Independent contractor vs employee: deciding 1099 or W-2

Employee or contractor: the decision rule

Treat the worker as an employee when you have the right to control how the work is done. Treat the worker as a contractor only when they control the work and run their own business. They must also pass every test that applies to you, including your state's.

The IRS calls this the key consideration: has the business kept the right to control the details of the work, or given that right up? Even if you give no instructions, the IRS says behavioral control may exist if you have the right to control how the results are achieved.[3]

Each fact below is evidence, not a decision on its own. Weigh them together:

The IRS says no set number of factors makes a worker an employee or a contractor. It also says to document each factor you used.[1]

How the IRS, Department of Labor, and California tests compare

Each agency asks its own question for its own laws. The table sets the 3 tests side by side, and the sections below explain each one.

How the IRS decides: behavioral control, financial control, and the relationship

For federal employment taxes, the IRS applies the common-law rules, which weigh all the evidence of control and independence in the relationship. The facts fall into 3 categories.[2]

A remote worker is still your employee under these rules if you can control what will be done and how it will be done. That holds even when the worker chooses to work remotely.[1]

If the answer is still unclear, the business or the worker can file Form SS-8, Determination of Worker Status, with the IRS. The IRS reviews the facts and officially determines the worker's status. It says a determination may take at least 6 months.[1][4]

How the Department of Labor decides, and which rule applies in October 2026

The Fair Labor Standards Act (FLSA), the federal law on minimum wage and overtime, uses a different test from the IRS. The Department of Labor asks whether the worker depends on the business for work, or is in business for themself. This is the economic reality test.[8]

The Department's 2024 rule took effect on March 11, 2024. It lists 6 factors: opportunity for profit or loss, investments, permanence, control, whether the work is integral to the business, and skill and initiative. No one factor decides the outcome.[8]

Since then, enforcement and the rule itself have moved apart. In order:

State tests can be stricter: California's ABC test

California is one example of a stricter state test. Its ABC test is named for its 3 parts, A, B, and C, set out below. Under it, a worker is an employee unless the hiring business satisfies all 3 of these conditions.[10]

California applies the test under its Labor Code, its Unemployment Insurance Code, and its wage orders. For some occupations and industries, the older Borello test applies instead: a multifactor test in which no single factor decides.[11]

California's labor agency says a business cannot change a worker's status by requiring a written agreement. Giving the worker a Form 1099 instead of a W-2 does not change it either.[11]

Form W-2 or Form 1099: what you withhold, pay, and file

For an employee, you generally withhold income tax, Social Security tax, and Medicare tax from wages. You also pay the employer's matching share and federal unemployment tax. For a contractor, you generally withhold and pay none of these.[1]

Social Security tax stops at a wage base limit, which is $184,500 for earnings in 2026. Medicare tax has no wage base limit.[5]

Employers also withhold a 0.9% Additional Medicare Tax on an employee's wages paid in excess of $200,000 in a calendar year. There is no employer match for it.[5]

For payments made in 2026 and later, the filing threshold is higher. For tax years beginning after 2025, file Form 1099-NEC for each person you paid at least $2,000 for nonemployee services in your business. The IRS says the threshold may be adjusted for inflation beginning in 2027.[6]

Generally, payments to a corporation are not reported on Form 1099-NEC, with some exceptions such as legal services.[6]

Example: classifying 3 workers at one store

The plumber case follows the California Supreme Court's own example for Part B: a retail store that hires an outside plumber to repair a leak. A bakery whose cake decorators work regularly on its custom cakes does not satisfy Part B of the test. For Part C, the state agency lists signs of an independent business: incorporation, licensure, advertisements, and offering services to the public.[10]

What misclassification costs, and where to get a decision

If you treat an employee as a contractor with no reasonable basis, the IRS says you may be liable for that worker's employment taxes.[1]

Relief may apply if you had a reasonable basis. You must also have filed every required information return consistently with treating the worker as a contractor. An information return reports payments to the IRS, such as Form 1099-NEC. And you must not have treated any worker in a substantially similar position as an employee for any period beginning after 1977.[1]

In California, an employer that misclassified workers may owe minimum wages, overtime, and unemployment insurance taxes, with penalties.[11]

For willful misclassification, state agencies can assess civil penalties of between $5,000 and $25,000 per violation. Willful misclassification means voluntarily and knowingly treating an employee as an independent contractor. As enacted in 2011, the law set $5,000 to $15,000 per violation. For an employer with a pattern or practice of these violations, it set $10,000 to $25,000.[11][16]

These are the places to get a ruling, advice, or a remedy:

Once a worker is an employee, the offer comes next: see the offer letter template for a full-time employee. More employer guides are in the hiring guides.