Employment tax liability of third-party agents subject of prop. regs.

• Author: Nevius, Alistair M.

The IRS released proposed regulations under Sec. 3504 that would govern the liability for employment taxes when an employer designates an agent under a "service agreement" to pay its employees and to satisfy all employment tax obligations (REG-102966-10). Such agents include payroll service providers, employee leasing companies, and professional employer organizations.

The proposed rules are intended to assist taxpayers and the IRS in determining the parties' employment tax obligations in a three-party arrangement in which a payer has represented to the employer that it will pay the employment taxes for wages or compensation it pays to employees for services the employees performed for the employer.

Generally, employment tax liability is determined under the Code and cannot be altered by an agreement between an employer and a third party. In some limited circumstances, a third-party payer may be considered the person responsible for withholding and payment of employment taxes in addition to--or in lieu of--the employer. Under Sec. 3504, if a third party pays wages or compensation to employees who are employed by one or more employers, the IRS can designate that payer to perform acts required of employers under the Code.

Under the Sec. 3504 rules, agents use their own employer identification number (EIN) when filing one aggregate Form 941, Employer's Quarterly Federal Tax Return, for all the employers for whom they act (or one aggregate Form CT-1, Employer's Annual Railroad Retirement Tax Return, for all railroad employers for whom they act). The payers file Form 941, Schedule R, Allocation Schedule for Aggregate Form 941 Filers, to provide the breakdown for individual employers. Employment taxes for these purposes include the employer and employee portion of Federal Insurance Contributions Act (FICA) taxes, Federal Unemployment Tax Act (FUTA) taxes, Railroad Retirement Tax Act taxes (RRTA), and federal income taxes withheld from wages.

Under existing rules, payers and employers file Form 2678, Employer/Payer Appointment of Agent, with each Form 941. A payer that undertakes these obligations is liable for any tax or penalty that may apply, but the employer also remains liable.

The proposed regulations...