Employee or independent contractor?

Work efforts of a person can be compensated in the form of wages/salary (to an employee) or as a fee payable on invoice (to an independent contractor).* This publication discusses the differences between wages and other, nonwage cash compensation for work.

It is important to draw the line between these two concepts because the obligations of a wage-paying employer are different from the obligations of a business company paying the invoices of external service providers, independent contractors or self-employed individuals. If your business pays out wages, you should withhold tax and pay the social security contribution every month. If other compensation or a service fee is being paid out, no social security needs to be paid. If your business makes a payment to someone who has not been entered in the prepayment register of the Finnish Tax Administration at date of payment, you should withhold tax. The validity of all prepayment registrations can be checked up online at www.ytj.fi/english.

The payer is paying nonwage, cash compensation for work (in Finnish: työkorvaus; in Swedish: arbetsersättning) if the payment does not have the usual characteristics of wage payment. Thus, if these characteristics are absent, the payment should be classified as nonwage compensation for work. The recipient is not an employee.

Definition of wages/salary

For work performed under an employment contract, money is paid through the payroll system to the employee or worker, and these payments are called wages or salary. The employer can be a public or private organization or an individual. The Prepayment Act of 20 Dec 1996 (1118/1996) lists several payment types that should always be classified as wages, even if no employment contract exists.

To determine whether or not the worker is an employee or an independent contractor, and consequently, whether wages or compensation for work (työkorvaus; arbetsersättning) is being paid, the following factors are decisive:

Who has the right to direct and control the performance of work?

An employer usually has a high level of direction and control over the work of his employee. He can give orders and detailed instructions as to what work must be performed. He can also control how the agreed work results are achieved.

In contradistinction with the above, a non-employer business is in the role of a client, and usually just buys the completed, fully accomplished results of the work from an external service provider, independent contractor or self-employed individual. However, even in this case, the business has some control over how the requested services are being performed and can also give instructions to make sure that the end results will be satisfactory. If there are significant deviations between the completed work results and what had been ordered, the business has the right to demand correction of the errors, or reimbursement for damages.

Social security contributions

Under Finnish law, all employers are required to provide social security for their employees. This takes place in the form of payment of various insurance premiums, including pension insurance. Employers also pay wages during days off and sick leave.

However, in the case of independent contractors, the payment is entirely based on the invoice. No additional payment is expected to take place. The independent contractor’s fee can be based on an agreed total amount or on hours worked. Social security, such as pension, other insurance, and living expenses during days off and sick leave are the responsibility of the contractor, not the client business.

Fringe benefits

It is typical for employers to offer their employees in-kind or fringe benefits. They are given in addition to cash wages. Typical examples are telephones, meals and company cars. Furthermore, the employer can make arrangements for free or subsidized medical care, recreation and sports.

However, in the case of independent contractors, the payment is entirely based on the invoice, reflecting the value of the work results. The arrangement does not involve any benefits that the independent contractor could have in addition to the invoiced amount. The invoice usually includes a specification of the amount.

Responsibility and guarantee

Generally there is an employee/employer relationship when the person for whom services are performed, in the capacity of the patron, carries responsibility for the work. In this way, if any third party were to suffer damages because of the work, this third party would direct his demands for compensation for damages to the patron, not to the employee or worker.

However, an independent contractor is fully responsible for the quality level of the work performed. Thus, he can issue a time-based guarantee to the client. During the guarantee period, the independent contractor promises to freely repair any technical problems or faults.

What tools, equipment and materials to use?

Generally there is an employee/employer relationship when the necessary tools and materials have been purchased by the person for whom services are performed. Nevertheless, there are lines of work, in which it is the usual custom that workers have their own hand tools (example: the carpenter, who can carry his own, privately owned tools even though he works for his employer under an employment contract).

However, an independent contractor owns the tools he uses, and also buys at least some of the materials himself. There is an economic risk associated with the ownership of machinery and equipment. To carry this risk is typical for independent contractors, not employees.

When and where to do the work?

Independent contractors may have their own premises. Nevertheless, in many industries, it is not possible even for independent contractors to do the work elsewhere than on the client’s premises. Examples of these industries are construction of residential houses, and shipbuilding. Other lines of work require part-time presence at client premises. Examples: software programming, IT services, and data security services. On the other hand, sometimes employees can work at home. Today’s flexiwork arrangements between employers and employees make it possible for ordinary employees not to carry out their work at employee’s premises.

For the above reasons, place of work alone is not a satisfactory criterion to determine whether or not the worker is an employee or an independent contractor. Nevertheless, if the worker regularly arrives at company premises to work, even if there is no obvious reason to perform the work there, it should be viewed as a characteristic of a usual employer/employee relationship.

Fees payable to designated persons

It should be pointed out that the following types of payment are always considered wages:

• Fees for attending a conference
• Honorary fees for giving a speech, giving lectures, fees for membership in a board of directors,
• Fees paid to managing directors
• Wages from general or limited partnership companies, i.e. money withdrawn by a shareholder
• Fees for nomination to a position of trust.

The above are considered wages even if no characteristics of an employer/employee relationship exist.

*Copyright-type payments, or compensation for use (käyttökorvaus; bruksavgift) are a less frequently occurring type of payment. It is characterized by the existence of an author’s right associated with the finished work. However, except for a different classification in Employer Payroll Report, paying out money for copyright is similar to paying out other, nonwage compensation for work.