Tax season is coming up and you may be wondering what all the different forms you are receiving in the mail are. It’s important to know what kind of tax form you are receiving, as this will determine how much you have to pay or receive back in taxes. Understanding the nuances can save you thousands of dollars per year! In this article, I’ll go over the differences between a W-2 and 1099 as well as the pros and cons of each.
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W-2 and 1099 workers have different IRS forms ultimately because of their employment status. Someone who receives a W-2 is considered an employee while someone who receives a 1099 is considered an independent contractor. A company is required to withhold payroll taxes and provide employer-sponsored benefits to all eligible employees, but not to 1099 contractors. In return, a company can restrict a W-2 employee from working for other companies, such as its competitors.
If you are a 1099 independent contractor, you are classified as self-employed by the IRS. You can make decisions for your own schedule and you can decide to take more or less work on your own accord. You’ll make your own decisions and possibly work multiple contracts at once.
A big difference between a W-2 and 1099 worker is taxes. 1099 independent contractors are allowed more deductions than a W-2 employee. As a 1099 contractor, you generally:
- Don’t have taxes withheld by your employer at each pay period.
- Are responsible for estimating your own taxes and paying them.
W-2 workers have tax withheld from their paychecks while 1099 workers do not. However, 1099 workers have to pay both the employer and employee portions of their taxes, which include Medicare and Social Security. A W-2 employee has their taxes offset with the employer paying one part and the employee paying the other.
As a 1099 contractor, you have to pay quarterly taxes unless you meet certain exemptions. Be sure to check what they are so that you aren’t charged a penalty when tax season rolls around.
As a 1099 independent contractor, you should set aside money for these taxes in 2021:
- 12.4% for Social Security tax on net earnings up to $142,800.
- 2.9% for Medicare tax on your entire net earnings.
- If your earned income is more than $200,000, you must pay 0.9% more in Medicare taxes.1
However, because you paid double the amount of tax as a W-2 employee, you can now deduct these taxes from your net income. Basically, the IRS sees the extra taxes as a business expense.
You can also deduct a variety of other expenses from your taxes such as:
- Using your home as an office.
- Internet, cell phone, laptop usage.
- Mortgage interest.
- Advertising, marketing, professional legal fees.
- And lots more!
If you’re a 1099 independent contractor, make sure that you’re claiming all the deductions you are eligible for. This will save you a ton of money!
W-2 and 1099 workers vary drastically in the benefits that they receive. W-2 employees are entitled to employer-sponsored benefits. This may include insurance, vacation, and 401(k) plans. 1099 independent contractors are generally not eligible for benefits. This means that you have to purchase your own health insurance, set your own time off without being paid, and save for your retirement using a Roth IRA or a self-employed 401(k).
1099 independent contractors have almost complete control over what work they decide to do. They can decide to accept or reject work based on the contract that they receive. 1099 workers can be considered project or trial workers. Once their project is over, they can renew their contract for a new project or go on to another company. An employer has limited control over a 1099 worker and does not control their payroll. You also have unlimited earning potential as you can set your own rates and contracts.
On the contrary, if you’re a W-2 employee, your work hours are generally set by your employer. You have a defined work process and training is provided. Necessary equipment is provided and you must meet certain criteria for performance.
W-2 and 1099 workers both have their pros and cons. If you’re a 1099 worker, you have more freedom but it comes with having to be more proactive about your finances. Which do you prefer? Regardless, filing with TurboTax has been my favorite way to learn more about taxes and finances all while saving money! Check it out here.
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Hello, I’m Chloe! I’m the primary author of Off Hour Hustle. Currently, I work as a software engineer, sell products through eBay, Etsy, and OfferUp, have 26+ credit cards, and am always working to diversify my income streams. In my spare time, I enjoy climbing, hiking, and other outdoor activities.