When you’re in business and employ people to do work, you have to understand the difference between W-2’s and 1099’s. One is for employees and one is for independent contractors. Do you know which is which?
W-2’s are tax forms that account for the total wages earned and total taxes deducted from employees’ checks. 1099’s are tax forms that account for the total wages paid to independent contractors. They are statements of income earned by people performing work for others, and they represent different working relationships.
The W-2 Form is completed by employers at year’s end to account for the total wages they paid to employees and deductions that were taken out of paychecks, including income taxes and other required taxes. Employers are required to provide them to employees by the end of January of the following year.
Employees fill out IRS Form W-4, Employee’s Withholding Allowance Certificate, to claim allowances, deductions and adjustments, and declare income tax filing status. Form W-4 is issued by the Internal Revenue Service (IRS) and updated yearly. It has a worksheet attached to it to assist users in determining their deductions and allowances, as well as tax tables for review. If employees don’t understand how to fill out a W-4 Form, there is an IRS Withholding Calculator they can use to figure it out.
Employers should get a completed W-4 Form from new employees before the first pay period. Employees can change their W-4 Forms to change their income tax withholdings at any time but are responsible for submitting an accurate W-4 for enough income tax withholding. Employers are required to keep W-4 Forms on file for at least four years to verify they are withholding federal income according to employees’ instructions and must make them available to the IRS if requested. Employers are required to file W-2s with the Social Security Administration by the end of February if filing by paper or by the end of March if filing electronically.
The IRS defines employees by the business relationship. Anyone who performs work is generally an employee if the employer controls what will be done and how it will be done, regardless of whether the employee works full or part time. Employers are generally required to withhold and pay income tax for employees, as well as Social Security, Medicare and local taxes.
The 1099 Form is used by payers to report payments to independent contractors who are not employees. They must report royalty payments over $10 and rents and compensation over $600.
Contractors should fill out Form W-9, Request for Taxpayer Identification Number and Certification. This provides the payer the information necessary to complete the 1099. It also requires the contractor to certify if they are not subject to Federal Backup Withholding, which is a method the IRS uses to collect taxes owed from contractors who have not provided correct tax identification numbers or have underreported taxes to the IRS in the past.
Employers are required to send contractors 1099s by the end of January for annual earnings and file 1099s with the IRS by the end of February for paper filings or by the end of March for electronic filings.
The IRS defines independent contractors generally as a person who performs work for someone else who has the right to control or direct the results of the work but not the means and methods of accomplishing the result.
A general rule to distinguish employees from independent contractors for the purposes of classifying them is that independent contractors are self-employed while the type of work and how employees work is controlled by the employer who hired them. Employers withhold federal income taxes and pay unemployment taxes on wages paid to employees but only report payments made to independent contractors. Classifying employees and independent contractors correctly is very important to avoid substantial fines and penalties.
The consequences for treating an employee as an independent contractor are liability for employment taxes, overtime and minimum wage. There may also be criminal penalties for wage law violations, penalties for failing to withhold payroll taxes, federal I-9 violations, worker’s compensation violations, and unemployment insurance shortfalls.
PAYDAY can help you understand the difference between W-2s and 1099s, and can assist in reporting both Forms W-2 and 1099. Our solutions are continuously updated so they can help you stay current with the rules for paying employees and contractors.
PAYDAY Workforce Solutions provides a single database SAAS solution for Human Capital Management (HCM) including payroll, human resources, time management, benefits administration and onboarding to companies of all sizes and in various industries.
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