Why top U.S. startups are moving away from contractor models in India

Have you noticed how the conversation around hiring independent contractors in India is starting to shift? Not too long ago, nearly every U.S. startup exploring India leaned on contractors and freelancers to build lean, agile, and affordable remote teams. But that tide is turning—and fast. You might be wondering what's driving this change.

Why are so many startups using Employer of Record (EOR) or full-time job options instead of the contractor models they always used? A greater story about the future of global work, trust, and accountability is revealed when the hiring landscape shifts globally as a result of new labor laws, more compliance requirements, and changing workforce expectations.

Let's examine the reasons for this shift, the implications for companies, and how adopting a human-centered, compliance recruiting model may contribute to India's more robust and long-term growth.

Why India became a magnet for U.S. startups

India has been the preferred location for businesses looking to scale effectively for almost 20 years. And it's simple to understand why.

• Large talent pool: India annually produces more than a million engineering graduates. The breadth of technological knowledge, from data scientists to designers and software developers, is unparalleled.
• Cost advantage: Hiring independent contractors in India has long been seen as a calculated approach to get top talent for a fraction of the price of hiring in the United States, as it eliminates overhead, payroll taxes, and benefits.
• Time zone alignment: Overnight productivity results from a time difference of about 12 hours. While the United States slept, teams could handle consumer inquiries or push code.
• Low entry barriers: To confirm international expansion, contractors permitted companies to "test the waters" in India without establishing a legal corporation.

To put it briefly, contractor models used to provide the three essentials that every early-stage founder looks for: flexibility, affordability, and speed. However, there are a few disadvantages too.

Why the contractor model is losing its shine

Contractor agreements may appear effective at first. However, many creators found that, particularly in India's changing legal landscape, short-term convenience frequently comes with long-term issues.

The pivotal moment? Growing concerns connected to quality, intellectual property (IP), taxes, and the law forced even the most nimble businesses to reconsider their approach.

More venture-backed businesses are now aware that the alleged "cost savings" of using contractors can be swiftly lost in the face of IP leaks, compliance audits, or fines for employee misclassification.

Resilience, reputation, and creating a genuinely global culture based on moral and legal observance are more important than merely responding to risk.

Understanding contractor models in India

Let's first define contractor models before delving into the reasons why companies are abandoning them.

Independent contractors vs. employees

In India, control, reliance, and legal responsibilities are the main distinctions between an employee and a contractor.

• Independent contractors operate independently and charge a fixed fee for certain services. They manage their own benefits, taxes, and equipment.
• On the other hand, workers are subject to their employer's authority and oversight, and they are also entitled to social benefits, set working hours, and legal safeguards under Indian law.

Common structures used by U.S. startups

• Freelancers for tasks like web development and UX design.
• Consultants for technical or marketing positions on a fixed-term basis.
• Outsourced customer service or support staff via regional organizations.

Historical benefits for startups

• Lower compliance costs—no provident fund contributions, insurance, or payroll reporting.
• The ability to quickly scale up or down.
• The capacity to access qualified personnel without the need for complicated HR procedures or entity establishment.

Early-stage founders were able to move quickly thanks to all of this. However, what appeared flexible gradually began to appear fragile.

The new legal and compliance landscape in India

New labor rules have significantly changed India's labor system, providing greater safeguards and enforcement tools than previously.

Key labor code reforms are reshaping the landscape

1. The 2020 Code on Social Security links gig and platform workers to universal social protection systems, expanding their scope.
2. The 2019 Code on Wages tightens the definition of "employee" and harmonizes wage laws.
3. The 2020 Industrial Relations Code reclassifies contract labor and defines terms of employment.
4. Stricter contractor licensing and reporting requirements are introduced by the Occupational Safety, Health, and Working Conditions Code (OSH Code).

When taken as a whole, these rules make it more difficult for businesses to conflate contractors and employees. Even if your contract specifies otherwise, Indian authorities may consider your India-based contractor to be an employee if they are working under supervision, using business equipment, or adhering to set hours.

Tax and TDS implications

International payments to Indian contractors are subject to withholding tax. Financial penalties may be imposed for failing to deduct tax at source (TDS). Because the Goods and Services Tax (GST) is applied when payments surpass specific thresholds, the possibility of an indirect tax demand has risen significantly.

If Indian or US authorities find misclassification, the startup might face double taxation and a retroactive penalty.

Intellectual property and data safety

Ownership of intellectual property is another frequently disregarded problem.
According to Indian law, employees must promptly return any intellectual property generated while on the job to their employers. Contractors retain ownership, but enforcing it may prove difficult without clear assignments. In sectors like software as a service and financial services, this leads to existential vulnerabilities.

U.S. policy and global trends are adding pressure

There is a global squeeze on compliance.

The U.S. HIRE Act (2025)

Legislators are presently considering the proposed HIRE Act, which may significantly alter foreign contracting practices. The draft eliminates some tax breaks for American businesses that outsource labor abroad and proposes a 25% withholding tax on payments to foreign contractors.

If this were to be put into effect, U.S. startups would no longer be able to benefit from the significant tax advantages that come with payments to foreign contractors, which would make domestic or compliant abroad employment models more appealing.

Broader worker reclassification trends

Following years of dispute regarding gig workers' rights, the United States is tightening laws on who is labeled a "independent contractor".

California's AB5 act, as well as anticipated federal regulations, highlight a broader global trend: authorities are demanding accountability for worker classification, regardless of location.

Trade and reputation risks

Narratives regarding "fair work" are becoming more common in political settings. A company that is caught underpaying or misclassifying personnel, even abroad, risks losing trust with customers who place a higher value on moral corporate behavior, as well as suffering investor scrutiny and reputational damage.

The hidden costs of staying with contractor models

To be honest, it may seem less expensive to continue using contractors, but the hidden expenses quickly become apparent.

1. Misclassification risk

Reclassifying contractors as employees could result in the following consequences:

• Backdated taxes and social security contributions.
• Penalties imposed by tax and labor legislation.
• Possible legal action or operational limitations.

2. IP and data leakage

Contractors may utilize your proprietary designs or code elsewhere if you don't have strict IP agreements. That is a dreadful situation for businesses that rely on innovation or software.

3. Attrition and engagement

Usually, contractors manage several clients. They can abandon the project in the middle, be unloyal, or not share the goals of your startup. This eventually impacts speed, culture, and quality—three things that startups cannot afford to lose.

4. Productivity and accountability

When contractors are constrained by deliverables rather than company policies, it becomes more challenging to maintain consistency, documentation, and monitoring.

Kaamwork’s EOR: A smarter alternative

What is an EOR?

A third-party business that employs people on your behalf in compliance with applicable laws is known as an Employer of Record. The EOR is in charge of:

• Regional laws govern employment agreements.
• Payroll, benefits, and tax returns.
• Social Security and compliance with the law.
• Agreements addressing secrecy and intellectual property assignment.

The EOR assumes legal obligations, but you retain complete control over day-to-day activities.

How it differs from contractors

To put it simply, EOR models allow companies to concentrate on expansion rather than risk exposure or compliance paperwork.

Benefits of switching early with Kaamwork

Making the move from contractors to EOR or full-time models has several noticeable benefits:

• Confidence in compliance: All required donations and filings are made correctly.
• Better IP and data control: By default, EOR systems include secure IP assignment and secrecy.
• Increased retention: When working in strong, compliant systems, employees feel valued and committed.
• Cultural cohesion: Full-time members gradually grow more devoted and in agreement.
• Cost predictability: No unanticipated penalties, tax issues, or back pay obligations exist.
• Scalability: The capacity to expand or hire more staff with assurance and compliance.

Real-world impact: Companies like TripAdvisor, Thrasio, and SimpliSafe have scaled full-time teams in India within six months, saving up to 50% in salaries and 80% on overhead costs through Kaamwork.

How to prepare for the transition

If you're a U.S. startup that utilizes or is thinking about using Indian contractors, these strategies can help you decide what to do next.

1. Look at your current staff. Do your contractors follow instructions, obey corporate policies, and work regular hours like employees?
2. Consider potential liabilities. A tax or legal professional may be able to provide more information about misclassification vulnerability.
3. Consider the benefits and drawbacks. Contrast contractor savings with potential fines and retention losses.
4. Decide on creating an entity versus using Kaamwork’s EOR platform.
5. Update the onboarding and contracts. Include terms that address confidentiality, intellectual property transfer, and tax compliance.
6. Consult with human resources and compliance professionals. Kaamwork can help with this transition.

Consider it a gain in structure and peace of mind rather than a loss of flexibility.

What to watch in 2025 and beyond

Both sides of the Pacific will continue to see changes in the tax and legal landscape.

• Developments about the U.S. HIRE Act: If this measure is approved, there will likely be further financial strain on outsourcing.
• The implementation of India's Social Security Code: Once in place, obligatory registration for gig and contractor contributors may be required, which would redefine classification standards.
• State-level enforcement of the OSH Code: Various Indian states may apply different contractor licensing interpretations, necessitating local knowledge.
• Precedents from courts and tax authorities: The boundaries between "contractor vs. employee" may become even more hazy or clearer as a result of new court interpretations.

Compliance will be more important than ever, and that is the plain message.

Conclusion: Building the future of global teams

India will continue to be a global talent hub. However, how American firms choose to employ that ability is evolving.

The contractor model, once considered the ultimate startup hack, is now becoming a strategic and regulatory risk. It is simply impossible to overlook the hidden expenses of "easy hiring," such as tax obligations and uncertainties surrounding intellectual property. By 2025, startups will succeed if they invest early in teams that are operationally reliable, culturally suitable, and compliant with the law.

A full-time employment agreement or Employer of Record does more than protect your business; it makes it better. It promotes a feeling of community, protects intellectual property, and provides long-term scalability.

If you want to build a genuinely global organization based on compliance and trust, now is the time to evaluate your hiring practices, speak with your legal counsel, and consider switching to more robust structures.

Eventually, you may conclude that making the change earlier is not only safer but also smarter, more courteous, and much more satisfying.

Explore Kaamwork’s EOR solutions to start building your team today.