Which income should be reported on a W-2 versus a 1099?
Understanding whether pay belongs on a W-2 or a 1099 affects withholding, tax rates, benefits, and employer responsibilities. Employers generally report wages, tips, and other employee compensation on Form W-2, while businesses report payments to independent contractors and other nonemployees on Form 1099-NEC. In my practice helping small-business owners and freelancers, I routinely see misclassification lead to surprise tax bills and IRS notices — often avoidable with the right documentation and procedures.
How to tell the difference: control and relationship
The core distinction rests on the level of control and the nature of the working relationship, not the job title. The IRS evaluates factors such as:
- Behavioral control: Does the company direct when, where and how the worker performs tasks?
- Financial control: Does the worker have a business structure, use their own tools, and accept the risk of profit or loss?
- Relationship type: Are there written contracts, benefits, or an expectation the work is ongoing?
If the hiring party controls how work is performed and provides employee-like benefits, payment more likely belongs on a W-2. If the worker runs an independent business, sets their own schedule, and contracts with multiple clients, payments generally go on a 1099-NEC. See the IRS guidance on employee vs. independent contractor for detailed tests: https://www.irs.gov/businesses/small-businesses-self-employed/independent-contractor-self-employed-or-employee
What each form reports (and deadlines)
-
Form W-2 (Wage and Tax Statement): Employers provide this to employees to report wages, tips, federal and state income tax withheld, Social Security and Medicare wages and taxes, and other items. Employers must give copies to employees and file with the Social Security Administration; employees use it to prepare Form 1040. For employer filing and distribution dates, consult the SSA/IRS instructions: https://www.irs.gov/forms-pubs/about-form-w-2
-
Form 1099-NEC (Nonemployee Compensation): Used to report payments of $600 or more to nonemployees for services performed in a trade or business. Businesses send Copy B to recipients and file Copy A with the IRS. The 1099-NEC was reintroduced in tax year 2020 to separate nonemployee compensation reporting from the 1099-MISC obligations; see the form instructions: https://www.irs.gov/forms-pubs/about-form-1099-nec
Note: Filing deadlines can shift slightly with weekends or federal holidays; always check current IRS/SSA guidance each tax year.
Tax consequences for the worker
-
W-2 employees: Employers typically withhold federal income tax, Social Security, and Medicare from each paycheck. Employees generally do not pay self-employment tax. Employers also pay the employer share of Social Security and Medicare and may offer benefits such as unemployment insurance and worker’s compensation.
-
1099 recipients (self-employed): Payers do not withhold taxes. Independent contractors must track income, deduct eligible business expenses, pay self-employment tax (approximately 15.3% to cover Social Security and Medicare on net earnings), and usually make quarterly estimated tax payments to avoid underpayment penalties. Contractors can deduct ordinary and necessary business expenses, and they can deduct the employer-equivalent portion of self-employment tax on Form 1040.
These rules are summarized by the IRS: https://www.irs.gov/forms-pubs/about-form-1099-nec and the guidance on self-employed tax issues in IRS Publication 334.
Examples from practice
-
Employee + side contract: A client I advised worked full-time as a software engineer (W-2) and did contract work for two startups (each issued 1099-NEC). We calculated quarterly estimated taxes for the freelance income and tracked business expenses to reduce taxable self-employment income.
-
Misclassification risk: A small business owner treated a long-term, direction-controlled worker as an independent contractor to avoid payroll taxes. After an IRS inquiry, the company corrected classifications and filed payroll returns for prior years. The employer incurred back payroll taxes, interest, and penalties. The lesson: document the working relationship and reassess control factors regularly.
Common reporting scenarios
-
Payments to corporations: Generally, payments to a corporation (C or S) do not require a 1099-NEC. Exceptions exist (e.g., attorney fees). Use Form W-9 to collect taxpayer identification and backup documentation. See the FinHelp guide on collecting W-9s and when to issue forms: https://finhelp.io/glossary/understanding-form-w-9-w-2-and-1099-who-needs-which/
-
Gig platforms and 1099-K: Third-party settlement organizations (like payment apps) may issue Form 1099-K based on payment volume and transaction count thresholds; this is separate from 1099-NEC. The tax treatment still follows the same rule: report all business income, regardless of which information return you receive. For platform sellers and small businesses, see our article on 1099-K and 1099-NEC: https://finhelp.io/glossary/how-1099-k-and-1099-nec-reporting-affect-small-businesses/
-
Mixed status in one year: Workers often receive both W-2s and 1099s in the same tax year when they have multiple roles; both types of income must be reported on the same individual tax return.
Employer obligations and best practices
-
Determine classification before hiring: Perform a written analysis of control and relationship factors. Keep a signed Form W-9 for every contractor and document why the worker is an independent contractor.
-
Issue forms timely: Provide beneficiaries with their copies and file required returns on the IRS/SSA timelines. Use payroll software or a tax professional to reduce filing errors.
-
Correct mistakes promptly: If you misclassify or make a reporting error, follow IRS procedures to correct forms (e.g., W-2c, corrected 1099s) and amend payroll tax returns as needed. Our guide about correcting employer reporting errors explains common fixes and when to use Form W-2c: https://finhelp.io/glossary/employer-responsibilities-correcting-w-2-and-1099-errors-after-filing/
Recordkeeping and documentation
For both employers and contractors, keep organized records for at least three years (many practitioners keep seven years). Useful items include:
- Copies of signed contracts and invoices
- Client payment records and bank statements
- Receipts for business expenses and mileage logs
- Completed W-9s and correspondence about the working relationship
Accurate records make it easier to prepare tax returns, substantiate deductions, and respond to IRS inquiries.
Deductions, credits, and tax planning
Self-employed taxpayers can reduce taxable income by claiming qualifying business expenses (home office, equipment, supplies, marketing, professional fees). They can also take advantage of retirement accounts designed for the self-employed, such as SEP-IRAs, SIMPLE IRAs, or solo 401(k) plans, which lower taxable income while saving for retirement.
Employees may have limited unreimbursed deduction opportunities, though some pre-tax benefits (e.g., health or commuter benefits) can lower taxable wages.
Quarterly estimated tax strategy: Contractors should project annual income, estimate tax liability (income tax plus self-employment tax), and make timely payments to avoid penalties. Use Form 1040-ES worksheets or tax software to compute estimates.
Common mistakes and how to avoid them
- Treating long-term, employer-directed workers as contractors to avoid payroll taxes.
- Failing to collect W-9s and missing required 1099 filings.
- Neglecting quarterly estimated payments as a contractor.
Avoid these by documenting the relationship, maintaining timely records, and consulting a payroll or tax professional when in doubt.
When to consult a professional
Seek professional help when:
- You’re unsure about classification and the business relationship has mixed control elements.
- You receive IRS notices about unfiled information returns or underreported wages.
- You need to amend prior-year payroll filings or make voluntary disclosures.
A qualified CPA or tax attorney can perform a worker classification review and help implement payroll corrections if necessary.
Authoritative sources and further reading
- IRS — Independent Contractor (Self-Employed) or Employee: https://www.irs.gov/businesses/small-businesses-self-employed/independent-contractor-self-employed-or-employee
- IRS — About Form W-2: https://www.irs.gov/forms-pubs/about-form-w-2
- IRS — About Form 1099-NEC: https://www.irs.gov/forms-pubs/about-form-1099-nec
Professional disclaimer
This article is for educational purposes and reflects general tax rules as of 2025. It is not tailored tax advice. For guidance specific to your facts and circumstances, consult a licensed tax professional or the IRS.
If you need a practical checklist for determining classification or a template W-9 intake form, our related FinHelp resources and how-to guides listed above provide downloadable tools and step-by-step instructions.
