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Want an IRS Audit? Misclassify an Employee as a Sub Contractor

Want an IRS Audit? Misclassify an Employee as a Sub Contractor

Some simple business decisions have enormous tax and legal implications, like whether to hire someone as an employee or an independent contractor.  It’s no secret that it’s cheaper to hire independent contractors.  You don’t have to withhold taxes or pay any benefits.  They are easier to fire too. You’re begging for an IRS Audit.

IRS Audit Teams are looking for employers that classify as an employee or an independent contractor which will have enormous tax and legal implications

But increasingly you might wonder if this is a no-brainer.  You might be kidding yourself and end up paying way more in the long run in an IRS Audit.  Plus, the long run may be right around the corner.  The contractor versus employee decision isn’t only about taxes but involves labor and employment law, employee benefits, worker’s compensation, unemployment insurance and more.

If you treat employees as independent contractors and fail to withhold taxes the IRS Audit Teams can reclassify them and assess potentially crippling retroactive penalties.  There are other consequences too.  The IRS Audit Teams is increasingly swapping information with state and local agencies so one dispute can trigger others.  A recent example of unheralded cooperation involves the IRS, Department of Labor (DOL) and 11 states who say home builders routinely misclassify workers as independent contractors.

The IRS, DOL and state governments are banding together, claiming violations of minimum wage, overtime and benefits rules, plus failure to withhold taxes. A GAO report claims the IRS is losing billions on worker misclassification, and a DOL study says up to 30% of employers misclassify workers.  In the DOL spotlight are home builders Lennar Corp., KB Home, D.R. Horton, Pulte Group and NVR, Inc.

As in any industry, who is an independent contractor depends on the facts.  Many companies go out of their way to classify workers as independent contractors, but such arrangements can be scrutinized and lines often blur.  Classically, employees go to work at set hours while independent con­tractors determine their own.

Employees follow orders, while independent contractors work however they prefer.  Employees receive regular paychecks while independent contractors are paid by the job.  Employees work year-round, while independent contractors are temporary.  Employers have control over the actions of employees, while the method, manner, and means of production are left to independent contractors.

Of course, these are archetypes.  Real-life fact patterns are rarely so clear and therefore require analysis.  The stakes are changing with unfettered information exchanges among state and federal agencies.  The seamless flow of information means one investigation often triggers another.  Even a small worker status dispute you think isn’t worth fighting may trigger a large one.  Like dominos, one can fall after another.

Get ready if an IRS Audit Teams knocks on your door.


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