When Do You Hire an Employee or a Contractor?


For growing small businesses, being able to outsource is a flexible and cost-effective way to get the help you need to run your business.

Here are some criteria to consider when evaluating whether to outsource a function or activity or whether to hire an employee.

Consider the Duration of Your Needs

Carefully examine how long you need for the help will continue. If you are merely looking to staff a specific project , outsourcing to a contractor is the hands-down choice.

In addition to project work, independent contractors can be ideal in other situations where flexibility is top of mind:

  • When your business is growing but you’re still not sure enough of your future revenues to justify hiring a “permanent” employee.
  • During economic downturns – it’s easier to turn the switch on and off for a contractor if you have to scale back on expenses. Whereas, once you hire an employee it is emotionally, legally and financially more difficult to terminate that employee if you have to cut expenses.
  • When your needs spike due to a temporary or seasonal fluctuation – if you tend to have higher needs during the summer, for instance, a 3-month contractual arrangement may be just what you need.

Consider Your Budget

  • Compare costs. Generally, hiring an employee adds another 30% – 40% on to your costs due to workers compensation, benefits and other expenses, above and beyond salary or hourly rate. So, if you are comparing costs between hiring an employee and outsourcing to a contractor, be sure to compare apples to apples. Add in that additional 30% – 40% on top of the employee hourly or monthly rate. This article at the NFIB contains a good example of how to compare the costs of a contractor to hiring an employee.
  • Determine the breakeven point. Comparing costs will also help you determine the breakeven point of the number of weekly or monthly hours at which it becomes more expensive to use an outsourced provider. Once you cross over that breakeven point, if your needs are going to continue indefinitely or if you expect your needs to grow, that’s when you should consider transitioning to an employee. You may simply have outgrown your independent contractor for a particular function or task.

What Skills Do You Require?

An independent contractor is ideal when you need specialized expertise or skills. Often as a small business it is difficult to find and hire subject matter experts as employees.

That’s especially true because small business and growing businesses often have needs for 8 or 10 different skillsets – from bookkeeping to SEO to software development to marketing. But you may not need any of those skills full time.

It would be virtually impossible to find a single employee capable of the level of expertise you need in each of those areas. By hiring several different independent contractors, you are able to get the necessary skillsets, within your budget.

How Much Management Time Can You Spare?

When you outsource to a contractor, you do not need to manage the day to day activities of your contract help. This is heaven-sent for small businesses, because small businesses tend to be lean on managers.

On the other hand, when you hire employees you will have to devote time to ongoing day to day management. Giving work assignments, handling performance issues, training, and so on all take time. Be realistic. If you don’t have the time to spare for such management tasks take a strong look at outsourcing.

Remember that when you get an independent contractor, you typically are paying for an existing level of expertise in a particular field, not an entry level or “green” person. Plus the management is somebody’s else responsibility. You can expect a degree of independent execution that you often would not get with an employee.

Watch out for a Big Gotcha

Be careful to structure your arrangement so that you don’t hire an individual as a contractor, when that person really is an employee. If you are a U.S. employer, take a look at the 11-point IRS test for determining an independent contractor versus employee.

One way to minimize risk is to hire contractors who either (a) work for another company that is in the business of being a service provider, or (b) who are freelancers or sole proprietors, but who and take on other clients in addition to you. That way you’re hiring contractors who truly arrange their work as contractors, not as employees in disguise.

That’s why hiring an independent contractor through a marketplace such as Elance can be perfect. You’re much more likely to find contractors that serve multiple customers and make their living as outsourced providers.

In conclusion, consider all the advantages you can get through outsourcing. Outsourcing can be a cost-effective, flexible and easy way to staff a growing business. With outsourcing, you get a lot of benefits, without taking on extra headaches and workload you may not need or want, or which can distract you from important work you need to do to grow your business.