Is a 1099 Better Than a W4?

Independent contractors must calculate and pay taxes from their 1099 income.

IRS forms 1099 and W-4 are used for very different purposes. Neither one is better than the other, but rather, each represents an employment situation that has its own benefits and drawbacks. A more direct comparison would be 1099 vs. W-2 forms, as both of these forms involve year-end income statements, whereas a W-4 only involves gathering the information that goes onto a W-2.

Descriptions

The W-4 form from the IRS is a document you fill out upon being hired as an employee by a company. It contains your legal identifying information, such as name, address, marital status, social security number and the amount of additional taxes you want withheld from each paycheck. Your employer uses this information to determine how much money to deduct from your paycheck in addition to standard payroll taxes. After the end of the year, your employer will send you a W-2, which totals everything you earned for the year, all taxes deducted or withheld, and any other tax information necessary for completing your personal income taxes. A 1099 form also reports your annual earnings, but it is for non-employee earnings, so no taxes were taken out of the amounts listed as earned on these forms. Like the W-4 form that lets employers know what information to place on the W-2, the person or company you contract with to earn 1099 income may require you to fill out a form W-9 with your legal identifying information.

Regular Employee or Independent Contractor

W-4 and W-2 forms are given to regular employees, while 1099 forms are for independent contractors or other non-employee income. Income such as contractor earnings is reported on form 1099-MISC. Each state has its own rules to determine whether a worker is an employee or an independent contractor, but the IRS also has basic rules. If you are a W-2-type employee, the company paying you can choose your work hours, tell you how to complete a project and otherwise control work flow. The payer can also give you benefits, like fully or partially paid medical insurance or paid time off. Independent contractors generally determine their own hours and methods, but they must be licensed businesses of their own and pay their own taxes in full. Payers cannot provide independent contractors with benefits, although they can provide bonuses or similar additional compensation.

Income and Taxes

If you worked the same number of hours at the same pay rate for two companies, one as an employee and one as an independent contractor, your year-end income statements would look quite different. For example, if your earnings totaled $10,000 from your employer (Job A) and your contract work (Job B), your 1099 from Job B would show the full $10,000 in your earnings, and you would have received every dollar of that payment. Your W-2 from Job A might show a total closer to $8,000, plus list the taxes already deducted for social security, federal income tax and Medicare taxes, totaling the remaining $2,000. While the 1099 income might seem better because you get $2,000 more, you are still responsible for paying taxes on that income. Employers cover approximately half of the taxes, not including personal income tax, deducted from your paycheck, but as a contractor, you are responsible for the full amount. This means that out of the $10,000 you received from Job B, you may actually owe closer to $3,300 instead of the $2,000 deducted from the Job A paycheck.

Considerations

Independent contracting works well for people who plan ahead and manage money well. You can set aside a portion of your income each time you complete a project and earn interest on that money before sending payments to the IRS. You are also more in control of your own schedule and work methods. However, as a regular employee, you get to keep more of your earned pay after taxes are paid and you may receive additional benefits from your employer. The best type of work for you depends on the type of work you do and your comfort level in dealing with your own taxes or hiring a professional to help you pay the appropriate amounts to avoid fines and late fees.

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