Payroll for Dependent Switched from W-2 to 1099-NEC Mid-Year

[rumorsofsurf]

My 15 year old son is a karate instructor for a studio with a physical location.  For tax year 2020, they issued both a W-2 and a 1099-NEC.  The total amount of money he earned was under $1,500 (about $700 on W-2 and $800 on 1099-NEC).  This was the total income he earned in 2020.  Do I have it right that because they are calling him a nonemployee, he will owe taxes on the 1099-NEC portion since it is higher than $600?   My son is not self-employed... he goes to a studio and collects a paycheck from them.  Is there any alternative way for me to account for this income?  I assume the studio made this change because it has some tax or other financial benefit to them?

[Opus 17]

The studio has designated your son as an independent contractor.  This is not uncommon for instructors, personal trainers and so on.  Whether this is legitimate depends on the balance of facts and circumstances regarding his working relationship.  Start by reading here 

https://www.irs.gov/businesses/small-businesses-self-employed/independent-contractor-self-employed-o...

If he is legitimately an independent instructor, then he is self employed and is required to pay self employment tax on net income after expenses.  (His income is low enough that he won’t pay income tax, but will pay SE tax.)

If you believe the classification was made an error, he can file a form SS-8 with his tax return requesting that the IRS do an investigation and make a determination of his status. If the IRS rules that he was incorrectly classified as independent contractor, the employer will be penalized.  I believe that this can be accessed in TurboTax by entering the 1099 Dash NEC and then checking the box on the next page listing special circumstances that says “I received a 1099 but I was really a regular employee.“

[xmasbaby0]

Yes, your son will have to pay self-employment tax for the money reported on the 1099NEC because they did not withhold Social Security or Medicare for that money.   Whether this was done improperly is an issue to discuss with the studio---sounds like they treated him as a employee but are avoiding paying the employer share of SS and Medicare.

Did your son have any expenses like a uniform, special clothing, equipment, etc. to put on a Schedule C as a business expense?  

Use this software that is free and that can prepare a schedule C for the expenses:

Try Free File: 

You qualify if your income was $39,000 or less, or $72,000 or less if active duty military, or if you qualify for Earned Income Credit

https://ttlc.intuit.com/questions/1900583-what-is-turbotax-free-file-program

• https://ttlc.intuit.com/questions/2026912-how-do-i-switch-to-turbotax-free-file-program

You can still claim your son as your own dependent.   His return must say that he can be claimed as someone else's dependent.

https://ttlc.intuit.com/questions/2903027-how-do-i-report-income-from-self-employment

https://ttlc.intuit.com/questions/1901340-where-do-i-enter-schedule-c

https://ttlc.intuit.com/questions/3398950-what-self-employed-expenses-can-i-deduct

https://ttlc.intuit.com/questions/2584365-am-i-an-employee-or-an-independent-contractor

https://ttlc.intuit.com/community/self-employed/help/what-is-the-self-employment-tax/00/25922

https://ttlc.intuit.com/questions/2902389-why-am-i-paying-self-employment-tax

[rumorsofsurf]

Thank you @xmasbaby0 & @Opus 17 for those quick and helpful replies!  I called the owner of the studio and found out that I got this wrong... they actually switched from 1099-NEC to W-2 (maybe someone else submitted the SS-8... who knows).  That will be very helpful going forward for his 2021 taxes, but it feels wrong to have to pay the SE tax for 2020 when this change would seem to confirm that he was an employee all along.  

[Opus 17]

Also, if you are only filing 2020 tax returns now, you will want to use the IRS free file version of Turbotax for your son.  His income qualifies for free filing, but the standard turbotax "free to start" will up-charge to include the self-employment income.

https://freefile.intuit.com

Also note that for 2021, Turbotax is opting out of the IRS freefile program.  Your most cost effective option at that point will be to purchase Turbotax as a CD or download to install on your own computer, since you can prepare all the returns for your family without paying extra.  (State e-filing is extra, but your son won't have to file a state return if he only owes federal SE tax.)

[Opus 17 · Accepted solution]

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@rumorsofsurf wrote:

Thank you @xmasbaby0 & @Opus 17 for those quick and helpful replies!  I called the owner of the studio and found out that I got this wrong... they actually switched from 1099-NEC to W-2 (maybe someone else submitted the SS-8... who knows).  That will be very helpful going forward for his 2021 taxes, but it feels wrong to have to pay the SE tax for 2020 when this change would seem to confirm that he was an employee all along.  

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First, let's get to the bottom line.  On $800 of 1099-NEC income, he would pay about $120 in SE tax.  But if the money was paid as an employee, he would have had $61 in social security and medicare withholding.  So the actual monetary difference is less than $60.

If the studio has decided they were wrong and are trying to fix things, what they really should do is cancel the 1099 and issue a corrected W-2 with the correct social security and medicare tax withholding.  But since this was for last year, the studio would have to pay both the employer half of social security and medicare tax ($61) and also the employee half ($61), since there is no way to withhold that tax at this point.  So while they might have decided to change things going forward, they might not be fully committed to making it right, since that would cost them extra money (or they aren't getting the right advice from their accountant). 

Unfortunately, if the studio doesn't re-issue the W-2, the only way for your son to not pay SE tax would be to file the SS-8 with the tax return, and this would likely cause issues for the studio even if they already decided to start doing the right thing. And your son would still pay the $61 of social security and medicare tax that he would have paid if the wages were on a W-2.

If the IRS rules in your son's favor, one of the penalties the studio pays is that they have to pay both halves of social security and medicare, so he would even get the $61 back that he would have paid as an employee.  But the studio might decide to discontinue his employment.

Also, be aware that if the circumstances of the position changed, then it might be completely legit for him to have been a contractor at first and an employee later, in which case he might lose his SS-8 case.

So you need to balance all the factors against paying $61 or $122 of tax.  

[Opus 17]

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@Opus 17 wrote:

Also, if you are only filing 2020 tax returns now, you will want to use the IRS free file version of Turbotax for your son.  His income qualifies for free filing, but the standard turbotax "free to start" will up-charge to include the self-employment income.

https://freefile.intuit.com

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Also forgot to mention, all versions of Turbotax Online will be taken down after the filing deadline of October 15, 2021 at midnight.  After that date, you will have 5 days to re-transmit a return that was rejected by the IRS, but you can't file a new return.  If you miss the Oct 15 deadline, your only option will be to purchase the CD or downloaded software to run on your own computer. 

[rumorsofsurf]

Thank you for the additional reply and perspective!