113: How to Pay Employees the Right Way as an Esthetician (1099 vs W2 Explained)

Payroll stops feeling terrifying when we stop guessing and start building real structure around taxes, classification, and pay. We share what went wrong with a 1099 hire, why it put our brand at risk, and the simple systems that make hiring feel steady instead of scary. 

• Why fear around payroll usually comes from not understanding it 
• How a 1099 misstep creates a structure problem and brand risk 
• What an IRS audit teaches about penalties and misclassification 
• Why true 1099 roles are rare in the beauty industry 
• Using the IRS classification factors and getting clarity before hiring 
• Separating tax money into a dedicated bank account 
• Hiring a payroll service or using tools like Gusto or Square 
• Why commission above 45% breaks profitability 
• How payroll taxes change the real cost of commission 
• Using a draw to cover base pay while an employee builds 
• The hidden downside of 1099s for workers at tax time 
• Why fear-based business decisions keep backfiring 

If you want to hire but do not know how to set it up, grab my course Master Your Payroll, Motivate Your Employees and use the code PODCAST for 50% off.   Copy this link: https://stan.store/EstheLaunchAcademy/p/master-your-payroll-and-motivate-employees

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Transcript

Welcome And Host Intro

Announcer 0:00

Welcome to the Esthetician Podcast, where passion meets prosperity. Your host, Kari Jo Patterson, transforms from a solo esthetician into a successful business owner, achieving ultimate time and financial freedom by the age of 38. Kari is the author of Fearless Prosperity, empowering estheticians to build their empire and achieve financial freedom. And the creator of the Empire Growth System for Estheticians. Get ready for some empire building wisdom. Now welcome your host, Kari Jo Patterson.

The 1099 Hire That Backfired

IRS Audit Trauma And Real Risk

How To Classify Workers Correctly

Separate Tax Money So You Stop Stressing

Payroll Help That Costs Less

Commission Math And The 45 Percent Rule

The Draw System Explained Simply

Why 1099 Can Burn Employees Too

Fear Based Choices And A Better Plan

Course Offer And Wrap Up

Kari Jo 0:32

You are not scared to hire because you don't have money. You're scared because you just don't understand payroll. And when you don't understand something, you normally avoid it. And then you tell yourself, I'll just put my employee on a 1099 instead because that is much easier. But what you don't realize is that that decision can cost you way more. So when I first hired, I hired a 1099. I hired on a split commission based, which I think I was giving her like 65%. And I set it up that way, not because I thought it was the best decision, but because the truth is, is I didn't know what I was doing. And I was just following what other salon owners were doing in my town. And I didn't even research how much I should be paying them percentage-wise. I just again looked at other people that I thought were successful and followed what they were doing. But it ended up being one of the worst hires that I ever met made. Also, with that same being the worst hire, it also, I will on the flip side say one of the best things that happened because it led me to doing things the right way. And when I did things the right way, I was able to grow a company, I was able to sell my company, and I was able to retire. But let's back it up a little bit and let's talk about why it was the worst decision, right? So one of the reasons why this was the worst setup ever was, and I've talked about this in other episodes, but I had I hired this girl on. I knew that like she wasn't an employee, so I couldn't really do a whole lot. I trained her how to do lashes, which she had never done lashes before. So I trained her on how to do lashes, but I had complaints about her, and then I didn't really know how to handle the complaints. But one of the biggest things that ever happened, which ended up with her eventually leaving, was one day she used to come in late all the time or show up right. Like I let my employees, one of the things that one of the benefits is I let people just come when they had an appointment, right? But because she wasn't an actual employee, I couldn't be like, you need to be here 30 minutes before she got to diss that whatever. So many times I used to get texts all the time from a client standing at the door waiting to get in, and she wasn't there yet, and she would show up like five minutes late. She did it all the time, and it really bothered me because I was a five-star, I really cared about this at the time. I was a five-star business, right? On Facebook, on Google, and everything. I had five stars. So like I didn't want to ruin what I had spent so much building. And when you build something and you have a successful clientele, your identity gets wrapped in that. So, like, for someone to give it a four-star, it feels like a personal attack of who you are, right? But many times this happened multiple times, and it was so frustrating. And I did try talking to her. Obviously, I didn't have the correct setup for how to talk to her or anything like that at the time. But um, the big bang came with one day, she just didn't show up for a client. And that client sat outside waiting 30 minutes, and then she ended up texting me. I like how to get a hold of her, and she's like, Oh, I totally forgot. Totally forgot, dude. Like, I felt like this that client called me. Like, I'm the one that's getting in trouble for it. Do you know what I mean? Like, I they don't see it as she's her own person and I'm my own person. They just view it as my company. Clients don't get that there is a different setup in your company. And that's when I started realizing that I didn't actually have this hiring problem. What I actually had was a structure problem in my company. Now, let's back this up to another aspect of the story. So I don't know if you have ever dealt with the IRS in your entire life. Okay. But I have, and let me tell you, it cost me thousands. So a long time ago, before I even owned a company, the the IRS did a an audit and ended up saying that like I owed an extreme amount of taxes at the time. I felt it was extreme for me, like it was like $15,000 or something like that. The truth was, is it actually wasn't mine, but I had to like pay a lawyer and I had to try to fight it. I probably paid as much in my lawyer fees as I did trying to just pay it. But let me tell you, fighting the IRS is like the hardest thing I've ever done in my entire life because they don't care, and it dragged on for years, like three years. I'm not even kidding you. It's a pain in the butt. I to this day have a little PTSD when it comes to the IRS and taxes because I don't ever want to be held in the situation that I was in with the IRS. So it was about this time when this employee, she ended up not coming, and I was so incredibly frustrated that I ran across some just blogs on the internet, and I started researching more and I started looking into pay structures and because this sucks. That is when I ended up educating myself about the difference between a 1099 and like a true 1099 and a true employee. And I learned that 1099s are actually extremely rare in the beauty field. Um, there's actually a test you can go to the IRS. Uh, they have a 2020 factor 20 factor test, and you can actually fill out this form. You can mail it into the IRS, and the IRS will send you a letter and tell you exactly what you should be filing your employees as. Now, the reason why I say this is because what happened is I'm scared of the IRS and I don't want to mess it up because I don't ever want to do something illegal with them because I know the cost and the headache and the years it will take to fix it. So when I started researching, I started researching if you misclassify, then it's a really big penalty. If the IRS catches wind of it, they can do this big investigation on you, right? Um, and they can go obviously back. Uh, it's it's essentially what it is, is it's tax fraud if you misclassify an employee. And the reason why it's tax fraud is because you're shoving off all of your taxes onto the employee. So if you misclassify someone as a 1099 when they should have been classified as an employee, and then you're like having them pay the whole percentage of tax and you shove off yours onto theirs. That's tax fraud. And there's a bunch of things that can go on with that. And I started researching this, and I was like, I don't want to do that, right? So I filled out the form. I want to know should my person be an employee or should they be it, or can they be a 1099? Turns out they should be an employee about that time. It ended up being really lucky because she ended up quitting. I didn't even have to try to switch her over, but one day I should tell that story about her quitting because that is so drama, guys. I even have, I still have the voicemail on my phone that she she's quit. I should play it, but she ended up quitting, which was a blessing in disguise because at that point I realized, okay, I had the wrong setup. I needed to do it the right way. Now that I knew the information, what ended up happening was I became really afraid. It was easy to do a 1099 because, like, financially, I don't have to worry about anything. But the reason why hiring an employee feels so scary is because your money doesn't have a job yet, right? And you don't know how to actually do it. The first thing that I had to learn when I was hiring an employee is I had to learn taxes. And I had to learn, and this is where a lot of people first get it wrong, right? That and I feel like people get it wrong because they don't educate themselves on the true classifications. Then they run into the obstacle of fear, the money issue, right? So I want to address that money issue, and I'm gonna tell you how I did it myself. It is only scary to hire someone on as an employee if you don't set money aside. Because then at the end of the year, you're gonna get hit. Or if you spend the money that was their tax portion, you're gonna get screwed. Because when you hire on an employee, instead of that employee's like, oh, I need to go pay 7.5% of my paycheck to the government, instead, they're just gonna the boss, it's just the boss's job to pay that employee, like take that money out of that employee's check and pay it for them, right? So we're just instead of them going and doing it, the boss is going to do it. In addition to them, the boss paying their 7.5% or whatever, you're gonna have to pay, you're like gonna match whatever they're they're paying and you're gonna pay it. So the biggest problem is if you spent that money and it shouldn't have been spent. So what I did was I opened up another bank account. And this is one that was just for taxes. So every time that I would run the employees' payroll, I would see how much taxes that they were had to pay and that I had to pay total combined, and I would move that money out of my account into another account and I set up my taxes to come out of this one account. So the taxes never were set up to my original income bank account. Now, I want to say that's how I did it, but I also know I didn't actually do payroll myself because I didn't want to mess it up because again, I have a lot of fear around the IRS because take it from someone who has been audited from the IRS. This was before I was a business owner. It's a big deal. Like it is a big deal. I should tell you all the ways that it's a big deal. I didn't want to run the numbers and screw it up for my employees. So I did hire a company. I'm gonna tell you to run payroll, it was so stinking cheap. I think it was $30 a month. And she ran it every week for me. It might have been $25. It wasn't that expensive. I found just a company in my town. And so she would run the numbers, give me the pay stub, I would move over the money, and then I would write a check, give the check and the pay stub to my employee. Now, let's say you don't want to hire someone and you want to save yourself, I don't know, the $25 to have someone do it. I don't know how much it would be in your town. That's how much it was in my town. If you wanted to do it yourself, there are companies like Gusto. I know my old partner, she uses that. Um, I know like Square does it. I actually had a coaching call when I was talking to a client and she uses Square. Square, they when they tell you how much you owe and how much your employee owes, Square actually takes that total amount out. So that client that I had, she didn't even need to worry about setting up another account. But you do need to give those tax dollars that you have to pay a job and put them somewhere. They either got they gotta leave your account so you're not spending them. And if you don't separate this money that you and your employee owe, you will always feel broke. Now, the second part of this is the pay structure. This is where you get it wrong. And normally you get this wrong even when you're trying to do the 1099. But you gotta understand numbers. Most aestheticians they don't even understand profit, loss, expenses, all that. Like you understand the words, but you don't really understand what you're bringing in. You're just looking at the revenue coming in. But we all know we don't just keep, if we do a hundred dollar service, we're not just keeping a hundred dollars. Revenue is so loud and profit is so quiet. So if you don't know your numbers and you're just choosing random commission amounts, hiring is gonna feel really scary. So the next thing you really got to get educated on is you got to get educated on a pay structure. So I say this all the time when it comes to running a business, if you're doing a commission-based business, you cannot pay a commission above 45%. That is like business suicide. After 40, it starts like getting really iffy, and the benefits that you can provide for your employees start dwindling. And above 45%, you're basically gonna be paying out of your prop pocket, right? That is a commission base. Now, the reason I'm not gonna go into pay structure on this episode is because there are so many states that require different things, right? Some states might not allow a commission base. So there is another you can pay hourly, and there is a way to pay hourly. There's just a lot of different structures that you have to learn so that you can do commission or you can do an hourly, right? Those are the kind of the two. And you and you can do a mix of both, right? But there's like only those kind of pay structures, but you have to figure out the right pay structure so that your company is still profiting. Otherwise, yes, payroll is going to feel so scary. Now, if you don't know anything about that, you can jump on a call with me. We can go over it together. Just click the link in my website or in my bio. So now let's get down to the part that you're really scared of when it comes to payroll. And you're scared of having to pay someone for say 40 hours that week, even if they don't have clients. So I'm gonna give you an example of a commission structure. When it comes to commission structure, there the system that I like to use is it's called a draw. Okay, so let me explain something that is really simple that most people don't understand when it comes to payroll and they're on a commission based. It's called a draw. A draw is not extra money, it's not a bonus or anything like that. It's basically an advance on what they are going to earn. Let's say your employee comes in, but she doesn't have a full day of clients yet. Instead of her making zero dollars that day, you give her the base pay. That is called a draw. So you would have to go do research in your town to find out what the minimum per hour, what the minimum wage is for our industry, so that you understand what your base pay is going to be. So going back to the employee, let's say she comes in, she doesn't have any clients that day, instead of her making zero dollars, you're gonna give her a base pay. So if she was scheduled to work eight hours, then you're gonna look at your state's minimum wage for this industry and she's gonna have to make that for say those eight hours. Now, once she starts seeing clients and she's earning commission, that draw gets covered by what she produces. So if she earns more than that draw, she keeps the difference. If she doesn't hit it yet, the draw is what carries her while she builds. So let me give you an example of this. So let's say her draw is $500 for the week. She has to make to meet your state minimum pay, right? She has to say earn $500 for a week. If she produces $800 in services, she's getting an extra $300. You're good. You don't have to pay anything. You met your minimum. But let's say she only produces $400 that week, then the draw is going to help her cover her when she's growing. So you're going to have to give her an extra $100. Does that make sense? This is how you protect your business, but it also helps support your employee while they are trying to build. Now there are rules around how you structure this and you do have to set it up correctly. And it does, it can vary by state. I want you to hear this. So even if you're solo right now, because one of the biggest fears I hear is I can't pay someone if they don't have clients. But that's not actually the problem. The problem is, is you don't understand how to structure it yet. You don't have to pay people for time they don't produce. What you need to do is create a system that supports them so that they can learn how to produce. So you pay them based off of structure. And yes, payroll taxes exist, right? But they are predictable. And that is also why, if you're doing a commission-based pay, that's why you don't go above 45%, right? Because you you've got to pay taxes. So that's the extra 15% on top of the 45%. So now just like doing math, you're now at 60%. That's technically 60% of the revenue of whatever they make. Some of it's going 45% of it's going to employees, and then the extra 15% is going to taxes. That's 60% of that revenue already. And we haven't even gone into anything else. So the problem is, is people are scared of payroll, and it's scary because they're just guessing and they don't really understand. But the truth is, is you don't really have a money problem when it comes to employees. You have a structure problem. And the reason why you have the whole entire structure problem to begin with is because you keep making decisions based off of fear instead of understanding it. And because you don't understand it, what happens is so many people choose to do 1099 because it feels easier. But here's what you're not thinking about you can't control them in the same way. Your brand is still affected. And there is risk, severe risk, financial risk to misclassifying them. So while that 1099 sounds really easy now, it's gonna be super complicated later. And for all of you employees that are listening, and if you are working as a 1099 and you think you are winning, but a lot of times you're the one that ends up paying all the taxes at the very end. I just had this situation actually come across. I had just like two weeks ago, somebody reached out to me in my DMs and sent me a screenshot of her texting with her boss. And what ended up happening for this person is she, I'm just gonna give random numbers, but this employee, she took home paychecks and deposited over the course of a year, say she deposited $40,000 into her account, right? But then her boss at the end of the year sent her her 1099 saying how much she made and said that she made uh like $70,000. And she was like, What? I am so confused because I didn't deposit $70,000 in my account. I only deposited, say, the $40,000. So I'm confused, right? In addition, this boss was also um paying, like she's having her be a $1099, but that boss is writing off, like she doesn't have to pay for anything. She doesn't pay pay for products, she doesn't pay for beds, she has no cost of supply. So at the end of the year, this esthetician is gonna have to go file taxes. When she goes to go file taxes, she has no write-offs because her boss is taking all the write-offs from her. So that's why I really wanted to do this episode is because if you don't understand this before you start hiring people, then you are going to feel broke even when you grow because you have the wrong pay structure. Or you're gonna start resenting your employees, or you're gonna start making emotional decisions that aren't very good. And let me also say, I can guarantee that anytime I've ever made a choice in my company that was fear-based, it 100% of the time was always wrong. When I was afraid to hire an employee and I didn't, it was wrong. When I had fear of saying something to my employees, so I didn't, it was wrong. Anytime you're making a fear-based decision, I am just going to guarantee you that it's going to be wrong. So if you are listening to this and you are a business owner, I want you to do your research. I want you to, if you're considering hiring, I want you to open up a separate bank account for taxes that you put money in there. Because once your whole entire financial situation has structure, everything will start feeling less scary. Now, if you're listening to this and you're like, okay, I actually want to hire, but I really don't know how to set this up the right way. Well, this is why I created my course. I have a course, it's called Master Your Payroll, Motivate Your Employees. And it walks you through the exact system that I used in my business. I break down how to set up payroll the right way, how to stay compliant, who you need to check with to make sure that you're compliant, how to structure your pay so your business actually stays profitable, and how to give raises without just guessing. Because the truth is, is hiring isn't the hard part. Setting everything up is the hard part. So if you're at that point and you don't want to figure this one out the hard way, like I did, then you can go grab my course. And if you use the code podcast, all in caps at checkout, you'll get 50% off. And if you are not to that point yet, that's okay. Cause keep listening to this podcast because I'm gonna walk you so that you get there. And that's it for this week. And I'll see you next week on the Esthetician Podcast. Bye guys.

Announcer 24:32

Thank you for listening to the Esthetician Podcast with Kari Jo Patterson. Each week, Kari brings you real-world lessons on how to grow your empire. To learn more about Kari's Fearless Prosperity Mastermind Group, one on one VIP coaching opportunities, and more, visit www.karijopatterson.com. That's www.karijopatterson.com. See you next week for more insights and strategies on the Esthetician Podcast.