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What are 1099 and W2 employees?

As a small business owner, it’s more important than ever to understand the intricacies of employment types. The two most common employee classifications are W2 employees (traditional employees) and 1099 contractors (those who may work for other employers throughout the year).  Recent statistics show that independent contractors, a group predominantly made up of 1099 workers, totaled nearly 32 million in 2022. This growing trend highlights the significance of distinguishing between 1099 and W2 employees.

The government places the burden of tracking and taxing employees and contractors square on the employer. Every employer is required to track wages paid to individuals, and withhold and pay appropriate taxes as set forth by law.  In this article, you will learn the essential differences between these two categories of workers, which are critical for legal compliance, effective financial management, and aligning your workforce with your business goals. Additionally, we’ll cover the decision-making process to help you determine which type of employee aligns best with your business needs. Whether you’re considering expanding your team or just starting out, this article aims to equip you with the knowledge you need to navigate these important decisions confidently.

What is a 1099 employee?

A 1099 employee, often referred to as an independent contractor or a freelancer, operates more independently than a traditional employee. These 1099 employees are independent business owners and are not employed by the company. They are hired for a period of time and agreed upon fee set by a contract. 1099 workers may work for multiple companies throughout the year.  They are not subject to the same level of control or oversight as W2 employees and typically work on a project-by-project basis.

How do taxes for 1099 employees work?

Taxation for 1099 employees is distinct from that of W2 employees. As a small business owner, you don’t withhold payroll taxes from payments to 1099 employees. Instead, these workers are responsible for their own income tax, as well as self-employment tax, which covers Social Security and Medicare contributions. They must manage and pay these taxes themselves, often on a quarterly basis. This setup offers both flexibility and responsibility for the 1099 worker.  The only tax requirement from an employers perspective is to provide 1099-NEC Form to these employees no later than January 31st.

How do benefits work for 1099s?

Unlike W2 employees, 1099 workers don’t typically receive fringe benefits like health insurance, paid time off, or retirement plans from their clients. They are responsible for securing their own benefits, which offers them the freedom to tailor their plans but also requires them to manage these aspects personally.

What are the pros of 1099 independent contractors?

For business owners, hiring 1099 contractors offers several advantages. It provides access to specialized skills and expertise on an as-needed basis, often at a lower cost since you’re not responsible for employment taxes, benefits, or providing office space and equipment. This flexibility can be especially beneficial for short-term projects or specialized tasks that don’t require a full-time employee.

What is a W2 employee?

In contrast, the typical exempt or non-exempt employee that a business employs is known as a W2 employee. These employees can be part-time or full-time and are subject to the control and direction of the employer in terms of how, where, and when their work is completed.  These employees must be paid at least full federal or state minimum wage, whichever is higher.

How do taxes for W2 employees work?

As a small business owner, you are responsible for withholding income taxes, Social Security, and Medicare contributions from the paychecks of W2 employees. Additionally, you’ll need to contribute to unemployment and FICA taxes for each employee.  At the end of the year, you must provide a W2 form to each employee, which summarizes their earnings and taxes withheld throughout the year.

How do benefits work for W2 employees?

W2 employees are typically eligible for a range of benefits provided by the employer. These can include health insurance, retirement plans, paid leave, and other perks. Offering these benefits can help attract and retain talented employees but also adds to the overall cost of employment.

What are the pros of W2 employees?

Hiring W2 employees brings consistency and stability to your workforce. These employees are more integrated into your company culture and can contribute to long-term growth and development. You have more control over their work processes and output, and their ongoing presence can foster a strong team dynamic.

Are 1099 or W2 employees better for my business?

Deciding between 1099 and W2 employees depends on your business needs, the nature of the work, your capacity to manage employees, and your budget.

Consider hiring 1099 employees if:

  • You have specific, short-term projects.
  • You need specialized skills not available in-house.
  • You prefer not to manage employee benefits and payroll taxes.

On the other hand, W2 employees might be the right choice if:

  • You require consistent, long-term work.
  • You want to maintain control over how and when work is completed.
  • You are willing to invest in employee training and benefits.

As a small business owner, it’s important to weigh these factors carefully. Misclassifying an employee can lead to significant legal and financial repercussions. When in doubt, consult with a labor attorney to ensure you’re making the best decision for your business and your workforce.  Contact our team for assistance with your payroll and HR needs.