Is it better to be an employee, an independent contractor or both?

When picking a job, an attending physician is faced with many choices.  Academic vs community.   City vs rural.  Employee vs independent contractor.  The same is true when choosing a side job.  Having all these choices can feel overwhelming.  Does it really make that big of a difference?

Today we’re going to do an experiment to compare W2 and 1099 income.  For our experiment we’re going to look at 3 different physicians, all earning $350,000 practicing medicine.  Here is the setup:

Doc 1 earns $350,000 as a W2 employee.

Doc 2 earns $350,000 as a 1099 independent contractor.

Doc 3 earns $250,000 in a W2 day job, and an additional $100,000 in 1099 income.

All 3 are married filing jointly with a stay at home spouse.

All 3 have the same high deductible health plan with HSA – Kaiser Family Foundation estimates the average 2018 premium to be $18,054.

All 3 have the same malpractice coverage with a $15,000 premium.

All 3 live in states with no income tax.

All 3 docs want to max out all available tax-deductible retirement accounts, regardless of how it impacts their take home pay.  Employer contributions to a profit-sharing plan is included in the W2 employee’s total compensation.

So which of these docs has the best arrangement?  Who pays the most or the least tax?  Who saves the most for retirement?  Who brings home the biggest paycheck?  Let’s take a look.

money bag logo
Choose wisely.

Social Security Tax

Social Security tax is 12.4% of the first $132,900 you earn.  If you are an employee, half (6.2%) is paid by you and half is paid by your employer.  If you are self-employed, you owe the full 12.4% because you are both the employee and the employer.

The W2 employee paid 6.2% of the first $132,900 ($8239.80) in social security taxes.

The 1099 independent contractor got stuck paying the full 12.4% ($16,479.60).

The W2 + 1099 doctor may have had two jobs, but since her W2 job already surpassed the $132,900 earnings cap, she does not owe any additional Social Security tax from her side job.  She too paid $8239.80 in SS tax.

ss tax

Advantage:  It’s a tie between the W2 employee and the W2 + 1099 doc.

Medicare Tax

Unlike Social Security tax, there is no cap on Medicare tax.  For our married filing jointly doctors, the Medicare tax rate is 2.9% of the first $250,000 earned, and 3.8% of any income over $250,000.

Once again, W2 employees get to split the bill with their bosses, while independent contractors are responsible for the entire bill.

Our W2 employee pays 1.45% of the first $250,000 of income and 2.35% (1.45% + 0.9% Obamacare tax) on the remaining $100,000 of income.  As a result, he pays $5,975 in Medicare taxes.

Our 1099 independent contractor is stuck paying the full tab.  2.9% of his first $250k and 3.8% of the remaining $100k.  His final Medicare tax bill is $11,050.

Last but not least, our W2 + 1099 doctor pays 1.45% of her first $250k, but then must pay the full 3.8% on the $100k of independent contractor income.  In total she pays $7,425 in Medicare taxes.

medicare tax

Advantage:  The W2 employee pays the least Medicare tax.

Retirement Space

The IRS has very specific rules regarding contribution limits per employer.  Regardless of who employs you, workers are allowed to contribute up to $19,000/year to a 401(k).  In addition, employers are allowed to make additional profit-sharing contributions for a total of $56,000/year.

Both the W2 employee and the 1099 independent contractor have a single employer.  Thus, they both have the same $56,000 annual limit on 401(k) + profit-sharing contributions.

The side hustler, on the other hand, has two employers:  her W2 boss and herself.  She maxes out the $56,000 limit at her employer’s plan.  She has the additional benefit of being able to open a solo 401(k).  Although she can’t make voluntary employee contributions to this extra plan, she is able to make profit-sharing contributions.  She wants to funnel as much money into it as possible, so she makes the maximum contribution:

20% of (total 1099 income – 1/2 self employment tax)

0.2 * (100,000 – 1900) = $19,620 in profit-sharing contributions.  This in addition to the $56,000 she socked away at her day job gives her a total of $75,620 in retirement savings.

retirement space

Advantage:  The W2 + 1099 doc has almost $20,000 in additional tax advantaged retirement space.

Income Tax

So far, it seems our 1099 doc is getting hosed.  He pays twice the Social Security tax, the most Medicare tax and doesn’t have any additional retirement savings to show for it.  Who comes out ahead in income taxes?  I used Taxcaster, my favorite online tax calculator, to crunch the numbers.

Our W2 employee decides to take the standard deduction ($24,000).  He further reduces his income tax bill by contributing $19,000 to his 401(k) and participating in his employer’s profit-sharing plan.  He owes $53,378 in federal income taxes.

Our 1099 independent contractor looks at all the taxes he’s paid and benefits he’s had to provide (health and malpractice insurance) and realizes that he’s better off itemizing.  In addition to deducting his retirement contributions ($56,000), he is able to deduct his $15,000 malpractice premium and his $18,054 health insurance premium.  He is also able to deduct half of the self employment taxes he paid ($13,764).  In total he is able to take  $102,819 in itemized deductions.  He owes $51,904 in federal income taxes.

Our W2 + 1099 doctor takes the standard deduction BUT since Uncle Sam Loves Side Hustlers she is still able to deduct her profit-sharing contribution from her solo 401(k).  She was also able to deduct half ($1,900) of the self-employment tax she paid on that $100K of side income.  For simplicity’s sake we’ll say she was too lazy to take advantage of the other self-employed deductions that could have trimmed his tax bill.  She owes a total of $46,444 in income tax.

income tax

Advantage:  The W2+1099 doc is the winner.

Take Home Pay

So what’s the bottom line?  Which of these docs has the most cash flow at the end of the day?  Retirement funds are great, but that doesn’t pay the bills.

After paying taxes and funding retirement accounts, the W2 employee has a take home pay of $226,407.

After paying taxes, funding retirement accounts and providing health and malpractice insurance the independent contractor has a take home pay of $181,512.

The W2 + 1099 doc paid her taxes, funded multiple retirement accounts and wound up bringing home $212,271.

Take Home Pay.png

Advantage:  The W2 employee brings home the most bacon, but it comes at the price of having significantly less tax advantaged retirement space than the W2+1099 doc.  If he has the discipline to invest that extra $14K in a tax efficient index fund (instead of Tesla payments) he may end up with a similar retirement nest egg.

Best of Both Worlds?

There are pros and cons to every employment situation.  Being a W2 employee is convenient.  Your boss picks up half your payroll taxes and provides you with tax-free benefits like health and malpractice insurance.

Being self-employed may give you extra control, but with great power comes great responsibilities.  You now have the added job of being a Human Resources officer and providing your own expensive benefits.  You may end up paying less income tax, but only because you spent tens of thousands of dollars providing benefits most employees take for granted.  You better be making significantly more money as an independent contractor if you have to provide your own benefits.

Being a W2 employee with a 1099 side job gives you the best of both worlds.  You may pay slightly higher Medicare taxes, but you open up new self-employed retirement accounts and tax deductions.  This hybrid model is my personal favorite way to structure my full-time job and side gigs.  It turns out that most physicians can have their cake and eat it too.

What do you think?  Which of these jobs would you rather have?  Have you ever combined a W2 job with 1099 jobs to get the best of both worlds?  Share your thoughts and comments below.

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7 thoughts on “Is it better to be an employee, an independent contractor or both?

  1. Hm, probably need more coffee, but I’ve never understood this line of thinking (w2 vs 1099). Anything that an employer pays is part of the employee’s package. This is easily apparent in a physician-owned practice, which I believe you have? So YOU directly paid that employer portion of tax. By definition, if a w-2 employee is making 350, their compensation is more than a contractor at 350.


    1. You’re right that when you own the practice, the whole idea of the “employer” picking up half the payroll tax is an illusion.

      There are three main reasons I think 1099 jobs make better side gigs:

      #1: Most 1099 jobs pay higher hourly rates to make up for the fact that you are responsible for payroll tax (even though most most docs have already maxed out SS tax at their day job)

      #2: A second W2 employer would have to pay their half of payroll tax, even if you had personally maxed out SS tax from your first job. There’s no way to recover that 6.2%. from the IRS.

      #3: I’m a sucker for tax-deferred savings.


  2. Enjoyed the horse race, my friend. One benefit not explored was the incorporated 1099 employee. At what point do the additional costs of incorporation get made up for by the additional tax saving space (think Defined Benefits plan for someone in the final decade before retirement)?

    Nice thought experiment,



    1. Since cash balance plans can be set up by sole proprietors, I don’t think there would ever be a point where you could outweigh the costs of incorporation with additional retirement savings.

      If you were going to incorporate and run all your income through a S-corp, there is the potential that you could save on payroll tax enough to outweigh incorporation fees.

      Creating a S-corp for a side hustle is a losing proposition however – by creating a second W2 job for yourself your S-corp now has to pay employer half of payroll tax, even though you have maxed out your SS tax at your primary job. You basically create a new 6.2% hustle tax for yourself compared to remaining a sole proprietor.


      1. Great walk-through of the actual numbers! The only thing worth adding is the difference between an actual incorporation vs. just having 1099’s for deduction purposes. There are the significant fees for setting up and maintaining and S-corp (at >$800/year at least in California) and probably a couple hundred at least of increased accountant fees with more complicated tax filing. And perhaps I’m missing some other costs, but it’s a notable one. Fortunately, will be outweighed by $100k 1099 earnings.


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