Who is a Subcontractor?
A subcontractor is a person hired on a contractual basis to work on a project till completion. They are experts in a specific aspect of a project and usually work for a contractor.
Here’s an example explaining the process:
- You hire a contractor for your IT project
- The contractor hires X for system architecture and Y for network security.
So here, you are the contractor’s client. X and Y work for the contractor and hence, they are subcontractors.
What Do You Mean by Subcontracting?
Subcontracting is delegating or outsourcing one portion of a contract’s obligations and tasks to a third-party (subcontractor). It is common in the construction and information technology sectors.
The general contractor for the project hires subcontractors, but they retain overall responsibility for the project’s completion and execution within the project’s constraints and deadlines. This can put subcontractors at risk of non-compliance, often leading to hefty penalties.
A subcontractor may be an individual or a company that fulfills the jobs assigned to them by the contractor. Subcontractors may be an individual or a company.
Hiring subcontractors provide contractors with several advantages, including reducing project risks and the project’s overall cost.
How Does Subcontracting Work?
The contractor negotiates the arrangement with the client and works for a set fee under a contract. For example, in IT or telecommunications, when a firm wants to design advanced infrastructure, the contract is usually given to a contractor. However, when the work involves a specialized field like system security, installation, or other advanced areas like energy optimization and smart wiring infrastructure, the contractor may need to hire a third party. Hence, the contractor outsources such specialized tasks to a subcontractor.
A subcontractor, also known as a freelancer, independent contractor, or vendor, is a contingent staff specializing in a niche. While the contractor maintains contacts with clients (such as corporations or government agencies), the subcontractor collaborates with a contractor for their expertise and skills in exchange for a fee. Since subcontractors are highly competent in their domain, they can execute the work faster while maintaining quality standards.
The subcontractor reports to the principal contractor, who supervises the project from start to finish. By hiring subcontractors instead of full-time employees, a contractor saves money since they do not need to pay a monthly salary, employee benefits, insurance, and other perks to a subcontractor.
These steps show how subcontracting works:
- A company or a person hires a contractor to work on a project under a mutually agreed-upon price.
- The contractor hires subcontractors to perform specialist work on specific aspects of the project. Here, the contractor might collaborate with someone he already knows or ask for several bids to decide which one is the best.
- Both parties agree upon a specific rate for the work. They usually sign a contract that includes payment information and the job’s terms.
- The contractor issues work instructions to subcontractors. Throughout the process, the contractor requests regular updates.
- The contractor pays the subcontractor once their part of the project is completed. Some contractors pay upon completion, while others wait until the client has paid to pay the subcontractor.
Subcontractors frequently have long-term, mutually beneficial professional ties with a single contractor who hires them under temporary contracts. They may work for various contractors and companies, submitting bids to different job offers.
Subcontractor vs. Employee
The table below illustrates the key distinctions between employees and contractors:
|Must pay their taxes annually themselves.||The employer deducts the due amount and pays the tax.|
|Must buy their work supplies and equipment independently. They also have to manage their working space.||Provided with all kinds of equipment along with an office space.|
|Can set their office hours and work per their convenience.||The employer decides the working hours|
|Determines their fee based on their skills and project requirements.||The employer offers a pre-decided salary.|
|Retains the right to reject or accept the responsibilities.||Must fulfill all responsibilities that accompany their profile – they do not have the option to reject their tasks.|
|Can work for different employers simultaneously.||Bound by an employment agreement and can only work for their employer’s organization.|
|The workflow might be inconsistent.||Must deliver their tasks consistently per deadlines.|
|Is paid after the task completion.||Receives a consistent salary depending on the company’s payment cycle.|
Why Should You Hire a Subcontractor?
There are several advantages of subcontracting, which you must be aware of before hiring a subcontractor for a specific job.
Some key benefits of subcontracting are –
- Independence: Most subcontractors are self-employed or independent contractors who report to contractors for short-term projects. However, they have complete control over their schedules, hours, and availability.
- Niche skills: Subcontractors are experts in their domains. Thus, they prefer to work in areas where they thrive. For example, a tile subcontractor will use their artistic abilities and experience working with various materials to create a beautiful yet functional finish.
- Tax deductions: Subcontractors may be eligible for tax deductions based on their company expenses because the IRS considers them small business owners. They may be eligible to claim deductions for work-related travel expenses, supplies, rent, utilities, and vehicle payments.
- Consistency: Subcontractors who establish professional ties with one or more local contractors always remain in high demand. Those having a good industry reputation for delivering quality work in time are valued by contractors and clients alike.
Taxes Involved in Subcontracting
Understanding the elements of subcontractor tax is essential if you are planning to hire a subcontractor. IRS considers subcontractors as small business owners responsible for self-employment taxes, including Medicare and Social Security.
They could be eligible for certain tax exemptions based on their business expenses. However, these expenses must be ordinary and necessary for the operation of a self-employed business. Home office deductions, such as rent and utilities, traveling costs to reach the work location, etc., are examples of deductions that subcontractors can claim.
The IRS examines a contractor’s income and determines whether the subcontractor is an employee or an independent contractor based on a relationship criterion. For instance, it considers factors like who sets the work rules, provides the tools and resources needed for the job, and pays for company expenses to determine the relationship between the two parties.
After the evaluation, the IRS classifies the subcontractor as an employee if the primary contractor sets the project guidelines, provides the tools needed to accomplish the job, and pays for any business expenses. Moreover, the primary contractor must also pay the Social Security tax and other benefits if the subcontractor is their employee.
How to fill a 1099 Form for Subcontractors?
A subcontractor must fill out a subcontractor tax form along with a few other documents. Here are some necessary forms for subcontractors:
IRS Form W-9
The requirements for this form include:
- The contractor’s or company’s name
- Tax identification/social security number
Contractors pay the independent contractor while also covering the costs of any additional labor, tools, or equipment needed for project completion. Unless the individual or firm is subject to backup withholding, they don’t withhold state or federal income taxes for the contractor or subcontractor. The employer organization must withhold backup taxes at a rate of 28% if contractors do not furnish a Social Security number or tax identification number.
IRS Form 1099-MISC
This form applies to contractors that a company paid $600 or more in the previous calendar year. Form 1099-MISC reports the taxable income to the contractor or subcontractor and the IRS. Copy the name, address, and tax identification number from the IRS Form W-9 to complete Form 1099-MISC. The company doesn’t have to fill out Form 1099-MISC for any workers hired by the contractor or subcontractor because they aren’t under its payroll.
Unless the company has legal assistance, include a contractor or subcontractor income in Box 7 of IRS Form 1099-MISC. Also, if the firm pays an attorney for legal services and the total payment is $600 or more per year, they must provide a Form 1099-MISC. Attorney fees are reported on Form 1099-MISC under Box 14. The contractor must pay self-employment tax on the figures in Box 7 and Box 14 of Form 1099-MISC.
File 1099 with the IRS
Clients must send a copy of Form 1099-MISC to the contractor or subcontractor by January 31 and submit a copy of the same to the IRS by February 28. The deadline for electronically filing Form 1099 with the IRS is March 31. Failure to complete Form 1099-MISC on time might result in hefty penalties.
How can you add Subcontractors to Your Insurance Policy?
Insurance is an essential consideration for subcontractors. If they do not have any insurance coverage, contractors can add them to their insurance policy.
In most circumstances, contractors need to contact their insurance company and request to include the subcontractor as an additional insured. The representative will inquire about the person’s name and, if applicable, the business’ name. Contractors can also add a subcontractor online through the insurance company’s online Customer Portal.
Managing contractors and subcontractors for your projects is both time-consuming and complicated. Multiplier can help you seamlessly manage independent contractors with industry-standard services like employee onboarding, global payroll, benefits and compensation, contracts management, etc. Additionally, our experts can help you understand the nuances of subcontracting jobs. Contact us for more details.
Frequently Asked Questions
Q. How can subcontractors be insured?
Contractors can add the sub-contractors to their insurance policy or subcontractors can take a separate policy for themselves.
Q. What is the deadline for submitting Form 1099?
Form 1099 should be submitted on or before 31st March every year.
Q. Do employees pay their own taxes?
Generally, the taxes of the employee are paid by the employer.