Independent Contractor vs. Employee: Misclassification Risks and Penalties

Misclassifying a worker can result in back taxes, steep fines, and lawsuits. For Florida small and medium-sized businesses (SMBs), understanding the difference between employees and independent contractors is critical to avoid costly penalties and stay compliant.

This article outlines the key differences between employees and independent contractors, summarizes relevant federal and state laws, and explains the risks associated with misclassification.

What Is an Employee?

An employee is a worker who performs services for a business and is under the business’s control and direction. The employer typically dictates when, where, and how the work is performed. Employees may receive training, work set hours, use company-provided tools or equipment, and perform work that is integral to the employer’s business.

Under federal law employee status hinges on the degree of control an employer exercises. Florida courts also consider multiple factors, including supervision, the skill level required, permanency of the relationship, and whether the worker is economically dependent on the business.

What Is an Independent Contractor?

An independent contractor is a self-employed individual who provides services to clients or businesses, under terms defined in a contract. They control how and when they work, often use their own tools or equipment, and assume financial risk. They are responsible for paying their own taxes and do not receive employee benefits.

Independent contractors often work with multiple clients and have more flexibility and autonomy than employees. However, simply labeling a worker as a contractor, or having them sign an agreement, does not make them one.The nature of the working relationship determines the classification.

Our article Independent Contractor vs. Employee – What is Your Status? expands on the differences between employees and independent contractors. 

Governing Law

There is no single definition of “independent contractor” under Florida law. Instead, multiple legal standards and agencies apply different tests depending on the context, such as liability, workers’ compensation, unemployment, and tax law. Most Florida courts use the Restatement (Second) of Agency § 220, which evaluates factors such as:

• level of control over work details; 
• whether the worker operates a distinct business;
• who supplies tools and equipment;
• whether the work is part of the regular business;
• method and frequency of payment; and 
• duration of the relationship.

Federal law provides that an employer/employee relationship exists “when the employee is subject to the will and control of the employer not only as to what shall be done but how it shall be done.” 26 CFR §31.3401(c)-1. The IRS (Ruling 87-41) uses a 20-factor test to assess behavioral and financial control, while the Department of Labor (DOL) uses an “economic reality” test. 

The DOL’s updated 2024 final rule (which rescinds the Independent Contractor Status Under the Fair Labor Standards Act) outlines six primary factors:

1. Opportunity for profit or loss depending on managerial skill;
2. Investments made by the worker and employer (e.g. equipment, materials, helpers);
3. Degree of permanence in the work relationship;
4. Nature and degree of control the worker has over their work; 
5. Whether the work is integral to the employer’s business; and
6. Whether the services rendered require a special skill. 

No single factor is conclusive, and courts weigh all relevant circumstances. Our article Independent Contractor or Employee: Know the Difference outlines federal law and lists the IRS’s 20 factors. 

Common Mistakes 

Some SMBs mistakenly assume they can avoid employment obligations by drafting independent contractor agreements. Common missteps include:

• Relying solely on contracts: Even a well-drafted agreement cannot override the actual nature of the working relationship.
• Controlling how work is done: If the business sets the worker’s hours, provides training, or supervises tasks, that suggests employee status.
• Paying hourly wages: Paying a flat fee for a project may support independent contractor status, but hourly or salaried pay often implies employment.
• Failing to issue proper tax forms: Using a contractor without filing Form 1099 can escalate penalties.
• Using long-term or exclusive engagements: Ongoing or full-time work arrangements often reflect an employment relationship.
• Not staying current with law: Legal standards evolve, especially in industries affected by the gig economy.

Penalties for Misclassification 

If a business misclassifies a worker but files Form 1099, Federal penalties may include:

• 1.5% of wages for unpaid federal income tax;
• 100% of the employer’s share of the FICA payroll tax; and 
• 20% of the employee’s share of the FICA tax.

If no 1099 is filed, these penalties double. In cases of intentional misclassification, the IRS may impose:

• full back taxes owed;
• both employer and employee FICA contributions;
• interest and civil penalties; and
• potential criminal charges.

At the state level, misclassification may trigger:

• $2,500 to $5,000 fines per misclassified worker;
• additional workers’ compensation premiums and penalties;
• possible liability under Florida’s Deceptive and Unfair Trade Practices Act (FDUTPA); and 
• disqualification from certain state contracts.

Investigations can be triggered by worker complaints, claims for workers’ compensation, or unemployment benefits.

Tips for Florida SMBs

To promote classification compliance, Florida businesses should take the following precautions:

• Conduct a thorough legal review before hiring or classifying workers, especially if there are gray areas;
• Evaluate the actual relationship using IRS, DOL, and Florida-specific criteria;
• Use clear, detailed agreements that specify the scope of services, payment terms, tax responsibilities, and lack of benefits;
• Avoid treating contractors like employees, such as assigning schedules, controlling work processes, or requiring exclusivity;
• File all required tax forms and keep thorough documentation; and
• Stay current on federal and state rules, changes to regulations and court decisions.

Conclusion

Properly distinguishing between independent contractors and employees is not just a matter of administrative formality. It carries real implications for tax liability, legal compliance, and business risk. By understanding the legal standards and avoiding common pitfalls, Florida SMBs can protect themselves from costly penalties and maintain a compliant workforce.

If you are concerned about potential misclassification exposure, the attorneys at Jimerson Birr can help. Our team advises Florida businesses on employment classification, structuring contracts, and compliance strategies tailored to your business and industry. Contact us to schedule a consultation.