As the information return tax filing season approaches, businesses encounter the complex challenges of 1099 reporting. IRS data reveals that for the tax year 2022, over 72.3 million Forms 1099-NEC and more than 43.8 million Forms 1099-MISC were filed. This represents a significant increase of nearly 30 million form submissions compared to a decade ago, when Form 1099-MISC was also used for non-employee compensation reporting. From 2021 to 2022, there was an increase of over 12.5 million in the filing of Forms 1099-NEC alone.
With the complexities of collecting vendor information and ensuring accurate filings, the 1099 reporting process can be daunting. However, some industry experts suggest that the adoption of automation technology may offer a promising solution, enabling businesses to navigate these challenges more efficiently and streamline their reporting efforts.
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Understanding the 1099 process
To effectively manage the 1099 process within the accounts payable system, Brett Michalson, a principal with Baker Tilly’s digital solutions practice, explains that it is essential to have a clear understanding of the vendors involved, the nature of their organizations, and whether a 1099 form is required for them. There are more than 20 types of 1099 forms, including Forms 1099-MISC and 1099-NEC, which are most frequently used by payroll professionals.
The process involves obtaining and regularly updating W-9 forms to ensure accurate records of vendors’ legal names and tax identification numbers. If the information on Form W-9 is inaccurate and not corrected, the payer may be required to withhold federal income tax at a rate of 24% from the payee, a procedure known as “backup withholding.”
Michalson advises utilizing technology to consistently match and verify Form W-9 information throughout the year to help prevent last-minute rushes to gather data and ensure timely compliance with filing deadlines.
“I think the best way to be efficient at the end of the year is to be prepared throughout the year,” Michalson advises.
He further explains that recent expansions in electronic filing requirements necessitate having a reliable method for electronically submitting 1099 forms to the IRS. Starting with the tax year 2023, businesses are required to file information returns, such as Forms 1099-MISC and 1099-NEC, electronically if they are filing 10 or more returns in total.
“Maybe you have multiple vendors that you need to combine because they’re really the same vendor in order to understand whether they hit the threshold for filing,” Michalson notes regarding the IRS’s e-filing requirement.
Maintaining “clean” data and compliance
Michalson believes organizations can benefit from regular month-end or quarterly closing processes that include reviewing employee and vendor information for accuracy, such as W-9 and tax identification numbers, and ensuring all relevant transactions are flagged correctly for 1099 reporting.
He explains that a business may face significant financial impacts if it is not compliant with 1099 reporting requirements. “I think that at the end of the day, the cost of the labor, the cost of the people, and the cost of the compliance issues that result from [1099 reporting] are things that you can resolve with automation and technology,” Michalson reasons, adding that there is a notable return on investment (ROI) to be made with such measures.
Benefits of automation in 1099 processing
He explains that manually compiling data from a financial accounting system into spreadsheets for filings can be a time-consuming and error-prone process, whereas automation streamlines data collection by integrating directly with a business’s financial accounting system, ensuring data accuracy without manual manipulation.
Michalson says that leveraging automation offers immediate benefits, such as enhanced data collection, seamless integration with financial systems, and efficient taxpayer identification number (TIN) matching. “So, you automatically connect to the IRS, for example, to do TIN matching, so you know in real-time whether or not you have issues that you need to resolve instead of…doing your TIN matching through a secondary site or through filing and be notified of errors,” he explains.
Additionally, Michalson says e-filing becomes significantly more efficient when integrated with financial systems, enabling automated enforcement of compliance thresholds and identification of missing vendor or transaction data.
Choosing the right automation system
When considering an automated system for 1099 reporting, Michalson believes such a system should actively highlight missing information as part of a routine monthly or quarterly close process. He also thinks it’s beneficial to have a system that can automatically contact individuals to request missing data and connect to the IRS for real-time validation, notifying users of discrepancies well before filing deadlines.
Additionally, automation should support transaction data review, ensuring bills in the accounts payable ledger are correctly flagged for 1099 reporting if a vendor is newly classified as a 1099 vendor. Michalson recommends an integrated solution with the business’s financial accounting system to avoid the need for data export and import, and eliminate any risks that may be associated with standalone tools.
Finally, the system should facilitate e-filing, allowing seamless distribution of forms to third parties and the IRS, further simplifying the compliance process.
Challenges based on business size
Michalson sees many understaffed small and mid-sized organizations facing significant challenges, primarily due to their focus on urgent tasks throughout the year, with 1099 filing compliance becoming critical only during the holiday season. He notes that several of these businesses “also have a lot of bad data” and are “used to this massive clean-up project at the end of the year,” which results in a challenge “from a change management perspective” to get “the data cleaned throughout the year.”
Financial constraints further complicate matters, as these organizations need to assess the ROI for such technology, which can be difficult due to concerns about both costs and resources. Michalson advises taking the time to recognize the value of automation and evaluate the true time and stress involved in the current process, understand the compliance risks, and initiate solution-based projects.
Best practices and time to begin planning. To ensure a smooth 1099 filing process, Michalson again urges starting to prepare early in the year, right after the 1099’s have been filed. Begin by evaluating the previous year’s challenges and efforts to identify applicable technologies that can ease the process.
He suggests seeking a trustworthy technology partner who understands the business’s financial accounting solutions and can provide integrated software options. Although labor costs are already budgeted, Michalson explains that automation can enhance productivity by freeing up employees for higher-value tasks.
AI in 1099 automation
The use of generative artificial intelligence (AI) has been implemented across various industries, but Michalson observes that its application in 1099 automated systems appears to be limited at this point. However, he has seen AI being used for automating exception processing – alerting users to unusual transactions and drawing attention to necessary reviews.
Additionally, Michalson notes that AI aids in the closing process — finalizing financial records for a certain accounting period — by tracking and managing steps, facilitating understanding of roles, and monitoring progress. This can offer insights through human-like interactions with sub-ledgers and existing data.