Why I Tell Clients to Stop Calling Their Workers "Contractors"

In every onboarding conversation with a new client, there's a moment I've come to expect. Somewhere between reviewing the org chart and the comp philosophy, they'll mention "the contractors" — five people who've been with the company for months, sometimes years. And I'll ask the same question: What makes them contractors?

The answers are always some version of: "We pay them on a 1099." "They signed an independent contractor agreement." "That's how we set them up."

None of those answers is what determines whether someone is actually a contractor. And the gap between what companies call their workers and what those workers legally are is one of the most expensive blind spots in small and mid-sized business operations.

The Label Doesn't Decide. The Relationship Does.

You can call someone a contractor. They can call themselves one. You can sign a 47-page agreement that uses the word "contractor" 312 times. The relationship still decides.

If the IRS, the DOL, or your state's labor agency walks in and the relationship looks like employment — they're an employee. Full stop.

This is consistent across every test that matters: the IRS common-law test, the DOL economic reality test, and California's ABC test. The analysis is fact-based, not document-based. What you call it doesn't matter. What you do does.

The Federal Picture Is Shifting — But State Law Isn't

In February 2026, the DOL proposed rescinding the 2024 economic-reality rule and reinstating a framework similar to 2021's, with control and opportunity for profit/loss as the two core factors. That may make federal classification somewhat more permissive once it's finalized.

But the federal framework isn't the binding ceiling. California, Massachusetts, and New Jersey use the ABC test, which presumes every worker is an employee unless the company can prove all three:

• The worker is free from the company's control;
• The worker performs work outside the company's usual course of business;
• The worker is engaged in an independently established trade.

Prong B is where most companies fail. A bakery hiring a "contractor" cake decorator cannot pass it. California penalties run $5,000 to $25,000 per worker for willful misclassification.

The Real Cost of Getting It Wrong

When companies misclassify, they think the consequence is "we have to switch them to W-2." It's much broader:

• Federal taxes. Back FICA, FUTA, withholding — plus interest and penalties.
• Wage and hour. Two to three years of back overtime, plus liquidated damages.
• State liabilities. Unemployment insurance, workers' comp premiums, state penalties.
• Benefits exposure. ERISA litigation if 401(k) or health benefits were denied.
• Class actions. One unhappy contractor can become a 75-person class.
• Operational disruption. Audits always land at the worst possible time.

The Questions That Actually Matter

Before you call anyone a contractor, run honestly through these:

1. Could they walk away tomorrow without breaching a duty?
2. Do you tell them when, where, and how to work?
3. Are they doing work that's central to what you sell?
4. Do they have other clients? Could they?
5. Who provides the tools and workspace?
6. Are they paid for time, or for results?
7. Are they integrated into your team — Slack, email, meetings, reviews?
8. Have they been with you for years doing the same work?

If the honest answers don't add up to "yes, this person is genuinely in business for themselves," you don't have a contractor. You have an employee with a misleading label.

The Bottom Line

I'm not against independent contractor relationships. When they're real and structured well, they're genuinely valuable. What I'm against is fiction — calling someone a contractor because it's convenient and assuming the label will protect you when it counts.

It won't. The relationship decides the classification. The classification decides everything else.

Better to find that out now than from a DOL audit letter.