When should you convert a contractor to an employee?

International employment can be tricky. Many companies take the easy option and pay their foreign workers as contractors. Unfortunately, the easy option isn’t always the right option — or the safest.

While contractor designations may be appropriate for some business relationships, companies cannot simply pay people as contractors because it’s easier.

Contractors and employees fulfill different roles and have distinct legal definitions. Converting a contractor to an employee can protect the employer from penalties, provide a better experience for the employee, and make it simpler for both parties to collaborate.

Remote helps companies convert contractors to employees all over the world. If you want to convert a contractor to full-time or want to know more about the benefits and drawbacks of conversion, this guide can help you get started.

Contractor vs. employee: What’s the difference?

First, it’s important to distinguish between an employee and a contractor. An employee is a representative of your business and a member of your internal team. A contractor provides their services to your company to grow their own business.

Control is a big differentiating factor between employees and contractors when it comes to workforce management. As a company, you have control over where and how your employees complete their tasks. Contractors, however, have more control over how and where they work.

Can I convert my contractor to an employee?

Yes, you can legally convert a contractor to an employee in some cases. While this isn’t typically a difficult process, it can be somewhat time-consuming. But it’s important to ensure that you complete each step correctly to avoid misclassification and other penalties.

Converting contractors to employees can become more complicated if you have multiple contractors working in different countries, each with its own laws and regulations. You can dive into the weeds of each step yourself, but why not simplify the process with a global HR platform like Remote, which can help you make the transition legally and efficiently?

How do employers benefit when contractors become full-time employees?

Employers bear a greater burden of responsibility in contractor relationships. If the contractor is incorrectly classified, the employer ends up with penalties or fines.

Misclassification isn’t the only problem, though. Contractors are their own legal entities in most countries, which entitles them to certain rights regarding the work they perform.

In some cases, an employer who commissions work from a contractor could discover that the contractor owns all or a portion of the work’s intellectual property rights. This is worrisome enough for one project, but in long-term contractor relationships, IP rights can become matters of extreme concern for unprepared businesses.

See how Remote protects your intellectual property abroad with Remote IP Guard.

Full employees also lead to lower operational costs than contractors in many scenarios, as converting a contractor gives your business more control over that employee’s work. The new employee becomes subject to the company’s processes and policies, and their tasks can be tracked more closely.

This is something that’s more difficult to achieve with a contractor since they have more independence and typically have their own way of going about their tasks. So, although companies don’t owe benefits to contractors, businesses still save money in the long run by securing a valued worker with experience working for the company. Tracking these savings may not be straightforward, but the gains in employee productivity and stability are real.

Employers who deploy these types of workforce optimizations also reap the rewards of high morale, a strong company culture, and a greater likelihood of customer satisfaction. Contractors are mercenaries by trade, jumping from one project to the next, while employees who are fairly compensated for their time can commit all their energies to a single mission.

How do workers benefit when switching from a contractor to an employee?

Some workers prefer being contractors, but for most, the benefits of full employment far outweigh the downsides of successful workforce optimization strategies.

1. They become eligible for benefits

Full employees are entitled to a host of benefits that contractors don’t receive. In most countries, employees get paid time off, unemployment protections, access to better healthcare options, tax-advantaged retirement savings opportunities, and other perks.

2. They know that their company values their contributions

Contractors who convert to employees also get the chance to develop their skills as part of a supportive team. Businesses that handle international workforce management must be proactive to ensure employees who live far from headquarters don’t feel like second-class citizens. By making contingent workers employees, businesses can show their team members that they value them as full contributors toward the company’s future.

What are the disadvantages of converting a contractor to an employee?

While converting contractors to employee status certainly provides benefits, it does come with unique challenges. They include the following:

Increased HR workload

Converting your contractor into an employee is a major investment in your approach to workforce management. You’ll have to take care of their taxes, run new employee training, and make sure you stay compliant with local employment laws, among other things.

For example, when a contractor becomes an employee, your HR team will have to offer the following to them:

• Healthcare benefits

• Social security

• Unemployment taxes

• Paid leave, such as vacation time or parental leave

The need to ship office supplies and equipment overseas

Companies typically provide employees with all the tools they need to do their jobs effectively. In the case of including hiring international employees in your approach to workforce optimization, you may have to do the same — except you’ll need to ship supplies to their country of residence or source supplies and equipment abroad. Either way, getting supplies to your new employee can lead to logistical problems.

Long-term commitment

Turning a contractor into your employee is a long-term investment. You’ll need to integrate them into your company culture, continually train them to make sure their skills are up-to-date, monitor their employee performance, and make sure they’re engaged.

Changes to the worker’s pay

This isn’t something you can avoid. When converting a contractor to a full-time employee, you’ll have to change your payment structure and how you compensate them. You’ll also have to think about promotions and how you’ll increase their pay over time.

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Signs you should convert a contractor to an employee

Every situation is different. Some long-term contractor agreements are beneficial workforce optimizations, while others are drawn-out legal battles waiting to happen.

Consider your relationships with your contractors and watch for these common signs that it may be time to convert your contractor to a full-time employee.

1. You are out of compliance in the contractor’s country

Do you know the laws regarding contract labor in the country where the contractor lives? Are you sure? Laws vary widely from one country and region to another. What qualifies as a contractor in the US may not qualify in the UK. Many countries have enacted new laws regarding contractors in response to the growth of “gig economy” companies. If you discover you are out of compliance, move quickly to convert and avoid hefty penalties.

2. You want your contractor to play a greater role in your company

Contractors work on projects, but they don’t often play an active role in building the future of a company. Even a contractor on retainer is only tied to the company for a fixed amount of time or budget. Once you find an impressive contractor who could help you build your business, why leave that relationship to chance? Convert the contractor to an employee and bring some top talent into your organization with minimal onboarding.

3. You want to offer benefits to your contractor

Because contractors are not usually entitled to benefits, their compensation is limited to cash. To provide a contractor with perks like health insurance, retirement savings options, and paid time off, you must first turn that contractor into an employee. Nothing helps companies retain top talent like a great benefits package.

4. You want to provide a better employee experience

When contractors work with teams of full-time employees, they feel like the odd ones out. Employees share company culture in a way that contractors can’t quite enjoy. By converting contractors to employees, you invite them into the fold, creating a first-class experience for your team members all over the world.

5. You want more protections for your company’s intellectual property

As mentioned earlier in this guide, contractors are their own entities and are entitled to certain rights regarding the work they produce. You can protect your IP with a well-written contract, but your rights are stronger when the person doing the work is your employee and not an outside contractor. Certain countries default IP rights to independent creators over companies, so if you have international contractors, make sure your contracts are ironclad on IP.

6. You want to save money in the long run

Contractors demand higher wages than employees. The longer you keep working with them, the more money you spend that you could have spent on internal talent. Employees require benefits and other obligations, but once you convert a contractor, that person immediately becomes a more productive long-term asset for your team.

7. Your contract with the worker is outdated

How long ago did you sign the agreement to work with your contractor? Many full-time freelancers work for the same company for months or years without receiving new contracts. These contracts may not hold up to changes in employment law, especially as laws evolve to prevent abuse in gig work. Onboarding the contractor as an employee eliminates this problem, provided the contractor is willing to make the switch.

8. You don’t want your competition to hire the contractor first

Your favorite contractor may sign an NDA, but most countries won’t let you prevent a contractor from going to work for a competitor. What happens if someone who helps keep your business running suddenly starts using those skills for someone else? If you have a great contractor who would be an excellent asset to your competition, make an offer of employment before someone else does.

9. You rehire the contractor again and again

Typically, contractors only work on a per-project basis. If you find yourself frequently hiring a contractor for your projects, it might reduce your labor cost to make them an employee instead and offer them a salary.

10. You’re running the risk of misclassification

Each country has its own rules and regulations regarding what constitutes an employee.

Misclassification of work status can put your company at risk for legal implications and hefty fines. You may also be subject to paying extra for missed benefits.

It’s better to be safe than sorry. If you’re worried about making a costly mistake, consider converting your contractor into an employee or consult with an expert who can help you avoid misclassification.

11. Your contractor wants to become an employee

The simplest reason to convert a contractor to an employee is also one of the best. What does the contractor want?

Some people prefer to live a freelance life, even when offered a great position with great pay. Others would like to leave the uncertainty of contract work in favor of the security and protections that come with full employment.

Ask your best contractors if they would like to work for you as full-time employees, and if they say yes, make it happen.

How to convert your contractor to employee status in 5 steps

So you’ve decided it’s time to change a contractor’s status to full-time employment. You might be wondering what the actual process looks like for your company.

Here’s what you’ll generally need to do:

1. Ensure accurate employee classification

It’s important to make sure that you can legally convert your contractor to an employee. The Internal Revenue Service (IRS) lists a few factors that can help you determine this, including the following:

• Behavioral control: If a business has the right to direct and control the work performed by the worker, the worker is considered an employee.

• Financial control: If a business has the right to direct and control the financial and business aspects of a worker’s job, the worker is considered an employee. This can look like reimbursing the worker’s expenses, investing in the equipment they need to do their job, or paying them a consistent salary.

• Relationship: Certain aspects of the employer-worker relationship can help determine worker classification, including the type of benefits they receive, the permanency of their relationship, and how impactful their job is on the business.

You can also look at the January 2024 final ruling from the U.S. Department of Labor to help make your decision. This ruling outlines six factors that should be analyzed to determine how to classify an employee and emphasizes that all of them must be considered.

2. Set up a local entity in the country in which you’re hiring or use an EOR

Converting a contractor to an employee means you’ll have to navigate through their country’s local taxes and employment laws — which you might be unfamiliar with. You’ll also need a local entity to hire them.

If you don’t already have a local entity, you can use an employer of record (EOR). An EOR hires the individual on your behalf and takes care of all the legalities of hiring and workforce management. But you’re still the boss. Your company is in charge of everything from your employee’s schedule to their workload.

3. Make a compliant salary and benefits offer to the contractor

Make an employment offer to the contractor based on the laws surrounding benefits in their country. To ensure you generate a contract that’s compliant with your contractor’s location, research local regulations around paid time off, health insurance, maternity leave, and other benefits.

In Costa Rica, for instance, labor laws dictate that all public and private sector employees must receive a 13th-month bonus consisting of one month’s additional salary.

4. Add your contractor to your payroll

As soon as your contractor signs their employee agreement, it’s time to add them to the company payroll.

5. Stay on top of local labor laws

When you employ people in different countries, remaining compliant doesn’t stop when you send out an offer letter. Throughout your employee’s tenure at your company, it’s important to stay up-to-date with the ever-changing local laws regarding items like payroll, benefits, taxes, and other employment regulations.

Remote eases this burden for you by keeping you compliant, no matter what country your workers are in. With it, you can onboard new employees in a matter of clicks and get 24/7 support from local HR, legal, and finance experts.

How Remote helps convert contractors into employees

While contractor-to-permanent-employee conversion benefits both sides, this move also carries its share of challenges. Paying an international contractor is easier than onboarding an international employee, especially for companies with limited experience.

Fortunately, Remote makes it easy to convert contractors into employees in countries all over the world. Our global employment services and global contractor platform let you decide what’s best for your business. We can help you pay and manage contractors in minutes, and if you decide to convert them to employees later, Remote can help you make the switch easily and quickly. For payroll, benefits, taxes, and international compliance, Remote makes it simple.

Learn more about converting contractors in our contractor management guide.

Common FAQs about converting contractors to employees

Is converting a common occurrence?

Yes, converting contractors to employees is common. In some cases, it’s a necessary transition to remain compliant with local regulations, but there are also upsides to it for businesses and workers. Employees can receive benefits and generally have a better company experience, and employers can save money in the long run.

Do employees ever choose to become contractors?

Yes, employees sometimes choose to become contractors. In general, independent contractors have more freedom over their schedule, more control over their workloads and clients, and the ability to manage themselves. It’s possible to convert an employee to a contractor, but you’ll want to make sure the employee is legally eligible to make the transition.

When should you not convert a contractor to an employee?

If you don’t want your contractor to become a more permanent part of your company, you shouldn’t convert them to an employee. The transition typically requires a lot of work from your HR team and a long-term commitment to train your new employee and integrate them into the company culture.

From a legal standpoint, some contractors may not be eligible to become employees. If you want to continue to pay your contractor on a per-project basis, for instance, they likely shouldn’t make the transition to an employee.

How do employment laws and regulations impact the conversion process?

It’s crucial that you only convert a contractor to an employee if they meet all the qualifications. Misclassification can lead to hefty fines and penalties. If your contractor works in a different country from you, it’s also important that you follow all the employment laws in their location when transitioning them to be an employee.

What are the consequences of misclassification in the US?

In the US, the consequences of misclassification include legal fines — especially if a lawsuit occurs. Employers may also have to pay back their misclassified workers’ taxes or pay out any benefits they’re responsible for.

In addition to federal regulations, states may have their own consequences regarding misclassification. For example, worker misclassification is considered a type of payroll fraud in Washington, D.C.

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