1099 vs W2. Get the inside track on Worker Classification

Do you know your 1099 from your W2? Chances are you might not but if you’re involved in hiring people in the U.S. and you don’t recognise these codes, now is the time to pay attention. These little codes, which relate to tax forms, could mean the difference between being on the right or wrong side of the law.

It all comes down to how you classify the people you hire and as we begin to run businesses more flexibly, relying on freelancers or contractors instead of full-time staff, ‘classification’ becomes a very important word.

Of course, classifying your workers as independent contractors means you don’t have to foot payroll taxes, social security benefits, vacation time and other fees, but if your workers believe this classification is unfair there is a strong chance they will seek legal redress, which could mean paying back years of unpaid taxes, overtime, minimum wages and employee expenses.

Just ask cleaning services company Homejoy which, despite raising $40m of venture capital funding, was forced to close thanks to four lawsuits brought over whether its workers should be classified as employees or contractors.

They’re not alone - in 2013 investigations by the US DOL Wage and Hour Division resulted in more than $83 million in back wages for more than 108,000 misclassified workers in low-wage industries.

So how do you make sure you’re classifying workers correctly? Here’s what you need to know.

The Terminology

There are two key terms ‘1099’ and ‘W2’. These describe which tax form you complete for a worker: 1099 is for an Independent Contractor, W2 is for an Employee.

The Basics of How to Classify

As laws are different for every state, it’s impossible to give a definitive set of rules. Most tests ask whether a company has the ‘right to control the manner and means’ by which a worker accomplishes the end product of his or her work.

The factors taken into account here could be anything from setting the hours a freelancer works, to implementing a dress code. The first thing to do is check the state law to see how you measure up.

How Do You Know How To Classify Your Workers?

There are two options:

  1. If you are confident that your workers fit into one of the two categories, then you can take on the responsibility of classifying the workers yourself.

  2. If you’re not 100% sure, there are agencies who have specialist knowledge of the regulation in each state who offer services to take on the responsibility for classifying a company’s workers.

These agencies can also take on other duties like organising payroll and taxes for 1099 independent contractors. For W2 employees they will take care of insurances and benefits in addition to payroll and taxes. Examples of companies offering these services are Next Source, PGC, Innovative Employee Solutions and Target CW

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