The Internal Revenue Service has launched a new Voluntary Classification Settlement Program (VCSP) that will enable many employers to resolve past worker classification issues at a minimal tax cost. The VCSP program addresses the issue of whether a worker is deemed an employee or an independent contractor.
For many companies, calling a worker an independent contractor instead of an employee saves money. Employees are entitled to certain benefits and many protections under the employment laws, and their wages are subject to payroll taxes. Compensation paid to independent contractors isn’t subject to income tax withholding or to the employer’s share of social security and Medicare taxes, or to unemployment taxes and worker’s compensation insurance. Thus, for an employer, independent contractor arrangements can save a substantial sum of money in employment costs.
Unfortunately, there is no “bright line” test to determine whether a worker should be classified as an employee or an independent contractor. Generally, the proper classification depends upon consideration of about 20 common law factors that attempt to determine how much direction and control the employer exercises over the worker. Thus, the rules for determining independent contractor status are vague and uncertain and are often a fertile source of tax assessments by the IRS upon audits and payroll tax examinations.
The VCSP program will allow those employers who have concern that they have, in the past, misclassified employees under their direction and control as independent contractors to voluntarily come forward rather than waiting for an IRS examination. These employers can become compliant by making a minimal payment covering past payroll tax obligations and by agreeing to prospectively treat the independent contractors as employees. The cost of compliance equates to just over one percent of the compensation paid to the reclassified worker for the past year, and, no interest or penalties will be due. This voluntary settlement is substantially less than any settlement that could be reached by waiting and risking an IRS payroll tax examination.
To be eligible for the VCSP, an employer must: (1) consistently have treated the workers in the past as nonemployees; (2) have filed all required Forms 1099 for the workers for the previous three years; and (3) not currently be under audit by the IRS, the Department of Labor or a state agency concerning the classification of these workers.
Interested employers can apply for the program by filing Form 8952, Application for Voluntary Classification Settlement Program, at least 60 days before they want to begin treating the workers as employees. The participating employers will not be audited on payroll taxes related to these workers for prior years.
In exchange for the benefits under this program, and to ensure the employers remain compliant, participating employers will, for the first three years under the program, be subject to a special six-year statute of limitations, rather than the usual three years that generally applies to payroll taxes.
The VCSP program is open to companies of all sizes, but the IRS expects that small employers more likely have misclassified worker issues and will benefit from the VCSP program. In fact, the IRS has announced that the VCSP program is part of their “Fresh Start” program designed to help small businesses struggling with unpaid tax liability and IRS collection issues.
If you are interested in learning more about the VCSP program, please contact a Schneider Downs Tax Representative.
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