Why Freelance? The Advantages of W-2 versus 1099
The term "freelance" comes from the works of Sir Walter Scott and refers to traveling
knights offering their services in battle to noblemen for a fee. This colorful designation
is now used for independent contractors who offer their services to companies but are not
officially employed by them. The freelancer is free to work in whatever manner they would
like in order to accomplish the task given to them.
It is easy to see the benefits to working for oneself. However, a freelancer must
quickly learn how to run all the aspects of their business. Unlike employees, a freelancer
is expected to calculate and pay their own taxes. This is difficult task, but there are
advantages to this financial control.
What is a W-2?
A W-2 is a statement that an employee receives from their employer at the end of a
year. It lists their gross wages, taxes withheld, insurance payments, and other
transactions made between the two parties. The company has already sent the employee's
income taxes to the IRS and usually has paid some of the social security tax. The employee
uses their W-2 to file their taxes for the last tax year. They may need to add additional
income received from investments or independent work. The forms aid them in calculating
their taxes and determining whether they owe taxes or will receive a refund.
What is a 1099?
A 1099 is a statement that an independent contractor receives from a company. It is
simply a form showing how much the individual has been paid by the entity. There have been
no taxes withheld and no other deductions. The freelancers are completely responsible for
filing and paying their own taxes based on their income.
An employer of an independent contractor is required to file a 1099 form with the IRS
if they pay the worker more than $600. This is so the IRS is aware that the freelancer is
receiving wages and can make sure the taxes are paid.
Filing Self-Employment Taxes
Switching from receiving a W-2 to a 1099 may seem like a lot of added trouble during
tax time, but there are advantages to having control over how the process. Those who pay
self-employment taxes are subject to a tax rate of 15.3 percent. Those who make under $400
do not have to pay taxes at all. The rate is not flat. It is adjusted according to the net
income of the individual subject to their filing status.
An independent contractor uses the 1099 and other records to calculate their net income
and taxes. This works much in the same way for those who file with W-2s, but the tax is not
overpaid because of an estimate on the part of an employer. Therefore, the 1040 form a
freelancer files at the end of the tax year will calculate the correct taxes for the
calendar year without any overpayment.