Partner, Employee or Independent Contractor?
Cliff Ennico
www.creators.com
January 31 was the deadline for sending out 1099s to your independent contractors, and W-2s to your employees, showing how much you paid them last year. For some odd reason, though, by far the most e-mails I get on this topic come after January 31 each year. Seems like a lot of folks don#146;t wake up to the delicate question of #147;was this particular individual I worked with last year an employee or an independent contractor?#148; until after the deadline. Not a good practice, generally, but let#146;s try to come up with some answers.
#147;I am a franchisee of a large retail company, but have recently been offered a full-time job with a corporation. Because of this, I have hired a full-time manager to run the franchised business, and have offered him the job on a profit-sharing basis. He is shown as an employee on the payroll, for which I plan to give him a W-2 form at the end of the year, but we decided that I will issue him a 1099 for the share of the store#146;s profits which I gave to him in return for running the store. My question is: is it possible for a manager type of person to receive a 1099 and a W-2 in the same year?#148;
According to CPA and tax lawyer Joseph Sweeney of Fairfield, Connecticut (
joe_sweeney@att.net
), the short answer is that both types of payment must be included on Form W-2. #147;The general rule is that you cannot use Form 1099 to report wages and other compensation that you paid to employees; these must be reported exclusively on Form W-2,#148; says Sweeney. Even though part of your manager#146;s compensation consists of a share of the profits of your franchised business, you are treating him as an employee, therefore he gets a W-2 form at the end of the year.
#147;The first part of the year, I worked with a computer consultant as an independent contractor. Midway through the year, I decided I liked his work so much that I made him an offer of full-time employment with my company, which he accepted. So he has been my employee since about July 1 of last year. On December 31, I gave this person a cash bonus which I intended to relate to his work for me during the entire year. Do I give him a W-2 as an employee, a 1099 as an independent contractor, or both?#148;
According to Sweeney, in a situation like this, where you hired the consultant as an independent contractor for the first six months of the year and then as an employee for the last six months, you would issue a Form 1099 for the non-employee compensation paid to the consultant for the first six months, and Form W-2 for all payments made to him or her during the last six months. As for the year-end bonus, Sweeney says #147;even though the amount you paid this individual as a year-end bonus related to the period in which he or she was retained as an independent contractor, all of the payments you actually made to this individual in the last six months of the year (including the bonus payout) should be included in the W-2 form, not the 1099#148;.
#147;My accountant just told me that I should have sent 1099 forms to several individuals for work they did for my business last year, since I paid them more than $600 during the calendar year. A couple of these people were professionals #150; including my accountant! #150; but the others were local stay at home Moms who did contract work for me in exchange for a little extra spending cash. What kind of trouble can I get into for failing to send these people 1099s, and should I send them1099s now even though they are late?#148;
The federal Tax Code requires that you send out Form 1099 by January 31 each year to an independent contractor if you paid him or her more than $600 during the previous calendar year. The question you are really asking here is #147;what is the likelihood I will be audited or prosecuted by the IRS for failure to send out 1099s on time?#148;
I must answer with a question of my own: what is the likelihood that every one of your contractors (including all the stay at home Moms) will report the amounts you paid them last year with 100% accuracy when preparing their tax returns, and pay every red cent of income, self-employment and other taxes that are due on that income? Especially if they don#146;t remember how much you paid them (hey, the money#146;s already spent) and need your 1099 form to remind them?
No professional #150; accountant or lawyer #150; will ever advise a client to ignore a potential tax compliance problem, even though the risk of being penalized is small (and I#146;m not saying that#146;s the case here). My advice in this situation would be to send 1099s now to all of these people, even though they are a little bit late, and don#146;t forget to send copies to the IRS as you are required to do. You may get a little wrist slap for being late (the current penalty for late filing is $50 per 1099 form), and a couple of people may complain that they#146;ve already sent in their tax returns for the year and will now have to amend them thanks to your tardiness. But you will sleep better at night, and whatever penalties you incur will be only a fraction of what the IRS may hit you with if you ignore the problem and they catch you later on.
And please don#146;t miss the deadline next year.
Cliff Ennico (
cennico@legalcareer.com
) is a syndicated columnist, author and host of the PBS television series 'Money Hunt'. This column is no substitute for legal, tax or financial advice, which can be furnished only by a qualified professional licensed in your state. To find out more about Cliff Ennico and other Creators Syndicate writers and cartoonists, visit our Web page at
www.creators.com
. COPYRIGHT 2005 CLIFFORD R. ENNICO. DISTRIBUTED BY CREATORS SYNDICATE, INC.
