Compare the true total cost of hiring a W2 employee vs a 1099 contractor including all taxes, benefits, and overhead.
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Employee Costs
Contractor Costs
A Texas-based freelance graphic designer earns $140,000 net profit/year from client work. She's evaluating whether to stay as a sole proprietor, form an LLC, or elect S-Corp status to reduce self-employment taxes.
Takeaway: S-Corp saves $8,300/year but adds ~$1,500-$3,000 in accounting fees (payroll, extra returns). Break-even is around $80-90K net profit. Below that, the overhead eats the savings. Texas has no state income tax, so the benefit is purely federal SE savings.
LLC annual fees range from $0 (Ohio) to $800 minimum (California, even for zero-revenue LLCs). Delaware C-Corp is standard for VC-backed companies but adds registered agent costs (~$300/yr) for out-of-state entities. The "best" structure is state-specific.
S-Corps cannot have more than 100 shareholders, cannot have non-US shareholders, and cannot have corporate shareholders. Violating these rules (e.g., adding a foreign investor) terminates S-Corp status retroactively, potentially creating a large unexpected tax event.
The IRS requires S-Corp owner-employees to pay themselves a "reasonable salary" before taking distributions. There is no fixed formula — the IRS looks at industry benchmarks, duties, and hours worked. Setting the salary too low is a common audit trigger for S-Corps.
Business break-even models track revenue vs. direct costs. They rarely factor in the owner's time as a cost. If you're working 60 hours/week at imputed $50/hour, your "profitable" business may be paying you $12/hour after the opportunity cost calculation.
Break-Even CalculatorA service business valued on EBITDA multiples (2-4×) gets a very different number than one valued on SDE (seller's discretionary earnings) or discounted cash flow. Buyers and sellers typically use different methods to argue their preferred price. This calculator uses a single method.
Business Valuation CalculatorBased on your inputs
annual difference
| Employee: Base Salary | $80,000 |
|---|---|
| Employee: FICA Taxes | $6120 |
| Employee: Health Benefits | $6,000 |
| Employee: 401k Match | $2400 |
| Employee: PTO Cost | $4615 |
| Employee: Overhead | $5,000 |
| Employee Total Cost | $104177 |
| Contractor Total Cost | $150,000 |
| Effective Hourly (Employee) | $52.09/hr |
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Employees typically cost 1.25x–1.4x their base salary when you factor in payroll taxes (~7.65%), benefits (health, dental, 401k), PTO, workers comp, and overhead.
Employers pay 7.65% in FICA taxes (Social Security + Medicare), federal unemployment tax (FUTA) up to 0.6%, and state unemployment taxes.
Contractors often charge more per hour but cost less overall since you don't provide benefits, PTO, or pay employer taxes. They also provide flexibility.
Misclassification can result in back taxes, penalties, and benefits owed. The IRS uses a behavioral, financial, and type-of-relationship test to determine proper classification.
The IRS evaluates behavioral control (instructions, training), financial control (expenses, investment, profit opportunity), and relationship type (contracts, benefits, permanence) to determine if a worker is an employee or contractor.
No. Independent contractors do not receive employer-provided benefits such as health insurance, 401k matching, paid time off, or workers' compensation. They must arrange and pay for their own benefits.
Employees receive a W-2 showing wages and taxes withheld. Contractors receive a 1099-NEC for payments of $600 or more. Contractors are responsible for paying their own income and self-employment taxes.
Multiply the equivalent salary by 1.3-1.5x and divide by billable hours (typically 1,500-1,800/year). An $80,000 salary equivalent requires roughly $55-$70/hour as a contractor to cover taxes and benefits.
Generally no. Dual classification for the same person creates IRS scrutiny. The work relationship should be clearly one or the other. Different roles at different times may qualify but require careful documentation.
The ABC test requires that a worker is free from company control, performs work outside the company's usual business, and has an independent trade or business. California's AB5 law uses this strict test, making it harder to classify workers as contractors.
Employee: Salary + FICA (7.65%) + Benefits + PTO + Overhead
Contractor: Hourly Rate × Hours
Every formula on this page traces to a federal agency, central bank, or peer-reviewed institution. We cite the rule-makers, not secondhand blogs.
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Calculations are for educational purposes only. Consult a qualified financial advisor for personalized advice.