How to Pay a Salary to Non-Employees
As a business owner, it's important to know the differences between how the IRS views employees and independent contractors. If you unknowingly hire a contractor and treat her like an employee, the IRS or the state tax revenue department may levy stiff penalties and fines. The basic difference between the two is how you direct their work. When you assign work to an independent contractor, you cannot tell her how to complete the work, nor provide her a workspace or tools to do the job.
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Instructions
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Require the non-employee or the independent contractor to fill out the IRS Form W-9. This establishes the individual as a contractor and not employee. Keep the form on hand. If you pay the contractor more than $599 in a given tax year, ensure that you provide both the vendor and the IRS with a copy of the 1099-Miscellaneous form at the end of the year. This tells both what the contractor received in payments during the tax year.
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Set the non-employee up as a vendor in the accounts payable system. Ensure that whatever accounting system is used includes a provision for reporting 1099 at the end of the year, otherwise this will need to be calculated and handled manually.
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Sign a contract with the independent contractor for consulting services. Do not use the term "salary," as this implies the contractor is an employee, which she is not.
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Pay any pass-through expenses the independent contractor incurs, but do not include these in the contractor's 1099 reporting calculations. Any fees the contractor pays on the behalf of your company are reimbursable expenses not subject to 1099 reporting.
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Do not withhold taxation unless the contractor is subject to withholding under IRS rules. The contractor must indicate this on the W-9 when she submits it.
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Pay the contractor as per the agreed-upon signed contract.
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Tips & Warnings
Independent contractors can provide consulting services on a regular monthly basis and receive pay, however you choose to pay her for those services. Pay can be weekly, bi-weekly, semi-monthly, monthly or quarterly, or annually, depending upon the agreement.
Keep records of all payments made to the consultant and ensure a W-9 is on file. Create a special file for all independent contractors and keep contracts and W-9s together for future reference.
Do not treat ever treat the contractor as an employee, even if paying regular consulting fees. Contractors are in business for themselves and are responsible for paying their own taxes.
References
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