Once the US economy started heading south a few years ago, many long-time employees were surprised to find themselves out of work (as corporations downsized or closed entirely). As a result, the workforce environment began to be completely transformed in ways that were not immediately clear at the time. Many people who were unemployed or underemployed found that working for themselves, as independent contractors, could be a way around a depressed job market.

Independent Contractor Development

Typically, the businesses that generate the most independent contractors tend to be real estate (if you rent a house, you might fall into this particular classification), along with agriculture. However, this has changed a bit in the last 3 years. The Economic Modeling Specialist Inc. (ESMI) analyzed data from the past decade and noted that the frequency of 1099 filers increased in all but a couple of states. While US unemployment levels remain above average, it’s not clear that more people are considering independent contractor status if they can’t find other work. One of the reasons for the growth of self-employment is that companies can use contractors often more efficiently and effectively than regular employees, increasing their bottom line. In part, this is because companies spend less on payroll taxes, health care, etc. for independent contractors.

If a bad economy has pushed people to become self-employed, it’s reasonable to consider that these same people may be less eager to continue their 1099 status, should the work climate show an improvement. This potential trend may also be supported by an increase in legislation regulating how independent contractors are treated (the Employee Misclassification Prevention Act (EMPA) is just one example of this).

Accidental business owners

What seems clear is that a portion of the increase in 1099 filers is due to the dismal economic environment. For many, being self-employed seemed like the best way to supplement their livelihood and hopefully earn as much as when they had a traditional job. Needless to say, most of these people became independent contractors out of necessity. Because of this, some did not fully understand the effects and implications of becoming an independent contractor.

While there are undoubtedly rewards associated with being your own boss, many people don’t anticipate that you can make anything from filing income taxes to buying insurance policies more complex and costly if you make mistakes. However, if the financial picture improves a bit and more companies start to replace staff they may have laid off two years ago, cautious independent contractors may seize the opportunity to re-enter the workforce as employees.

Benefits and Disadvantages of Independent Contracting

Whether forced to become an independent contractor due to terrible job opportunities or lifelong aspirations to be self-employed, many people understand the benefits of being their own boss. For starters, many independent contractors ask for rental rates, and due to the fact that contractors are less expensive to hire in general, corporations tend to pay them much more than traditional employees doing the same work. In addition to the traditionally higher salary, independent contractors often have flexible work hours and can even work from home. Additionally, independent contractors find that their dual roles (as employer and employee) give them certain advantages when it comes to things like retirement. For example, independent contractors may be able to put more income into an income tax delinquent account, such as a SEP or individual 401(k), and may even be able to write off a number of income tax expenses.

However, the disadvantages of being self-employed can outweigh the rewards. For starters, companies may dishonestly label people who should be employed as independent contractors, to save money, to the detriment of the independent contractor. Companies do this in an effort to avoid payroll taxes or to avoid paying extra benefits for people who are basically employees. Also, most people who become independent contractors may not immediately understand the distinction between actually being a worker and becoming an independent contractor.

For example, independent contractors cannot get paid family vacations, sick leave, medical health insurance, workers’ compensation, or unemployment benefits, all of which they must finance themselves. Newcomers to independent contracting may be surprised to discover that they are not protected by employer insurance, nor are they qualified for overtime; In addition, they are required to pay double the amount of Social Security and Medicare health insurance taxes (paying self-employment tax). And while we’re talking about taxes, some 1099ers don’t realize they’re going to have to pay approximate income taxes to the Internal Revenue Service each quarter. They may not understand this until late fees and costs have been applied. So it’s obvious why freelance status costs some people much more than they bargained for.

How to reap the benefits of independent contracting

Fortunately for us, the IRS provides details on income tax claims for 1099 filers. One of the main issues for the self-employed is the self-employed income tax, in addition to the necessary periodic invoices of income tax. A great way to get around these issues is to submit a current W4 income tax document to the IRS. A W4 allows independent contractors to calculate how much of their income an employer should take out. It’s relatively simple to order the additional income to be removed and will ultimately be more beneficial than having to come up with money every quarter. Even though the money in each paycheck will be reduced, people won’t have to pay periodic estimates and are less likely to have to pay income taxes at the end of the whole year.

Plus, by effectively taking advantage of the advantages of being self-employed, you’ll save even more on taxes. This is because independent contractors can contribute additional income to pension accounts (often much more than traditional employees can). One method of doing this is with an individual retirement account, which is ideal for the self-employed. In particular, a SEP IRA (Simplified Employee Pension Individual Retirement Account) helps independent contractors who generate pre-tax deposits, reducing their taxable income. If the self-employed start a SEP IRA program, all workers should have exactly the same benefits; For a good number of independent contractors, they are their own boss and employee, so it works well. The contribution cap is $49,000 and is calculated at 20% of adjusted earnings.

An added benefit of being employed as an independent contractor is being able to write off specific organization-related expenses (such as a business home office or travel costs) at the end of the entire year. This can be tricky, and declaring specific breaks can attract government auditors, therefore it is suggested that you be guided by an income tax specialist.

In the long run, for people caught up in the surge of independent contractor status, you may be surprised at how expensive becoming self-employed can be. With the improving economy and new job opportunities, now might be the time for certain people among the ranks of the self-employed to look for long-term occupations. The transition back to a traditional employee can provide specific advantages that the intangible advantages of becoming self-employed simply cannot outweigh.