Congratulations on your new hire! Whether this is the first or 20th employee you’re adding to the payroll, you have some important decisions to make, including deciding this new employee’s relationship with your business. Do you want to hire a full-time or part-time employee? What about an independent contractor -- can a temporary, contract-based individual fulfill your business’s needs?
The 1099 vs. W2 designation has a significant impact on how your business operates, and it also impacts how your new employee pays taxes, receives benefits, and more. What’s the difference between a W2 and 1099 employees, and what does that difference mean to an employee? Here, we’ll break down the advantages and disadvantages so you can make the best decision for your growing business -- and for your new employee.
What is a 1099 employee?
A 1099 employee is an independent contractor, also called a self-employed individual or a “gig worker,” who is not a salaried employee of the company for whom they are working. A 1099 employee enters into a contractual agreement with an employer to complete a specific set of tasks or services for a designated period. Employers provide 1099 employees with a 1099-MISC tax form stating their annual earnings. This type of employee is responsible for paying their own taxes on a quarterly or annual basis.
What is a W2 employee?
A W2 employee is a full-time or part-time salaried employee of a company hired under an employment agreement. This employee type is entitled to be paid minimum wage as required by law. This type of employee receives a W2 tax form annually, stating the amount earned and withheld from their paychecks the prior year. W2 employees have their Social Security and Medicare taxes withheld by their employer. Employers also pay a payroll tax for each W2 employee they hire.
1099 or W2: Advantages and disadvantages
Advantages of being a 1099 employee:
- More freedom: Independent contractors can work with whomever they’d like.
- More money: Because employers don’t withhold anything, a 1099 employee takes home more money each pay period. Additionally, independent contractors generally receive a higher per-hour rate.
- More flexibility: Independent contractors can work when and where they see fit. That allows for greater flexibility during typical working hours to attend meetings and events or run essential errands.
Disadvantages of being a 1099 employee:
- Less job security: Unlike a W2 employee, a 1099 contractor is not guaranteed employment. Most contractors are hired “at will,” meaning it’s at the behest of the employer whether or not they stay on the job.
- No benefits: Employers are not obligated to provide any benefits to 1099 employees. While this helps the employer save money, the employee loses out on health insurance, 401(k) savings plans, and other benefits.
- Paying their own taxes: The 1099 employee designation means that they need to file and pay their own taxes, either on an annual or estimated quarterly basis.
Advantages of being a W2 employee:
- Benefits: W2 employees can sign up for health insurance, savings plans, vacation time, and other perks offered by their employer.
- Job security: It’s a lot harder to lay off or fire a W2 employee than it is to discontinue a contract with a 1099 employee.
- Predictable schedule: Stability is a key benefit for a W2 employee. Employers and employees alike know exactly which hours an employee is working, where an employee is working from, and what an employee is doing during those hours.
Disadvantages of being a W2 employee:
- They’re working for someone else: As a salaried employee, W2 employees do not retain the same independence as a 1099 employee. That means they’re performing work based on the employer’s wants and needs.
- Less flexibility: W2 employees don’t get to work on their own terms like a 1099 employee can.
The main differences between 1099 and W2 employees
- Taxes: Both employees and employers are taxed differently when they hire a 1099 employee or a W2 employee. A 1099 employee is responsible for paying their own taxes, which means an employer does not need to calculate or withhold tax from their pay. An employer must withhold tax payments from a W2 employee’s paycheck. Additionally, an employer pays a payroll tax on each W2 employee.
- Benefits: Depending on the company that hires them, a W2 employee is eligible for a wide range of benefits offered by that company, including health insurance, retirement benefits, and paid vacation time. A 1099 employee, however, has to plan for benefits on their own.
- Expenses: A W2 employee can expect their employer to supply or purchase essential tools needed to complete their work, such as a computer, office supplies, and specialized software. Unless otherwise agreed upon, it is generally assumed that a 1099 employee brings their own supplies or fronts the cost of those supplies.
- Legal protections: State and federal laws that dictate employment, such as minimum wage law, required sick leave and overtime pay, apply to W2 employees. A 1099 employee is generally exempt from these legal protections or may be protected by a separate set of regulations, such as required payment timelines. This varies by city and state.
1099 or W2: Which is best for your employees?
Being a 1099 or W2 employee comes with benefits and drawbacks. Differences in taxation, benefits administration, performing the work, and more are all impacted by the arrangement you choose to enter into with your new employee. If your employee prefers flexibility and independence, a 1099 agreement may be best for them. If your employee wants more stability and wants easier access to benefits, a W2 arrangement may be the right way to go. Ultimately, what you choose comes down to what you and your employees want out of the professional relationship.