Understanding Differences Between 1099 Workers and W2 Employees

We all pay someone to do work for us at some point or another.  But did you know that how you classify those funds paid (code and book that payment accounting wise), can determine if you think they are a 1099 worker or a W-2 employee?

This week on Your Landlord Resource we are discussing the two rules that the Federal government and potentially your state government use to determine the difference between the two.

It’s a short episode that’s packed with a lot of good info to keep your business out of trouble in case you are ever audited…and we are seeing a lot of people we know go through this right now and its NO FUN!

LINKS

👉 Episode 5: The Advantages of Employing Your Children in Your Business

👉 US Department of Labor: Myths About Classifications of Employees as Independent Contractors

👉 Course Waitlist: From Marketing to Move In, Place Your Ideal Tenant

👉 Course Waitlist: From Marketing to Move In, Place Your Ideal Tenant
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Transcript

Stacie: 0:00

And the gist of it is if you have ever used the 1099 employee, you need to stop saying that. Here's some simple background information on each of those. So contractors get 1099s, employees get W2s. And where this all may seem obvious, you would be surprised at how many small business owners either pay someone direct for their services or pay them cash under the table, and then refer to them as their employee. And it's a total contradiction. The IRS is really cracking down on this now and should you get audited and not have provided them with a 1099 by January 31st each year following the year they worked for you, then you could be forced to treat them as an employee.

0:49

Welcome to your landlord resource podcast many moons ago. When I started as a landlord, I was as green as it gets. I may have had my real estate license, but I lack confidence in the hands on experience needed when it came to dealing with tenants, leases, maintenance, and bookkeeping. After many failed attempts, fast forward to today. Kevin and I have doubled our doors and created an organized, professionally operated rental property business. Want to go from overwhelmed to confident? If you're an ambitious landlord or maybe one in the making, join us as we provide strategies and teach actionable steps to help you reach your goals and the lifestyle you desire. All while building a streamlined and profitable rental property business. This is your landlord resource podcast.

Stacie: 1:38

Hello there landlords and thank you for tuning in to the Your Landlord Resource podcast. I'm your host Stacie Casella, and I'm here today with my co host and my hubby Kevin Kilroy.

Kevin: 1:51

I like when you call me that. Hey there everyone and thanks for listening today. So this week we're doing a bit of a shorty episode and I know we've been doing a few of those lately, but it's because we're working hard on a few other things. And one of them is finding our next rental property to purchase. Which we're hoping to do pretty soon. We had to get our taxes completed last month so that we could have up to date tax returns for, you know, lending purposes. Still not sure if we're gonna go the traditional route or try to get a little creative by finding someone who's willing to extend seller financing to us. That would, something new to us, so we have to kind of look into that also.

Stacie: 2:32

Yep.

Kevin: 2:33

And, you know, we like the stability and reliability of a traditional loan, just not the cost, I guess, like everybody else. So we will see what happens with that. And the other thing we're working on is our upcoming course, which is going to be called From Marketing to Move In, A Comprehensive Guide to Placing Your Ideal Tenant. And it's still a work in progress, but just know that Stacie is the queen of details and is working to create the course that is easy to get through, but has all the information you need to make decisions about how to find that new tenant. And it will cover subjects such as your acceptance criteria, marketing your vacancy to attract the best tenants, the process of pre screening, unit showings, and accepting applications. Vetting the applicants, so that would be credit and background checks, accepting and denying applications. A lease and addendum blueprint, and onboarding your new tenant, and the move in walkthrough. We're also working to create PDF worksheets to help you with each process as well. So there will be at least six modules, and then several lessons within each of those. Again, we're making it as comprehensive as possible, so that you can start working on finding your new, very qualified tenant as soon as possible. If you'd like to be on the wait list for this course and potentially be part of our beta group, there will be a link in the show notes to sign up.

Stacie: 4:08

Yeah, and let me clarify something. There is no obligation. If you think you might be interested, go ahead and sign up. And what we mean by beta group is that we're going to be offering the course at a discounted price for you to purchase and in return, we're going to ask you to somehow inform us of your thoughts on the course. That could be a survey over email or maybe a 15 minute zoom call. But the basic premise behind it is that you go through the course and then you let us know where we need to improve it. Okay. Now that that's all done, let's get into the subject of today's podcast. And that is understanding the difference between a 1099 contract worker and employee. And the gist of it is if you have ever used the 1099 employee, you need to stop saying that. Here's some simple background information on each of those. So contractors get 1099s, employees get W2s. And where this all may seem obvious, you would be surprised at how many small business owners either pay someone direct for their services or pay them cash under the table, and then refer to them as their employee. And it's a total contradiction. The IRS is really cracking down on this now and should you get audited and not have provided them with a 1099 by January 31st each year following the year they worked for you, then you could be forced to treat them as an employee.

Kevin: 5:37

So let me give you some examples of where you might be hiring a contract worker or someone who will work for you either for a short term period of time or for a specific preset time. And it's all in the name. Your contractor. Specifically, a general contractor who does work for you either in a project by project basis, or on certain days of the week. You know, like maintenance work around your rental properties. Maybe you have a handyman who you call every time you get a maintenance request or need some heavy landscaping done or to paint a unit during a vacancy. Another example could be using your spouse, your child, or a relative to help you out with office work, snow removal, or you know, something like landscaping every other week. Maybe they handle calls for maintenance requests and then coordinate the handyman to meet with the tenant. Maybe they do your bookkeeping. Now, family members can work for you for free, in exchange for health benefits and such. But, it's a very thin line and you need to be careful about that. You can pay your children who are under 18 to work for you in most circumstances, but again there are limitations. We did a podcast called The Advantages of Employing Your Children in Your Business. I believe it's episode five and you should check it out because we discussed paying family members and the tax advantages you can benefit from. Of course, as always, we'll link it in the show notes for you. But the point is if you need to hire someone temporarily to help pick up the slack, you can but, you need to be careful about how you designate them as part of your rental property business.

Stacie: 7:16

So about 30 states are now using what is termed the ABC test, which is a rule that specifies when someone can be considered a contract worker. A means that the worker must be free from control and direction from the hirer. This means that you give them a job and they work to complete it on their own schedule, not one that you set for them. They also have control over how the work is done. B means that the worker must perform work that is outside the usual course of the hiring entity's business. So for landlords, there are absolutely gray areas here. What is the job of a landlord? To provide housing for another who pays for the right to live in a property that the landlord owns. Does that mean that the landlord has to know how to market their property, or could they hire someone to handle that for them? Do they have to know how to place a tenant or can they hire a Realtor or a property manager to do it for them? Do they have to know how to do repairs and maintenance or can they hire someone to do all of that for them? All those things I just mentioned are not outside the usual course of business for a rental property owner.

Kevin: 8:29

Well, I think part C will clarify that for them. Because part C requires that the person you hire has their own business doing what you're hiring them for. Your contractor should be working on other people's projects, not just yours. Same with your landscaper, part time bookkeeper, painter, etc. Sounds easy enough, right? Well, it should be. But, if you pay someone one penny more than$600 in a calendar year, you have to give them a 1099 for their taxes. Per the IRS, you are not required to give out a 1099 for any work done that is under$600. And let me tell you, people are getting audited left and right. We have heard stories of others getting fined for not providing a 1099 for a job that was less than say$1000. Of course, the state of California is very strict about this. And I don't want to get all political, but Democrats have been trying to make the ABC rule a federal law for many years now. Many states use the ABC rule, but some only use A and C. But there's also states, and they are Arizona, New York, Alabama, Florida, Texas, Iowa, North and South Dakota, North and South Carolina, Mississippi, Missouri, Michigan, Minnesota, and Kentucky do not. They use what is called the Common Law Rule in which a business only has to determine whether or not they have the right to control what the worker does and how they perform their job. So for those states who maybe turn their heads to defining an employee versus a contract worker, that might be changing at some point. Look, the bottom line is that a 1099 contract worker is not an employee, but a self employed worker or independent contractor. Whether a worker is considered an employee or an independent contractor depends on the relationship between the worker and the organization and the law that applies. California Labor Code 226. 8 prohibits employers from knowingly misclassifying employees as independent contractors and each violation carries a civil penalty.

Stacie: 10:45

Okay, so you often hear us talk about our contractor Jim. And Jim is paid by the hour. Does pretty much all the maintenance and repairs for our Sacramento property. And when we owned the single family property rental in Chico he worked there as well. He also does work at our personal home as well as our vacation homes for our families. I mean, he just finished replacing a deck at one property and he did a beautiful job. So do we keep Jim busy? 100% we do. Does Jim use his own tools and have the right to take on other jobs if he wants to? Yes, he does. As a matter of fact, we had to wait on some work that we needed done while he did a bunch of maintenance and code compliance work for our neighbors who bought a rental in Sacramento recently. And hey, neighbors, if you're listening, make sure that your CPA sends him a 1099 for all that work. But the bottom line is that we do not pay him a wage or a salary. We pay him an agreement for what the job costs. We do not need to withhold taxes or offer him benefits because he has his own business doing construction work for other people and businesses. And what's important to know is the law that applies to your state. California laws are stricter than federal, so we have to follow California law.

Kevin: 12:06

And real quick, let me tell you all about the federal and Department of Labor rules. So, the IRS basically goes by the common law, which as we stated before, focuses on control of work being done. Now, the Department of Labor uses an economic realities test to assess whether a worker is an employee or an independent contractor. There are two basic considerations of whether a worker is economically dependent on an employer or in a business for themselves. The nature and degree of the worker's control over the work, and their opportunity for profit or loss. So, for those states who we mentioned that do not follow the ABC rule, these are the parameters the IRS and Department of Labor will follow. Now, if you classify someone who is actually doing duties as an employee as a 1099 worker, you could be liable for back employment taxes as well as penalties like$50 for each W2 that you didn't file, a penalty of 3 percent of employee wages plus 40 percent of FICA taxes that weren't withheld, and a 100% of the matching FICA taxes you're responsible for. A penalty of half a percent of the unpaid tax liability per month, up to 25 percent of the total tax liability. In addition to those penalties from the IRS, under the FLSA, you may be assessed penalties for unpaid overtime or minimum wage violations.

Stacie: 13:37

Yeah, I don't know about you guys, but my head's kind of spinning right now with all this information.

Kevin: 13:41

Yeah, yeah, me too. And I'm the one that looked up all this stuff.

Stacie: 13:46

Alright, you guys, the bottom line is, if you have someone working for you who you control where, when, and how much they make, you have an employee who you need to pay taxes for and give a W 2 for them to claim that income on their taxes. If you have someone who does work for you, who gives you an invoice every time the new project is finished, and they have earned more than$600 you have a contract worker and need to give them a 1099 to claim as income on their taxes. Okay, so to confuse you some more, someone can be an employee of yours and also be a contract worker. So here's some examples. If you have an administrative employee, like someone who processes your paperwork, answers a phone and does your weekly bookkeeping, but also does janitorial services with her spouse, you can hire them to clean your rental property during turnovers. If you have a handyman who works for you as an employee, but they also own a landscaping company, you can hire them to do regular landscape maintenance or trim trees once a year, or clean the yard and plant new flowers each spring.

Kevin: 14:54

Yeah, I can see that admin one where they clean vacancies popping up for shorter midterm rentals too. Because a lot of people hire managers to handle just those and then run the long term rentals themselves. And often those managers are the jack of all trades, meaning they place the tenants, they deal with maintenance issues, clean the place, et cetera. if you have many short term rentals that only one person is managing for you and a bulk of their time is spent on only your units, that could cause some confusion on the whole 1099 worker with their own management company and if they could qualify as a W2 employee. Listen you guys, the big deal is that we're seeing a lot of small businesses around us get audited and this is one thing that seems to come up repeatedly. The issue is the government wants to make sure that contract workers who could be classified as employees are getting the benefits they deserve. Such things as minimum wage and overtime pay. Workers compensation is another big one. And, obviously, medical benefits, sick pay, and family leave. We have an article put out by the Department of Labor that we will link in our show notes. It breaks down the myths about classification and how they would determine if a contract worker were indeed an employee. And, there were a couple in there that caught our attention. Not necessarily pertaining to our rental property business, but some other small businesses that we own.

Stacie: 16:23

All right, you guys, we said this would be a short one. This is just something that came across us and we thought you should know more about it. Because someday you might be in a position where you have to worry about this stuff and we want you all to be informed so you can operate a professional and organized rental property business. We hope you enjoyed this episode and got at least one good tidbit of information out of it. If so, would you do us a favor and leave us a very kind review of the podcast so that other landlords can find us and appreciate us too? If you want to hear more, follow or subscribe to the podcast, so each week the episodes are downloaded right to your favorite podcast platform. And we'd love to stay in contact with you. If you have a question, or you want to suggest a subject for our podcast, you can text us at 650 489 4447. Or you can email us at Stacie YourLandlordResource. com. That's Stacie with an I E or Kevin at YourLandlordResource. com. We will link all of those in the show notes as well. And also in the show notes, you'll find links for all the free downloads that we offer, ways to sign up for our free weekly newsletter, and as we mentioned at the beginning of the show, the waitlist for our upcoming course on placing your ideal tenant. There's also links for our private Facebook group and that's just for landlords. And our social media accounts on Instagram, Facebook and YouTube where we share very important and detailed tips and tricks for landlords, so you should check those out as well. Think that's about it. Thanks again. And until next time, You've got this landlords.