Have You Misclassified Workers?
Intentionally or unintentionally misclassifying employees, defined by the IRS, as independent contractors to avoid paying payroll-related taxes (i.e. social security, Medicare, and unemployment taxes) can prove to be a costly mistake if discovered during an audit or if a former worker files a complaint.
If you have made this mistake, the IRS has a program where you can reclassify such workers as employees for employment tax purposes and receive partial relief from federal employment taxes. The program is called the Voluntary Classification Settlement Program (VCSP).
Not sure if your workers are employees?
If you have independent contractors working for you, you may be wondering if those workers should be classified as employees. You can use Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding to request a review of worker status by the IRS.
To participate in this program, file Form 8952, Application for Voluntary Classification Settlement Program, and enter into a closing agreement with the IRS. The application should be filed at least 60 days prior to the date the taxpayer wants to begin treating its workers as employees.
Eligible taxpayers accepted into the VCSP will enter into a closing agreement with the IRS to finalize the terms of the VCSP and will simultaneously make full and complete payment of any amount due under the closing agreement.
The VCSP, originally released in Announcement 2011-64, has been modified in Announcement 2012-45 to:
- Permit a taxpayer under IRS audit, other than an employment tax audit, to be eligible to participate in the VCSP
- Clarify the current eligibility requirement that a taxpayer who is a member of an affiliated group within the meaning of Internal Revenue Code section 1504(a), which defines affiliated group, is not eligible to participate in the VCSP if any member of the affiliated group is under employment tax audit
- Clarify that a taxpayer is not eligible to participate if the taxpayer is contesting in court the classification of the class or classes of workers from a previous audit by the IRS or Department of Labor; and
- Eliminate the requirement that a taxpayer agree to extend the period of limitations on assessment of employment taxes as part of the VCSP closing agreement with the IRS.
The VCSP is available for taxpayers who want to voluntarily change the prospective classification of their workers. The program applies to taxpayers who are currently treating their workers (or a class or group of workers) as independent contractors or other nonemployees and want to prospectively treat the workers as employees.
A taxpayer must have consistently treated the workers to be reclassified as independent contractors or other nonemployees, including having filed all required Forms 1099 for the workers to be reclassified under the VCSP for the previous three years to participate.
Additionally, the taxpayer cannot currently be under employment tax audit by the IRS and the taxpayer cannot be currently under audit concerning the classification of the workers by the Department of Labor or by a state government agency.
If the IRS or the Department of Labor has previously audited a taxpayer concerning the classification of the workers, the taxpayer will be eligible only if the taxpayer has complied with the results of that audit and is not currently contesting the classification in court.
Exempt organizations and government entities may participate in VCSP if they meet all of the eligibility requirements.
Benefits of Employer Participation in VCSP
A taxpayer participating in the VCSP will agree to prospectively treat the class or classes of workers as employees for future tax periods.
In exchange, the taxpayer will:
- Pay 10 percent of the employment tax liability that would have been due on compensation paid to the workers for the most recent tax year, determined under the reduced rates of section 3509(a) of the Internal Revenue Code.
- Not be liable for any interest and penalties on the amount, and
- Not be subject to an employment tax audit with respect to the worker classification of the workers being reclassified under the VCSP for prior years.