The threshold for reporting income on Form 1099-K is increasingly proving to be too high for reducing the tax gap at both state and federal levels, and the problem will only get worse as the gig economy grows.
Form 1099-K and California gig workers dominated discussion at the mid-September GCS conference in San Francisco. The timing of the conference was exceptional, with California having just passed AB5, a law that would categorize many gig workers as employees rather than contractors.
The gig economy is in focus right now not only because of the growth of applications and websites focused on having non-employees provide services but also because of signs of an impending recession. One GCS panel noted that 40 of U.S. workers, or 60 million Americans, live paycheck to paycheck. In an economic downturn, 8-10 percent of those workers will likely wind up unemployed. Needing income, those workers are likely to turn to providing gig services, which will accelerate the growth of the gig economy.
A move toward non-employee workers
In general, even without a recession, there is a trend in the U.S. toward non-employee relationships. A GCS panel cited Google as having been made up of about 10-15 percent non-employees in 2010 but almost 50 percent non-employees in 2019. The growth of the gig economy gets the government’s attention because of the Form 1099-K reporting threshold, which is currently $20,000 earned and 200 transactions completed by a worker in a year.
The average gig economy worker makes $17,000 per year and falls below the threshold. That means gig platforms don’t report those workers’ incomes, and workers are, as a result, far less likely to pay taxes on that income because gig platforms don’t report it to the IRS. Many workers don’t even realize they owe taxes. There are more than 350 gig or sharing platforms in existence, so the gig economy is very much present and growing as a force in the U.S.
The growth of the gig economy concerns governments for two reasons: A high reporting threshold keeps the tax gap large, and failure by gig workers to pay self-employment taxes contributes to ongoing retirement and social security deficit issues. For tax professionals, the reporting threshold is the issue that is likely to cause the most disruption.
Form 1099-K reporting thresholds and California AB5
Some states, including Vermont and Massachusetts, have lowered reporting thresholds to $600 earned annually with no minimum number of transactions. Those states have experienced massive growth in 1099-K reporting. California proposed such a measure in February but has not moved forward with it yet. California has motivation to rethink the gig economy. The state received less than 5 percent of the income projected from gig workers in 2015, one GCS panel noted.
What California has done with AB5 is establish a three-part test that would recategorize many gig workers as employees. A similar bill is in the House at the federal level. While that bill also establishes a three-part test, the parameters are different from those adopted in California.
And even in the California legislation, exemptions and exceptions exist. One GCS panel suggested that California employers review exemptions carefully; some of the language applies to broad groups of workers, so employers may need to consult with experts to determine classification. At a minimum, every California employer–not just gig platforms–needs to undergo a review of its non-employee relationships and apply the new test to ensure compliance.
Effect of California AB5 on federal tax reporting unknown
Exactly how the difference between California and federal worker classifications will affect tax reporting is unknown at this point. Gig companies based in California have pledged to fight the new law, as they see it as a threat to their business models. The New Gig Act of 2019, the US House bill, prescribes a broader test for workers as well as a voluntary withholding tax regime that are different than the details currently outlined in the new California law.
At this point, the only certainty with both 1099-K reporting and California AB-5 is uncertainty. Companies need to partner with a solution provider that can navigate changes in tax policy, and can both help mitigate risk and avoid surprises.
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