’t given to contractors. As a result, contractors need to charge more for their work to make up the difference in compensation and cover their costs. It also means that converting contractors to employees can be enticing for the individual who will be getting those additional benefits if they accept the offer of full-time employment.
Knowing how to decide on a suitable salary requires balancing the various elements discussed above. A per-hour rate for a contractor and employee can vary significantly since contractors typically have additional tax obligations and responsibilities for covering their benefits and operational costs. A good starting point is to determine the hourly rate, then factor in how additional onboarding and employment costs may affect that number.
Start by taking a rough estimate of the number of hours you expect employees to work. As an example, if your salaried employees work 40 hours a week, multiply this by 52 weeks in a year to get 2,080 hours. Multiplying this by what a contractor is compensated per hour will give you a starting point to then adjust based on any additional costs to you.
Remember that benefits have value and count as employment expenses. Consider the amount of vacation time and other paid time off that you’ll be providing. Parental leave and sick time can be great incentives for keeping employees long-term, and employers often want to go above and beyond the minimums required by state and federal law.
The costs of health benefits packages, such as medical plans, dental plans, and other contributions, must also be considered. Retirement planning accounts need to be factored in as well. These costs are often shared between employees and their employers, especially when a company sponsors the health plan or provides retirement contribution matching. Employers also need to account for guaranteed bonuses, but this category may not apply to every position. Lastly, consider your tax liability for the employee and onboarding costs such as training.
The final sum may seem steep, but the cost of good benefits is often cheaper than having to re-hire and train new talent when an employee leaves because they’re unhappy with their compensation.
Armed with this information, you can perform a cost-benefit analysis. This may determine that converting a contractor to an employee can lower your overall per-hour costs while also providing the employee with reliable benefits, ending in a net positive for all parties.
Need help converting contractors to full-time employees? Or making sure you’ve classified your contractors properly?
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