Worker Reclassification Relief
Many
small businesses designate workers as “independent
contractors,” regardless of whether they are really employees, to avoid
paying
the employer’s portion of Social Security and dealing with employee tax
withholding and the related paperwork and reporting.
The
practice of classifying workers as independent
contractors may have grown in the recent past perhaps because there
have been
relatively fewer IRS employment tax audits. Nevertheless, this is still
a risk
to businesses.
The
IRS has announced a new program to promote voluntary
reclassification of workers treated as “independent contractors” but
that are
in reality “employees.” The announcement may be a tacit acknowledgement
that
the IRS lacks the staff to do employment tax audits on a large scale.
The
IRS calls its new procedure a Voluntary
Classification Settlement Program or “VCSP.” The VCSP program is
intended by
the IRS to provide relief to businesses with misclassified workers
similar to
the relief available for businesses under audit through what the IRS
calls the
Collective Settlement Procedure.
There
is a new Form 8952 for those businesses that wish
to participate.
To
be eligible to voluntarily reclassify for future years
workers that are currently being treated as independent contractors,
two
criteria must be met:
The
workers must have consistently been treated as independent contractors
and
received Forms 1099 for the past three years.
The
taxpayer-business cannot currently be under audit by the IRS or by the
Department of Labor or by any state government agency concerning the
classification of its workers.
There
are special rules for businesses that have gone
through prior employment tax audits.
Eligible
businesses that wish to reclassify their workers
voluntarily on a prospective basis, must pay 10% of the employment tax
liability due on compensation paid to workers for the most recent tax
year
using reduced rates under Internal Revenue Code (IRC) § 3509. Such
businesses
will not be required to pay interest or penalties on this 10% tax
liability,
and they will not be subject to employment tax audits with respect to
those
workers for prior years.
There
is one other condition that may not be that
important in most circumstances. The statute of limitations on
employment tax
auditing is normally three years after a return is filed. In order to
participate in the VCSP, the business must agree to extend the statute
of limitations
from three to six years. This applies to employment tax audits with
respect to
the first three years after the date the workers are reclassified.
Eligible
businesses must submit a new form —
Form 8952, entitled “Application for
Voluntary Classification Settlement Program” — consisting of two pages
of
questions relating to identification of the business, the contact
person, and
information about the workers to be reclassified. On page 2, there is a
section
to calculate what the tax liability would be on the past year’s workers
using
the reduced rates of IRC § 3509(a).
The
10% payment is not made with Form 8952 but rather is
submitted with a signed “closing agreement,” prepared presumably by the
IRS. A
Closing Agreement is a procedure that binds all parties, including the
IRS.
Businesses
that wish to apply need to allow at least a
60-day waiting period after Form 8952 is submitted before the
reclassified
workers can be treated as employees.
For
example, if a business wants to begin treating its workers as employees
on
January 1, 2012, Form 8952 needs to be submitted on or before Nov. 2,
2011.
Stated
differently, the business needs to think ahead and
file the form at least sixty days (two months) before the beginning of
the
period for which they want to treat the workers as employees. Both the
form and
the instructions are available on the IRS website.
There
are two significant benefits from the VCSP. First,
it allows businesses with misclassified workers the chance to
reclassify them
prospectively and eliminate the risk of an audit for the past three
years.
Second,
the financial cost of doing this requires paying
only 10% of the employment taxes that otherwise would have been due for
just
the past year while at the same time avoiding additional tax, interest
and
penalties with respect to the past three years.
Businesses
that are currently not filing Forms 1099 for
independent contractors will not be eligible to participate in the
VCSP.
It
is possible that some, perhaps many, small businesses
will not want to, or cannot qualify to, participate in the VCSP program. Some businesses have
already determined that
it is impossible for them to reclassify workers as “employees” and
still
compete effectively against businesses which do pay employment taxes.
If
you need assistance in determining if it would be
advantageous for your business to participate in this worker
reclassification
program, please contact Newland & Associates.
Copyright 2011
Published by the law firm of Newland &
Associates, PLC
9835 Business Way
Manassas, VA 20110
Call us at (703) 330-0000 for a full range of business
law and
tax-related services.
While designed to be accurate, this publication is not intended to constitute the rendering of legal, accounting, or other professional services or to serve as a substitute for such services.
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