As the independent workforce continues to grow and evolve, so does the vocabulary of terminology surrounding it. Here are a few of the most commonly used and confused terms you’ll come across in the industry.
1. W-2 vs. 1099
Worker classification is a complicated issue that has a big impact on contractor engagement. W-2s and 1099s are two different types of tax forms for two types of workers.
A W-2 tax form reflects annual compensation paid to an employee. Employers withhold payroll taxes—income tax, Social Security and Medicare taxes, and unemployment taxes—from employee paychecks throughout the year.
A 1099-MISC tax form reflects miscellaneous income paid to independent workers (non-employees). Unlike W-2 employees, independents are responsible for paying both sides of Social Security and Medicare (FICA); this is commonly known as self-employment (SE) tax. A 1099 form must be used if you make $600 or more over the course of the year.
2. Sole Proprietorship vs. Limited Liability Company vs. S Corporation vs. C Corporation
A Sole Proprietorship, LLC, S Corp, and C Corp are different types of business structures that independent contractors may use to structure their business.
A Sole Proprietorship is the simplest structure under which you can operate a business. It is not a legal entity; it simply names a person who owns the business and is responsible for its debts. Business income and losses are reported on the owner’s individual income tax return.
An LLC is a type of business that is formed under state laws to limit the owner’s liability. Under an LLC the owners are not legally responsible for business debts and obligations for the company (regardless of tax structure). An LLC is a legal status only; it has no impact on tax filing status. Most LLC’s are set up with the tax status of Sole Proprietorship or but they can have an incorporated (S-Corp or C-Corp) filing status as well.
An S Corp is recognized by the IRS for the purpose of federal income taxes. S Corps are not required to pay corporate income tax on company profits. Instead, all profits and losses are passed onto company shareholders who file individual tax returns and pay income tax on their share of company profits.
A C Corp is another type of corporation recognized by the IRS for the purpose of federal income taxes. C Corps are entities separate from their owners and profits are therefore taxed separately from owners. With individually owned C Corps, the owner acts as the majority shareholder.
3. Bill Rate vs. Pay Rate
Bill rate and pay rate are easy terms to confuse, as they both factor into the decision of how independent contractors should charge for their services.
Bill rate is the amount independents charge clients pre-taxes and fees. It factors in the costs they need to cover to make their target income. This rate is the foundation on which they build their business.
Pay rate is the amount of income independents are actually paid (and taxed on) after other expenses, such as operating costs, business taxes and other fees are taken out.
4. B2B vs. B2C vs. C2C vs. C2B
B2B, B2C, C2C, and C2B are all different types of business models.
Business to business, or B2B, is a model where businesses focus on selling products or services to other businesses. A car manufacturer is an example of a B2B company. They manufacture and sell various car parts to another company, automobile manufacturers.
Business to consumer, or B2C, is a model where business is conducted between a company and a consumer. An online clothing company that sells their products to consumers is a B2C company, as is a restaurant that sells their food to diners.
Consumer to consumer, or C2C, is a model where consumers sell to other consumers. Craigslist or the classified section of a newspaper is an example of a C2C business model.
Consumer to business, or C2B, is a model where businesses extract some sort of value from consumers, and those consumers extract some sort of value from the business. A food company that pays a food blogger to market their product is an example of a C2C relationship. The food company receives marketing for their product, and the food blogger receives a free product.
5. Billable vs. Non-billable Expenses
Billable and non-billable expenses are important factors to consider when clients engage the services of independent contractors.
Billable expenses are the costs a client agrees to be billed for. These may include the cost of business travel or project-specific materials. These are dollar for dollar reimbursement.
Non-billable expenses are operating costs that relate to an independent contractor’s work, but the client does not reimburse. These may include: specialized training, office space, or phone and internet costs. Non-billable expenses make up the majority of businesses costs for independents, but many of these expenses are deductible.
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