Independent Contractor Fraud: What It Looks Like and How to Prevent It

As more companies turn to independent contractors, they face new challenges related to compliance. That doesn’t mean pulling back from contractor engagements, but rather finding smarter ways to manage risk. 

By understanding common fraud risks and putting the right safeguards in place, your company can engage contractors with greater confidence and security. 

Types of Independent Contractor Fraud

Billing and Invoice Fraud

Billing and invoice fraud is one of the most common risks companies face when working with contractors. A contractor might bill for time not worked, charge twice for the same task, or inflate expenses. These issues that are easy to miss when you’re juggling multiple projects or tight deadlines. 

It often starts small—an hour here or there—but can quickly turn into a major problem. Reviewing invoices regularly and comparing them to actual deliverables is a simple but effective way to prevent losses and catch problems early. 

Credential Misrepresentation

Some contractors exaggerate or falsify their qualifications to secure work. This can lead to substandard output, missed deadlines, or compliance issues, especially in highly regulated industries. 

For each independent contractor, take time to verify certifications, employment history, and professional references before onboarding. A thorough vetting process up front can help you avoid major setbacks later. 

Check Out: How to Protect Your Company From Candidate Fraud  

Shell Company Schemes

Some fraudsters set up fake companies to submit false invoices or hide financial conflicts of interest. These “shell” companies may look legitimate but exist only to funnel money. For example, in May 2024, two individuals were arrested for allegedly laundering more than $73 million through shell companies linked to cryptocurrency scams.   

Even if your business isn’t a direct target, these schemes can surface in routine contractor relationships. Regular vendor audits and strong internal controls can help spot suspicious activity early. 

Misclassification Fraud

Most people associate misclassification with companies wrongly labeling employees as contractors. But the reverse can happen, too. Some professionals present themselves as independent contractors to avoid taxes or bypass legal restrictions, even when their work habits closely resemble those of an employee. 

If a contractor receives training, follows a structured work schedule, and earns most of their income from your company, you may be misclassifying them. Review these relationships closely to avoid costly compliance mistakes and ensure proper classification. 

Learn More: What Is Worker Misclassification: The Compliance Risk Most Companies Underestimate  

Undisclosed Subcontracting

In some cases, a contractor may hand off work to someone else without telling you. This can impact project quality, introduce unknown risks, and leave you unsure who’s actually doing the work or whether they meet your standards. 

It’s important to state clearly in your contracts that subcontracting requires written approval. Doing so keeps you in control of who’s involved and helps ensure standards are met. 

Intellectual Property (IP) Fraud

When agreements aren’t clear, contractors may believe they own the work they create, especially if they use their own tools or ideas. They may also reuse your proprietary information elsewhere or offer similar solutions to competitors. 

How can you avoid this issue? Include detailed IP clauses in every contract. Clearly define who owns the work, what can and cannot be reused, and how information should be handled once the project ends. 

Cybersecurity Risks and Data Theft

Contractors often need access to internal systems to do their work. But this access can introduce vulnerabilities. Whether accidental or intentional, a breach can be costly: IBM reported that the average cost of a data breach rose to $4.88 million in 2023.  

To mitigate this risk, organizations should generally limit contractor system access to essential functions, employ robust authentication protocols, and clearly define sensitive data handling procedures. 

Conflicts of Interest and Kickbacks

Sometimes, a contractor has a hidden connection to someone inside your organization. This can lead to unfair hiring decisions, inflated invoices, or improper payments. 

We recommend establishing clear conflict-of-interest policies that require both contractors and internal employees to disclose any personal or financial ties. Trust is important, but transparency is essential. 

More Resources on Contractor Fraud Prevention

Independent contractors are likely to become even more important as businesses seek flexibility and specialized expertise. The goal isn’t to avoid working with contractors but to do so safely. For more information on workforce fraud, check out tools and resources from the Association of Certified Fraud Examiners. 

MBO helps companies reduce risk when working with independent contractors through strong compliance support and fraud prevention tools. Our anti-impersonation service verifies a contractor’s identity and credentials before engagement, protecting your business from fraud, misrepresentation, and unauthorized access.