Trying to figure out the differences between 1099 and W-2 employees can be intimidating, and if your company doesn’t understand the distinction, the consequences can be dire. Understanding how to properly classify your team affects how both you and they are taxed.

Let’s start with basic definitions first: 1099s and W-2s are tax forms. A 1099-MISC is typically used to report payments made to independent contractors, who cover their own employment taxes. A W-2 form is used for employees (and you, the employer, withhold payroll taxes from their earnings).

If you don’t want to deal with the hassle of withholding payroll taxes, then why not classify your entire team as 1099 workers? It’s not that simple. The Fair Labor Standards Act (the law that defines employer and employee relationships) and the IRS have guidelines that define each classification. These guidelines are primarily based on the amount of control you have and the amount of independence a worker has. While it might sound vague, here are some questions that can help you make a determination:

• Do you want to control how the worker does their job, or are you more concerned with the end result?
• Do you need work done on a specific project, or is the relationship more permanent?
• Do you provide supplies, resources or expenses in order to get the work done?

It’s important to get this classification right the first time around, because as an employer, you could face stiff penalties for classifying a W-2 employee as a 1099 employee, including: repaying the cost of workers comp insurance, employer taxes owed, reimbursement for wages and/or benefits to the employee.

Consider these four key differences between 1099 and W-2 employees: