The IRS Gives Employees a Whistle to Blow and Employers a Safe Harbor

The IRS has given an employee worker wrongly classified as an independent contractor a very loud whistle to blow and employers the means to obtain an advance determination of worker classification to avoid future disputes and tax liabilities.

When is a worker an employee or an independent contractor for federal income tax purposes?   Disputes over employee or independent contractor classification frequently arise and the outcome is usually very important to one and very expensive for the other.   Mistakes are sometimes made, but more often, employers will incorrectly classify an employee as an independent contractor for several reasons.  The most common reason  is to avoid the payment of the employer’s portion of employment  taxes (usually about 7.5% of gross).   The second reason is to avoid the preparation and filing of quarterly 941 employment tax returns. Another reason is to avoid making employment tax deposits.  Sometimes, employers may not understand the legal and tax difference between an employee or independent contractor and classify the worker in whatever way the worker suggests.

A worker who should be classified as an employee may want to be treated as an independent contractor so that  payroll taxes and federal income taxes are not withheld from his or her earnings.  More common is the situation where a worker who is classified as an independent contractor wants to be treated as an employee so that more of his or her earnings are reported to the Social Security Administration.  The more income reported as earned, the higher the monthly retirement benefit.   In certain trades and businesses, such as construction, landscaping, housekeeping, janitorial, farming, ranching, fishing, repair and maintenance-where workers traditionally earn piecemeal or by the job and are often unskilled and less educated -the worker simply has no choice as to whether they are classified as an employee or as an independent contractor.

The IRS provides Form SS-8 –Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding- for use by an employer when the employer is not sure how to classify a worker.    Upon submission of the SS-8, the IRS will make an advance determination of how the worker should be classified, which gives the employer a safe harbor if the worker ever complains or if the wrong classification is made.

In addition, the IRS provides Form 8819- Uncollected Social Security and Medicare Tax on Wages– to a worker who believes that his or her employment classification is incorrect.   Form 8819 is the big, loud and often very expensive whistle, that when submitted with Form SS-8, alerts the IRS to a possible improper classification and permits the employer’s portion of social security and medicare taxes to be credited in advance to the worker’s social security record.

If the IRS ultimately agrees that the whistle blowing worker has been misclassified, the actions of the employer will be carefully scrutinized.  An employer who improperly classifies an employee as an independent contractor may be subjected to an audit.  The books and records of the employer will be examined and workers may be questioned.  In addition to an after the fact assessment of the employer’s portion of employment taxes, the employer who misclassifies a worker or workers may be subjected to ordinary civil failure to deposit, failure to file and failure to pay when due (delinquency) penalties, the more serious civil fraud penalty and the most serious of all, a federal crime.   None of these outcomes are good for business, even in the best of times.

If you are an employer that is unsure of how to classify a worker, that has discovered certain workers have been misclassified, or that has intentionally misclassified workers, seek legal assistance immediately.  If you are a worker who believes that he or she has been misclassified and wants some recourse, don’t wait to blow the whistle.

The area of worker classification can be very confusing.  Mistakes are common.  Misclassification of worker status to keep costs low or for exploitative purposes frequently happen.   The law firm of Peter G. Milne, P.C. is here to help.  Don’t wait until its too late.  Contact us right now.

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