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1099 employees: What you need to know before hiring contractors

It’s no secret that it takes lots of work to hire employees as a small business owner. There are rigid protocols to follow and the entire process can be tedious at the very least—not to mention expensive.

For some jobs, you might find that you don’t want or need to hire a full- or part-time employee. An alternative option is hiring 1099 employees who are self-employed and work on a contract basis. Using 1099 employees can save you time and money, which we’ll explain in more detail below.

Keep reading for a basic overview of 1099 workers, a rundown of how to hire 1099 workers for your business, the pros and cons of using these workers, and frequently asked questions about hiring self-employed workers.

1099 employee defined

1099 employees are self-employed workers you can hire for specific jobs, known as freelancers, gig workers, or independent contractors. An illustration shows a person in a green shirt and blue headphones working at a laptop.

A 1099 employee is a self-employed person who works in contract-based employment roles, usually to complete a specific project or job. 1099 workers aren’t W-2 employees and receive pay based on their contract instead of receiving a salary or traditional wages. This means that as a small business owner, you don’t:

  • Withhold income taxes from their pay
  • Pay Social Security, Medicare, or unemployment taxes for them
  • Provide them with a W-2, issuing a 1099-NEC instead

It’s essential to understand the difference between 1099 workers and salaried employees because you as the business owner could be liable for misclassifying anyone who works with or for your company.

Why 1099 classification matters 

Classifying someone as a 1099 worker is most important because of the tax implications of contract work. Unlike a traditional employee, employers don’t pay payroll taxes on 1099 workers—they pay their own self-employment taxes. You will be required to supply them with form 1099-NEC if they earn more than $600 in a year from working for you.

Additionally, 1099 workers don’t have the same protections as traditional employees like health insurance, overtime pay, or workers’ compensation. Giving freelancers access to these perks risks employee misclassification, which can cost business owners thousands of dollars in fines.

Visit the IRS website for up-to-date forms and guidelines on form 1099-NEC.

How to hire 1099 employees: 4 steps

Four steps to hiring 1099 workers.

Now that we’ve made it clear that 1099 workers are distinct from W-2 employees, let’s go over the rules for 1099 employers to hire freelance workers.

1. Classify the 1099 employees correctly 

We’ve already established that classification is critical when it comes to contract work. The first step to hiring a 1099 worker is classifying them as contract employees. 

The IRS has three guidelines to help small business owners define the scope of their working relationship with employees and contractors:

  1. Financial control: How do you manage payroll and expenses? Are workers required to submit invoices to receive payments? Are they expected to use their own equipment on the assignment?
  2. Behavioral control: Can workers define the scope of their own employment, such as setting their own schedule or refusing certain projects?
  3. Relationship to the business: Do workers have access to company benefits like paid time off or insurance?

As a general rule, contractors submit invoices for their work, define the scope of their employment, and aren’t required to attend company training sessions. They also don’t have access to your small business’s employee benefits

These differences establish that 1099 employees are contractors, not employees of the company, and don’t require you to pay employment taxes on their behalf.

Note that some states have different guidelines for classifying contract employees. You should always check your state’s specific requirements before hiring 1099 contractors.

2. Verify their credentials and work history

To protect your business, it’s a good idea to vet work history and employment credentials before bringing anyone new onto your team. This is certainly true for 1099 workers who may have access to sensitive information while they work with you. Vetting a contract worker’s credentials is a good way to make sure that their skills and training align with the job requirements.

You might be required by law to perform a background check on 1099 workers depending on the functions of the job. Be sure to check with your state’s secretary of state for the most recent local guidelines on background checks.

3. Draft a contract for the length of the job

In order to classify workers as 1099 employees, you have to create a contract that defines the scope of their work with your business. This contract should be as detailed as possible to avoid any confusion about duties and responsibilities.

A major goal of the contract is to provide proof that the worker is 1099 and not a full-time employee. In case your business is audited, the IRS may review these contracts to ensure you didn’t miss any employment taxes.

Consider including the following information in your freelancer contract:

  • What specific tasks the contractor will perform for you
  • What metrics you will use to assess the quality of completed work
  • Whether the contractor will use their own tools and equipment for the job
  • How much you will pay the contractor and the method of payment

You should include anything in the contract that may have an impact on the contractor’s role with your company. Don’t forget to collect a signature from the contractor on the contract to validate it—and make sure to keep a copy for your company’s records.

4. Complete the applicable paperwork

In addition to the contract, you’ll need to obtain some paperwork from your 1099 employees. There are also optional forms that can help you make sure you classified your contractors correctly.

These four forms are some of the paperwork you might need when working with contract workers:

  • W-9: The IRS requires contract workers to complete this tax form instead of a W-2.
  • 1099-NEC: This form details all payments you made to the contractor during the calendar year. You must send it to them by the end of January—but only if you paid the contractor more than $600.
  • SS-8: This form helps determine whether your employees may be misclassified.
  • W-8BEN: This form allows businesses to report earnings for contractors who live in another country besides the U.S. 

Beginning in 2020, form 1099-NEC (non-employee compensation) was introduced to separate contractor payments from other miscellaneous payments covered by form 1099-MISC.

How to avoid common 1099 employee mistakes

3 common mistakes while hiring 1099 employees.

Hiring a 1099 contractor may be less involved than onboarding an employee, but there are some common mistakes entrepreneurs make in the process.

1. Hiring without vetting the contractor

It’s a good idea to vet a 1099 worker’s background so you can ensure they’re a fit for the job. If you don’t you may end up entering into a contract with someone who can’t complete the job to your satisfaction, or worse, might damage your business or your reputation.

Tip: Do your research before signing a contract with a 1099 worker. How much you can verify about their credentials and work history may influence whether or not you feel comfortable hiring them. Think about questions like:

  • Do they have social media or a website where you can review their work?
  • Do they have any client referrals or a verifiable client base?
  • Do they have a license to conduct the type of work you require?

If you can’t verify these criteria, try following up with the prospective hire to see if they supply you with the missing info.

2. Setting working requirements for contractors

As a small business owner who’s hiring 1099 workers, you can’t set the same boundaries with them as you are with traditional employees, like working hours. Trying to do any of these things could result in illegally classifying these workers, potentially leading to thousands of dollars in fines, taxes, and benefits.

Tip: Before bringing on a contractor, make sure that your expectations align with the limitations of contract work. 

As an employer of a 1099 worker, you cannot:

  • Set the schedule for contractors (setting meetings at specific times is O.K.)
  • Require contractors to use specific equipment or software
  • Force contractors to take on new jobs outside of scope
  • Give contractors access to benefits like insurance or vacation time

Your state may also have additional requirements or restrictions for 1099 contractors. Make sure to check with the office of your secretary of state to get up to speed on local regulations for contract work.

3. Insisting on an exclusive arrangement

In most cases, you shouldn’t demand that a contractor not work with other clients while they work with your business. This requirement could negatively affect that contractor’s livelihood and working relationship with you.

Tip: Instead of asking the contractor to put your work above their other clients, incentivize them to turn in only their best work on your projects. Try any of the following suggestions to boost your reputation with a 1099 employee if you’re happy with their work:

  • Pay them their desired rate instead of negotiating for a lower price
  • Offer them additional contracts or increased scope of work
  • Send them a written client referral recommending their work to others

Not only can these actions bolster your reputation with freelancers, but it’s also a way to encourage top-quality work for your small business.

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Hiring 1099 workers: Pros vs. cons

When you’re weighing your options over whether to hire a contractor or not, there are a few important pros and cons to consider. Depending on the type of job that needs to be done, you may be required by your state to hire either a contractor or a full-time employee—if you’re not, though, these pros and cons can help you make a hiring decision.

Pro: Save money on taxes and benefits 

When you hire independent contractors, you don’t need to provide them with access to benefits. In fact, doing so would mean they’re technically employees and not contractors. You’re also not required to pay employment-related taxes on their behalf, such as Social Security, Medicare, and unemployment.

Pro: Avoid a lengthy hiring process

Hiring a W-2 employee can take weeks or even longer. With independent contractors, the hiring process is as simple as vetting their work history and agreeing on a scope of work. Once you both come to an agreement over the terms of their contract, the project can begin.

Con: Give up some control as the employer

Contract employees aren’t bound by all of the rules of your business when they begin a job. Unless it’s outlined in your contract with the worker, you can’t set their working hours, you can’t mandate their working conditions, and you aren’t able to control how the job gets done.

Con: Increase your risk of a government audit

Because W-2 employees generate tax revenue, the government has an interest in vetting the legal status of your business’s workers. Hiring contractors results in less tax revenue, and the IRS or another agency could audit your business if they suspect employees are misclassified.

Choose the right type of worker for the job

Ultimately, the worker you need comes down to the type of work that needs to be done and your personal preferences. Using 1099 workers can allow for increased flexibility while potentially saving your business money on payroll expenses and employment-related taxes.

Going with a 1099 employee over a W-2 hire may be a wise choice for you and if you end up needing a mix of different employee types, automated payroll services can help keep everything organized for you.

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