What’s at Stake in Defining an ‘Independent Contractor’ for Tax Purposes
Misclassifying an employee as a self-employed worker can result in harsh consequences. Business owners can protect themselves from audits and tax penalties by understanding and adhering to specific reporting criteria.
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Consider the Consequences Before Determining Worker Status
In 2011 the IRS announced the Voluntary Worker Classification Settlement Program (VCSP). The VCSP provides payroll tax relief to employers that voluntarily reclassify their workers. This is part of a larger “Fresh Start” initiative the IRS devised to help taxpayers and businesses address their tax responsibilities and avoid tax liens.
Under VCSP, employers may voluntarily reclassify workers and pay a significantly reduced amount of the taxes and penalties. This, in effect, is the carrot. The IRS stressed that it is sharing information with state and local authorities to ensure compliance from those who do not voluntarily comply. Companies that are caught misclassifying workers will be subject to the full amount of back taxes and stiff penalties.
Additionally the IRS is teaming up with the Department of Labor and state Employment Commissions to find audit targets. The IRS is focusing on companies that issue a large amount of 1099 forms to individuals. It is also focusing on individuals that get both a 1099 and a W-2 from the same entity.
In the past, many employers found out about misclassification issues when an independent contractor was dismissed and filed an unemployment claim. The case was
usually resolved by the employer paying the back unemployment premiums and agreeing not to misclassify workers in the future. Going forward, the states will probably be turning the employer’s information over to the IRS and the resulting payroll tax audit could be crippling.
If you think that you may have employee classification issues, questions about the VCSP or taxation issues in general, call your tax advisor.
Mitch Reitman is managing principal of Fort Worth, Texas-based Security Industry Capital (SIC) Consulting, which provides financial services to security alarm companies in 23 states and Canada. He can be contacted at (817) 698-9999.
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