Are your employees properly classified?

In pursuit of employers who misclassify their workers, the U.S. Department of Labor (DOL) has been aggressively ramping up the number of investigations and its employment law enforcement efforts.  In alignment, the Internal Revenue Service (IRS) announced last September its Voluntary Classification Settlement Program (VCSP), which may offer relief for employers from unpaid employment taxes, penalties, and interest resulting from worker misclassifications.  To determine whether or not joining the VCSP would be a smart move, an employer needs to consider some key factors.

Under the VCSP, an employer may voluntarily reclassify their workers as employees for future tax periods for employment tax purposes. To participate in the program, the employer must meet specific eligibility requirements, apply for the VCSP, and enter an agreement with the IRS. An employer may be considered eligible for the program if it:

• Is not subject to a worker misclassification audit currently engaged by a federal or state agency,
• Has consistently treated the workers in question not as employees (i.e. as independent contractors), and
• Has filed for the past three years the required Form 1099s regarding the workers.

If the IRS approves the employer’s eligibility and participation into the VCSP, then the employer must establish a “closing agreement” with the IRS.  The agreement’s provisions include but are not limited to:

• A three-year extension of the statute of limitations for collection of employer back taxes during the first three years upon participating in the program;
• A limit of 10 percent of the employer’s employment tax liability that may have been owed on compensation paid to the workers for the most recent tax year, without interest and penalties;
• No audit for employment tax purposes for prior years with respect to the classification of the workers in question; and
• Treatment the identified workers as employees moving forward.

While the VCSP appears attractive at face value, other factors require employers like you to recognize potential risks and, if deciding to participate in the program, to proceed with caution:

• First of all, the IRS is not obligated to accept an employer’s application (IRS Form 8952) to the program. So, if an application is rejected, the employer may have in essence admitted to worker misclassification fault, thus creating a potential case for wage and hour lawsuit claims.
• The IRS relief does not apply to other federal or state agencies (i.e. the DOL) which have similar responsibilities for worker classification compliance enforcement.  As established through recent “memorandums of understanding” with participating agencies, IRS information-sharing would likely increase exposure of an employer’s liabilities related to worker misclassifications.
• The employer must account for and remedy any previously avoided employee expenses (i.e. due to failure of complying with minimum wage and overtime laws, of providing company-sponsored employee benefits, of offering workers’ compensation and unemployment insurance, etc.).

As the more details from the IRS regarding this newly-develop VCSP emerge, employers are encouraged to conduct preliminary research and internal assessment focused on the nature and degree of any worker misclassification issues. Review applicable state and federal classification standards, conduct a company-wide worker classification audit, and stay on top of relevant IRS notifications and employment law updates.