4.5 MIN READ
When it comes to 1099s, many business owners find themselves in a guessing game, wondering what exactly the rules and requirements are. This is a dangerous game to play because the penalties add up quickly when it comes to 1099 mishaps.
With that in mind, let’s set a few things straight about 1099s, from determining who gets one to all those pesky “exceptions” to the rules.
What is a 1099?
A 1099-MISC is similar to a W-2, and is used to track the income of independent contractors/businesses who are not set up as corporations. Broadly speaking, it is given to non-employees paid by your business. The general rule is that you must issue a Form 1099-MISC to any vendors or sub-contractors you have paid at least $600 in rents, services, prizes and awards, or other income payments in the course of your trade/business in a given tax year (you do not need to issue 1099s for payments made for personal purposes). Vendors and sub-contractors are essentially any person or company that is not your employee and that you have paid for services.
You must also send a 1099-MISC if you paid—over the course of a year—at least $10 in royalties (for example, a payment to an author for the right to publish or distribute their work) or broker payments in lieu of dividends or tax-exempt interest.
Who Gets a 1099?
Before issuing a 1099-MISC, you should determine: 1) whether the person is legally an employee or an independent contractor; 2) whether or not the person/business is a corporation; and 3) whether your payments to the person/business exceed the $600 reporting threshold.
Determining Contractor Status
If you try to treat individuals who should be classified as employees as contractors, you could incur severe penalties at the hands of the IRS. It is therefore important to clearly understand who is an employee and who is an independent contractor, and treat them accordingly.
In general, a worker is an employee if:
- Your business controls what work will be done and how it will be done.
- Your business provides the equipment and materials the worker uses to complete the work.
- Your business provides benefits to the worker (like paid time off, insurance, and retirement benefits).
- Your business pays the business expenses of the worker (like office rent, insurance, supplies, or other expenses and reimbursements).
In general, a worker is an independent contractor if:
- The worker services many different customers or clients who pay them directly for their services.
- The worker controls when and how the work will be performed and controls all the details of the work performed.
While employees receive regular paychecks and are issued W-2s at the end of the year, independent contractors receive payment upon a project’s completion (or at specified points during a project) and are issued a Form 1099-MISC at the end of the year.
Verifying Business Structure
Verifying business structure is important because it can save you the hassle of having to issue a 1099-MISC. In general, payments to corporations do not need to be reported on a 1099-MISC; LLCs and partnerships are issued 1099s, unless they are taxed as S- or C-Corporations (you can determine this status from their W-9).
Verifying Amount Paid
The 1099-MISC threshold is set at $600. Anyone your business paid $600 or more in non-employee compensation over the year must be issued a Form 1099-MISC.
According to IRS guidance, a form 1099-MISC may be required if a company makes the following types of payments:
- At least $10 in royalties or broker payments in lieu of dividends or tax-exempt interest.
- At least $600 in:
- Rents. This typically includes rental payments if your business rents property (like real estate or equipment) [Box 1 on the 1099-MISC].
- Services performed by someone who is not your employee. This is also referred to as “non-employee” compensation [Box 7].
- Prizes and awards. This applies to any prizes and/or contest winners your business has awarded [Box 3 is for awards and prizes that are not for services performed; Box 7 is for prizes for non-employees as compensation for services].
- Other income payments. [also reported in Box 3]
- Medical and health care payments. Payments to doctors or other medical service suppliers/providers must be reported [Box 6].
- Payments to an attorney. [Box 14 for payments made in the context of a legal settlement; Box 7 for any legal services given directly to a company/payor]
As with most things related to taxes, there are, of course, exceptions. Some general exceptions to who must be issued a 1099-MISC include:
- Corporations (including LLCs or partnerships that elect to be treated as S- or C-corporations); this exemption does not apply to payments for legal services (any law firm or attorney—regardless of whether or not they’re a corporation—whom you paid $600 or more in fees or in gross proceeds must be issued a 1099-MISC)
- Payments for merchandise, freight, storage, telephone, or similar items
- Rent payments to/through real estate agents/property managers (you do need to issue a 1099-MISC if paying rent to a landlord)
- Wage/salary payments to employees (this include payments to employees for business travel)
- Payments to tax-exempt organizations
- Payments made to any person or business via credit card or through PayPal; the third-party payment processor will issue a Form 1099-K
Steps to Take
Before you issue anyone a 1099-MISC, first request a W-9 form from that person/business. This is a surefire way to avoid the frustration of not having the information you need (like a valid tax identification number) to issue a 1099-MISC when the time comes.
Some business owners request a W-9 from any vendor they expect to pay more than $600 before paying them, ensuring they have the correct mailing information and taxpayer ID, and providing verification of whether or not they are a corporation. This saves the headache of tracking down mailing addresses or EINs last minute.
1099-MISC forms are pre-printed in triplicate by the IRS, meaning you can’t just visit www.irs.gov and download a bunch of 1099s and send them out. Instead, you must order the forms from the IRS and pick them up at a service center, or get them (while they’re available) at the post office or some other outlet.
Taxpayers must issue and mail out all 1099s to vendors by January 31. You also must submit all 1099s to the IRS (along with Form 1096) by January 31; depending on state law, you may also have to file any 1099-MISC with the state (this is one of the many times where outsourcing your bookkeeping comes in handy…). If you have more than 250 forms to file, you must file electronically (unless you have an approved waiver); failure to do so may result in a penalty of up to $100/return.
Keeping track of tax rules and requirements is a taxing (pun intended), but entirely necessary, part of being a business owner. Not up for the challenge? The Bean Team can help! Get in touch to learn more about how we can save you a headache when tax season rolls around.