What to get right before you pay your first independent contractor.
Hiring a contractor feels simpler than hiring an employee — no payroll, no benefits, just an invoice. Mostly that's true. But a few things are worth getting right before the first payment goes out, because they're far cheaper to handle up front than to unwind later.
The two that matter most: making sure the person is genuinely a contractor and not an employee in disguise, and collecting the right tax form before you pay them. Get those two right and the rest is largely administration.
- Misclassifying an employee as a contractor can mean back payroll taxes, penalties, and interest.
- Collect a Form W-9 from every US contractor before you pay them, not at year-end.
- Adopt a simple rule: no W-9, no payment.
- If you pay a US contractor $600 or more in a year, evaluate whether Form 1099-NEC reporting applies.
- Foreign contractors generally provide Form W-8BEN or W-8BEN-E instead of a W-9.
- Contractors can create state tax and compliance obligations, even though they aren't employees.
This is general educational content for founders, not legal or tax advice. Worker classification is highly fact-specific, and state rules may differ from federal rules.
01Contractor or employee?
This is the question that actually carries risk. Calling someone a contractor doesn't make them one — the IRS and state agencies look at the substance of the relationship. If they decide your "contractor" was really an employee, the company can become responsible for back payroll taxes, penalties, interest, and state-level employment obligations.
The federal analysis generally weighs three categories of control:
| Factor | Points to contractor | Points to employee |
|---|---|---|
| Behavioral control | Decides how and when the work gets done | Company directs hours, methods, and tools |
| Financial control | Own tools, can profit or lose, works for several clients | Paid like a regular worker, costs reimbursed, economically dependent on one company |
| Relationship | Project-based, written contract, no benefits | Ongoing role, benefits, integral to the workforce |
No single factor decides it — the government looks at the overall picture. Some states apply a stricter standard. California and several others use versions of the ABC test, under which workers are presumed to be employees unless the company satisfies all required conditions. A developer building your core product on a full-time, indefinite basis is a hard contractor position to defend.
Tip from Ludmila
If someone performs core business functions, works only for your company, and operates like a member of the team, look hard before classifying them as a contractor. The safest contractors are project-scoped, run their own business, and have other clients.
A written contractor agreement doesn't determine classification by itself, but it still matters. It should clearly define the scope of work, deliverables, payment terms, and the independent nature of the relationship.
02The paperwork — W-9 & 1099-NEC
For a legitimate US contractor, the paperwork is relatively straightforward.
Form W-9 — collect it before payment
Before paying a US contractor, collect a completed Form W-9. It provides their legal name, business name, taxpayer identification number (SSN or EIN), federal tax classification, and address. Collecting it before payment — not in January — is one of the best habits a founder can build. Tracking down missing tax information months later rarely goes well.
Adopt a "no W-9, no payment" policy
The easiest way to avoid January headaches is to make tax paperwork part of contractor onboarding. Before the first payment, collect a signed contractor agreement, a completed W-9 (or W-8 for foreign contractors), payment instructions, and current contact information. Many startups wait until year-end to gather missing forms — by then contractors may have moved on or stopped responding. A simple no W-9, no payment rule prevents most of these problems before they start.
What if a contractor won't provide a W-9?
If a US contractor refuses to provide a completed W-9 or a valid taxpayer identification number, the company may be required to withhold federal income tax from future payments under the backup withholding rules. Most founders never hit this — which is another reason to collect the form before the first payment rather than chase it later.
Form 1099-NEC — file it in January
If you pay a US contractor $600 or more during the year for services in the course of your business, you generally need to determine whether Form 1099-NEC reporting applies. The W-9 you collected at onboarding provides most of what you need to prepare it.
| Form | Who completes it | When |
|---|---|---|
| W-9 | US contractor | Before first payment |
| W-8BEN / W-8BEN-E | Foreign contractor | Before first payment |
| 1099-NEC | Company | By Jan 31 |
| 1099-MISC | Company | When applicable |
Entity type matters. Many sole proprietors, partnerships, and LLCs are reportable; some corporations are exempt from 1099 reporting. The W-9 lets you determine the correct treatment rather than guess. One exception worth knowing: legal fees paid in the course of business are often reportable even when the law firm is incorporated, so review attorney payments separately at year-end.
What about credit cards, PayPal, or Stripe?
Founders often assume the payment method doesn't matter. It does. Payments by credit card, debit card, PayPal, Stripe, and certain other third-party networks are often reported by the processor rather than by you. Don't assume every payment is automatically covered, though — keep complete records of all contractor payments regardless of how they were made. Many banking, payroll, and accounting platforms help with W-9 collection and 1099 prep, but the company stays responsible for determining whether reporting is required.
03Foreign contractors
If your contractor isn't a US person, the analysis changes. Instead of a W-9, collect a Form W-8BEN (individuals) or W-8BEN-E (entities), which documents their foreign status.
As a general rule, payments to a foreign contractor for services performed entirely outside the US are not US-source income and typically aren't subject to 1099 reporting. But international rules are more nuanced than domestic ones — where the work is physically performed is often critical, and withholding or other requirements may apply in some situations. When in doubt, collect the W-8 before payment and get advice before proceeding.
04State tax & nexus issues
Two state-level issues frequently surprise founders.
Worker classification. A worker who qualifies as a contractor for federal purposes may be treated as an employee under state law — creating state payroll tax, unemployment insurance, and other employment obligations.
Nexus. Depending on the state and the nature of the work, engaging a contractor in a state where the company otherwise has no presence may create a tax filing or registration requirement. Founders think about nexus when hiring employees — but contractors can create similar issues.
05Common mistakes
- Treating a full-time, long-term worker as a contractor;
- Paying first and collecting the W-9 later;
- Missing the January 31 reporting deadline;
- Assuming foreign contractors require no documentation;
- Ignoring state worker-classification rules;
- Overlooking potential nexus created by contractors; and
- Skipping a written contractor agreement.
Before you pay
A clean contractor onboarding process is short and repeatable:
- Confirm the contractor classification makes sense;
- Sign a contractor agreement;
- Collect a W-9 (or W-8) before payment;
- Apply a "no W-9, no payment" policy;
- Record legal name and tax ID;
- Track payments throughout the year;
- Review potential state nexus implications; and
- Review January 1099 reporting obligations.
The bottom line: hiring contractors should be easier than hiring employees, but it still deserves a little structure. Classify carefully, collect tax forms before payment, keep good records all year, and run a simple no W-9, no payment policy from day one. Those small steps head off most contractor compliance problems before they become expensive ones.
This article is general educational content, not legal or tax advice. Worker-classification rules are fact-specific, vary by state, and change over time. Talk to us before you bring on your first contractor — or if you're not sure a current one is classified right.