How to I compare pay rates for being a contractor (1099) vs. being an employee (W2)?

Question

I have been trying to figure this out on my own but I am having some trouble.

I currently get paid as a 1099 contractor, but I am switching to w2.

My current pay rate is 60% of $185 per hour -- so the total is $111 per hour of work.

My place has offered my W2 employment but my rate drops from 60% of 185 to 52% of 185.

So new pay is $96.20 per hour.

I'm a consultant and only get paid when I see clients.

I am trying to figure out if the 52% is a fair number.

I went online and it said the rate should be closer to 55% but I cannot find any math or evidence to back it up.

Any and all help is appreciated.

Answer 1

When you transition from contractor to employee, the company will incur additional costs for you. These, at minimum, will include the employer half of social security and Medicare, Federal Unemployment Insurance Tax, and probably state unemployment insurance tax. The SS and Medicare you can look up. The employer portion is 7.65% of your wage as an employee. FUTA and state unemployment tax vary by state. (There may also be additional taxes and fees levied by the state.)

Beyond the taxes, they may pay some sort of benefits. (Or not, especially if you're part-time.) That will also increase their costs.

On the other side, keep in mind that your costs go down at least a bit, since you should be paying self-employment tax now but won't after you change status. (The self-employment tax is basically that 7.65% for SS and Medicare that your employer will pick up.)

Those are the variables - You'll need to get data on some of them if you actually want to compute. You'll also need to get a clear idea of what you mean by "fair" - Is that same net benefit to you, same net cost to them, something in between?

Good luck.

Answer 2

First off, there is no legal breakdown of how much you should receive (unless one is working for legal minimum wage, which you are certainly not). So what you saw online is a statistical average, from which 3% is not an overly large deviation, especially considering how far outside of the average wage scale you are; per the Bureau of Labor statistics, you make over four times the total private average hourly wage(Source: http://www.bls.gov/news.release/empsit.t19.htm).

As Brick said, "fair" is something you need to define for yourself. Generally, I'd say "are the benefits of being an employee worth the reduction in take home pay ?

Currently, your take home pay is (to be equivalent) less than $111/hour. You have to pay more taxes on it, as brick said above. Since I don't know what state you're in, (and I don't want to do more calculations then necessary), I'll just do federal medicare and social security taxes.

Using Brick's number of 6.2% self-employed tax to cover the above brings us to 111*(100-6.2) - Styx = ~104.12 - stx, where stx is any state taxes that you pay as a contractor that you won't have to as an employee.

This brings your actual take home pay reduction down to (8.08 - stx)/hour reduction in take home pay. So to determine what is "fair", you need to compare the above number to what you are getting from being an employee.

What benefits you recieve is up to you and your employer (and possibly up for negotiation). Some of these have "personal value" rather than a numeric value, and so you have to decide what they are worth to you. Some sample benefits:
-Health insurance: A chunk of free money if you use it. Also, your company may have negotiated a lower price for the insurance than you might be able to get. For example, if I tried to get the medical insurance policy I have through work on my own it would cost me above $300 a month. With my company, it, along with dental and vision insurance, costs me $225.69 a month (and I get a $225 a month health insurance allowance). So, if you're employer's health network/insurance offering is palatable to you, don't just look at the money they give you, see how much it would cost to get an equivalent plan on your own.
-401k matching, etc. (if available): FREE(ish) MONEY!
-(paid) time off: FREE MONEY!
-job security: it is often more difficult for a company to dismiss an employee than a contractor -possible change to a salaried position/pay schedule: this might be a bonus or a drawback for you.

What these (and possibly other) benefits are worth to you is up to you to decide. Once you find how much that is, divide that monthly amount with the average number of hours you work in a month (or could just decide how much their worth to you per hour you work). Then compare that to 8.08-stx. If it's more, you're coming out ahead. If less, you are losing in this proposition.

Answer 3

In the US if you are comparing a full time position with benefits to a contractor position the idea is that you have to charge your customers 2x what you would make as an employee.

So if you charge $111 per hour as a contractor you should expect to make $55.50 per hour as an employee.

The twist for you is that as a part time employee you probably aren't getting benefits. So you need a larger hourly wage to cover those missing benefits. Your comparison isn't going to fit to some average or rule-of-thumb.

What benefits are you missing compared to full time worker? Sick pay, vacation pay, holiday pay? What about retirement, and insurance?

You have to look at what items move from the list of expenses you had a a self-employed contractor to the list of items paid for by the employer. FICA and medicare is one obvious one, but are there others.

You need to do the math to see how the delta in the rates compare to the delta in the expenses. I would suggest starting with comparing the contract to the offer letter.

Answer 4

The percentage of the original rate isn't really relevant in your situation. From your point of view, $111/hr vs $96.20/hr is about a 13% reduction. Since you have a choice, you don't need to worry about whether a 13% reduction is fair or not; all that matters is which is better for you. When you add up all the perks you get as an employee, and all of your extra costs associated with being a contractor (and also the benefits of being a contractor, e.g. your additional deductions you can take), which works out to be better? We won't be able to give you an exact answer unless you list out every possible employee perk, and compare it with every possible additional deduction and cost you have as a contractor.

In general, as an employer that has in the past offered the employee/contractor option, I would say yes, in general, a 13% difference at your pay rate is fair. However, if you are billing close to 2000 hrs/year, you may be able to do slightly better than 13%, as most of the employer costs are capped (SUTA, SS, medical insurance, etc.) If you are working less than full time then it's probably about right, perhaps even in your favor if you're receiving medical or other benefits.

Also, in general, realize that you can't pick a straight % and apply it generally across the board. An employee who works full time and makes $10/hr might cost the employer $20/hr on average. An employee who works full time and makes $100/hr might only cost the employer $115/hr over the course of the year. (It might actually work out to be something more like $125/hr for the first month until SUTA limits are hit, $118 for the next 7 months until SS limits are hit, and $107 for the remainder of the year.) Also, realize that every employer has different costs. A staffing agency will typically have a higher SUTA rate than a company that has less turnover (and consequently less people collecting unemployment against them). In IL a staffing agency might have the max SUTA rate of 7.75% whereas a small company with no claims could have a rate of 0.55%. Add in employee benefits which vary greatly between companies, and there is a wide range of true costs.