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Employers get some relief from the pitfalls of worker misclassification

October 3rd, 2011  |  Lorene Park

Deciding whether to classify a worker as either an employee or an independent contractor can cause an employer many headaches; particular considering that proper classification is necessary to avoid significant liability. To further complicate things, applicable laws do not always classify workers the same way. Employers have to be aware of the definitions in the Internal Revenue Code for income tax and social security; unemployment compensation laws; workers’ compensation laws; wage and hour laws; and discrimination laws.

In an effort to provide some relief, the IRS has announced a program that enables certain employers to avoid a portion of tax liability stemming from employee misclassification by voluntarily reclassifying workers as employees and paying a fee covering part of their past payroll obligations. In return, the employers must enter a closing agreement with the IRS which extends the limitations period applicable to the assessment of employment taxes from three to six years. Employers can apply to the program by filing Form 8952, Voluntary Classification Settlement Program. Applications must be received at least 60 days before the employer wishes to treat the workers as employees.

This announcement comes on the heels of a DOL announcement that the DOL, IRS, and several states are stepping up efforts to prevent misclassification by entering agreements to coordinate enforcement. A Memorandum of Undertanding between all the parties is located here. The DOL anticipates that the new partnerships will better allow it to work with the IRS and participating states on law enforcement and information sharing in order to “level the playing field for law-abiding employers and ensure that employees receive the protections to which they are entitled under federal and state law.”

Employers having difficulties classifying a worker can request that the IRS determine the worker’s status for federal tax purposes by filing a Form SS-8. The form, and additional resources to help employers classify workers, can be found on the IRS website. Keep in mind, however, that other laws may apply different tests for classifying workers. For example, the same worker could be an “employee” under workers’ compensation laws and an “independent contractor” for unemployment tax purposes.

The employer’s right to control a worker is the most common factor considered by agencies and courts, but other factors may be considered. For example, a worker is probably an employee if required to work at the employer’s office for a certain period of time, regularly reports on work performed, and uses the employer’s equipment. By contrast, the same person is likely an independent contractor if he or she controls the hours worked, provides the equipment, reports only on major developments, and performs similar services for other businesses. Because this area of law is complex and the consequences of misclassification can be severe, employers with classification questions would be well-advised to consult a local employment lawyer or tax expert.