Who Is a 1099 Worker? An Employer's Guide to Independent Contractors
Amid today’s staffing shortage, you may be thinking about using independent contractors to help fill your workforce gaps – whether short or long-term. But if you’ve never hired a 1099 worker before, you probably want to know a little more about this approach to staffing before you begin your search for talent. What do you need to know? Let’s find out.
In this article, we’ll explain what a 1099 worker is, the rules and requirements for independent contractors, pay issues, and more. After reading this, you’ll know if staffing your team with 1099 workers is the best approach for filling open positions in your company.
What is a 1099 employee?
A 1099 worker is a freelancer, independent contractor, or other self-employed worker that completes particular jobs or assignments; they are not employees of the company.
Since they’re not deemed employees, you don’t pay them wages or a salary. Instead, you pay the 1099 worker according to the agreement you strike with them. In addition, you don’t have to worry about withholding income taxes, withholding and paying Social Security and Medicare taxes, or paying unemployment taxes.
Moreover, another difference arises at tax time. Instead of providing a W-2 for traditional employees to report pay, you issue a 1099-NEC to independent contractors to whom you paid more than $600 over the course of the year. They, in turn, pay their own self-employment taxes. So you have the right information for filing, be sure to have the contractor complete Form W-9 when you engage them.
What are the classification rules for 1099 workers?
The distinction between employee and 1099 worker is essential to compliance. For employment tax purposes, the IRS governs the distinction; the Department of Labor (DOL) has a different classification system for wage and hour laws.
It’s important to note that, since there are different classification systems to determine worker status, a worker may be considered an employee under one set of rules and an independent contractor under the other.
IRS Classification Rules
To properly categorize workers, the IRS has provided classification rules as guidance. Above all, the biggest factor is control.
Specifically, according to the IRS, the general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work, and not what will be done and how it will be done.
For instance, to decide whether a worker is an employee or independent contractor, an employer needs to look at the facts of each unique case and consider:
- Behavioral Control: Does the worker have freedom or is the business directing and controlling the work performed?
- Financial Control: Does the worker use their own tools and incur their own expense or is the business directing or controlling the financial aspects of a worker’s job?
- Relationship of the Parties: Does the worker get benefits? Is there an expectation the relationship will continue indefinitely? Are the worker’s services a key aspect of the company’s regular business?
DOL Status Test
Currently, the DOL uses an economic realities test to assess whether a worker is an employee or independent contractor. While there are many considerations that may impact a determination of whether workers are economically dependent on an employer or in business for themselves, two are most important: the nature and degree of the worker’s control over the work and their opportunity for profit or loss.
There is a proposed rule published in October 2022 that would change this to a 6-factor test. This approach would instead do away with prioritizing certain factors and instead focus on the multifactor economic reality where no one factor or factors carry more weight. This is intended to reduce the risk of misclassification in an increasingly gig economy.
What are the penalties for misclassifying a 1099 contractor?
Proper classification is essential to determine how you’ll pay a worker. If you get classification wrong, and call an individual a 1099 worker who is actually an employee, you could be liable for back employment taxes as well as substantial penalties, including:
- $50 for each W-2 that you didn’t file
- A penalty of 3% of employee wages plus 40% of FICA taxes that weren’t withheld and 100% of the matching FICA taxes you’re responsible for
- A penalty of 0.5% of the unpaid tax liability per month up to 25% of the total tax liability
In addition to those penalties from the IRS, under the FLSA, you may be assessed penalties for unpaid overtime or minimum wage violations.
How do I pay an independent contractor?
When it comes to paying 1099 contractors, the most common ways to pay them would be by the hour or by the job. The next thing you’ll want to do is set their payment rate. Lastly, you’ll want to determine how often the contractors will submit their invoices for payment, such as every week or once a month.
Once you receive an invoice from a 1099 worker, the first thing you’ll want to do before you process it for payment is have your independent contractor fill out a Form W-9 that includes everything you need to pay them and report their earnings on a Form 1099 at the end of the year. For payment methods, you can decide what works best for you and your workers. For example, you may want to send a paper check or you may want to pay them via direct deposit.
As we mentioned earlier, one upside of using a 1099 contractor instead of hiring an employee is that you don’t have to worry about managing and remitting payroll tax payments and contributions; the independent contractor will pay taxes out of what you pay them as provided on the Form 1099-NEC that you’ll send them at the end of the year. We’ll discuss some other advantages and potential downsides of hiring these workers next.
What are the pros and cons of hiring a 1099 worker?
As you evaluate independent contractors as a staffing solution for your company, you’ll want to consider the pros and cons of this approach. Here are some factors to think about.
- There’s less administrative work required of your HR team
- It’s less expensive to use contractors since you likely won’t have to offer them benefits or worry about worker’s comp
- You have more flexibility to hire and terminate based on fluctuating needs
- They may not feel the same loyalty towards your company
- It can be more challenging to integrate them into the culture
- You have less control over their daily schedule or competing projects from other clients
After thinking about all of these, you may decide that 1099 workers are the best approach for your business. The next step is to bring these workers on.
Staffing Your Team With 1099 Workers
Just like hiring a W-2 employee, the key to bringing on a 1099 worker that can meet your needs is to identify the talent that will be the best fit for your organization. If you haven’t hired independent contractors before, you may now know where to start looking or how to vet candidates. If hiring a 1099 employee requires more time or expertise than your team has, you may want to consider partnering with an outsourced recruiting agency to help you navigate the process.