Handling potentially misclassified workers: a business can take these steps to strengthen its position that it is properly classifying workers as employees or independent contractors and minimize risk.

• Author: Ellentuck, Albert B.

If the situation is not clear, with opposing arguments for treating a worker as an employee or as an independent contractor, a business (and the practitioner) faces a dilemma. It can reclassify the worker as an employee and risk triggering an audit and resulting penalties. Alternatively, the business may decide to not reclassify the worker and attempt to strengthen the case for independent contractor status.

Reclassify the Worker as an Employee

The business can simply reclassify an independent contractor as an employee. While this strategy cuts the losses for future assessments, it may risk a tax audit, an employee lawsuit for forgone employee benefits, or both. While the IRS may view such a change in status as an admission of employer wrongdoing, the business can counter by maintaining the relationship has changed. When reclassifying a worker as an employee, the business should:

* Change the terms of the relationship to exercise more control: The business should first document the arguments for the business's prior treatment of the worker as an independent contractor. Then, the business should document how current changes in the relationship alter the worker's status.

* Consider making the reclassification effective Jan. 1: This tactic avoids the worker's receipt of both a Form 1099 and a Form W-2 from the same company in the same year. However, using this date may not make the change in worker classification between years less noticeable or reduce the chances of employee lawsuits (for lost overtime, etc.).

Example 1. Reclassify the worker as an employee: G Corp. treats all of its computer programmers as independent contractors. On Sept. 1,2015, G determines that Programmer A arguably does not qualify as an independent contractor. Under the terms of As contract (which was renegotiated several months ago), G sets As hours, pays his expenses, and pays him a guaranteed minimum salary (although A also receives a significant royalty if his software is successful). G's controller decides that, rather than risk significant additional tax assessments and penalties, he wants to reclassify A as an employee for all future years.

First, G should document its prior treatment of A and its arguments for independent contractor treatment during that period. Then, G should describe the recent changes in As employment relationship that have created an employee role. A's recently renegotiated contract seems to be the pivotal point around which the change in...