W2 or 1099?
In other words, employee or independent contractor?
For some employees, and even for some employers the difference seems blurry. One status may have advantages over the other depending on your audience.
Let’s review some of the main differences. Mike and Jane both work for the same company ABC Inc, perform the similar tasks, experience a comparable level of stress while working at ABC Inc, receive the same pay rate and answer to the same manager. Mike is an employee and Jane has been classified as an independent contractor.
– Earnings summary tax form: At the beginning of the year, Mike will receive an IRS W2 form summarizing his earnings wages for the previous calendar year at ABC Inc. as an employee. On the other hand, Jane will receive an IRS 1099 Miscellaneous form ( 1099-Misc) as long as her earnings were $600 or higher the previous calendar year.
– IRS tax form content: Mike’s W2 will include his identifying information ( name, social security number and address) his gross wages, his wages withholdings ( Federal tax, State tax where applicable, social security, medicare, health insurance contributions – if provided, and retirement contributions – if provided). Jane’s 1099-Misc will contain her identifying information ( name, social security number and address), the total payments received from ABC Inc for her services the previous calendar year, and nothing else.
– Advantages and drawbacks for Jane
- As an independent contractor, Jane takes home a bigger pay throughout the year because she invoices ABC Inc. for her services at the agreed pay rate. No additional charges are deducted when she receives her payments.
- As an independent contractor, Jane is responsible for both her income tax and self-employment tax. She pays those when she files her tax return the following year. In general the rates for these taxes are higher than those of regular employee.
- As an independent contractor, Jane operates as a small business. As such she will pay taxes on her net profit, after deducting all the expenses associated with operating as a small business. These include : fuel expense, car insurance expense, supplies expense ( depending on the nature of the work), all unreimbursed employee expenses, meal and entertainment, home office expenses, unreimbursed travel expenses, and many others. She essentially has better control of the amount of profit she declares to the IRS. It is her responsibility to track these expenses and carefully keep their records.
- As an independent contractor, Jane is not protected by the employment laws that may cover other employees who receive a tax form W2 and are regular employees.
– Advantages and drawbacks for Mike:
- As an employee, Mike only pays half of the social security and medicare charges. The other half is paid by ABC Inc.
- As an employee Mike may have better and easier access to a retirement vehicle or to medical insurance coverage ( depend on the company’s culture, its policies and its size).
- As an employee, Mike is entitled to the existent advantages available to all employees.
– For employers, such as ABC Inc., qualifying a worker as independent contractor may seems advantageous because:
- They are no longer responsible for the other half of social security and medicare charges.
- Also they are not bound by the employment laws that cover regular employees.
- In general they would have less paperwork to deal with and track when working with workers qualified as independent contractors.
– For employers, such as ABC Inc., in order to make the proper selection of employee or independent contractor, the main test is to determine whether or not they control the worker:
- Do they control the worker’s schedule?
- Do they provide day to day training?
- Do they control the decision making power of the worker?
- Do they provide the tools and equipments used by the worker?
- And do they receive invoice from the worker or are they on payroll?
The answers to the questions above provide the necessary information regarding the lawful choice to make when classifying a worker as an employee or an independent contractor.
Please feel free to read up on the distinction regarding of the two statuses as viewed by the Internal Revenue Service.
Happy reading!!!
Yohan