Important Terms in an Independent Contractor Agreement

Important Terms in an Independent Contractor Agreement

Independent Contractor Agreement Terms
Important Terms in an Independent Contractor Agreement. Lane Oatey/Blue Jean Images/Getty Images

Hiring an independent contractor? 

Hiring an independent contractor to work for you sounds easy. No complex paperwork, just shake hands and get going. But like any other business relationship it's important to establish the terms under which you will work together, to avoid conflict. 

I hire independent contractors and I always have them sign a simple agreement. Occasionally, a contractor will initiate the conversation.

That pleases me, because it shows that the person is taking the relationship seriously. 

This article discusses important terms in an independent contractor agreement, and what you need to know before signing. 

What is an independent contractor?

You may know what it means to be an independent contractor, but the worker may not. Basically, an independent contractor is the opposite of an employee. The independent contractor works as a solo business owner and does not have employee benefits.

The contractor must pay self-employment tax (Social Security/Medicare) and income taxes, but these are not withheld from payments. An independent contractor is free to determine how the work is to be performed, and in some cases where it is to be performed. Often, an independent contractor is an agent of the company.

Read more about the difference between an independent contractor and an employee.

Why prepare an independent contractor agreement?

At the start of a work arrangement is the time to clarify the agreement and the best way to do that is to put everything in writing.

If you don't write down the agreements, you're working on assumptions and these assumptions can cause problems and costly and time-consuming litigation later.

For example, what happens if one of you decides to end the contract? If you don't clarify the conditions and the notice period, the person leaving can cause harm to the other party by leaving without notice.

 

Important Sections of an Independent Contractor Agreement

General Agreement and Nature of the Work

The first part of the agreement is a statement by both parties detailing what they will do. For example, the company agrees to pay the contractor for such-and-such work and the contractor agrees to provide the work as required. The nature of the work should also be described in detail. Exactly what is it that the contractor is going to be doing? What is the product, when must it be provided and how?

Independent Contractor Status
This very important part of the agreement defines the worker clearly as an independent contractor and not an employee. It lists the rights of the contractor:

  • to perform services for others unless they directly conflict with or compete with the work for this company
  • to control and direct the means, manner, and method by which the work is performed.
  • to hire assistants or use his/her own employees to perform the work.

This section also states the specifics of the training received by the contractor. Since an independent contractor is usually a professional, training is minimal and limited to describing the specifics of the work to be done for this company.

This section typically clarifies that the payments made to the independent contractor do not include withholding for income tax or payroll taxes.

 

Clarifying the status of the worker is important, so that the contract worker is aware that he or she is not going to be considered as an employee. 

Who pays taxes
This section clarifies that no federal or state income tax is withheld from payments to the contractor, unless required by backup withholding requirements, and no FICA taxes are withheld from contractor pay or are set aside by company on behalf of the contractor.

In addition, no state or federal unemployment compensation contributions or workers compensation fund payments are paid by the company on behalf of the contractor. The contractor pays income taxes, sales taxes, Social Security and Medicare taxes as a self-employed individual. Some contracts require that the independent contractor provide proof of these payments.

Eligibility for Benefits
The contract should include a statement clarifying that the contractor understands that he or she is not eligible for pension or retirement benefits, health insurance, vacation pay, sick pay, holiday pay, or other fringe benefits provided by the employer.

Insurance 
In addition, the contract language should clarify that the company will not provide liability insurance for the contractor and that the contractor will not be covered by the company's liability insurance policy. If some injury or loss is caused by the contractor, this clause is a protection for the person hiring the contractor. 

This section should clearly state that, depending on the type of services provided by the contractor, he or she may be required to provide proof of the existence of general business liability insurance coverage. Some companies go even further and request a statement by the independent contractor that the company will be indemnified (held harmless).

Termination of Contract
Since this is a contract with an independent contractor, not an employee, the contract should state that either party may terminate the agreement with or without notice, depending on the circumstances.

Restrictive Covenants Depending on the nature of the work, the company may attempt to impose restrictive covenants on the independent contractor. These restrictive covenants might include: 

  • A non-compete clause, restricting the independent contractor from setting up a competing business within a certain time and in a certain area. 
  • A non-solicitation clause, restricting the independent contractor from soliciting customers or employees of the hiring company. 
  • A non-disclosure clause/confidentiality agreement, restricting the contractor from disclosing company secrets or using secrets for his or her own gain. 

Any or all of these clauses might be applicable, depending on the nature of the relationship. 

Litigation or Arbitration
Many business contracts in recent years include an arbitration clause (mandatory arbitration), requiring that contract disputes be settled by arbitration rather than litigation. Read more about arbitration and litigation and the differences between these processes.

Read more about non-compete agreements, non-disclosure (confidentiality) agreements, and non-solicitation agreements.

Can I prepare my own independent contractor contract? 

You can find templates for these contracts on the internet, and you may be tempted to prepare your own. But every business situation is different, so a template may not include sections that your specific business needs. Read more in this article about the dangers of using free contracts.