You can pay contractors a fixed amount, either per hour or per project. Many contractors will describe their payment terms and rates in their contracts. Tax compliance is often more difficult for 1099 contractors than for Form W-2 employees. As business owners, 1099 contractors must pay income tax (depending on their income level) and self-employment tax.
Self-employment tax includes Social Security and Medicare taxes, similar to the FICA tax that is withheld from a W-2 employee's salary. You can determine your self-employment taxes using the IRS Schedule SE (Form 1040). Additional state or city taxes may apply depending on the state in which you live. Some states, such as Washington and Texas, do not charge personal income taxes.
Read our summary on paying taxes as an independent contractor to learn more. If you're confused about tax forms and you're confusing your 1099s with your W2, keep reading. However, let's first review the forms. Most of us have probably seen a W2 shape before.
It's what an employer sends to its employees each year, summarizing the salaries paid and the taxes withheld, and it's a necessary document when it comes time to prepare your tax return. Meanwhile, Form 1099 also reports on the income you received last year, but it's a little different. It comes in many varieties and reflects, for example, income earned as a contractor or self-employed person (through 1099-NEC), dividends (1099-DIV) and interest (1099-INT). Self-employed workers pay twice as much Social Security and Medicare (FICA) taxes, because employers normally pay half as much.
Self-employed workers typically pay 15.3%, a significant part of their income. That represents 12.4% for Social Security and 2.9% for Medicare. Taxes are more complicated for people who are self-employed, as they often have to make estimated quarterly tax payments throughout the year. Many employers help their workers save for retirement by providing 401 (k) plans or similar plans, which often offer matching funds.
Freelancers and contractors don't get any of this and must save on their own. There are several tax-advantaged accounts that can help with that, such as SEP IRAs and SIMPLE IRAs. From an employer's perspective, hiring freelancers and contractors rather than employees is often preferred. For one thing, they won't have to pay for all the benefits they would offer to employees, such as health insurance and perhaps life insurance, not to mention bonuses, stock options, contributions to the 401 (k) plan, and so on.
Whether you're an employer or a worker, it's worth thinking a little bit about forms 1099 versus W-9 forms and the distinction between employees and contractors. If you classify a worker as a Form W-2 employee, they must withhold social security tax, income tax, Medicare tax, and any state income tax for the benefit of the employee. A W-2 form is a tax form in which companies declare the annual compensation paid to their employees and the payroll taxes withheld from that compensation. With a service like Square Payroll, you can easily turn your contractor into an employee and start withholding taxes and paying payroll taxes.
You must withhold Social Security and Medicare taxes and file employee payroll taxes from Form W-2.If the IRS determines that you intentionally misclassified your employees, it can impose additional penalties and penalties, such as paying 100% of the employer and employee's share in FICA taxes. To record and declare their income, independent contractors obtain 1099-MISC tax forms and employees receive W-2 tax forms. These forms, which are normally issued to independent workers and independent contractors, declare wages without withholding taxes, such as Medicare and Social Security, to the IRS. Independent contractors are also known as “1099 employees,” which comes from the tax form you file with the IRS at the end of the year.
They must also file quarterly estimated tax payments and pay quarterly estimated federal and state taxes. You withhold taxes from their salaries, train them, pay payroll taxes for them, and can provide them with benefits. Employment taxes (such as Social Security taxes and Medicare taxes) represent 15.3% of a worker's gross wage. It's important to note that the payments you receive won't be tax-deducted, which will affect your taxes at the end of the year.
Employers' payroll taxes are generally comprised of federal unemployment taxes, state unemployment taxes, Social Security taxes, and Medicare taxes. .