Employers should know the difference between a 1099 contractor and a W-2 employee, and here’s why it matters. In recent years, more businesses have classifed workers as independent contractors. There are several differences between these two types of workers, but the most important one for you as an employer is tax withholding. You must deduct payroll taxes from every W-2 employee’s paycheck, while 1099 independent contractors are responsible for filing and paying all their own taxes.
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What you’ll learn
What you’ll learn
1099 vs W-2: Key takeaways
- Employers must withhold and pay various taxes for W-2 employees, while 1099 contractors handle their own taxes.
- W-2 employees typically have less control over their work and use company-provided resources, while 1099 contractors have more autonomy and use their own equipment.
- Contractors receive Form 1099-NEC for nonemployee compensation, while W-2 employees receive Form W-2 for income reporting.
- Misclassifying workers can result in IRS penalties, including liability for unpaid employment taxes.
Watch this video with certified public account (CPA), Noel Lorenzana who breaks down the differences between what a W-2 vs 1099-NEC is, and when to use each.
The second key difference is which tax forms you use to report a worker’s income to the IRS. Employees are sometimes called “W-2 employees” because they receive IRS Form W-2 from you. Contractors, on the other hand, receive Form 1099 to report their earnings.
- Employees: If you paid an employee any amount during the calendar year, you must furnish a W-2 (there’s no minimum threshold). For the 2025 tax year, W-2s are due by February 2, 2026. The deadline is typically January 31, but it shifts because that date falls on a weekend.
- Contractors: You must issue a 1099-NEC to contractors you paid $2,000 or more during the year ($600 or more for the 2025 tax year and earlier). The threshold increased thanks to the One Big Beautiful Bill Act (OBBBA). Like W-2s, you must send 1099-NECs to recipients by January 31, or the next business day if that date falls on a weekend or holiday. Learn more in our guide on the 1099 threshold changes.
1099 vs. W-2: Are you hiring a contractor or employee?
Businesses typically handle worker classification internally, but the IRS can step in to make the final call on whether the person you hired is truly an independent contractor or should be on the payroll. Here’s a quick cheat sheet for telling the difference so you can classify your workers correctly:
Generally, a worker should be classified as an employee if:
- You control how they perform their work
- You provide the necessary equipment (computer, supplies, phone, office space) needed to complete the work
- You provide benefits such as insurance or paid time off
- You pay or reimburse them for expenses associated with their job, like purchasing business supplies
- You pay on regular pay periods
On the other hand, a worker is likely to be considered an independent contractor if:
- They provide services to multiple clients who each pay them directly
- They retain complete control over how and when the work is performed
- They use their own equipment and facilities to perform most of their required work
- You pay them after they submit invoices
Did you know?
Because independent contractors complete tasks or provide services without being classified as employees, when they get paid, they receive nonemployee compensation.
How do you tell the difference between an employee and an independent contractor?
Let’s look at a couple of examples. Say you hire John to provide social media support to a business, but he is required to use a company computer, report to work at a set time, and complete the work in a specific manner. In this case, you should classify John as an employee.
Now, say you hire John to provide the same social media support, but he uses his own equipment, sets his own schedule, and works with other small businesses to offer similar services. In that case, you should classify John as an independent contractor.
Getting the classification right is essential, since businesses must withhold and pay federal and state taxes, Social Security and Medicare, and unemployment taxes for each employee. Businesses don’t have to withhold or pay taxes on behalf of independent contractors. That’s why the IRS scrutinizes worker classification so closely. If your business works with freelancers or 1099 workers, a service that offers payroll for independent contractors can help you automate payments, stay organized, and comply with employment and tax laws.
If you’re still uncertain about how to classify a worker, you can file Form SS-8 with the IRS. This form asks the IRS to determine whether you should file a W-2 or 1099 for a worker, and workers who believe they’re misclassified can file it too. We also cover how to complete Form SS-8 in a separate guide.
This can be a lot to keep track of, so the table below summarizes the main differences between independent contractors and employees for quick reference.
This can be a lot to keep track of, so the table below summarizes the main differences between independent contractors and employees for quick reference.
| Employee | Independent contractor |
| Must comply with the employer’s instructions about when, where, and how to work | Sets own hours and determines own sequence of work |
| Works exclusively for the employer | Can work for multiple employers; services available to the public |
| Hired by the employer | Is self-employed |
| Subject to dismissal; can quit without liability | A contract governs how the relationship can be ended |
| Has a continuing relationship with the employer | Works by the job |
| Personally completes work | Permitted to hire assistants |
| Performs services under the company’s name | Performs services under the worker’s own business name |
| Paid a salary; reimbursed for expenses; participates in company fringe benefits programs | Paid by the job, with the opportunity for profit or loss |
| Furnished tools, equipment, materials, and training | Company furnishes tools, equipment, materials, and training |
| If an outside salesperson: The company provides leads, sets terms and conditions of the sale, assigns a territory, and controls the sales process | Controls the sales process and terms |
| Employer withholding federal and state income taxes, Social Security, and Medicare from each paycheck | Contractor pays self-employment tax and estimated income taxes on their own |
| Receives Form W-2 to report wages | Receives Form 1099-NEC to report nonemployee compensation |
| May receive employer-sponsored benefits, such as health insurance, retirement plans, and paid time off | Arranges and pays for their own insurance and retirement savings |
| Covered by minimum wage, overtime, workers’ compensation, and unemployment insurance laws | Not covered by most federal and state employment laws; protections come from the contract terms |
Before we go, let’s touch on some things to keep in mind if there’s a mishap when classifying a worker.
1099 vs. W-2: Which worker classification costs more?
Employee classification also affects your bottom line. Here’s how the costs break down for each type of worker:
- W-2 employees: You pay half of Social Security and Medicare taxes, a combined 7.65% of their pay, on top of wages. Your employee’s half comes out of their paycheck. You’re also on the hook for unemployment insurance and any benefits you offer.
- 1099 contractors: You don’t pay any share of taxes on contractor pay. The contractor covers the full 15.3% self-employment tax, although they can reduce their taxable income by deducting business expenses and contributing to tax-advantaged retirement accounts like a SEP-IRA or Solo 401(k).
On paper, it looks cheaper to hire gig workers or independent contractors because you skip the employer share of payroll taxes and benefit costs. But you can’t classify a worker as a 1099 contractor just to save money. Classification has to meet IRS standards.
The IRS looks at three main categories:
- Behavioral control: Do you control what the worker does and how they do the job?
- Financial control: Do you provide their tools and reimburse their expenses?
- Type of relationship: Do you have a written contract in place, or is the worker doing work that’s core to your business?
If you direct a worker’s daily schedule, provide their equipment, and oversee their work, that worker is legally a W-2 employee, regardless of which classification costs less.
Did you know?
There’s another way to classify workers. Learn what a statutory employee is and how to know if you’re about to hire one.
What happens if you misclassify a worker?
The IRS doesn’t fool around when it comes to worker classification (or much else). If it determines you misclassified a worker, whether accidentally or not, you could face a penalty. That penalty can make your business liable for all employment taxes owed for the misclassified worker(s).
However, the IRS currently offers a voluntary classification settlement program for business owners who agree to 1) reclassify their workers for future tax periods, and 2) pay 10 percent of the employment tax liability for the most recent tax year.
Ease of use
OnPay has been an incredible time saver and made the process of running payroll so easy. It truly is payroll software built for small business people since we have all types of employees who are salaried, hourly, and independent contractors, and no matter who we work with, it’s simple to use (and their support team is great to work with).
— Pam Snyder, Sherman-Stoltz Law Group
1099 vs W-2: Know the differences and applicable paperwork
The employee vs. contractor question also affects the paperwork you’ll need to handle. When you hire an independent contractor, they must complete Form W-9, which you should keep on file for four years. If you classify a worker as an employee instead, they need to fill out Form W-4 so you know how much federal income tax to withhold from their paycheck. Keep W-4s on file for four years after the date the employment tax becomes due or is paid, whichever is later. Remember, you’ll also need to collect withholding forms if you’re subject to state and local taxes. Once you determine how to classify the workers joining your team, the next step is getting them set up correctly. Our new hire onboarding checklist walks you through the steps to take as your headcount grows.
At the end of the year, there’s also a difference in the tax documentation you send to employees and independent contractors. As mentioned earlier, contractors should receive a copy of Form 1099-NEC, while employees receive Form W-2.
For more on classifying workers, visit the IRS website, which has an entire section on independent contractors and employees. Or talk to a tax or HR advisor for guidance specific to your situation. Getting your W-2s and 1099s right will save you a lot of time and potential liability down the road.
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Jon Davis is the Sr. Content Marketing Manager at OnPay. He has over 15 years of experience writing for small and growing businesses. Jon lives and works in Atlanta.