With the rise of the free agent nation and gig economy, there’s rampant confusion around the terms contractor, consultant, and independent contractor. If you are a self-employed consultant, you don’t want to be a contractor but do want to be an independent contractor. This article explains why.
Contractor or Consultant
How you perceive yourself matters because it influences how others perceive you. This affects how much money you can charge for your services and expertise.
Let me give you an example. Recently I met a sharp, professional woman with about 15 years of experience as a project manager and change management specialist. For the last few years, she’s been designing and implementing change management efforts for multinational companies. She’s been working through various agencies as a contractor and making anywhere from $90 to $110 an hour. Last week I recommended her to a client as a consultant with a pay rate of $135 an hour. This means that for a three-month, full-time project she’ll make about $12,000 more as a consultant. Annually, she’ll probably make $30,000 to $40,000 more as a self-employed consultant than as a contractor. (It’s hard to estimate because of unpaid time between projects.)
Of course, there’s more to it than just changing what you call yourself. At a minimum, as consultants you need to be able to scope and direct your own work. You also need to be able to assess client needs and make actionable recommendations, often using methods or tools that are unfamiliar to the client. You need to know what to do and take the initiative to make it happen, not wait to be told. You need to have the emotional intelligence to manage sticky situations and keep things moving forward despite resistance, disagreement, and office politics. Good consultants do whatever it takes to get the job done while making their client look good in the process.
On the other hand, contractors essentially act like temporary employees, often hired as a “pair of hands” to carry out well-defined tasks. They report to someone on a regular basis and are often told what needs to be done and when to do it, like from 9 to 5.
Note that the terms “freelancer” and “gig worker” also influence how people perceive you, as well as what they think they should pay you. Freelancers use artistic or technical skills to create work products and are paid per product. Gig workers complete one task or job at a time, usually for minutes or a few hours, like driving for Uber or working for TaskRabbit.
Bottom line: consultants are perceived as more strategic problem-solvers than contractors, and strategic work is more valuable. This means consultants can charge higher rates. The distinction between contractor and consultant also matters because it affects how you are paid. This brings up the next distinction.
Consultant and Independent Contractor
How you are paid can make a big difference to your effective tax rate. My article, “Why Friends Don’t Let Friends W-2,” explains why being paid on a 1099 tax basis will save you money, instead of being paid on a W-2 basis through an agency. (This is also summarized in my 70-second video.) To be paid on a business-to-business basis with a 1099 tax form at the end of the year, your client needs to classify you as an independent contractor. This is separate and distinct than being a contractor.
Most large corporations have a vendor compliance process in place to make sure they are correctly classifying their non-employee workers as either contractors or independent contractors. Misclassification can result in massive fines and penalties, often upwards of $30 million. I’ll definitely be writing more about vendor compliance in the coming months, but for now remember that you want to be classified as an independent contractor so you can avoid the costly W-2 situation. Contractors are very rarely classified as independent contractors. Consultants are more likely to qualify.
You want to be a consultant and an independent contractor, but not a contractor.
It’s not just semantics. It’s a matter of money and profit.