Outsourcing work without informing the employer: is that illegal or punishable?

Question

I'm a freelancer and many times I simply outsource or hire a subcontractor (all ghost subcontractors) from like UpWork to do what my clients' ask from me. My clients generally do not know that I outsource my tasks, and they think that they are just simply hiring me.

Obviously, if they find out, they might decide to not work with me anymore, but on the legal aspect, would this count as some sort of employee fraud? If the work I submitted to the client damaged relationships with their clients due to the lack of quality from my subcontractor, would I take legal responsibilities?

Lastly, I believe this outsourcing can be deducted as business expenses when doing taxes. However, this might lead to that business expense being somewhat high. If the IRS founds out about this, would that cause any problems?

Answer 1

What does your contract with your client say?

What does your contract with your sub-contractor say?

Typically the client contract will not specify HOW the work gets done, just the deliverable(s), the price and the liability. Unless your client contract says otherwise, it's perfectly legal for you to farm out the work.

It's also perfectly fine for you to deduct the cost of the sub. As long as that's profitable the IRS will have no problem for that at all: that's a perfectly normal business practice. Things are a bit more complicated if you farm out at a loss since that could be interpreted as a tax evasion scheme. However, as long as it's reasonable, that's fine.

If there are defects in the work product, the client will come after you, regardless of who did the work. It's generally your responsibility to fix the issues, cover damages etc. You, in turn, can try to recover your damages from the sub, but that depends on the nature of the contract you have with the sub.

Answer 2

If you are an employee, you can’t outsource your work

One of the features of an employment contract is that it is a contract of service - they employee must perform the services personally.

If you are a contractor then, unless the contract prohibits it, you are free to outsource.

In either case, breaking a contract is not a crime but it can allow your employer to terminate it and/or sue for damages.

Answer 3

Deducting business expenses is legal. Perhaps on Money SE would know if the IRS has alarm thresholds. It is generally legal to subcontract part of a job. There can be exceptions, especially if the contract explicitly says "no subcontracting", or (hopefully obviously) substituting Al Yankovic for Bruce Springsteen at a concert. There are very many business risks associated with subcontracting which are legal, which we can ignore as being too numerous. There can be licensing concerns in a business which is regulated and which requires a license (a doctor cannot subcontract an appendectomy to a mortician). You remain responsible for getting the job done, therefore if your subcontractor does not do what is supposed to be done, you can be sued and you can't say "it's not my fault, I farmed that job out to Jones".

In order for it to be fraud, you would have to have held out that you personally would do the job, and you knew that you would not be doing the job, also the client would have had to rely on your "personal service" representation.