IRS has begun cracking down on companies that classify some or all of their workers as independent contractors. In many cases, the IRS believes, these workers should be treated as employees. Employers must pay FICA and FUTA taxes on their employees’ wages and also must let them participate in various company pension and welfare benefit plans.
Using one of several avenues of pursuit available, the IRS has begun cooperating with states in identifying leads. The IRS so far has signed up 33 states to share data from payroll tax exams. Information from the states likely will mean thousands of new audit leads. In addition, federal and state agents will train together and even conduct joint exams in some cases. The IRS uses an electronic matching system to spot businesses issuing 1099 forms with payments of $25,000 or more to at least five workers with no other income sources.
Leads from a company’s own workers could also spell trouble. The IRS invited 2007 income tax return filers who are independent contractors to tell the IRS (on form 8919) whether they think their employers have incorrectly classified them as contractors. The incentive for workers is that they could avoid paying self-employment tax and participate in company pension and benefit plans if their classification were changed to employee. Employers still can rely on a 1978 law that limits the ability of IRS to reclassify workers. Companies must be able to show that they filed Form 1099 showing payments to their workers and treat their other, similarly situated workers as contractors. And the firms must have a reasonable basis for classifying them that way. Valid reasons include reliance on precedent, e.g., a court case or an IRS ruling, prior industry practice or even a previous IRS employment tax examination. Reduced IRS penalties apply when misclassification is not intentional.
A bill now before Congress would limit this statutory relief. The bill would allow the IRS to require reclassification of contractors as employees prospectively and end industry practice as a way for firms to avoid reclassification.
This article was adapted from information found in the Hall Estill Tax and Estate Planning Newsletter (www.hallestill.com)
This article originally appeared in The Business Owner Journal, the periodical of choice for owners of small and midsize private businesses. All rights reserved, D.L. Perkins LLC. © 2012.
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