1099 Independent Contractors – Are the savings worth it?

We hope you all had a lovely Christmas & New Year celebration! As we get back into the thick of the New Year and as your accountants and CPA’s work tirelessly for you to meet the Franchise Tax Board and IRS deadlines we wanted to touch base on an important topic: 1099’s for Independent Contractors and their cost/benefit. The question is: Is it worth the savings to hire independent contractors? To answer that question we will use a case study of a small Association hiring an Sole Proprietor Landscaper which pays it $175/Mo.

First, it is important to understand who is required to receive a 1099. Any sole proprietor, partnership, LLC, trust or similar entity is required to receive a 1099. A hired Corporation does not need to have their payments reported via a 1099. For this reason it is extremely important for you to have a checks and balance system when hiring a new vendor and processing their W-9. We have oftentimes seen it where sole proprietors and partnerships use a DBA to give the appearance they are a corporation and you wouldn’t have otherwise have known their status until receiving their W-9. Knowing who you are contracting with is extremely important and educating the members of these facts can help them make better informed decisions.

Members of a common interest development and their board’s often forget that an Association must file taxes and report employee income to both the taxing authorities and your workers comp. insurance carrier. Filing the 1099’s is generally an increased cost to the Association which can vary between $20-150, depending on if you have the CPA or your manager filing the forms. We always recommend that you have the CPA filing the forms unless your manager has an on staff CPA. For this case study lets presume a fee of $100 to file the 1099 Forms.

In addition to the CPA fee to file the 1099’s ever since the California case of Heiman v. Workers’ Compensation Appeals Board back in 2007 it has the industry recommendation that all Associations, whether or not they have direct employees, carry workers compensation insurance. This is because of the tendency of Board’s hiring unlicensed independent contractors performing work on the premises. If the independent contractor is injured while performing work the Association is automatically considered to be the employer based on statute and case laws. In order to protect the Association’s liabilities non-payroll workers comp is generally bound. Many forget that the Association must generally report the income paid to the independent contractor to the insurer; which increases the amount of premium that must be paid during the annual audit. Failure to report the amounts paid on the audit could result in a denial of any injury claim so it is in the Association’s best interest to complete the form accurately.

$175 x 12 = $2,100 Base Landscape Fee
$15 x 21 = $315 Additional Premium per $100; Rate listed as HOA Classification could be higher if insurer changes classification based on services performed.
$861 Non-Payroll Workers Comp Policy Base Fee
$100 1099 Fee

Based on the above, not including potential legal and liability exposures, the Association’s annual $2,100 expense increased by 60% just because the sole proprietor was hired and additional expenses were necessary to hedge the Associations risk exposure against its employment liability. Essentially the Association is basically paying for contractors workers comp insurance on top of everything else you they are paid for.

There is another opportunity cost the Association must consider; is the level of experience and expertise of said independent contractor the same or better than competitors it could obtain. In other words, is the person performing as well or better as a competitor or are they struggling to keep their maintenance up in a timely manner and failing to use the industry best practices and following the laws a licensed contractor in that field is obligated to. In our experience the answer is: No, the service received is less than that of properly licensed and insured competitors. Remember, the above addresses the additional expenses related to the Association’s employment liability only, not its overall liability to its members and the general public to properly maintain the premises. When you account for the opportunity costs and additional exposures this service person brings the savings is almost never worth it.

Situations between Associations may vary however, the general concept applies to all; in order to hedge against risk additional steps must be taken which increases expenses and reduces potential savings while exponentially increasing the risk exposure and repeat repair expenditures. The long term result is always the same: Hiring cheaper labor upfront will cost you more overtime.