What is the difference between a W2 and a 1099? Independent contractor vs. employee.

W2s and 1099s are tax forms employers use to report wages and taxes withheld for different workers. Understanding the difference between the two is important if you are running a business in order to avoid IRS penalties or lawsuits. The differences are not always clear but hopefully this post will help you determine the differences and which classification best suits your needs.

A 1099 is a document used to report income received throughout the year other than the salary your employer pays you. There are currently two different types of 1099 forms: the 1099-MISC and 1099-NEC. An independent contractor or self-employed individual should receive a Form 1099-NEC from each business client that pays you at least $600 during the tax year.1099-NECs are used by businesses to report payments made to independent contractors, freelancers, sole proprietors, and self-employed individuals. This includes fees, commissions, prizes, or awards for services completed by independent contractors. Form 1099-MISC is used to report certain types of miscellaneous compensation such as rents, prizes and awards, healthcare payments, and payments to an attorney. The person or entity that pays you is responsible for filling out the appropriate 1099 tax form which is sent to the independent contractor and IRS at the end of each year.

The W-2 form is the official wage and tax statement that a business uses to report an employee’s annual wages and the total amount of taxes withheld from cumulative paychecks. A W-2 employee is either a full time or part time employee of the business. Employees work according to a schedule and policies set by the business. They participate in employee benefits programs like health insurance, paid time off, overtime pay, and retirement plans. The W-2 form is the form that an employer must send to an employee and the Internal Revenue Service (IRS) at the end of each year. Employers are required to withhold social security and Medicare taxes in addition to filing payroll taxes for W-2 employees.

A business must determine the relationship between itself and the worker for IRS purposes. In general, an individual is an independent contractor if the payer has the right to control or direct only the result of the work. Consider the three items below when determining how to classify a worker.

Behavioral: Does the company control or have the right to control what the worker does and how the worker does his or her job?

Financial: Are the business aspects of the worker’s job controlled by the payer? (these include things like how worker is paid, whether expenses are reimbursed, who provides tools/supplies, etc.)

Type of Relationship: Are there written contracts or employee type benefits (i.e. pension plan, insurance, vacation pay, etc.)? Will the relationship continue and is the work performed a key aspect of the business?

Form SS-8 (Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding) may be filed with the IRS if it is still unclear whether a worker is an employee or an independent contractor. The form may be filed by either the business or the worker. The IRS will review the facts and circumstances and officially determine the worker’s status. Misclassifying workers as independent contractors adversely affects employees because the employer's share of taxes is not paid, and the employee's share is not withheld. If a business misclassified an employee without a reasonable basis, it could be held liable for employment taxes for that worker.

The type of worker you hire depends on your business needs. If you require a temporary or short-term project, an independent contractor might be the right fit. But if you need temporary help during a busy holiday season, a seasonal W-2 employee is likely the more appropriate choice. No matter which type of worker you think is a better fit for your business, you should take a look at IRS guidance and state guidelines and regulations.

Please reach out if you have any questions. We are more than happy to help!