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Create a great independent contractor agreement: A step-by-step guide

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November 11, 2020
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Among all the shifts happening in the modern workforce, such as remote work and the gig economy, hiring independent contractors is also surging, especially in the United States. Independent contractors, sometimes also called freelancers, provide goods and services to other entities as non-employees. Many services that could prove vital for your business, such as app development, software engineering, content writing, or graphic design, can be obtained by hiring contractors.

These are experienced professionals whose credentials and portfolios you can review before deciding to grant them the job. Finding contractors is an easy task, with hundreds of websites available to browse. Nowadays, you can hire contractors from overseas and make sure you get the best possible talent for your project, regardless of the worker's location.

We recently covered the topic of independent contractors in-depth, but today we want to focus on independent contractor agreements: what they are, what they need to convey, and how to create one.

What is an independent contractor agreement?

An independent contractor agreement is a document outlining the business relationship between a hiring company and a contractor (or, in cases, a freelancer). It is a legal document that enables both parties involved to cover the base of their working relationship, avoid misunderstandings, and manage expectations. The agreement should cover the scope of work, deliverables, payments, deadlines, confidential information, and any other details of the independent contractor relationship. Since contractors are independent workers, hiring companies cannot supervise their working hours, the way they get the job done, or prevent them from taking on other clients.

Do I need an independent contractor agreement?

If you are a contractor working for clients, or a company hiring freelance workers for short-term services, you need a contractor agreement. It is especially beneficial if you employ international contractors. The agreement serves the purpose of protecting business interests on both sides, making sure the client gets the service they asked for, and the worker gets paid according to the agreement.

In the case of an Internal Revenue Service (IRS) audit, having the agreement ready and on-hand is beneficial for both parties.

The purpose of the independent contractor agreement

If your company decides to hire an independent contractor, having a written contract is mandatory for bookkeeping and tax purposes. Unlike an employment contract, the independent contractor agreement needs to specify the services or projects the worker is doing for you and the duration, deadline, and desired outcome of such services. For example, let's suppose you hire a freelance graphic designer to create a website for your company. The contractor agreement needs to specify the deadline for completion, the payment rate, deliverables, their due dates, as well as guidelines for what the website needs to look like.

The IRS in the United States is on the lookout for companies misclassifying employees as contractors, so a well-drafted contractor agreement can help prove you indeed hire independent workers within the confines of the law.

Contractor agreements are not always easy to make but can save both parties from legal, material, and job-related headaches. You need to understand the intricacies of local labor laws and regulations, especially if you are hiring foreign independent contractors. You should invest time and draft a tailor-made contractor agreement for each project you undertake or hire for.

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Elements of a good independent contractor agreement

Creating a clear, concise, and mutually beneficial document means paying attention to the content of the entire agreement. It is a good idea to consider the scope of work and the needs you have as a client and measure them against the contractor's interests and workload. The contractor agreement should cover the following aspects:  

General information about the client and the service provider

The contractor agreement should have an introductory paragraph outlining the person or company hiring someone for a task and the person or entity providing it. This paragraph should also contain the information of both parties, such as legal names and addresses.  

Scope of work

The next clause in the document is the detailed description of the service, task, or product being procured. On the client's side, creating a good brief is necessary for this step. With a solid brief detailing your expectations from the independent contractor and the work product, misunderstandings will be minimal, and the speed and quality of work will increase.

A pro tip: make sure to include a paragraph about the nature of the independent contractor relationship. Including this clause will make it clear that the agreement doesn't form a joint venture or partnership and that the service provider has the independent contractor status.

Compensation for the service provided

The agreement needs to specify how much the contractor will be paid, whether the payments will happen in installments, and details around the payment frequency. For example, if the payment is dependent on deliverables, the contract needs to note that, as well as due dates for those deliverables.

Effective date of the agreement

The effective date is the date of the beginning of the agreement and the work in question. It is an integral part of the document since it clarifies the actual start of the business relationship and contract provisions.  

Benefits and liability exclusion

Although it may seem evident that the contractor is not the client's employee, it should always be noted in the contract that independent workers don't have the usual employee perks. In this paragraph, you can outline that the client doesn't pay for the contractor's social security, Medicare, worker's compensation, sick pay, vacation pay, pension, etc. The client does not withhold FICA from the payments made to the contractor. The independent contractor is responsible for paying their state and federal tax, income taxes, self-employment taxes, and other expenses in compliance with the law.

Permission to hire subcontractors

This part of the agreement should specify whether the contractor has the right to hire assistants as subcontractors. The client should give prior written consent for such hiring. This clause should also note that the contractor is responsible for paying the assistants and their taxes, freeing the client from any financial liability. Basically, this is the part of the contract that emphasizes that even if the client agrees for the contractor to have assistants, they are the contractor's sole responsibility. Compliance with the contractor agreement should extend to subcontractors as well, and that clause should be clearly stated in the document.

Termination of the agreement

Although the contractor agreement is usually based on the worker delivering a specific product to the client, the termination of the agreement will probably be tied to the completion of deliverables. However, sometimes an independent contractor is hired long-term and in this case, the document should state the conditions for termination of this agreement, along with the days of written notice for termination.

Indemnification clause

The indemnification clause covers the client's liability for any fees, costs, and judgments against the contractor. It states that the contractor agrees to indemnify the client for all losses and claims that result from the contractor's actions. The clause mainly serves to protect the client from legal consequences for the acts of their contractor.

Severability

The severability clause should say that if any provisions of this agreement become unenforceable or invalid, it doesn't influence the rest of the contract. This means that both parties protect their agreement through this section by making sure it is still valid even though some parts of it may stop being so.

Governing law

Governing laws or applicable laws is the paragraph stating that laws of the state or country of choice will apply to the agreement if legal trouble arises during the term of this agreement. This is an important element, especially if the parties involved are not in the same country. Although the governing law is usually the same as the contracting side, the parties could decide together on which laws will be applicable in case of legal issues.

Waiver clause

The waiver clause serves as proof of releasing any rights in the business relationship between the hiring company and the contractor. Although it's standard practice, this needs to be done in writing.

Liability insurance

This section should indicate that the contractor is required to have their own liability insurance for the business and that the client is not responsible for covering the contractor with their insurance policy.

Warranties and professional capacity

When you hire contractors, you should be able to count on their capacity and capability to complete the job you entrusted them using their own equipment and means. The warranties and capacity section is one of a few essential provisions in independent contractor agreements. The contractor agrees that they have the capacity, methods, and equipment that warranties they will fulfill the task.

Intellectual property and ownership

Working with contractors or freelancers implies the need to have clear boundaries over who owns the project's end result. If ownership over any intellectual property developed by the contractor for the client belongs to the client, it needs to be outlined in the contract to avoid any legal battles, as the laws around this differ per country.

Confidentiality agreement

Whenever you hire an external worker to work for you, you will likely have to share some confidential business information with them. This may cause you discomfort since you don't always have established relationships based on mutual trust. To mitigate this risk, make sure you include a confidentiality clause in your contractor agreement. In this section, you should clarify what constitutes confidential information; examples include patent rights, copyrights, trade secrets, marketing plans, business strategy, customer databases, etc. After defining and outlining what you consider confidential, the contractor should agree to not divulge or disclose this information to any third parties. Breaching a confidentiality agreement can be a cause for terminating the contract.

Hiring independent contractors as a US company: Obligations checklist

When you hire independent contractors or freelancers, despite them being self-employed, you need to fulfill certain obligations in case of an IRS audit.

Tax forms for independent contractors

If the contractor is based in the US, they should fill out Form W-9 and send it to you along with the signed agreement. If the contractor is based outside of the US, they will need to fill in Form W-8BEN to prove they are not US tax payers.

On the other hand, if the client pays a contractor more than $600 within a year, a 1099-MISC form is needed. This form is submitted to the IRS and a copy is shared with the contractor.

Record-keeping

Your obligations also include saving and keeping all documents and records, which will come in handy if you have to prove that the worker was a contractor and not an employee. This means that apart from the contractor agreement, you need to keep all invoices and payment information.

If, at any moment, you are unsure whether the contractor you are hiring could qualify as an employee in the eyes of the IRS, you can submit Form SS-8 and determine the worker's status.

Why using a template agreement is a bad idea

A basic internet search will give you thousands of free independent contractor agreement templates, yet you shouldn't always resort to using them for several reasons. First of all, not every template will work for your specific needs and those of the contractor. Secondly, sample independent contractor agreements are not considered best practice because local labor laws differ for each country - as you can see in examples here and here. Having a generic template could expose you to major misclassification risks, resulting in penalties, and even lawsuits.

Sounds like too much work? Deel can help!

We hope these guidelines were useful, and you will be able to create a great independent contractor agreement, or at least understand the elements better. Creating an iron-clad contract can take time, but it is most certainly work the investment.

If you are considering hiring independent contractors for your business, Deel can help you streamline the onboarding process by offering you localized contracts, tax form collection, and the best payment experience for both you and the contractors. Schedule a product tour with a specialist to learn more.

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