The Obama FY 2017 proposes once again to address “misclassification” of employee issues and independent contractor issues, citing not only the need for uniformity for federal employment tax administration, reporting and enforcement, but also for state based determinations for unemployment insurance and workers’ compensation purposes. See https://www.treasury.gov/resource-center/tax-policy/Documents/General-Explanations-FY2017.pdf for details.
The proposal seeks a single federally determined definition limiting any “safe harbor” for all federal and state programs using definitions of “employee” or “employment”. It is not clear from the budget description whether there will be amendments required for state unemployment and/or workers’ compensation, but the policy direction is clearly to move in the direction of national uniformity to “protect” workers and their benefits.
Proposal
The proposal would permit the IRS to require prospective reclassification of workers who are currently misclassified and whose reclassification has been prohibited under current law. The reduced employment tax liabilities for misclassification provided under current law would be retained, except that lower penalties would apply only if the service recipient voluntarily reclassifies its workers before being contacted by the IRS or another enforcement agency and if the service recipient had timely filed all required information returns (Forms 1099) reporting the payments to the misclassified workers.
For service recipients with only a small number of employees and a small number of misclassified workers, even reduced penalties would be waived if the service recipient (1) had consistently filed timely Forms 1099 reporting all payments to all misclassified workers and (2) agreed to prospective reclassification of misclassified workers. It is anticipated that, after enactment, new enforcement activity would focus mainly on obtaining the proper worker classification prospectively, since in many cases the proper classification of workers may not have been clear. (Statutory employee or nonemployee treatment as specified under current law would be retained.)
The Department of the Treasury and IRS also would be permitted to issue generally applicable guidance on the proper classification of workers under common law standards. This would enable service recipients to properly classify workers with much less concern about future IRS examinations. The Department of the Treasury and IRS would be directed to issue guidance interpreting common law in a neutral manner recognizing that many workers are, in fact, not employees. The Department of the Treasury and IRS also would develop guidance that would provide safe harbors and/or rebuttable presumptions, both narrowly defined. To make that guidance clearer and more useful for service recipients, it would generally be industry or job specific.
Priority for the development of guidance would be given to industries and jobs in which application of the common law test has been particularly problematic, where there has been a history of worker misclassification, or where there have been failures to report compensation paid. Service recipients would be required to give notice to independent contractors, when they first begin performing services for the service recipient, that explains how they will be classified and the consequences thereof, e.g., tax implications, workers’ compensation implications, wage and hour implications.
The IRS would be permitted to disclose to the Department of Labor information about service recipients whose workers are reclassified. To ease compliance burdens for independent contractors, independent contractors receiving payments totaling $600 or more in a calendar year from a service recipient would be permitted to require the service recipient to withhold for Federal tax purposes a flat rate percentage of their gross payments, with the flat rate percentage being selected by the contractor.
In addition, the proposal would clarify the rules with respect to Tax Court jurisdiction in proceedings involving the classification or reclassification of workers and make technical and conforming changes to those rules. The proposal would be effective upon enactment, but prospective reclassification of those covered by the current special provision would not be effective until the first calendar year beginning at least one year after date of enactment. The transition period could be up to two years for workers with existing written contracts establishing their status.
