The short answer is that employees go through payroll and subcontractors do not. They are two completely separate processes with different tax obligations, different forms, and different accounting treatments.

For employees, you run payroll each pay period. That means withholding federal income tax, Social Security (6.2%), and Medicare (1.45%) from their paychecks. On top of that, you pay the employer side: matching Social Security and Medicare, federal unemployment tax (FUTA), and Tennessee state unemployment insurance. You deposit withheld taxes on a regular schedule, file Form 941 quarterly, and issue W-2s at year end. Tennessee doesn’t have a state income tax, which simplifies things slightly, but the federal and unemployment obligations still require attention.

For subcontractors, you simply pay their invoices. No tax withholding, no employer taxes, no payroll processing. You pay the agreed amount and they handle their own taxes. Your only filing obligation is issuing a 1099-NEC to any contractor you paid $600 or more during the calendar year. That form is due to the contractor and the IRS by January 31.

Before you pay any contractor for the first time, collect a W-9. This gives you their legal name, business name, tax ID, and entity type. If you wait until January to chase down W-9s, you will spend weeks tracking people down. Get it before the first payment goes out. No exceptions.

In your accounting software, keep these separate. Employee wages and the associated payroll taxes should hit payroll expense accounts. Contractor payments should go to a subcontractor or contract labor account. Mixing them together makes your financial statements misleading and creates headaches at tax time.

Classification is the part that trips most business owners up. You don’t get to choose whether someone is an employee or contractor based on what is easier or cheaper. The IRS looks at whether you control how the work gets done, whether the worker can profit or lose money independently, and whether the relationship is ongoing or project-based. A “contractor” who works full time at your location, uses your tools, follows your schedule, and only works for you looks a lot like an employee regardless of what your agreement says. Getting this wrong means back payroll taxes, penalties, and interest for every period the worker should have been on payroll. As a bookkeeper in Franklin, I see this come up regularly with growing businesses that started with all contractors and now need to transition some to W-2 status.

If you have a growing mix of both worker types, having a reliable payroll system makes the employee side manageable and keeps you compliant without thinking about deposit deadlines and quarterly filings. On the contractor side, keeping clean records of every payment throughout the year makes 1099 season straightforward instead of a last-minute scramble. The goal is to build processes that handle both correctly from the start so you are not fixing mistakes later.