This is a popular topic for business owners and one that could have a significant impact on the business in the future. Why? Primarily because it could cost the business a LOT of money if a worker or workers (even worse) are paid and taxed incorrectly.

An Overview of the Difference

What, exactly, is the difference between a W-2 employee and a 1099 Independent Contractor? The IRS takes into consideration three main areas of control: behavioral, financial, and type of relationship. Let’s take a look at some of the practical differences between the two:

How they are paid:

• W-2 Employee: Gets paid a salaried or hourly wage for services performed. Taxes for income, Medicare, Social Security, and any other tax obligations are withheld from the wages, and it is the employer’s responsibility to forward those on to the Federal and State governments.
• 1099 Contactor: Gets paid a gross amount, and the responsibility for submitting income tax and self-employment taxes falls on the individual

Benefits:

• W-2 Employee: Has a right to receive any health, dental, life insurance, 401(k), or any other benefits the business offers
• 1099 Contractor: Not entitled to any benefits.

Time and Attendance:

• W-2 Employee: The employer can dictate when the employee is required to work
• 1099 Contractor: Aside from providing any project deadlines the contractor is to meet, the business does not have any control over when the Contractor performs the work.

Control Over the Worker:

• W-2 Employee: With a W-2 employee, the business owner has the right to give instruction and provide the tools, training, and equipment to complete the work required for the position.
• 1099 Contractor: With an independent contractor, you only have the right to control the result of the work, not how it was done.

Severing the relationship:

• W-2 Employee: Parting ways with an employee requires justification based upon state guidelines and regulations.
• 1099 Contractor: Severing this type of relationship is relatively easy, based on the terms of the contract. Often, contracts have provisions tied to performance related to the project/goals for the contract work.

Please keep in mind that this list and the quick summaries provided are far from all-encompassing of the rules between the W-2 and 1099 classifications. To dive deeper into this topic, please reference the IRS’ Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding (https://www.irs.gov/pub/irs-pdf/fss8.pdf). The business owner or worker can complete this questionnaire to ensure the classification is correct and appropriate given the relationship's arrangements.

What Can Happen If I Don’t Classify a Worker Properly?

The short answer is it will cost the business a LOT of money, as mentioned above.

Typically, an error in the classification of workers is identified through an audit. The Internal Revenue Service will contact the business owner to advise that a flag was identified on the business’ records and that an investigation is being initiated. The investigation can be conducted via mail correspondence or an in-person examination of the records of the business and to hold interviews with key personnel. Form SS-8 will be a crucial component of the investigation, typically being voluntarily submitted by the business oner, or completed in person during an interview, to determine if workers were misclassified.

For the workers misclassified as 1099 Independent Contractors, the IRS will assess the withholding taxes that should have been tended to by the business and record those amounts as owed by the business. On top of that balance assessed, penalties and interest will also be assessed effective the date the taxes should have originally been paid. Remember that if the worker had been classified as a W-2 employee, the employee’s portion of the taxes would have been withheld from their paycheck and the business would have had those funds available to address the withholding tax obligations. With a misclassification situation, there is no way for the business to recoup those monies from the worker once the misclassification assessment is made, so this will cost the business a significant amount of money.

How Can I Fix this Type of Situation Voluntarily?

If you or your client are a business owner who has misclassified workers, there are options to preemptively fix the situation through two programs the IRS has implemented:

• Section 530 Employment Tax Relief
• Voluntary Classification Settlement Program

The Golden Lion Tax Solutions team has experience working through both of these programs with prior clients and can help bring the situation to a close with as minimal impact as possible given the business’ situation. With over 23 years of experience handling business and individual taxpayer account concerns, we are the best answer to this or any other tax account concerns you may have.

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For help with your tax debts, email contactus@goldenliontaxsolutions.com or call 833-LION-TAX (833-546-6829)

Disclaimer: There are requirements that must be satisfied in order to qualify for some of the tax solutions we discuss on our website. Not all of our services will be suitable for every client. Golden Lion Tax Solutions is here to help you find the most appropriate solution to fit your situation.