REVISITING FORM 1099-K AND ITS INTERACTION WITH OTHER 1099S
If you are a business and you pay contract labor, you must issue the contractor a Form 1099-NEC if:
- The amount you paid to the contractor is $600 or more for the year, and
- The contractor isn’t taxed as a corporation.
If you pay with a credit or debit card, or via a third-party processor such as PayPal, you do NOT issue a 1099-NEC because the payment falls under the 1099-K reporting rules instead. This 1099-K exception has been around for almost a decade, and now is changing for 2022 as per the American Rescue Plan.
REVIEWING FORM 1099-K
The first thing to know here is that you do not issue a 1099-K yourself. This is a form you receive. Or as it relates to your contractor, it’s a form THEY will receive.
These types of payments are reported on a 1099-K:
- Credit and debit card receipts. The tax code refers to these types of payments as “payment card transactions.” Gift cards are included also. So when you — or a contractor — receive credit card payments, your (or their) merchant processor will send a Form 1099-K at the end of the year, showing all of your card receipts for the year.
- Third-party processor transactions (think: PayPal). PayPal will send a 1099-K only if the following thresholds are crossed: 1) more than 200 transactions are processed and 2) more than $20,000 is processed. But this is changing for 2022.
EXAMPLE 1: You pay a contractor by using your company debit card. You do NOT report this payment on a 1099-NEC. Instead the transaction will be reported by the contractor’s merchant processor at the end of the year, on a Form 1099-K.
EXAMPLE 2: You pay a contractor using PayPal. You do NOT report this payment on a 1099-NEC. Instead, PayPal may or may not send a 1099-K to the contractor, depending on the contractor’s transaction totals for the year. The regulations say it is not your responsibility to know if PayPal will send a 1099-K or not. Again this is changing for 2022.
Let’s look at Example 2 more closely, and we’ll see why Congress closed this loophole. An enterprising contractor could get his or her clients to pay them via PayPal. Let’s say the contractor has 50 clients who each pay $1,000, so the contractor brings in $50,000 for the year.
Under existing 1099-K rules as per Section 6050W of the Tax Code, PayPal wouldn’t need to send a 1099-K to this contractor. And the regulations under Section 6041 say the paying businesses wouldn’t need to send a 1099-NEC. Think about the 1099-K exception: there needs to be BOTH more than 200 transactions AND $20,000 processed. In our example, the contractor passes $20,000 but only has 50 transactions, so they won’t get a 1099-K. So this contractor will get NO reporting form at all — they paying businesses don’t need to send a 1099-NEC, and PayPal won’t send a 1099-K either.
Now, taxpayers are supposed to report all income, even if it’s not put on a reporting form. But you and I know that there are plenty of contractors out there who know this loophole.
I myself have encountered contractors who say “yeah, I always set my Schedule C up so I break even for the year but never show a profit.” I’ve also had contractors say “I chose to report more income this year because I’m looking to buy a house (or re-finance a mortgage) and I want to show more income to the bank.” Those are the type of people who know this loophole. Get everyone to pay you through PayPal and chances are, you’ll get no reporting forms, which means it’s the Wild West as far as what might end up on that person’s tax return.
THE LOOPHOLE IS CLOSING
The American Rescue Plan closes this loophole. Starting in 2022, the 1099-K threshold will be $600, with no transaction count. This effectively closes the loophole.
CLARIFICATION OF TYPES OF PAYMENTS
I present on 1099s, and for nearly the last decade, I had said that the 1099-K reporting exception applies to all transactions, including payment of rent. This was the proper interpretation as per how the code has always stated things. But starting in 2022, the American Rescue Plan changes this. The American Rescue Plan says that the 1099-K reporting exception only applies to payment of goods and services. So if you pay business rent with a credit card or debit card, you WILL need to report that payment in Box 1 of the 1099-MISC.
WHAT THIS MEANS FOR YOU
Businesses that pay contractors are NOT directly affected by this change. If you pay a contractor with a credit or debit card, or through PayPal, you still don’t issue a 1099-NEC to that contractor. What HAS changed is on the contractor’s side. The loophole where it was likely that they wouldn’t receive a reporting for at all is closed.
One thing that may affect you is the clarification that 1099-K reporting only applies to payment of goods and services. As I said in the last section, if you pay rent with a debit or credit card or through PayPal, you’ll need to start reporting that rent on a 1099-MISC box 1, as the 1099-K exception will not apply to that type of payment starting in 2022.
WHAT ABOUT VENMO?
What if you pay contractor’s through Venmo? Stay tuned.