New 1099-K Rules:
If your business hires contractors through online work platforms, your tax reporting job for this year just got a lot easier.
We wanted to bring attention to some recent changes in tax laws that affect reporting requirements for independent contractors and those who employ them. Last month, the IRS created a new category for reporting miscellaneous income. It’s a welcome recognition of the rapid proliferation of online work platforms which, in turn, are fueling the rapidly growing freelance economy. As the work landscape changes, it’s incumbent on regulators to keep up with fundamental shifts in how work is engaged and how compensation works.
The traditional arrangement for paying independent contractors works like this: The contractor gives the employer a completed Form W-9 with their taxpayer info, and at the end of the tax year the employer issues the contractor a Form 1099-MISC that reports both to them and to the IRS how much the contractor was paid. This rule remains in place for those who hire and pay contractors DIRECTLY – as in, from one bank account to another via check or electronic transfer.
The new rule helps the IRS follow the money in a consistent way, by assigning the reporting duty to the entity that actually makes the payment and/or facilitates the hiring. This is great news for employers who use online work platforms, or who pay by credit cards, prepaid or gift cards, and other forms of plastic. Now, any payment to a contractor that is made electronically through a Payment Settlement Entity (“PSE”) falls under the rules of the new 1099-K reporting category.
A “PSE” under this rule would include payment networks such as Paypal or Square, which facilitate credit card invoicing collections for individuals, professional hiring platforms like SpareHire or Upwork, as well as short-task services like Lyft, where the platform collects payments from the customer and processes them out to the contractor.
HOW THE NEW 1099-K REPORTING SYSTEM WORKS: The entity doing the hiring does not report the contractor’s income to the IRS if their payments are processed through a third party network (the PSE). The PSE, as the actual “payor,” is now responsible for reporting the payments they processed for that contractor on the new Form 1099-K.
A “De Minimus” exception applies as well. The PSE is is only required to issue a 1099-K for any individual contractor if it has processed over 200 transactions AND pays out over $20,000 to them in a calendar year.
The De Minimus exception was a thoughtful gesture by the IRS. Think if TaskRabbit or FiverR had to issue 1099-Ks for every contractor who jumped in to try the platform, then left after a short time. Employers under this rule also don’t have to issue a 1099-Misc to the PSE, assuming the PSE is a corporation, because payments to corporations are excluded under the 1099-Misc.
We’re glad the IRS is keeping up with the times. This is only a first step, though, as the entire paradigm of work continues to shift within the sharing economy. Regulators are often slow – or even glacial – about keeping up with changing times (Remember how long it took the FCC to deal with the Internet?), but let’s hope this won’t be one of those cases. Large questions about retirement benefits, workers comp, and Social Security are looming with increasing urgency for freelancers and employers alike.
DISCLAIMER: This discussion is a general overview of recent changes in federal tax law regarding payment reporting for contractors who get paid through third party networks of various kinds. It is not intended to be used as legal advice. To understand more about the specific rules as they apply to your situation, please visit these links or speak to an accountant.