The 1099 form from the Internal Revenue Service is a way of reporting income that isn’t paid by an employer. It helps the IRS determine who didn’t have taxes withheld from income during the year so they can tax the person appropriately. If you pay wages or make other payments to people during the year, you may be required to issue a 1099.
If you're running a business, odds are you're dealing with at least one 1099 worker. These team members can save companies money while offering flexibility, so their popularity is no surprise. Unfortunately, it's often a little difficult to discern who actually should receive a 1099. The line between an employee and an independent contractor has become increasingly thin in the gig economy, but if you misclassify workers, you'll be subject to IRS penalties and potential lawsuits. As a hard and fast rule, anyone your company is paying more than $600 who isn't a full-time employee should probably receive a 1099 form, but there are exceptions.
Who Gets a1099?
So, the tax year is coming to a close, and you're stuck wondering if you have to send out a pesky 1099-MISC form. Well, the good news is they're not as complicated to send out as you might think – but how do you decide who gets one? You may have to send out more 1099s than you originally thought.
According to The Society for Human Resource Management, you have to file a 1099 for any contractor who you paid $600 or more. This includes cash from rents, prizes, awards and any other income payments. If you paid a consultant $599 or less, they're still responsible for paying their fair share of taxes; you're just not the one responsible for alerting the IRS.
What about grants or fellowships? This is a bit of a gray area. Though some universities do file 1099-MISCs for scholarship recipients and fellows, they typically only do this if the money wasn't given for services performed. In other words, it was an award. Even so, the IRS claims that certain taxable scholarship or fellowship payments don't have to be reported to them at all. If money is from services performed, like a grant to perform research, then you'd file a Form W-2.
Royalties are a totally different thing. You have to send a 1099 to anyone you paid at least $10 to in royalties or broker payments in lieu of dividends of tax-exempt interest. Unsure if you paid a royalty? These are payments made to legal owners of property, patents, copyrighted works, franchises and trademarks. For example, streaming service Spotify pays royalties to independent songwriters for each stream of their song. If the label owns the song's copyright, they pay the label, and the label would get the 1099. Royalties can also be paid for natural resources. In the oil and gas industry, companies pay royalties to landowners and subsequently send them 1099s for resources they extract from their property.
Additionally, you'll have to send a 1099 for any gross proceeds paid to an attorney as long as it's more than $600. This income is different than what you'd pay an attorney for their regular services, for instance, their hourly rate for consulting or drafting up a contract. It's more commonly what you'd pay in the case of a settlement agreement. In the tragic event of an employee's death, you'll have to report the wages they're still owed to their estate with a 1099.
The IRS also says businesses should use a 1099-MISC to report the "direct sales of at least $5,000 of consumer products for resale anywhere other than a permanent retail establishment" and for "each person from whom the employer has withheld federal income tax under the backup withholding rules."
Who doesn’t get a 1099? If you're reimbursing an employee for their business expenses, that should be done on a W-2. You also generally avoid using a 1099 when dealing with payments to other corporations, actual employees or tax-exempt organizations.
Since the nitty-gritty of who gets a 1099 is complicated and can range to things as specific as reporting cash payments for fish and aquatic life, you should consult an accountant if you're still unsure.
1099 vs. W2
1099s and W2s are two different tax forms. Towards the end of the tax year, businesses fill out a 1099-MISC for independent contractors and a W-2 for employees. W-2 workers typically have payroll taxes automatically deducted and paid to the IRS through their employer, while 1099 vendors are responsible for paying their own taxes, including an additional self-employment tax, on a quarterly basis.
The form a person receives during the on-boarding process determines whether you send a 1099 or W-2 to report their income at the end of the year. If you're hiring an independent contractor who will get a 1099-MISC, they need to fill out a W-9 form when they're hired. This asks them for their Taxpayer Identification Number or Employer Identification Number. Remember, independent contractors are thought of as business entities, not individuals. A W-4 form should be given to new employees. This helps an employer know how much money to withhold for federal taxes. W-4 Forms ask for a Social Security number because the person is considered an individual, not a business.
What Determines a 1099 Vendor?
The line between a 1099 vendor and an employee is sometimes very thin, and major companies have fallen into hot water for not being able to discern the difference. One of the most prominent cases involved Microsoft, who hired freelancers to round out their core team during the late '80s and early '90s. As contractors, these new hires didn't receive employee benefits including a company 401(k) plan, discounted stock purchasing options and health insurance, and Microsoft did not pay Social Security or Payroll taxes for them. The only problem was that Microsoft didn't treat those employees like 1099 workers.
Microsoft's contractors worked on-site alongside the company's regular employees, performing the same functions and working the same hours. Eventually, the IRS audited the company's payroll taxes, determined the contractors were employees and forced Microsoft to pay back-taxes and overtime. Microsoft also lost a lawsuit from misclassified workers who asked for full employee benefits for the entire length of their contract. Basically, you don't want to end up like Microsoft. So, how do you tell the difference? It has everything to do with who has control over the work. A 1099 worker probably:
- Makes their own hours: Employees are available for a set number of regular hours, while independent contractors typically have flexible schedules and can only be held accountable for pre-arranged meetings and agreed-upon deadlines.
- Doesn't work in your office: There may be on-site meetings or work that has to be performed at the office, but an independent contractor typically doesn't work there all day for extended periods.
- Has their own equipment: Since independent contractors own their own business, they have their own equipment. If you're buying a contractor a work laptop or cellphone, that's a flag that they're actually an employee, at least in the eyes of the IRS.
- Isn't performing essential functions indefinitely: 1099 workers may do jobs that are essential to the success of your business, but they don't typically perform essential functions on a permanent basis. For example, you may hire a contractor to design your advertising company's website, but you wouldn't hire a contractor to head your sales team.
- Works for other clients: This is the easiest tell. If you're expecting a 1099 vendor to spend 35 hours or more with your company, there's a safe bet they don't have time with other clients. In this case, they're probably misclassified and should be an employee.
Still confused? According to The New York Times, most employers tend to misclassify workers when they're hiring someone for a temporary role or a part-time position. The number of hours a person works doesn't dictate whether or not a person is a contractor – it's who mandates how and when they do that work. If you're dictating where, when and how a hire has to work, they're most likely employees. For example, you have a project due at the end of the month. You would ask your employee to come to the office from 9 a.m. to 5 p.m. until the project is completed. You would ask your 1099 contractor to set their own schedule as long as the project is completed by the end of the month.
If you're still confused, it's best to talk to an HR consultant or a tax attorney.
Can a 1099 Form Be Handwritten?
Typing out a 1099 form sometimes feels like a hassle, especially if your business doesn't have Adobe Reader Pro, which allows for PDF files to be easily and quickly edited. So, what do you do once you download the 1099 from the IRS website? The good news is that you can handwrite the form as long as you're mailing out fewer than 250. Of course, the IRS urges employers to file their forms electronically since it uses fewer resources than using snail mail. If you go down this route, typing out your form is inevitable.
If you do choose to handwrite your 1099 forms, watch your handwriting. The IRS recommends block lettering (let's not confuse an "L" for an "I") and encourages everyone to use black ink. The IRS uses machines to read 1099 forms, so if your handwriting is too sloppy, it will cause errors.
Why You'd Employ 1099 Workers
You might be questioning why your business would choose to hire a 1099 worker rather than an employee in the first place. No one is better than the other, but 1099 workers can provide certain benefits for expanding businesses or seasonal operations.
When it comes down do it, 1099 workers end up saving companies a lot of money, which is why the IRS has cracked down on companies misclassifying their employees as contractors. A business does not have to offer contractors expensive health benefits and doesn't pay unemployment taxes, payroll taxes, workers' compensation and disability like they have to for W-2 employees. They also don't have to pay contractors for vacation time and aren't responsible for the cost of sick days and pensions. It's estimated that contractors can save a company around 30 percent compared to a regular employee.
Beyond that, contractors offer better value because they're not subject to minimum wage mandates or supplemental overtime. You know exactly what you're paying upfront no matter how long a project takes. Of course, it's not very ethical to pay your contractors less than the state's minimum, especially because they're on the hook for additional taxes.
1099 employees don't just equal savings. They offer businesses flexibility and immediate productivity. Professional independent contractors typically don't need the same kind of hands-on training as employees. They're already the masters of their own business. Companies often choose to hire contractors through hiring firms which makes recruitment easier than head-hunting an employee on your own. Filling a role is almost instant.
Companies also choose to hire contractors when they're testing the waters. Maybe you're unsure of whether or not to expand. Maybe you're overly cautious when hiring a full-time employee because you've been burned before. Contractors are low-commitment, and you're under no obligation to renew the contract once it expires. This is great for companies that see high, seasonal demand or find themselves growing quickly in a volatile industry.