1099 Vs. W2 Employment
The difference between "W-2 employment" and "1099 employment" is the difference between being hired as a company employee and being hired as an independent contractor, a self-employed person paid to provide a specific service to a client. The names come from the IRS documents that businesses use to report how much money they paid someone. An employee gets a W-2; a contractor gets a 1099-MISC.
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Taxes
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Hiring someone as an employee -- that is, a W-2 worker -- means higher taxes for the employer. First up are Social Security and Medicare "payroll taxes." Employees and employers split the cost of these taxes; as a W-2 employee, you pay 7.65 percent of your income in Social Security and Medicare taxes, and your employer pays an equal amount, for a total of 15.3 percent. A 1099 worker, however, is both the employer and the employee, so you must pay the whole 15.3 percent as "self-employment tax."
Employers also must pay unemployment taxes for each employee. These taxes pay for unemployment benefits that laid-off workers can receive. Independent contractors do not pay unemployment tax -- but they're not eligible for jobless benefits if they wind up out of work.
Withholding
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When you're a W-2 worker, your employer must withhold payroll and income taxes from your paycheck, and then send that money to the government. When you're a 1099 worker, you must calculate how much money you owe in taxes and send it to the government yourself; this often means paying quarterly estimated taxes. See the link in the Resources section for IRS guidance on estimated taxes.
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Benefits
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In general, only W-2 workers are entitled to company benefits such as health insurance or paid vacation and sick time. If you're an independent contractor, money is the only compensation you will get from the company that pays you; if you want insurance or other benefits, you have to set them up for yourself, under your own business.
Legal Distinctions
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Because they're eligible for benefits and come with extra taxes, employees are generally more expensive for an employer than independent contractors. That's why some companies try to shift workers from W-2 status to 1099 status. But you can't just relabel your employees as contractors. The IRS uses a number of tests to determine whether a worker is truly independent. Employers caught misclassifying employees as contractors -- intentionally or unintentionally -- will not only have to pay the back payroll and unemployment taxes for those workers but also penalties of as much as 100 percent of the unpaid taxes.
Tests
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Legally, whether you are an employee or a contractor comes down mainly to how much control you have over your work. If a company dictates when you work, where you work and how you work, you're probably an employee. As a contractor, on the other hand, you're given a job to do, and it's up to you to get it done in whatever way works. Other factors include the degree of control you have over the business aspects of your job -- such as whether your expenses are reimbursed -- and whether you receive any kind of benefits. The IRS says there is no magic formula for determining who should be a W-2 worker; it's taken on a case-by-case basis. However, a company can ask for an official ruling from the IRS on a worker's status by filling out Form SS-8.
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References
Resources
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