New IRS Worker Classification Settlement Program and its Risks
by Cynthia Stamer
Congress, federal and state regulators and private litigants increasingly are challenging employer classifications and treatment of independent contractors, leased employees or other non-employee workers (contractors). At the same time, the IRS is hoping to persuade employers that are misclassifying workers to voluntarily to clean up their practices. To do so, the IRS has established a new Voluntary Worker Classification Settlement Program (Settlement Program).
Like many other federal and state agencies, the IRS has significantly increased its scrutiny of businesses that receive services from workers not treated as employees. The creation of the Settlement Program follows the IRS’s September 2010 kickoff of a 3-year program targeting the worker classification practices of 6,000 employers for audit.
The Settlement Program offers employers the opportunity to resolve existing payroll tax exposures by making the required filing, adjusting their practices and paying a required settlement fee of slightly more than 1 percent of the wages paid to the reclassified workers for the past year. If an employer meets the requirements of the Settlement Program, the IRS will not conduct a payroll tax audit or assess payroll tax interest or penalties for prior year payroll taxes related to the workers.
Employers that misclassify workers, however, generally face a broad range of employment and other exposures in addition to the payroll tax liability covered by the Settlement Program. An employer that has misclassified a worker for payroll tax purposes may also have treated the worker as a non-employee for other purposes, such as: immigration law eligibility to work, wage and hour, employment discrimination, employee benefits, fringe benefits, worker’s compensation, workplace safety, tort liability and insurance. Thus, businesses evaluating or planning to use the Settlement Program should assess their overall worker misclassification exposures and the potential impact of participation in the Settlement Program on other possible exposures.
Some considerations include whether the employer’s existing classification of the worker is defensible for those other legal purposes, the potential exposures from misclassification under those laws, how participation in the Settlement Program might affect the employer’s misclassification exposures under these other laws, and risks, challenges and opportunities for mitigating these exposures.
While weighing the magnitude and options for addressing worker misclassification exposures, businesses should guard against overestimating the defensibility of their worker classification practices or underestimating their potential legal risk based on the prevalence or length of their own practices, or those of other businesses. The expanded use of independent contractor and other non-traditional staffing relationships have fueled growing scrutiny and challenges by Congress, private litigants and federal and state regulators to the classification of these workers as not employed by the business.
Concerns that U.S. businesses are improperly skirting legal obligations by improperly misclassifying workers that the law requires them to treat as employees are prompting federal and state agencies to step up audit and enforcement activities against businesses.
Thus, whether or not an employer chooses to make use of the Settlement Program, an employer using misclassified workers should take prompt action to identify and take well-planned and coordinated steps to mitigate both the payroll tax and other exposures likely to result from misclassification.
Furthermore, employers contemplating using the Settlement Program also need to fully understand and be prepared to meet all applicable conditions for participating in the Settlement Program.
The Settlement Program excludes employers “under audit” and certain other employers from eligibility to participate. Additionally, to participate in the Settlement Program, an employer also must agree to extend the usual three year statute of limitations period generally applicable to payroll tax liability to six years and meet other conditions.
Regardless of whether an employer elects to take advantage of the new Settlement Program, these developments send a clear signal that businesses using the services of independent contractors, leased employees or other non-employee workers should review and, as necessary, strengthen the defensibility of their existing classifications and treatment of those workers.
Cynthia Stamer, of Cynthia Marcotte Stamer PC, can be reached at firstname.lastname@example.org.