Small business owners guide to Independent Contractor taxes.
Many a times, small business owners hire outside contractors to work on a temporary, short-term, peripheral tasks. IRS defines them as owners or contractors who provide services to other businesses. Some examples include janitorial service, website developers, tax consultants, interior decorators etc.
Independent contractors are external consultants or subcontractors who are not on your company’s payroll. They are just paid the amount mutually agreed upon. No FICA taxes (social security and Medicare taxes) are withheld from payments and you do not file their taxes.
However, you cannot, still, sit back and relax after cutting out that check!
You are required to issue a Form 1099-Misc to the contractor by the end of January each year. It includes information on the compensation paid in the previous calendar year. Make sure that all independent contractors have given you a signed form W-9, that provides taxpayer ID (TIN). If they do not provide you with a valid taxpayer id (TIN), be prepared for Backup withholding.
Anatomy of a 1099-Misc
The 1099-Misc has 5 vital parts, each with its own significance:
· Part 1 is called copy A, is sent to the IRS.
· Part 2 is called copy 1, is sent to the state tax dept.
· Part 3 is called copy B, is sent to the recipient.
· Part 4 is called copy 2, is for the recipient to file.
· Part 5 is called copy C, your copy.
Printed or Electronic?
If you have more than 249 vendors for whom you must file 1099-misc forms, IRS regulations require that you submit the forms electronically, go green!
However, if you file printed Form 1099-Misc with the IRS, you might as well use some more paper and also file Form 1096 (Annual Summary and Transmittal of US information returns). Form 1096 is the summary of information from all 1099 forms.
Threshold values for 1099 contractors:
Do you really need to file 1099-MISC?
If the vendor is paid less than $600, you really do not have to file 1099-Misc.
Also, according to William Perez, Guide to Tax Planning, you do not need to file 1099-Misc for payments made by credit card or other third-party processor.
Here are some more guidelines to filing 1099-Misc:
File Form 1099-Misc for each person to whom you have paid:
1. At least $10 in royalties or broker payments in lieu of dividends or tax exempt interest.
2. At least $600 in rents, services, prizes, awards or other income payments, medical, health care payments.
3. Any fishing boat proceeds.
4. Direct sales of at least $5000 of consumer products to buyer for resale.
5. Accrued wages, vacation pay, and other compensation paid to an estate or beneficiary after the date of death of a deceased employee.
6. At least $600 in remuneration to independent contractors.
7. At least $600 in remuneration to directors.
8. From whom you withheld any federal income tax under the backup withholding rules regardless of the amount of the payment.
In case, you decide to employ any of the wonderful people who worked for you as independent contractors, and have them work exclusively for you, refer my earlier post:
Employers Guide to Payroll taxes
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