As a self-employed contractor, you have to do all your own timekeeping and billing, find your own insurance, and deal with a lot of other details that an employer would usually handle. If you’d like to rid yourself of some of this work, a pass-through agency may be just what you need. In this article, I’ll explain what pass-though agencies do and what you should look for if you decide to take this route. In addition, I highlight what several of these agencies offer on their Web sites.
What is a pass-through agency?
A pass-through agency is a company that acts as your employer of record, handling billing and collection for you and issuing you a W-2 at the end of the year. But you remain in control of whom you work for, how much you charge, your work hours, and project parameters. That’s why they’re called pass-through agencies—you simply pass your invoices through them while retaining the freedom to work when and how you like. You can often obtain health insurance and other benefits from these agencies, and they also allow you to present yourself as a W-2 employee, which gets your foot in the door at companies wary of an independent contractor’s 1099 tax status. And you no longer have to bother with estimated tax payments four times a year.
Of course, you pay a percentage of your earnings to the agency, but it’s far less than what you’d pay to a full-service agency. In addition to that percentage, you also pay a pass-through the roughly 7.5 percent employer portion of the self-employment tax.
What to look for
First of all, make sure the agency does not charge you beyond the straight percentage of your gross, plus money to cover your taxes. Insist that the company break all those taxes down for you in a report, and ask to speak with a couple of other contractors who use their services.
Be aware of wage caps on certain taxes: You aren’t taxed for Social Security/FICA on wages over $76,200, nor do you pay federal unemployment taxes on wages over $7,000. Make sure that the agency doesn’t try to collect and keep these taxes on your total earnings.
You should also have the option to pass only some of your income through the agency. For example, if you decide you don’t want to give up some of the income you receive from an existing client, the agency should not restrict you from not including that client in their plan. Of course, if you don’t use the agency for earnings you gain from that client, you’ll still have 1099 income and will have to continue making estimated tax payments.
Of the several sites I researched, I liked PACE (Professional Association of Contract Employees) best. Its founder has been an independent contractor himself, and the site seems dedicated to providing independents good services for a fair price while helping them retain as much of their 1099 freedom as possible.
How it works
With PACE, you land your own contract assignment, negotiate the terms—including the requirements, project length, and billing rate and cycle—and as your employer of record, PACE finalizes the contract. PACE will then invoice your client (you can choose to bill on a per-project, hourly, daily, or weekly basis), collect the money, withhold your taxes, and issue you a W-2 at year’s end. You simply complete and submit a timesheet at the end of each payroll period, which you set.
PACE sets you up as a “division manager” within the company, deducting its fee and payroll taxes from your division’s revenues, i.e., your gross receipts. Additional division expenses are handled as tax-exempt income to compensate you for your inability, as a W-2 employee, to claim business and equipment expenses. You’re reimbursed—albeit with your own money, but tax-free—for approved expenses such as office supplies, marketing expenses, training and education, conventions, travel, software, and so on. It’s essentially the same setup as if you filed a Schedule C, except that you get the tax break immediately.
What you pay and what you get
PACE charges you five percent of your billing rate for their services. They also ask you to pay the employer’s share of payroll taxes (approximately 10 percent of your gross pay), which covers the employer’s half of the 15.3 percent self-employment tax (for Social Security and Medicare), plus federal and state unemployment taxes, which vary by state. PACE is explicit about not collecting taxes over the wage caps mentioned earlier.
The fee also covers PACE’s administrative overhead—rent, utilities, and staff payroll—and funds general liability insurance, errors and omissions insurance, workers’ compensation, state disability insurance, and unemployment insurance.
PACE gives you the option to participate in their tax-deferred retirement plan, which allows you to contribute as much as 25 percent of your gross wages (up to $30,000 per year). And because PACE does not match any portion of your contribution, you’re immediately 100 percent vested.
You can also participate in the following plans, for a premium:
- Several types of group health and dental insurance, with no waiting period
- Long term disability
- Life insurance
- Long-term care insurance
Refer colleagues and get money back
PACE even has a referral program: If another contractor joins PACE on your recommendation, you get a one percent rebate on your gross receipts, as long as both you and that contractor are with the company. There’s no limit on how many referrals you can make, so if you referred five people, the service would be free, and if you referred more, you’d be making money.
MyBizOffice didn’t give me quite the same feeling as PACE did, perhaps because MyBizOffice is a publicly traded company with a slick site. To me, PACE seemed more overtly intent on honesty, but don’t let that stop you from at least looking into MyBizOffice’s services. But do note that you must expect to gross at least $60,000 your first year to sign on with MyBizOffice.
You submit your time sheets and expenses online, and MyBizOffice sends out the invoice and tracks your accounts receivable. As with PACE, you’re reimbursed for certain expenses on a tax-exempt basis: You submit your expenses online and MyBizOffice subtracts them from your profits before taxes are calculated and remits the money to you. Approved expenses include:
- Office supplies and expenses
- Auto expenses, either mileage or actual
- Child care, up to $5,000 if both parents work
- Insurance premiums and medical expenses not covered by insurance (up to a limit)
- Tuition for classes and seminars related to your profession
- Marketing and client entertainment
The retirement plan allows you to defer taxes on 25 percent of income, up to $30,000, and you can invest in up to 30 mutual funds. MyBizOffice also provides a profits/expenses report that you can view online, and other services include a contract review and 100 free business cards.
What you pay
MyBizOffice didn’t list its fee anywhere on its Web site that I could find, which bothered me. Fortunately, when I called the toll-free number provided, the agent was very up-front: four percent of your profits, plus your payroll taxes. He also told me that they reduce rates for “high billers,” which he classified as those who charge $100 an hour or more.
Your options for premium-based insurance are as follows:
- Medical, providing PPO and HMO options at group rates
- Dental, covering preventive care at 100%
- Long-term disability
MyBizOffice provides insurance for general liability (up to $5 million) and errors and omissions (which they call professional liability coverage; up to $2 million) at no cost.
Although its services are similar to those of the preceding companies, iPros.com’s Web site was not as detailed. The company offers three plans:
- Time tracking and invoicing: You enter your hours and expenses for each client online, and iPros delivers your invoice to the client by e-mail, fax, or a variety of mail options. The basic service is free, although there are a number of confusing fee-based options you can choose from.
- Pass-through: A service of somewhat dubious value for the cost, the pass-through service provides client invoicing and collection plus direct deposit and free skills-assessment tests and certification exams. Your cost is $2 per billable hour, and you retain your 1099 classification.
- Full service: This plan is most similar to the services offered by the other companies. For $3 per billable hour, you receive general pass-though services, plus access to group-rate health and dental insurance, a vision care plan, and disability and life insurance. None of these plans, however, are included in your fee to iPros. They do include unlimited free skills assessment tests and certification exams.
Although the site’s link to its 401(k) plan was listed as “Matching 401(k),” I couldn’t find any mention of the amount they’ll match. It did point out a $5 administrative fee per quarter. The amount you can contribute is lower than at the other companies: 18 percent of income, up to $10,000. You aren’t eligible to participate until you’ve worked 1,000 hours in 12 consecutive months, however, which indicates to me that iPros does match your income in some way.
Meredith Little wears many hats as a self-employed technical and travel writer, documentation consultant, trainer, business analyst, and photographer.Do you use a pass-through agency for your contract work? Has your agency helped you work more efficiently? Post a comment below or send us a note.