The Difference Between W-2 and 1099 Forms
Each year, employers must issue W-2s and 1099s to their employees. However, what is the difference between a W-2 and 1099? If an employer provides the wrong form to an employee, it could result in potential fines.
To avoid this issue, let’s look at the difference between 1099 and W-2 forms. We’ll also discuss how to determine which form to use so you can maintain compliance during year-end processing.
What to Know About W-2 Forms
A W-2 form, also known as a Wage and Tax Statement, is a required document that an employer must send to employees each year. Any business owner engaged in a trade or business who pays for services performed by an employee must file a Form W-2 for each employee.
Earnings include non-cash payments of $600 or more for the year (all amounts, if any income, social security tax, or Medicare tax was withheld). Here are some essential facts to know about W-2 forms:
- It’s different from a Form W-4, which is used to tell your employer how much tax to withhold from your paycheck each pay period.
- It usually determines whether a person is getting a refund or making a payment during tax season.
- Employers must provide their employees with copies of their W-2s by the end of January each year.
From the first paycheck of the year to the final payroll processed, that information populates Form W-2s. Employees that receive a W-2 are provided an overview of their earned wages, any taxes withheld, and any deductions taken for items like retirement contributions or health insurance for that calendar year.
NOTE: Sometimes, the amounts shown on a Form W-2 are different than what is reflected in a final pay stub for the calendar year. If this is the case, you can utilize a resource like our W-2 Vs. Final Pay Stub Handout to explain the difference to your employees.
What is Form W-2?
Form W-2 is the tax form used to report wages paid to employees for the year. Employers must provide a W-2 to each employee and the IRS at the end of each year. Form W-2 includes information about the tax year, including:
- Taxable Income: How much an employee made and how much of that income was withheld for federal taxes.
- Social Security and Medicare Income: How was much was withheld for FICA taxes.
- State Income: How much was withheld for state income taxes if any.
An employee then uses the Form W-2 to report their earned wages to the IRS for tax filing purposes. Employers will also file Copy A of their employees’ W-2s with the IRS, along with a Form W-3, Transmittal of Wage and Tax Statements, to fulfill their tax filing obligations.
Who Gets a Form W-2?
Any employee who earns at least $600 from an employer is required to receive a Form W-2 for tax purposes, regardless of the type of worker. Employers are required by law to file copies of W-2s to the IRS, Social Security Administration (SSA), and state and local tax authorities, if applicable.
Employers typically begin verifying employee information in October and November to prepare for year-end processing and the distribution of W-2s to employees. The type of information that should be verified includes:
- Social security numbers
- Employee names
- Employee addresses
Once this information has been verified or corrected, employers then prepare to generate W-2s to distribute in January. If an employer uses a provider that offers payroll tax compliance services, this process can be as simple as making W-2s available to employees in an online portal for easy access.
If an individual receives at least $600 from more than one employer, they must file all Form W-2 received for that calendar year. If an employee only worked for an employer part of a calendar year, they must file that Form W-2 with the IRS.
Reporting Income for Employees
Employers are required to withhold income tax and the employee portion of Social Security and Medicare taxes. Businesses are responsible for paying Social Security, Medicare, and unemployment (FUTA) taxes on their employees’ wages.
What to Know About 1099 Forms
A Form 1099 provides a record that an entity or person other than an individual’s employer gave or paid them money. There are many types of 1099 forms for everything from interest and dividends to pensions and payouts from individual retirement accounts. Here are some essential facts to know about 1099 forms:
- Receiving a 1099 doesn’t necessarily mean taxes are owed on that money.
- Employers must provide copies of Form 1099 to contractors or freelancers by the end of January each year.
- Employers must file Form 1099 with Form 1096, Annual Summary and Transmittal of U.S. Information Returns.
Two of the most common 1099s are the 1099-NEC and 1099-MISC. These forms are typically issued to independent contractors or freelancers to report wages paid to them without taxes withheld, like Medicare and Social Security, to the IRS.
What is Form 1099-NEC?
Form 1099-NEC is used to report non-employee compensation (NEC). Beginning in 2020, the IRS now requires employers to use Form 1099-NEC to report any money paid to individuals who provided work or services but were not employees. Money paid must be at least $600 in services, rents, prizes or awards, and other income payments.
Common examples of non-employee compensation include fees paid for professional services like attorneys or accountants and payments made to independent contractors.
NOTE: The due date for filing Form 1099 that includes non-employee compensation has changed from February 28th to January 31st. Furthermore, the automatic 30-day extension for forms that include NEC has been eliminated.
Who Gets a Form 1099-NEC?
Any independent contractor or freelancer who earns at least $600 from a business that does not count them as an employee must receive a Form 1099-NEC for tax purposes. Employers are required by law to file copies of 1099s to the IRS, Social Security Administration (SSA), and state and local tax authorities, if applicable.
Employers typically begin verifying information in October and November to prepare for year-end processing and the distribution of 1099s to contractors and freelancers. The type of information that should be verified includes:
- Social security numbers
- Contractor names
- Contractor addresses
Once this information has been verified or corrected, employers then prepare to generate 1099s to be distributed in January. If an employer uses a provider that offers payroll tax compliance services, this process can be as simple as mailing 1099s directly to contractors for added convenience.
Reporting Income for Independent Contractors
Employers might need to provide Form 1099-NEC to report what is paid to independent contractors if it was more than $600 in a tax year. Withholding, Social Security, and Medicare wages are not reported on a Form 1099-NEC because income taxes are not withheld for independent contractors. They are responsible for paying their income tax and self-employment tax. Businesses do not have to file a Form 1099-NEC if an independent contractor is registered as a C corporation or S corporation.
What is Form 1099-MISC?
Form 1099-MISC is used to report miscellaneous income that does not fit into other 1099 categories. Now that Form 1099-NEC is being used to report non-employee compensation, Form 1099-MISC has been revised, and the box numbers have been rearranged for reporting certain income:
- Box 7 - Payer made direct sales of $5,000 or more checkbox.
- Box 9 - Crop insurance proceeds are reported here.
- Box 10 - Gross proceeds to an attorney are reported here.
- Box 12 - Section 409A deferrals are reported here.
- Box 14 - Nonqualified deferred compensation income is reported here.
- Boxes 15, 16, and 17 - State taxes withheld, state identification number, and the amount of income earned in the state are reported in these boxes.
Who Gets a 1099-MISC?
Form 1099-MISC is provided to each person an employer has paid during the year. These types of payments include:
- At least $10 in royalties or broker payments in lieu of dividends or tax-exempt interest.
- At least $600 in:
- Prizes and awards
- Other income payments
- Medical and health care payments
- Crop insurance proceeds
- Cash payments for fish (or other aquatic life) you purchase from anyone engaged in the trade or business of catching fish
- Generally, the cash paid from a notional principal contract to an individual, partnership, or estate
- Payments to an attorney
- Any fishing boat proceeds
Use Form 1099-MISC to report if an employer made direct sales of at least $5,000 in consumer products to a buyer for resale anywhere other than a permanent retail establishment.
What’s the Difference Between a 1099 and a W-2 Employee?
There is one key difference between a W-2 form and a 1099. A Form 1099 is issued to an independent contractor to report their income to the IRS. They pay their taxes since they are self-employed. A Form W-2 is given to an employee to report their income and payroll taxes withheld. Therefore, there is a tax difference between 1099 and W-2 forms.
What’s the Difference Between an Employee and Independent Contractor?
Knowing which form to provide at the end of the year depends on whether you’re classifying your employees and independent contractors correctly. To better understand this process, let’s look at how the IRS classifies workers. According to the IRS, an employee is anyone who performs services for you if you can control what will be done and how it will be done.
For example, if a worker is employed on a full-time basis, requires minimal assistance due to experience, and their work is subject to a supervisor’s approval, that person is an employee.
The IRS defines an independent contractor as anyone who offers their services to the general public. This definition includes doctors, dentists, lawyers, and accountants. If the payer has the right to control or direct only the result of the work and not what will be done or how it will be done, that worker is an independent contractor. However, distinguishing whether a worker is an employee or an independent contractor, depends on each case’s facts.
Determining if a Worker is an Employee or Independent Contractor
Accurately classifying employees and contractors is vital for federal tax purposes. Worker classification impacts how you pay employer taxes and how your employees pay their federal income tax, social security, and Medicare taxes.
It’s important to remember that no single control factor is used to determine whether a worker is an employee or an independent contractor. Look at the entire relationship and consider the degree or extent of the right to direct and control. These control factors will help you determine the difference between a W-2 and 1099 contractor form.
There are three main categories of relevant facts to consider to determine the classification of your workers:
1. Behavioral Control
Behavioral control demonstrates whether you have the right to direct or control how the worker completes their tasks. If a business has a right to direct or control task completion, the worker is classified as an employee. The employer does not have to direct how the work is completed, as long as they control the work itself. Behavioral control falls into the following categories:
- Type of instructions given
- Degree of instruction
- Evaluation systems
Type of Instructions Given
If the worker receives extensive instructions on how the work is to be completed, that person may be an employee. Instructions can include:
- When and where to do the work
- What tools or equipment to use
- What workers to hire or to assist with the work
- Where to purchase supplies and services
- What work must be performed by a specified individual
- What order or sequence to follow when performing the work
Degree of Instruction
If the worker receives less extensive instructions about the work to complete but not how it should be done, the worker may be an independent contractor. For example, time and place may be less important than how the actual work is performed.
However, the amount of instruction will vary depending on the type of work performed. Even if an employer gives no instructions, behavioral control may exist if the employer has the right to control how the individual achieves the work results.
If an evaluation system is in place that measures the details of how the work is performed, then these factors would indicate an employee. If the evaluation system only measures the result, this could mean either an employee or an independent contractor.
If the worker receives training about required procedures and methods, this indicates the organization wants the work done a certain way. This factor suggests the worker is an employee. Furthermore, if there is periodic or ongoing training about procedures and methods, this is more substantial evidence of an employee. Independent contractors and freelancers typically use their own methods.
2. Financial Control
Financial control refers to facts that determine whether or not an employer has the right to control the economic aspects of the worker’s job. Financial control factors include the following categories:
- Significant investment
- Unreimbursed expenses
- Opportunity for profit or loss
- Services available to the market
- Method of payment
Independent contractors often have significant investment in the tools and equipment they use when working for someone else. However, there are certain occupations where workers spend their own money on equipment they use and are still considered employees.
There is no specified dollar amount to meet to have significant investment. Some work types do not require large expenditures, so significant investment is not necessary for independent contractor status.
Independent contractors are more likely to have unreimbursed expenses. However, some employees may also incur unreimbursed expenses connected with the services they perform for their business. It’s also essential to consider fixed ongoing costs incurred whether work is currently being performed or not.
Opportunity for Profit or Loss
If a worker has a significant investment in the tools and equipment used and has unreimbursed expenses, the worker has a greater opportunity to lose money. Having the possibility of incurring a loss indicates that the worker is an independent contractor.
Services Available to the Market
Independent contractors often advertise, maintain a visible business location, and are available to work in the relevant market. They are typically free to seek additional business opportunities.
Method of Payment
An employee is usually guaranteed a regular wage amount for an hourly, weekly, or another period of time. This reoccurring wage payment generally indicates that a worker is an employee, even when a commission supplements the wage or salary.
An independent contractor is typically paid a flat fee for the job. However, it is common in some professions to pay independent contractors hourly.
3. Type of Relationship
Type of relationship refers to facts about how the worker and employer perceive their relationship with each other. These factors include the following categories:
- Written contracts
- Employee benefits
- Permanency of the relationship
- Services provided as a vital activity of the business
A written contract is not enough evidence to determine a worker’s status. How the parties work together determines whether the worker is an employee or an independent contractor.
Employee benefits include insurance, pension plans, paid vacation, sick days, and disability insurance. Businesses do not typically grant these types of benefits to independent contractors. However, the lack of these benefits does not necessarily mean the worker is an independent contractor.
Permanency of Relationship
If a worker is hired with the expectation that the relationship will continue indefinitely, this is typically considered evidence that the intent was to create an employer-employee relationship.
Work relationships with a defined amount of time or a specific project could indicate the worker is an independent contractor.
Services Provided as Key Activity of the Business
If a worker provides services that are a key aspect of the business, it is more likely that the employer will have the right to direct and control their activities. For example, if a company hires a graphic designer, it is likely to present the designer’s work as its own and have the right to control or direct that work. This factor would indicate an employer-employee relationship.
If it is still unclear whether a worker is an employee or independent contractor after reviewing these three categories of facts, file Form SS-8 with the IRS. This form is for the Determination of Worker Status for the Purposes of Federal Employment Taxes and Income Tax Withholding.
This IRS will review the facts of the situation and officially determine the worker’s status. This determination will help you better understand the difference between W-2 and 1099 pay so you can issue the correct forms to your workers.
For more information on the classification of workers, check out the following resources:
What Else Should I Know About W-2s and 1099s?
- Forms W-2 and 1099-NEC must be furnished to employees and independent contractors by January 31st each year.
- Forms W-2 should be filed with the Social Security Administration along with a W-3 transmittal form by January 31st each year.
- Forms 1099-NEC and 1099-MISC should also be filed with the Social Security Administration along with a 1096 transmittal form by January 31st each year.
How APS Can Help
APS provides a suite of solutions and services to help you manage compliance and reporting:
- Our secure, centralized database stores and tracks Forms W-2 and 1099-NEC for better compliance.
- Our Analytics and Reporting solution provides employee classification reports and reporting for common W-2 errors, so your information is always accurate and up to date.
- Our tax compliance experts help you with year-end processing of Forms W-2, W-3, and 1099-NEC, saving you time and money.
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