Momentum Podcast: 353
Employee Vs Contractor
by Alex Charfen
As an entrepreneurs, you might have a high risk tolerance. In fact, you might be okay with doing things a little on the edge, a little on the gray area. But, there's one place, when you are making the transition from working with contractors to building your team that I think you need to be especially careful.
As a business coach, I want you to be safe, confident and be able to sleep at night. There is a grey area around what the difference is between a contractor and an employee. I work with a lot of entrepreneurs who are transitioning from dealing with contractors to hiring a full-time team and this is a hot topic. I want you to build an empire so if someone is an employee, not a contractor, treat them that way. Don't expose yourself.
Full Audio Transcript
Alex Charfen: As an entrepreneurs, you might have a high risk tolerance. In fact, you might be okay with doing things a little on the edge, a little on the gray area. But, there's one place, when you are making the transition from working with contractors to building your team that I think you need to be especially careful.
I am driving to pick up my daughter at and alternative school that she goes to, so in the background you might hear the, somewhat, pleasing noise of a race car that's legal on the street. I drive a Porsche 911 that's 13 years old, so it's not like it's a car you brag about, but it's been completely customized around me, and it is not normal. It's a little bit different. So, if you hear a little bit of engine noise in the background, I apologize. This car's not quiet.
But, I wanted to just jump on and record this podcast, because over the past couple days, a conversation has been going on in one of my coaching groups, in our billionaire code accelerator group. And the billionaire code accelerator has a lot of entrepreneurs that are making the transition from working primarily with contractors to working towards and hiring team members, and going from having contractors to having full time people. And, there's this gray area, and it's getting less and less gray, but it's definitely a gray area, in fact, even the IRS guidelines leave a lot of gray area between what is a contractor and what is an employee. And, there's been a conversation in that group around why you don't want employees, and why you want contractors, and why you should just call people contractors, and here's the issue with this entire subject, is that I want any of you to know, if you're working in a business where you are treating, where you have miscategorized employees as contractors, it is one of the biggest red flags for the IRS.
And, I want you to know, I've been there. When I was younger, I ran businesses, and everyone was a contractor. I didn't want to have to do all the paperwork to make people an employee. It was so much easier to just use 1099, and thankfully, in my career, especially when I was younger, I never got caught. But, I remember the year where I was working with several businesses, I was actually working with dozens of businesses as a consultant, and several of them all got hit with what's called the employee means test, or in some places ... It's called all different things in different states, but I remember three or four businesses that I worked with got hit all at the same time, and I watched these businesses struggle like crazy. Because, when you have ... Here's the scenario. You have someone who's working with you full-time. But, they're working out of their house and they are you don't have them classified as an employee, and they're not working for anybody else, and so you call them a 1099 contractor.
And, so many entrepreneurs do this. It's very common to do. In fact, it's one of the more dangerous questions that gets asked in a master mind. I've heard people say, "Should I have contractors and employees?" And, I heard people in the audience say, "Oh, you should have everyone be contractors." "Employees are so hard to deal with, and you expose yourself to more liability." Well, here's the other side of that coin that rarely gets shared unless there's an attorney in the room, or someone like me who's watched this happen.
If you misclassify a contractor as an employee, it is a huge issue with the IRS, and all it takes is for somebody who was being paid as a contractor to go apply for unemployment insurance or talk to an attorney, talk to an attorney at a party, have a relative that's an attorney and say, "I just got fired from this job where I was a contractor." And then, have them start asking some questions, and here's the issue. There's twenty different qualifications that the IRS uses, and you can look them up. Look up contractor versus employee and you'll find there's a list of 20 different things that you should look at, but here's the ones that the IRS really leans on, if you have somebody whose working with you full-time, if they're not making money anywhere else, if they're showing up to meetings, if they're part of your team, if they've been working with you for awhile, and if most of the people in that type of position in an industry are considered employees, not contractors, you are in a very precarious place.
Because, when you misqualify a employee as a contractor, and the IRS does the means test, or in your state they do the means test, and they find that you've misclassified people, here's what can end up happening. You can go through what's called an employment audit, and they will look at everyone you've ever employed as a contractor and see should they have been a contractor or an employee. And, once you're in an employment audit, there is a bias toward making them an employee. They're not trying to protect you as a employer, they're actually trying to protect the employee because when you have an employee, you're paying part of their taxes. When they're a contractor, they pay self employment taxes and so the states, the government has a bias towards the employee, not towards you.
An so, if you are paying somebody as a contractor and it gets judged that that was the wrong thing for you to do, you can end up with every person you've hired being audited and they'll go back for a period of time. I'm not gonna mention the name of the company, but this recently happened to a gym franchise. As many of you know, I worked with Alex and Leila Hormozi while they were growing Gym Launch, and while they were growing that company, they were actually talking to a franchise owner who ended up in this situation. He had personal trainers who were classified as contractors but they were required to show up for classes, they were on a schedule, they weren't making money anywhere else. They were working with him full-time. They were only being paid for the classes, not the time, and that company ended up with a six figure judgment against it, a large, high six figure judgment against it, and the company went bankrupt.
And, in my career, back when I was consulting and three or four companies I worked with all went through this at the same time, one of the companies didn't have any issues, they really were using contractors as contractors. They had a designer that was designing by contracted price. But then went and applied for unemployment. They had, I think, a couple of other people that were doing the same thing, a salesperson and somebody else, and they did not get in trouble for it. They didn't have the judgment against them, but the other three companies I was working with, had massive judgments against them, and they thought they were safe because people were working out of their house and because they didn't have people in an office, and because they allowed them to be independent, and not have to show up every single day at the same hours and the same time, allowed them to get their work done when they wanted to.
But, the problem is, in those cases, those people weren't working anywhere else, they didn't have a PNL, they were just making money from the business, and they were, essentially, employees being paid as contractors. And, I watched that same scenario over and over again. Now, thankfully, the businesses I was working with back then were able to survive the payments that they had to make. But, here's something that you should just know as an entrepreneur, and really as a human being, especially in the United States, you don't want to owe the IRS money. You do not want to owe your state money. You do not want to get behind in any type of taxes or any type of employment payments, or payments of any kind towards a government agency, because they have tools available to them that feel unconstitutional.
They can just seize your funds. They can seize your assets. They can shut you down. They can take your money. They can come after things, that in most cases would take a lawsuit and a judges order, but when the government decides that they're gonna do something, they can just seize your property. And, I've watched too many business owners get in trouble with cutting corners, and trying to save a little bit of pain and pressure up front in order to not have to have employees, and it just doesn't make sense because today, there's payroll services. We use one called Gusto. I'm not an affiliate. I don't get paid by them. We use them cause they were the simplest one to set up for what we needed, but there's a ton of other ones where they will help you with the payroll. They will help you with reporting.
'Cause, when you look up on the IRS website what it takes to make somebody an employee, it can be overwhelming, but if you hire a service to do it for you, and you pay the person the right way, it costs you a little bit more money, but you are way, way more safe. And, as a business owner, you only have to have a challenge with the IRS or government agency once.
When I was in my twenties, I ended up having the wrong accountant do the wrong type of filing, and I ended up with a tax lien of about 75 thousand dollars, and it was at a time where I had a huge business, but I wasn't making a huge amount of money, and my margins were really tight, and I ended up having to make payments on that 75 thousand dollars over time. And, it was horrible having to talk to an IRS agent and an IRS investigator all the time, and having to make payments to the IRS, and having them follow-up with me. And, I don't want anyone that I've ever worked with to go through that type of pressure.
And, one of the things that I do in my coaching programs, and that we do in our products, is we want entrepreneurs to be safe. We want you to be safe. We want you to feel confident, and we want you to sleep at night. And, if you have team members right now who you've classified as contractors but are probably employees, I want you to know, this is a place where a lot of the states in the country, and the government is trying to replace lost revenue from taxes. Taxes, in a lot of cases, states and governments aren't getting as much money as they need, and so they go out looking for where else can they take on revenue, where else can they make money. Well, one of those places is to go after business owners, and one of the easiest places is through employment audits.
So, don't expose yourself. Treat an employee like and employee. If somebody's really a contractor, treat them as a contractor. If you have people who are on 1099 right now, today, look up the means test. Look up the 20 qualifications, and ask yourself, is that person really a contractor or is an employee. I want you to be safe. I want you to run your business for a long time. I want you to build an empire, and I don't ever want you to have to argue with the IRS. That's a fight you don't want to get into.
If you're ready to grow your business like crazy, grow your business so fast that, unfortunately, one of the things that we deal with people who are in our billionaire code accelerator program, is we help them grow business so fast that you, actually, raise eyebrows at the IRS. You open yourself to liability just by being a fast growth business. So, I want you to be safe and grow like crazy, and grow to multiple millions, and to where ever you want to. And, if you're ready to start growing your business, and be part of a community of business owners that are growing their businesses, and exchanging information, and helping each other, and growing like crazy, let us show you how.
Go to billionairecode.com, answer a few questions. We will provide you with where you are on the billionaire code, so you have clarity as to what you should be focused on right now. And, we will also give you the full billionaire code matrix, and you'll have an opportunity to set up a call with a member of my team. Go to billionairecode.com and check it out. Because if you're growing a business and you have opportunity, we want to help you grow it even faster that you are today.