It’s a pretty common dilemma in the contracting world to be stuck deciding between W2 employment or being a 1099 independent contractor. So what exactly is a W2 vs 1099? When you hear those terms they really just refer to the types of forms you have to fill out for taxes, but the differences are a bit more involved than just some pieces of paper.
Understanding the differences are key when deciding between the two. Sometimes the employer won’t give the option due to company policies, which may swing one way versus the other. I’ve had it go both ways.
W2 Contracted Employee
When you’re contracted under a W2, an employer is actually hiring you as an hourly employee. This means they are under obligation to offer certain benefits and pay for half of your employment tax.
This is why you should always be clear up-front with recruiters and human resources on the terms of the contract. Understanding the differences can mean thousands per year. W2 may make a lot of sense if you are in need of certain benefits that the company can offer such as healthcare, 401k, etc.. It also makes taxes a whole lot easier at the end of the year!
1099 Independent Contractor
Coming into a contract under 1099 employment is a bit different than a W2 employee so it’s pretty important not to confuse them before signing the dotted line. This option should always pay more at an hourly rate than by W2 since you don’t receive benefits and have to pay for your employment tax fully out of pocket. Remember, you’re NOT an employee. Filing a 1099 form means you’re self-employed.
A company may require you to have an LLC if you decide to go to the 1099 route, which can cost additional money and time. A company will do this to protect you and themselves. You’ll also likely have to get an accountant who really knows their tax rules. I do my own taxes now, but with my LLC it cost a pretty penny out of pocket to hire an accountant who knew what they were doing. Had I known that cost ahead of time, I would have factored in the time and headache of it.
W2 vs 1099 – Which is better?
There are really pros and cons to each employment type so it’s really up to your certain situation to decide which one makes more sense. Not to add to the complication, but there are also tax differences if you decide to file as an S-Corp versus an LLC if that’s a route you choose to go.
Benefits of W2 employment:
- No need to worry about tax deductions.
- Employer takes care of half of your self-employment tax. This is somewhere around 7-8%.
- Benefits such as healthcare, dental, and vision can be offered.
- Easier to file taxes at the end of the year.
Downsides of W2 employment:
- Less money in your paycheck. For some, you may want to invest elsewhere. Also, recruiting companies can use this as a tactic to get a larger cut.
- Limited healthcare options. Be sure to look at the benefits ahead of time.
- No option for 401k. This is a definite possibility and puts your in an awkward bucket between employee and self-employed.
Benefits of a 1099:
- More money each pay period.
- No taxes taken out. If you’re financially savvy, you can put that money in an interest bearing account until tax time. A little extra in your pocket instead of Uncle Sam’s.
- Freedom to choose your own benefits. This may or may not come at an additional cost when comparing W2 employment.
Downsides of a 1099:
- Additional headache of keeping track of taxes taken out. Nothing a separate bank account can’t take care of though. Out of sight, out of mind.
- Paying the full self-employment tax amount. Now instead of 7-8%, it’ll be closer to 15-16%. With more money comes more responsibilities.
- Out of pocket benefits. Make sure you have healthcare covered. Don’t forget about dental and vision insurance!
The Final Showdown
Personally, not having a family of my own, I’d almost always defer to NOT go the W2 route. Being a 1099 contractor allows someone to take in additional money, which I love. But for some, it can be an additional headache to deal with at tax time.
Do your homework. Both options are completely fine and they both have their pros and cons, but educate yourself first. Make sure that you are holding the right cards when it comes to negotiating your hourly rates. Knowing what a W2 vs 1099 contractor is will help get you there.