Independent Contractor or Employee: Avoiding Costly IRS Reclassifications

FORT WORTH, TX, March 20, 2013

As businesses struggle to stay afloat in this economy, many employers are tempted to classify workers as independent contractors, in order to avoid paying employment taxes. While the temptation exists, for most businesses it is an honest mistake, caused by the confusing legal standard used to classify workers. Other times, the IRS overreaches and attempts to reclassify workers who were correctly treated as independent contractors.

Over the past few years, the IRS has waged an aggressive campaign of auditing businesses and reclassifying independent contractors to employees. For the business, such a reclassification often results in a mountain of owed payroll taxes, penalties, and interest.

The factors that are considered in determining whether a worker is an employee or independent contractor are laid out in Revenue Ruling 87-41, commonly referred to as "The Twenty Factors." The analysis is not black and white. Often, some of the factors indicate an employer-employee relationship, while other factors indicate an independent contractor relationship.

To relieve employers from large retroactive tax assessments, resulting from the IRS's overly aggressive enforcement of employment tax laws, Congress passed Section 530 of the Revenue Act of 1978. Section 530 is designed to protect employers who acted in good faith when determining that workers should be treated as independent contractors. While Section 530 Relief can save many businesses from costly reclassifications, the requirements can be hard to meet. Further, Congress has proposed several bills designed to limit or eliminate the availability of Section 530 Relief, including as recently as December 2012.

In recent years, the IRS established an amnesty program called the Voluntary Classification Settlement Program (VCSP). Under this program, employers who are not yet under an employment tax audit can voluntarily reclassify workers from independent contractors to employees. In exchange for this voluntary proactive reclassification, the IRS only requires the employer to pay a minimal penalty for past years, equal to 10% of the payroll taxes that would have been due in the most recent tax year, further reduced by the application of lower rates under Section 3509.

For employers who are at risk of coming under an employment tax audit, this new program presents an opportunity to avoid the huge retroactive tax burden that can result from the reclassification of workers as part of an IRS audit. To qualify for this program, however, you must not already be under an employment tax audit by either the IRS or a state agency. Consequently, the best time to act is before you hear anything from the IRS. Even if you have already come under audit, only a competent tax attorney can guide you through the audit process and determine what options are available for you.

The attorneys of Brown, PC handle worker classification cases in the Dallas-Fort Worth area, across Texas, and throughout the United States. To learn more about our practice, please visit our page on Employment Tax Disputes or contact our law firm at 888-870-0025.

Website: www.browntax.com