Employee vs. Independent Contractor: W-2 or 1099?
You hire someone to help your business a few days a week. They’d rather be paid as a 1099 contractor. You’d rather not add another employee to payroll — or go through the process of setting up payroll for one person.
Can you just treat them as an independent contractor?
Maybe — but whether someone is a W-2 employee or a 1099 contractor generally depends on how they actually work for your business, not what you call them or how they prefer to be paid.
Here are some practical things to look at before making the call.
Signs Someone May Really Be an Employee
No single factor decides worker classification, but take a closer look if the person:
Works on a schedule you set
Performs the same type of work as your regular employees
Is trained or supervised by you
Uses your equipment, tools or systems
Is paid on a regular, ongoing basis
Is an integral part of your day-to-day business
Hiring a landscaping company to handle seasonal cleanup is very different from having someone report to your business every Monday through Friday, use your equipment and work under your direction.
Calling the second person a “contractor” doesn't necessarily make them one.
But They Only Work a Few Hours a Week
This is one of the most common misconceptions.
There is no minimum number of hours someone has to work before they can be considered an employee. Someone working five hours a week can still be a W-2 employee.
The same goes for seasonal and temporary workers. A short-term arrangement doesn't automatically turn an employee into an independent contractor.
What if the Worker Wants to Be Paid on a 1099?
That doesn't decide it either.
A worker may prefer a 1099 because they don't want taxes withheld, and a business may prefer it because it's easier than running payroll. But an agreement between the two doesn't override the classification rules.
A W-9, independent contractor agreement or Form 1099 documents how you've chosen to treat the worker. It doesn't establish that the classification is correct.
The IRS Looks at Control and Independence
At the federal level, the IRS generally looks at three broad areas:
Behavioral control: Who determines what work is done and how it is performed?
Financial control: Does the worker operate independently, make their own investment in the work, incur business expenses or have an opportunity for profit or loss?
The relationship: Is the work ongoing? Are benefits provided? Is the worker performing an important part of the business's regular operations?
There isn't a single question that settles every situation. The entire working relationship has to be considered.
And Then There Are the State Rules
This is where businesses can get tripped up.
Federal classification isn't necessarily the end of the analysis because states can have their own rules for unemployment, wage and hour requirements and other employment laws.
Massachusetts is particularly strict. Massachusetts generally presumes workers are employees unless the business can satisfy all three parts of the state's independent contractor test. Among other requirements, the work must be performed outside the usual course of the employer's business.
That's important for businesses operating across state lines. A company with workers in Massachusetts, New Hampshire, Rhode Island or Connecticut shouldn't assume the same classification will automatically work in every state.
Why Getting It Right Matters
If someone treated as an independent contractor is later determined to have been an employee, the business may be responsible for payroll taxes that should have been withheld or paid, plus penalties and interest.
There can also be issues involving unemployment, workers' compensation and wage and hour laws.
It's usually much easier to ask the classification question before the first check is written than to fix it later.
So, W-2 or 1099?
If you're deciding how to pay someone new, don't start with, “Do they want a W-2 or a 1099?”
Start with: How will this person actually work for my business?
Once you've determined that someone belongs on payroll, Payroll Northeast can help get them set up correctly — including payroll, tax registrations and ongoing filings.
Ready to get started with payroll? Contact us.