Knowing the functional differences between W-2 employees and 1099 employees is essential for the health and stability of your business. While each of these designations have their benefits and drawbacks to you as the owner of the company and to the employees themselves, it is important that you are using them in inline with the standards required by Federal employment law. Recent settlements of businesses misusing the designation have resulted in millions of dollars in fines and back pay to employees.
While it may be cost-effective to transfer the status of your W-2 (or traditional) employees to 1099 status, if you do so without changing their responsibilities, you are putting your business at risk. Only certain employees may be qualified as a 1099 employee or independent contractor; typically not all of your employees can be legally transitioned into the status.
Independent Contractors (1099 Employees):
- Provide a specialized service
- Cannot be paid benefits
- Cannot be reimbursed for expenses
- Are free from direct supervision
- Are self-trained
- Perform tasks or services separate from services offered by hiring firm
- Sets own hours
- Controls when and where work is performed
- Free from reporting requirements
- Paid by the job
- Provides own tools, technology, and equipment
- Cannot be required to work regularly scheduled hours
W-2 Employees
- Work regularly scheduled hours
- Receive salary, benefits, and bonuses (when appropriate)
- Work under direct supervision
- Has a comprehensive job description, with responsibilities
- Adheres to business guidelines (dress codes, time off, etc)
Examples of Legitimately Classified Independent Contractors:
- Massage therapists
- Writers
- Computer technicians
- Insurance agents
- Coaches
- Trainers/instructors
- Sales agents
- Consultants
- Attorneys
- Interpreters
- Limousine drivers, taxi drives, truck drivers
- Maids
Examples of W-2 Employees:
- Secretaries, administrative assistants, office workers
- In-house accounting professionals
- Marketing professionals
- Legal teams
- All employees that are closely supervised, that must adhere to business hours
The Department of Labor is actively seeking out businesses that are intentionally or unintentionally misclassifying employees as independent contractors. In recent years there has been a record number of businesses forced to pay fines, legal fees and back pay. This includes $11,000,000 judgment against the San Diego Union Tribune, a $22,000,000 settlement for the Orange County Register, $319,000,000 to a prominent shipping company and many others.
When considering the best type of employee for your small business, carefully consider what job requirements each position will have. Outsourcing can be a great way to reduce costs; work with an accountant to help evaluate the financial pros and cons of each employee designation. Regardless of which designation best fits your business model and your plans for success, be sure to disclose to new potential hires the benefits of the designation you select. When filling independent contractor positions, it is recommended that you provide them with information they need to be effective. This includes their rights and their tax responsibilities. It may be helpful to have them consult with an accountant for best results.
