Do I need a business license as an independent contractor?

An independent contractor is a self-employed individual who performs services for clients for a predetermined fee. They may have an ongoing relationship with a business, or just for the duration of a project.

Independent contractors might refer to themselves as self-employed, freelancers, 1099 workers, or gig workers. The terms really mean the same thing as far as the law and taxes are concerned.

Instead of a W-2 form, independent contractors receive a 1099 tax form from their employers. They are responsible for paying their own income taxes, including their own Medicare and Social Security contributions (also called the self-employment tax).

Contractors don’t get the same benefits that full-time employees receive, such as health insurance, a retirement plan, unemployment insurance, and payroll tax withholding. However, they have access to significant tax deductions that can reduce their taxable income.

Independent contractors are similar to sole proprietors, because they don’t register their business as a separate, legal entity apart from themselves. The terms are somewhat interchangeable.

Both sole proprietors and independent contractors earn money from the products or services they sell. The term independent contractor implies a relationship between the individual and a client who employs them on a temporary or per-project basis.

With independent contractors and sole proprietors, their personal assets and business assets are essentially the same thing. Any debts, lawsuits, or liabilities against their business are also levied against the independent contractor or sole proprietor.

With a limited liability company (LLC) or an S corporation, you can separate your personal liabilities and finances from those of your business. This involves filing paperwork with the secretary of state office where your business is located.

LLCs and S corps are similar, as they offer some liability protection for owners. The owners can also treat company profits as pass-through income on their tax returns.

LLCs are typically formed by individuals or partnerships and require less paperwork. S corps usually have more members. They also must have a board of directors, hold shareholder meetings, and fully document their activities.

S corps must report their earnings and file tax federal tax returns, although they are largely exempt from corporate income taxes.

Whether you need a business license as an independent contractor depends on your state and local laws.

Most state laws don’t require independent contractors to have a business license, except for Alaska and Washington state. Even if your state doesn’t require a license, many municipalities do.

Your local county or city government may require a general business license, a business tax certificate, or a tax registration certificate. They all refer to the same thing—a legal document that allows you to run your own business operations in your area.

In some places, you might not need a business license if you’re doing business as yourself, in your own name, although you should check with your local authorities to make sure. Your chamber of commerce, or your county or city clerk’s office, would be a good place to find information on what’s required and the license application process.

If you run a business out of your home and have frequent visitors, you should verify if this is allowed under local zoning laws. You could also check on your state’s licensing requirements through your local secretary of state’s office, your state’s department of revenue, or CityApplications.com.

If you sell goods or services to the public, you may need a sales tax permit. You would have to collect and pay any applicable sales taxes or business taxes as well. The Internal Revenue Service requires independent contractors and self-employed individuals to report and pay self-employment taxes on net income of more than $400 per year.

The IRS also requires independent contractors and sole proprietors to file a Schedule C (Form 1040) report on their income and losses if their business operations are a for-profit activity that they regularly engage in, even on a part-time basis.

If your work is federally regulated, you may need a license from a federal agency. This may include agriculture, alcoholic beverages, or transportation. You can check with the U.S. Small Business Administration (SBA) for more information on federal licensing for small business owners.

Your need for insurance as an independent contractor depends on your profession and the laws in your state. You might also need certain types of insurance to qualify for contracts.

Insurance is often required for those in the building trades in order to get a license or a permit to work on a project. In particular, you may need general liability insurance or workers' compensation insurance to become a licensed contractor in your state.

California's Contractors State License Board (CSLB), for example, requires workers' comp for every licensed contractor, in accordance with Senate Bill No. 216. They must also have a surety bond.

Overall, general liability and workers' comp are often mandated for contractors who take on risky work like tree service or roofing. Contractors who offer professional services or advice, such as real estate agents and insurance agents, may be required to carry professional liability insurance, also called errors and omissions insurance (E&O).

Even when it's not required by laws or contracts, many independent contractors still buy business insurance for the financial protection it offers. Without it, you could end up facing hefty medical bills or legal costs after a work-related injury or accident.

General liability insurance is often the first policy that small business owners purchase. It covers the most common third-party risks, such as bodily injuries, property damage, and advertising injuries.

Contractors and others might need a general liability policy to sign a commercial lease, qualify for a business loan, or get licensed.

State laws, municipal regulations, and client contracts often require professional liability insurance, or errors and omissions insurance, for certain professionals such as accountants, architects, and engineers. Lawyers, doctors, and therapists may need to carry malpractice insurance—their industry term for this type of coverage.

Professional liability insurance helps pay for legal defense costs if you're accused of professional negligence, such as a mistake or missed deadline that causes a client to lose money. It's important for any contractor who could harm a client financially through the course of their work.

Workers’ compensation can help pay for medical bills and provide disability benefits after a work-related injury, which makes it especially important for jobs involving physical labor.

Contractors aren't often required to have workers' comp, but it's strongly recommended since health insurance won't cover injuries that happen on the job.

If you use any type of vehicle for work, you’ll need some type of car insurance. Most states require commercial auto insurance for business-owned vehicles.

Hired and non-owned auto insurance (HNOA) would cover any personal, leased, or rented vehicles use for work. Your personal auto insurance is unlikely to cover you for a work-related accident, which is why you may need additional coverage.

The first step to obtaining a business license is to find out if a business license is required by your state or local government, along with any professional license. Your next steps to obtaining a business license are:

1. Choose your business name and structure

If you’re required to obtain a business license, you’ll have to choose the name and structure of your business. As outlined above, you have many options for the type of business you form.

Most independent contractors opt for a sole proprietorship in their own name. Other than a business license, it doesn’t require any additional paperwork to do business as yourself, so it’s much easier than forming a partnership or an LLC.

2. Obtain an Employer Identification Number

If you’re operating as a sole proprietor or independent contractor, you’ll list your business income on your personal income tax return.

If you have a “doing business as” (DBA) name for your business, form a partnership, or any other type of formal business structure, you’ll need a free Employer Identification Number (EIN) from the IRS.

The EIN, also known as a Federal Tax Identification Number, is like a Social Security number for your business that you will need to open a bank account and to file taxes for your business. You’ll need to provide information such as your type of business, revenue expectations, and contact information.

3. Gather your business info

When applying for a business license, you may be asked to provide the following information:

• Your EIN
• Your business's name, ownership information, and its legal structure
• A valid government-issued identification, such as a driver’s license
• Your business's address and square footage
• A description of your business activity, including the products and services you offer

4. Fill out the forms and pay the fee

If you need a business license from your state, then your secretary of state’s office, department of revenue, or relevant licensing board can help you find the forms you need and pay any applicable fees.

If you need a license from your local county or municipal government, your city or county clerk’s office can point you in the right direction.

If you’re required to obtain a business license, failing to do so can result in fines, penalties, or even the closing of your business. This can also happen if you fail to renew your business license when required.

The penalties you face could be a flat fee, or a percentage of your income based on how much you earned during your period of noncompliance.

For example, Chicago requires a license to do business in the city. Violating this ordinance could result in fines of $250 to $500 for each day of noncompliance, along with the forced shutdown of a business until a license is acquired. Violating a closure order could bring fines of $500 to $1,000 per day.

Other risks include a lawsuit from a competitor or unhappy customer, a loss of reputation, or losing the ability to bid on government contracts.

Complete Insureon’s easy online application today to compare insurance quotes from top-rated U.S. carriers. You can also consult an insurance agent about your business insurance needs. Once you find the right insurance for your small business, you can begin coverage in less than 24 hours.