W2 vs 1099: employee or independent contractor?

W2 vs 1099 at a glance

The $2,000 1099-NEC threshold is new. It applies to payments made in 2026 and later, replacing the old $600 figure, and the IRS may adjust it for inflation from 2027. Our guide to paying 1099 contractors covers the filing side.

What one worker at $60,000 costs: W-2 vs 1099

Here is the employer cost of one full-year worker paid $60,000, using 2026 federal rates and the new employer SUTA rate in two states. Health insurance and retirement are left as lines you fill in, because they depend on what you offer.

So before benefits and workers' comp, the W-2 worker costs $65,535 a year in Texas ($60,000 + $4,875 + $660) and the contractor $60,072 ($60,000 + $72). If you match 3% of pay into a 401(k), add $1,800 to the W-2 column.

The gap is smaller than it looks. A contractor pays both halves of Social Security and Medicare as self-employment tax and buys their own insurance, so a contractor quoting for the same work often asks a higher rate than the salary you would pay. To run the numbers for your state with benefits included, use the employee cost calculator.

The IRS test: behavioral control, financial control and the relationship

For federal employment tax, the IRS uses the common-law control test. It sorts the facts into three groups and says no single factor decides the answer. It tells businesses to weigh all of them and write down why they reached their conclusion.

• Behavioral control. Do you control, or have the right to control, what the worker does and how? Setting hours, training someone in your methods and reviewing how they work all point toward employee.
• Financial control. Do you control the business side of the job: how the worker is paid, whether expenses are reimbursed, who supplies the tools? A worker who invoices by the project, buys their own equipment and can make or lose money looks like a contractor.
• Type of relationship. Is there a written contract, are there employee-type benefits such as insurance or paid vacation, is the relationship expected to continue, and is the work a key part of your business?

A contract that says "independent contractor" does not settle it. The IRS looks at how the work actually happens.

The DOL test for wage law, as of October 2026

Minimum wage and overtime under the Fair Labor Standards Act follow a separate test from the Department of Labor. Where it stands on October 16, 2026:

• In force: the 2024 rule (29 CFR part 795), published January 10, 2024 and effective March 11, 2024. It uses a totality-of-the-circumstances economic reality analysis, and it replaced the 2021 rule.
• Proposed, not final: the February 2026 rule. DOL published a proposal at 91 FR 9932 on February 27, 2026 to rescind the 2024 analysis and bring back the 2021 framework with changes. Comments closed April 28, 2026, with 16,522 received. It would give the most weight to two core factors: control over the work and the worker's opportunity for profit or loss. If both point the same way, that answer is likely correct. It would apply the same test under the FMLA and the Migrant and Seasonal Agricultural Worker Protection Act.

No final rule appeared on the DOL rulemaking page when we checked. If one is published, the classification of borderline workers under federal wage law could shift, but the IRS test and state tests would not change with it.

States with an ABC test

Some states presume a worker is an employee unless you prove all three parts of an ABC test. These are stricter than the IRS test, because the "B" prong asks whether the work is outside your usual line of business. A web developer building your bakery's website can pass it; a baker working shifts in your bakery cannot.

Other states use ABC tests for unemployment insurance too. We list only the ones we confirmed on the state's own source; New Jersey's pages would not load when we checked. State payroll rules for each state are in the payroll tax hub.

Form SS-8: asking the IRS to decide

If you are unsure, either you or the worker can file Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding. The current form is the December 2023 revision, with instructions dated January 2024.

The IRS says a determination can take at least six months, so SS-8 is not a way to decide before a start date. It also answers only the federal tax question. A state agency or the DOL can reach a different result for unemployment or wage claims.

If you got it wrong: back taxes and Section 530 relief

When a contractor is reclassified as an employee, you owe the employment taxes you did not withhold or pay. Section 530 of the Revenue Act of 1978 can relieve you of federal employment tax for that worker, but only if you meet all three tests:

1. Reporting consistency. You filed the required 1099s on time, consistent with treating the worker as a contractor.
2. Substantive consistency. You (or a predecessor) have not treated this worker, or anyone in a substantially similar job, as an employee after 1977.
3. Reasonable basis. You relied on court precedent, a past IRS audit, long-standing practice in a significant part of your industry, or another reasonable basis such as an attorney's or accountant's advice.

The IRS limits are worth knowing before you count on it. Relief covers classification for federal employment tax only, not wage claims. It does not make the worker a contractor for other purposes. If you start issuing the person a W-2, you lose relief for later years. A worker found to be an employee owes only the employee half of FICA, through Form 8919.

The broader federal and state penalty picture is in our payroll compliance checklist.

Ways to hire without guessing, and what they cost

A contractor of record reviews the engagement and takes on classification liability for a fee. Remote's CM Plus tier (from $99) adds $100,000 of indemnity per contractor, up to $1 million in total. See what a contractor of record covers and contractor management platforms compared. If the worker is clearly an employee, put them on payroll: the best payroll software list shows what each provider charges.

Common W2 vs 1099 mistakes

• Converting an employee to a contractor for the same job. It breaks the substantive consistency test, so Section 530 relief is gone for that role.
• Skipping the 1099. Not filing the 1099-NEC breaks reporting consistency, the first Section 530 test.
• Using the old $600 threshold. For 2026 payments, 1099-NEC reporting starts at $2,000.
• Setting a contractor's schedule and handing them a company laptop. Both are control facts the IRS weighs.
• Assuming the IRS answer settles state law. California, Massachusetts and Illinois (for unemployment) apply ABC tests.
• Forgetting state contractor reporting. Florida, Oregon, Virginia, Ohio, Massachusetts, New Hampshire and Illinois are among the states that want contractors reported.
• Comparing salary to contractor rate only. Add employer taxes, software, workers' comp and benefits. Our payroll taxes guide and payroll service cost breakdown fill in the rest.