Do you know the difference?
In this economy, many businesses are trying to cut back on full-time staffers by hiring contractors to do the same work instead—minus the expensive benefits. As a result, it can often be difficult to tell employees and contractors apart. But there are significant differences, both in terms of workers’ personal bottom lines and in the eyes of the IRS.
To better understand the nuances between the two designations the following should be considered:
1099 Independent Contractor:
- The payor does not have the right to control or direct the result of the work, how it will be done or what will be done.
- Works with a contract directly with their client
- Provides their own tools (yes, even their own computer!).
- Sets their own hours
- Subject to self-employment tax
W-2 Employee:
- Performs services that can be controlled by an employer (what will be done and how it will be done). The employer has the legal right to control the details of how the services are performed.
- Hours, tools and workspace are provided by employer.
- Not subject to self-employment tax, but are subject to FICA (Social Security tax and Medicare) and income tax withholding.
The keys are to look at the entire relationship, consider the degree or extent of the right to direct and control, and finally, to document each of the factors used in coming up with the determination. Before January 31st of each year, 1099s and W-2s are provided to intendent contractors and employees. Independent contractors get a 1099 form from each client that reflects all amounts paid in the previous year, in excess of $600. Employees receive a W-2 that reflects all payroll taxes that have been withheld from their earnings.
It can be very costly if a company mis-classifies an employee as an independent contractor. Unpaid employment taxes can be enforced by the IRS if deemed enforceable.