Options for compliance with worker classification rules.

• Author: Chambers, Valrie

Determining proper classification of workers, either as independent contractors or employees, can certainly be subjective and a challenge for employers. The determination of whether a worker is an employee or an independent contractor is based on the facts and circumstances surrounding the individual's work for the employer. Generally, the more the employer is able to control and direct the worker, the more likely the worker should be classified as an employee. Furthermore, employment taxes are a significant source of revenue for the federal government; improper worker classification contributes to the tax gap, and so taxpayers face heavy scrutiny. Two IRS programs are designed to close the tax gap for federal employment taxes: National Research Program employment tax audits and the Voluntary Classification Settlement Program (VCSP).

IRS National Research Program Employment Tax Audits

The IRS National Research Program (NRP) began in 2000 to measure the difference between taxes voluntarily reported and paid by taxpayers compared with taxes the IRS has determined are actually due (commonly referred to as the "tax gap"). In the fall of 2010, the IRS expanded the NRP to include employment tax audits of thousands of randomly selected businesses. NRP audits are conducted by trained IRS examiners, and the scope of an NRP employment tax audit includes mandatory, required, and potential employment tax issues. Potential employment tax issues include worker classification. Therefore, NRP employment tax audits are intended, in part, to identify and resolve worker classification issues and bring noncompliant taxpayers into compliance with federal employment tax reporting.

As any taxpayer who has been selected for audit knows, the process can be time-consuming and costly. Worker classification issues uncovered in an audit can lead to costly assessments of past employment taxes, penalties, and interest for reclassified employees. Nontax exposure, such as reclassified workers' benefit provisions, may also exist. Representatives and practitioners serving taxpayers at risk for worker reclassification should carefully consider the alternatives available to assist taxpayers in becoming compliant. One alternative is the Voluntary Classification Settlement Program (VCSP).

Voluntary Classification Settlement Program

In line with the IRS's recent move toward voluntary taxpayer compliance, and, as part of its larger Fresh Start program, the IRS established the...