Can You Pay a 1099 Contractor Hourly? | What You Need To Know

For over 20 years, I owned a small business and worked mostly as an independent contractor. Occasionally, I would need to hire a 1099 contractor and had to learn about how they can and cannot be paid. This article will cover what I discovered.

You can pay a 1099 contractor hourly. Hourly rates are common among consultants in various professional fields. Other popular ways of paying 1099 contractors include project-based payments, commissions, and retainers. 

The rest of this article will discuss various matters relating to the payment of 1099 contractors, including different payment bases and modes and the risks of paying contractors in cash. I’ll also discuss how to correctly categorize your employees to help you avoid the legal repercussions of miscategorization.

Can a 1099 Contractor Be Paid Hourly?

While you’re free to choose any payment basis for your contractor (so long as both parties agree to it), hourly contracts are typically best suited for consultants like lawyers, human-resource consultants, employee trainers, etc.

A 1099 contractor can be paid hourly. However, the hourly rates 1099 contractors will charge you will typically be higher than what you’d have to pay your W2 employees or regular employees. 

This is because 1099 contractors (or independent contractors) have to pay high taxes on their income. At the time of writing, this tax rate is at 15.3%. 

You’re contractually obligated to pay a 1099 employee at the agreed-upon rate, even if it falls below minimum wage. This is because the Fair Labor Standards Act (FLSA) treats 1099 contractors as self-employed individuals. 

That said, if your contractor works more hours than what is required by your contract and there are no clauses in your agreement that address such a situation, you are not obligated to pay them for any overtime work. 

You’re also free to decide your method of tracking the number of hours your contractor works. For remote jobs, businesses typically use time-tracking software.

How Many Hours Can a 1099 Employee Work?

There is no set rule for how many hours a 1099 employee can work. The number of hours a 1099 employee is required to work is subject entirely to the terms of the contract they’ve signed. 

This means that a 1099 employee doesn’t have to work the standard number of hours a week. Usually, independent contractors have the flexibility to choose how many hours they want to work. As long as they get the job done within the required timeframe, they’re usually not bound to work any particular number of hours. 

The Best Way To Pay a 1099 Contractor

You can set any payment basis for your contractor so long as both parties agree to it.

With the exception of hourly rates, let’s take a closer look at other payment bases.

The best way to pay a 1099 contractor is via project-based payment, commissions, or retainers. These payment systems offer flexibility based on how much a contractor works. These are usually paid via online, wire, or check payments.  

Project-Based Payment

A project-based payment system is a popular basis for determining contractor payment. This works in one of two ways: either you pay your contractor once they complete the entire project, or you pay them along the course of the project as each sub-task or “milestone” is completed. 

Commissions

Commissions are more common for jobs where the independent contractor’s output (or benefit to the business) can be somewhat accurately measured. Usually, the contractor is paid a percentage of the income they generate for the business. 

For example, real estate agents get paid a commission for connecting a property buyer to a property seller. 

Retainers

A retainer fee is any payment made upfront to secure the availability of your independent contractor for future services. This is most commonly used by independent contractors who offer consultancy services, such as lawyers or HR strategists.

Different Modes of Paying 1099 Contractors

Online Payments

Online payment methods like Paypal are popular modes of payment because of how quickly and effortlessly you can transfer money through them.

This mode of payment is suitable for remote contractors, especially if they’re from a different country. 

Wire Transfers

Wire transfers are another way you can pay your 1099 contractors digitally, either through banks or third-party companies like Western Union. 

However, one drawback of this payment method is that it can take a couple of days for a payment to transfer.

Checks 

Checks as a mode of payment are losing popularity due to their limitations. They’re inefficient because in order to be cashed in, they have to be physically collected by their recipients – whether it be through an in-person exchange or a mail drop-off. 

Because of this, checks can be inconvenient and time-consuming. 

Can I Pay a 1099 Employee Cash?

You can pay a 1099 employee cash. However, this is risky as it can open you up to hefty fines, or even criminal prosecution if you aren’t able to provide proof of these payments during financial audits. 

Proof of payment is required to prevent businesses from “faking” payments to independent contractors in an effort to avoid or reduce federal income taxes.

For example, the California Employment Development Department (EDD) conducts audits of companies in the state of California. If businesses are unable to prove cash payments to independent contractors, the EED requires them to pay their past dues while also levying them a 15% tax penalty.

If this penalty is not paid within a month, a further 10% tax penalty will apply. Any other failure to meet payment deadlines will result in the EED seizing the business’ assets.

Unless proof of payment can be provided, cash payments are generally best avoided.

Risks and Legal Repercussions of Miscategorizing a 1099 Contractor

If a business deliberately miscategorizes an employee as a contractor without a good reason or does so by negligence, it can be subject to hefty fines by the IRS. In addition, it will be made to pay the due federal income taxes, causing a severe blow to the company’s financial position.

Further, the business will be required to compensate their misclassified employees with any overtime pay/other employment benefits that they did not receive during the period of misclassification.

How To Correctly Differentiate Between a W2 Employee and a 1099 Contractor

The IRS has listed three indicators you should consider before classifying each of your employees. These are:

• Behavioral indicators: Assess whether your business has assumed control over the working hours of the worker and whether it is telling the worker how to complete their tasks.
• Financial indicators: Financial assessments involve looking at whether your business reserves the right to determine how the individual is paid and whether the company will provide the tools for the job.
• Nature of the professional relationship: This looks at what your organization aims to achieve through the worker. If your business requires a specific task to be completed, it is a sign of an independent contractor. If a long-term partnership is expected, then the worker should be classified as an employee.

If your business faces difficulty classifying a worker, you can file Form SS-8 with the IRS for help. 

Best Practices To Avoid Fines and Legal/Tax Complications

While you have options, there is a right way and a wrong way to pay a 1099 contractor or any employee. If you make a mistake and follow the incorrect procedure, you could get into legal trouble. 

Classify Your Employees and Contractors Correctly

As we previously discussed, if you incorrectly classify an employee as an independent contractor, and this is discovered during financial audits, your business will have to pay hefty fines and compensation to the relevant authorities and the concerned employee. 

Make Sure You Have Proper Proof of Payment

Always ensure that you collect proper proof of payment so that auditing authorities can verify that you have indeed made payments to a contractor and that you aren’t faking your finances. 

Additionally, you should make sure you file the due paperwork with the IRS.

This will involve filling out a W-9 Form and a 1099-NEC form. A W-9 form will collect basic information about the independent contractor, such as their name, contact, and tax ID, to verify that the contractor is real.

A 1099-NEC form has to be submitted to the IRS if payments to contractors go beyond $600 annually. This form will declare the exact amount you’ve paid your independent contractor.

Get All Contracts In Writing

Getting a contract in written form is absolutely essential to protecting your business from legal fines and taxes. 

If you don’t have a written agreement, you might face the repercussions of misclassifying employees – even if there is strong evidence of the nature of the job.

Additionally, if your business falls into any dispute with your contractor, a written contract will help you make your case. 

Final Thoughts

Paying your 1099 contractors an hourly rate is fine. You can decide on any payment basis you’d like so long as both parties agree to it.

When it comes to payment forms, though, you should choose whichever medium will allow you to transfer money fastest – although you should try to avoid paying via cash since it’s difficult to provide auditing authorities with proof of payment for such transactions. 

To avoid legal complications when paying 1099 contractors, always ensure that you:

• Classify your employees correctly
• Hold proof of payment, and
• Get all contracts in writing

For more, check out Can I Get Fired for Having a Second Job? | It Depends.