Contractor vs employee for agencies: the real math

The usual version of this argument compares a contractor's hourly rate to an employee's salary divided by 2,080, decides the contractor is expensive, and stops. That comparison is wrong in both directions at once: it ignores everything you pay on top of salary, and it ignores that you pay an employee for hours nobody bills.

Done properly, the two numbers land much closer together than most owners expect, and the deciding variable isn't rate at all. It's utilisation.

One caveat before the math. Employer tax rates, statutory benefits, minimum paid leave and — critically — the rules that decide whether someone legally counts as a contractor or an employee vary enormously between countries and often between states or provinces. Everything below is a worked example with made-up rates so you can see the shape of the calculation. Put your own figures in, and take local professional advice on classification before you structure anything.

What an employee actually costs

Take a mid-level designer, editor, strategist or developer on an $80,000 salary.

Base salary	$80,000
Employer taxes (12%)	$9,600
Benefits, insurance, pension (8%)	$6,400
Equipment, software licences, desk	$4,000
Total employment cost	$100,000

Now the hours. Of a nominal 2,080-hour year, remove 25 days of leave (200 hours), 8 public holidays (64 hours) and 5 sick days (40 hours). That leaves 1,776 available hours. At 70% utilisation, 1,243.2 of those are billable.

$100,000 / 1,243.2 = $80.44 per billable hour

Note what's inside that number: you paid for the leave, the holidays, the sick days, the internal meetings, the training and the between-projects weeks. All of it is spread across the hours that actually reach an invoice.

Overhead — rent, your time, finance, the ops person — sits on top of this and is mostly the same whichever route you take, so it's excluded here to keep the comparison clean.

What a contractor actually costs

A contractor at $65 an hour invoices only for hours worked, so no leave, no sick days, no employer taxes, no equipment. But contractor hours are not 100% client-billable either. Briefings, internal reviews, handover documents, the call where you explain the client's preferences again — some of that is on your invoice from them and not on your invoice to the client.

Assume 8% of a contractor's paid hours don't reach a client invoice:

$65 / 0.92 = $70.65 per client-billable hour

To get the same 1,243.2 billable hours out of a contractor, you'd pay for 1,351 hours, or $87,835 — against $100,000 for the employee.

The variable that decides it

The contractor rate is flat. The employee's per-hour cost moves entirely with utilisation, because the $100,000 doesn't change whether they bill 900 hours or 1,500.

Employee utilisation	Billable hours	Employee cost per billable hour	Contractor at $65/hr
50%	888	$112.61	$70.65
60%	1,065.6	$93.84	$70.65
70%	1,243.2	$80.44	$70.65
80%	1,420.8	$70.38	$70.65
90%	1,598.4	$62.56	$70.65

The crossover is at about 80% utilisation. Below it the contractor is cheaper per delivered hour. Above it the employee is.

Put the other way round: at 70% utilisation, the contractor rate at which the two options cost the same is $74.00 an hour. If you can get the skill for less than that, and you can't keep an employee 80% utilised, the contractor wins on cost.

That's the honest headline for most small agencies. Sustained 80% utilisation is hard. It means almost no gaps between projects, minimal internal work, and a pipeline that never stutters.

Where the math stops being the answer

Cost per hour is one input. Three others usually matter more.

Idle risk transfers. If the work dries up for six weeks, the employee costs $11,538 anyway and the contractor costs nothing. If your revenue is lumpy — most project-based agencies — that optionality is worth real money, and it's the strongest argument for contractors that has nothing to do with rate.

Retained knowledge. The employee who's been on an account for two years doesn't need the brand guidelines explained, knows which stakeholder actually approves things, and catches the mistake before the client does. Contractors ramp up each engagement, and you pay for that ramp every time. If you're re-briefing the same freelancer four times a year, your effective non-billable percentage is much higher than 8% and the math shifts back toward hiring.

Availability when it matters. A contractor's best week may belong to someone else. For work with hard deadlines and unpredictable timing — live campaigns, launch weeks, anything with a client on the phone — the person who is definitely there is worth a premium the spreadsheet won't show.

There's also the part that isn't a trade-off: how much control you exercise over someone's hours, tools and methods, and whether they work for other clients, tends to be exactly what determines their legal classification. This differs by jurisdiction and the penalties for getting it wrong land on you, not on them. Structure the relationship for what it genuinely is, and check locally.

A workable default

Most small agencies land in roughly the same place once they've run the numbers:

• Employees for the work you can keep busy year-round — the core craft discipline, client-facing roles, and anyone who needs deep account knowledge.
• Contractors for specialist skills you need a few times a year (motion, copy in a second language, a particular framework), for genuine overflow, and for the first six months of a new service line you're not yet sure will sell.
• Never a contractor as a permanent full-time person in all but name. That's the worst of both: you carry the ramp cost and the classification risk, and you don't get the retention.

Run your own version this week

Take one role you're currently arguing about. Build the employment-cost stack from your real payroll numbers, divide by 1,776 available hours times your actual trailing utilisation for that discipline — not your target — and compare it to what you'd pay a freelancer for the same delivered hours.

Most people discover their employee cost per hour is higher than they thought and their utilisation is lower than they claim. Those two errors point the same direction, which is why the contractor option is usually stronger than it feels.