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Looming Shared Responsibility Penalty Magnifies Worker Classification Issues

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Whether a worker is classified as an employee or as an independent contractor makes a big difference for Federal income and employment tax purposes. A company must withhold income taxes and payroll …

Whether a worker is classified as an employee or as an independent contractor makes a big difference for Federal income and employment tax purposes. A company must withhold income taxes and payroll taxes (FICA and Medicare), pay the employer’s share of FICA taxes on the wages plus FUTA tax, and often provide an employee with fringe benefits it makes available to other employees. The business simply sends an independent contractor a Form 1099-MISC showing how much he was paid for the year. With the employer health care shared responsibility penalty coming in 2015, the distinction between employee and independent contractor is more important than ever.

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  • 1. BIZGROWTH STRATEGIES Special Health Care Reform Edition Article reprinted from Winter 2014 IDEAS TO HELP GROW YOUR BUSINESS Tax & Accounting Looming Shared Responsibility Penalty Magnifies Worker Classification Issues W reduced payment to cover back taxes. Refer to our Tax Alert, IRS Expands Relief Program for Employers with Misclassified Workers, for more information on the VCSP. Originally set to start in 2014, the Affordable Care Act (ACA) imposes a nondeductible excise tax (the “shared responsibility payment”) on large employers who do not offer minimum essential health coverage at an affordable rate through an employer-sponsored plan, providing minimum value to 95% or more of their full-time employees. A full-time employee is one who on average works 30 or more hours per week. In July, the IRS delayed implementation of the employer reporting requirements and the shared responsibility payment until 2015. © Copyright 2014. CBIZ, Inc. NYSE Listed: CBZ. All rights reserved. hether a worker is classified as an employee or as an independent contractor makes a big difference for Federal income and employment tax purposes. A company must withhold income taxes and payroll taxes (FICA and Medicare), pay the employer’s share of FICA taxes on the wages plus FUTA tax, and often provide an employee with fringe benefits it makes available to other employees. The business simply sends an independent contractor a Form 1099-MISC showing how much he was paid for the year. With the employer health care shared responsibility penalty coming in 2015, the distinction between employee and independent contractor is more important than ever. Behavioral Control looks at facts showing whether the business has the right to direct or control how the worker performs the specific tasks they were hired to do. Factors considered include instructions given, training received and/or other means of behavioral control. Generally, a large employer is one who employed an average of at least 50 full-time employees and fulltime equivalent employees during the preceding calendar year. Workers who are properly classified as independent contractors will not count toward the 50-employee threshold that triggers the shared responsibility payment requirement imposed on large employers. In addition, these independent contractors will not factor into the calculation of either of the excise taxes. The excise taxes are calculated based upon the number of full-time employees. As a result, employers may be tempted to reclassify workers currently classified as employees to independent contractors or, when adding workers, to hire independent contractors rather than employees. The consequences of misclassifying employees as independent contractors have always been severe – additional payroll taxes, interest and steep penalties. The shared responsibility excise tax makes the consequences even more costly. The IRS and the states are well aware of these issues and are aggressively investigating worker classification issues. In an attempt to increase compliance in this area, the IRS in late 2011 launched an amnesty program – the Voluntary Classification Settlement Program (VCSP). The VCSP allows employers to voluntarily reclassify workers in exchange for a our business is growing yours So, how does a business determine who is an employee and who is an independent contractor? Unfortunately, the answer to this question is complex and there is no “black and white” answer. Historically, the IRS had developed a list of 20 factors based on “common law” rules to make its classifications. Because the common law factors change over time, however, the IRS now focuses on three main categories to determine the degree of control an employer exercises over a worker: Financial Control looks at whether the business has a right to direct or control factors such as significant investment, unreimbursed expenses, services available to the relevant market, method of payment and opportunity for profit or loss. Relationship of the Parties looks at evidence to determine how the parties involved perceive their relationship. This includes intent of parties/written contracts, employee benefits, discharge or termination, permanency and regular business activity. A business must analyze all three factors, weighing any individual category or factor based on the facts and circumstances basis. Court cases on the issue have resulted in different outcomes, providing little guidance. Ultimately, there is no litmus test for exactly how many of these factors must be satisfied, nor are these factors uniformly applied. The key to successfully classifying workers correctly is to factually document and support your position. Using independent contractors can be an effective way to control costs by reducing payroll taxes, benefits costs and the shared responsibility excise tax. Misclassifying employees as independent contractors, however, can be disastrous. Contact a tax professional to discuss whether your workers are classified properly. RON PRICE CBIZ MHM, LLC • Minneapolis, MN 612.339.7811 • rprice@cbiz.com