What’s the Difference Between W-2 and 1099 Workers?

In 2022, Attorney General Racine filed a lawsuit against Arise Virtual Solutions and Comcast Cable Communications Management for failing to pay legally due wages to customer service agents. With more than 22,000 workers affected, the U.S. Department of Labor called this “the largest misclassification case in its history.”

Because these workers were misclassified as 1099 independent contractors, they were denied the legally required minimum wage and overtime pay mandated under the Fair Labor Standards Act (FLSA).

W-2 vs. 1099: What's the Difference?

Forms W-2 and 1099 are tax documents that businesses must file for employees and contractors, respectively.

W-2 Form: Employers must file a W-2 for each employee, reporting income, Social Security, and Medicare tax withholdings. Employees receive a copy of their W-2 for tax filing purposes.
1099 Form: Independent contractors, on the other hand, receive a 1099 form instead of a W-2. Unlike employees, they are responsible for paying their own taxes.

It’s important to note that independent contractors are not employees. When hired, contractors fill out a W-9, whereas employees complete a W-4. During tax season, HR will file a 1099 for each contractor and a W-2 for each employee.

What’s the Difference Between a W-2 Employee and a 1099 Independent Contractor?

According to the U.S. Chamber of Commerce, the biggest distinction between W-2 employees and 1099 contractors is tax responsibility:

W-2 employees: Employers withhold Social Security, income tax, Medicare tax, and state income taxes on their behalf.
1099 contractors: They are self-employed and must pay federal and state taxes themselves.

W-2 vs. 1099: A Practical Example

Let’s say Lilly works full-time as a bookseller at your bookstore, earning $50,000 a year. As a senior bookseller, she has some flexibility in her schedule but is still economically dependent on you.

As a W-2 employee, 7.65% of Lilly’s wages ($3,825) go toward FICA taxes, which you, as the employer, also match.

If Lilly were misclassified as a 1099 contractor, you wouldn’t have to pay:

FICA taxes
Overtime pay
Unemployment compensation
Workers’ compensation
Employee benefits (health insurance, PTO, etc.)

Lilly, now an independent contractor, would need to purchase her own health insurance and pay self-employment taxes—which are significantly higher than payroll taxes for W-2 employees.

How Do Independent Contractors Pay Taxes?

Because the IRS considers 1099 workers self-employed, their tax obligations differ from those of W-2 employees.

2025 Self-Employment Tax Rate: 15.3% (12.4% for Social Security up to $176,100 + 2.9% for Medicare)
W-2 Employee Payroll Tax Rate: 7.65% (6.2% for Social Security up to $176,100 + 1.45% for Medicare)

To file their taxes, independent contractors use:

Form 1099: Reports earnings from an employer.
Form 1040: Used to file their annual income tax returns.
Self-Employment Tax Forms: Calculated separately from income tax.

Because 1099 workers handle their own taxes, it’s critical they track income and expenses throughout the year. Many opt to work with an accountant to maximize deductions and avoid surprises come tax season.

For more details, check out the IRS guide on independent contractor tax obligations.

The Consequences of Misclassification

At first glance, misclassifying Lilly might seem like a way to save money, but misclassification penalties are severe:

Fines of up to $1,000 per misclassified worker
Potential criminal penalties, including jail time
Back taxes, unpaid wages, and benefits owed

Employees often don’t realize they’ve been misclassified until they receive an IRS notice demanding thousands in unpaid taxes. That’s why, as an HR professional, you must ensure workers understand their employment status upfront.

W-2 vs. 1099: When Should You Hire an Employee vs. an Independent Contractor?

When deciding whether you need to hire an employee or an independent contractor, consider the following questions:

Is the work for this role ongoing?
Will the worker need to follow your organization’s policies and use your equipment?
Will the worker require scheduled hours and/or a set location?
Will you need to oversee/ manage your hire’s work?

It’s likely that if you answered ‘yes’ to the above questions, you should hire an employee rather than an independent contractor.

Some examples of independent contractors include:

Freelance writers who get hired for short-term assignments
Musicians who occasionally play gigs for your events
Consultants with specific start and end dates for projects

IRS Guidelines for Worker Classification

The IRS uses three key tests to determine whether a worker is an employee or independent contractor:

Behavioral Control – Does the company control how the worker performs their job?
Financial Control – Who determines payment, expense reimbursement, and work materials?
Type of Relationship – Are employee benefits, written contracts, or long-term commitments involved?

For more information, check out our blogs on how to hire and pay independent contractors and the DOL’s final rule on the classification of independent contractors.

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