The impacts of the new health care laws on contingent workforce management will not be fully understood for some time, and could be subject to change before they
take effect. But some provisions of great concern are approaching rapidly, including a little understood and newly highlighted 1099 reporting provision slated to take effect on January 1, 2012.
Like the proposed Employee Misclassification Prevention Act (EMPA) bill, this new requirement would “pierce the corporate veil” of hidden independent contractor vendors and require immediate discovery and control over challenging spend categories such as statement of work consultants and sub-contractors.
According to Michael Tanner, a senior fellow of the CATO Institute:
The latest surprise is Section 9006(b)(1) . . . which requires that businesses provide a 1099 form to every vendor with whom they do more than $600 worth of business over the course of a year. . . Of course businesses already have to file 1099s for outlays on items like consultants. But the new rule will mean that even the smallest of businesses will have to issue a form — and file with the IRS — for virtually every purchase or payment. Consider how many business transactions go on every single day in a $14 trillion U.S. economy. Millions, perhaps hundreds of millions, of forms will be winging their way between businesses and between businesses and the IRS. The potential for mistakes and lost forms would be tremendous. And with errors would come audits and penalties."1
With legislation like this already passed into law, there is no need to wait for the Employee Misclassification Prevention Act to start bringing SOW consultants and incorporated independent contractor vendors -- including project services spend -- into your centralized Contingent Workforce Management program.
You will be required to not only track this spend, but issue 1099s, starting in just a year and a half. Given the tremendous amount of organizational change such a requirement represents, enterprises should look to starting the process of a deep contractor risk assessment now.
After all, even if this particular provision affecting 1099s laws is extended or overturned, the message from legislators and regulatory agencies is clear -- there will be no more hiding of independent contractors for purposes of misclassifying workers.
1. Tanner, Michael. CATO Institute. “Health Bill Floods Business In Paper.” May 6, 2010. http://www.ajc.com/opinion/health-bill-floods-business-521926.html?tag=content;selector-perfector
Posted by Liz Greene
As our readers know by now, that the IRS is continuing to look at alternative means of revenue generation. Attacking the area of misclassified work
ers was one that we have focused on and now this is possibly the next.
IRS may not only use this to to generate revenue, but find a way to solve for the growing Social Security shortages. Many of us hear varying numbers describing the shortfall in Social Security funds for retiring baby-boomers. Several plans have been submitted to the Obama administration that would put more government control over 401(K) plans as a means to help support those shortfalls.
IRS Employee Plans Compliance Unit has launched its 401(k) Compliance
Check Questionnaire Project. The will be sending instruction letters to 1,200 random sponsors of 401(k) plans that filed an Annual Report for the 2007 plan year.
IRS intends to use the information to identify key compliance issues for future guidance on, and enforcement of, these issues. The questionnaire is not an IRS audit or investigation, however,failure to respond will result in IRS enforcement action, which may include an examination of the 401(k) plan.
The Questionnaire seeks detailed information on a wide range of topics. Topics include: demographics,participation, employer and employee contributions, top-heavy and nondiscrimination testing, distributions (including plan loans), automatic contribution arrangements, designated Roth features, plan operations
and administration, and IRS voluntary compliance programs.
The Questionnaire can be seen on the IRS website at 401(K) Questionnaire (Click on "View/Print the Guide to Completion of the 401(k) Questionnaire").
If you receive the instruction letter, the Questionnaire must be completed and submitted to the IRS within 90 days of the date on the letter. While the Questionnaire is publicly available on the IRS website, plan sponsors completing the Questionnaire must do so through a secure on line system on the IRS website.
Most of us are aware of the past actions to Microsoft and more recently UPS and FedEx in the IRS's pursuit of tax revenue via misclassified worker investigations. 
But if misery loves company, these firms have lots of friends.
Here are some that have line up as their closest "friends":
- Hewlett-Packard (Marks v. Hewlett Packard Company)
- Time Warner Inc. (Herman v. Time Warner Inc.)
- Allstate Insurance Company (Equal Opportunity Employment Commission v. Allstate Insurance Company/Romero v. Allstate Insurance Company)
- S.G. Borello & Sons, Inc. (S.G. Borello & Sons, Inc. v Department of Industrial Relations)
- ...and many more have suffered the consequences of worker misclassification.
Perhaps FedEx Corporation’s legal battle will become the newest landmark case, with approximately 30 state class action suits and an Employee Retirement Income Security Act (ERISA) class action filed against the company; settlements are estimated by some to be $1 billion.
Already a California appeals court decision in August 2007 ruled in favor of the plaintiff and FedEx lost its appeal of a $5.3 million verdict. The verdict resulted from a class action that claimed FedEx treated its independent contractors as if they were employees but did not provide them with payment and benefits that full-time employees would receive. The ruling proved that the workers in question, delivery drivers for FedEx Ground, were in fact employees of FedEx and not independent contractors due to the level of control that the company exercised over them.
And if all of the recent legislative action, lawsuits and case studies aren’t eye-opening enough, employers now have more to be concerned with, as current data analysis tools on the market, already in use by several State Unemployment Insurance agencies, allow users to easily analyze the IRS 1099 abstract file with technology that searches and identifies triggers for an audit.
With this technology, a user can establish criteria for queries and can target employers for an audit if, for example, a worker received only one IRS Form 1099 within one year but is paid what the agency views as high-level income. In this case, the agency might suspect that the employer was concealing full-time employment in order to avoid paying unemployment taxes. In the event that an independent contractor is reclassified to employee status during an audit, the employer is responsible for all back taxes, including employer and employee contributions and of course, applicable penalties and fines.
As we continue to report on the impending changes regarding the misclassification of workers, it is obvious that the changes being implemented will have long 
reaching effects on much of the Human Resource Related Services. As the article below shows, these changes will have an effect on the Fair Labor Standards Act (FLSA). Share with us where you're seeing impact.
Employee Misclassification Bill Proposes Changes to FLSA [Compensation.BLR.com]
Employers who misclassify their employees as non-employees are the target of a bill brought before Congress earlier this month. The bill would require organizations to keep accurate records of non-employees, such as independent contractors. Employers would also face new penalties for misclassifying employees.
The bill, referred to as the Employee Misclassification Prevention Act, proposes to make amendments to the record keeping and notice requirements section of the FLSA.
The bill would require employers who are subject to FLSA to keep accurate records of all workers, employees and non employees (e.g. independent contractors). Records would include the hours worked, payment, and classification of each worker.
Employers would have to give notices to all of their workers, employees and non-employees, upon hire or if there was any change of the employee's classification status. Written notices would need to:
- Inform the worker of their classification
- Direct them to the appropriate Department of Labor (DOL) website for further information
- Provide contact information to the local DOL office
- Include a special paragraph for non-employees regarding their rights
The bill would prohibit organizations from firing or discriminating against any worker, employee or non-employee, for filing a complaint, testifying in a hearing, or serving on an industry committee regarding misclassification practices.
The language of the Special Penalty for Certain Misclassification, record keeping, and Notice Violations-Section 16 of the FLSA would be changed to include "individuals" in addition to employees. In addition, civil penalties for misclassification practices would be increased to up to $1,100 per worker, and up to $5,000 per worker for willful repeat violations.
The bill also includes a provision for the Secretary of Labor to establish an employees' rights website.
In addition to the amendments proposed to the FLSA, the bill aims to make changes to the Social Security Act (42 U.S.C. 503(a)). The changes are intended to increase enforcement by:
- Improving auditing and investigative procedures
- Issuing quarterly report s to the Secretary of Labor on findings
- Establishing administrative penalties for misclassification practices
To increase effective enforcement of misclassification, the bill seeks to promote inter-department communication. The bill proposes that if any section of the DOL has evidence of an employer participating in misclassification, they should report the information to the Wage and Hour Division (WHD), who then can choose to refer it to the Internal Revenue Service (IRS).
The act would also allow the WHD to target employers for auditing purposes if they are in industry with a history of misclassifying employees.
The bill was referred to the Committee on Education and Labor and the Committee on Ways and Means for review.
The entire bill, H.R. 5107, is available online at the Library of Congress website.
To determine if your firm is at risk...take PSC's free RISK/REWARD assessment. Click sign below.
Over the past few weeks we have been discussing and sharing a lot of the information that has been coming out about the IRS and the misclassificat
ion of workers. We have covered many of the tax and human resource management aspects of the mounting pressure coming from the IRS.
But what what is the cost risk. We found this article posted by a NY Lawyer and felt that it gave a good example and real numbers to the potential risks.
by Fred Abramson on April 16, 2010
I have a technology company as a client who recently retainedmy office to advise them on a relatively common employment law. The company signed a contract with financial institution to perform help desk related work. They hired ten people to perform the work and had each of them sign an independent contractor agreement. All of the workers performed the work on the job site only. The all worked solely for the technology company for 40 hours a week. The company just received an evil notice from the IRS. The IRS believes that the workers are misclassified as independent contractors and should be employees.
The technology company now wonders if there are penalties for misclassifying the workers as an independent contractor. The IRS looks in part at the intent of the employer. If the IRS reclassifies a worker from independent contractor to employee, the employer may be liable for a penalty based on the amount of the tax that was not withheld because of the original misclassification. If the IRS finds that the misclassification was an honest mistake on the part of the employer, and the employer filed proper returns, the penalty against the employer is:
• 1.5% of the wages paid to the employee; and
• 20% of the amount that should have been withheld from the employee’s wages for FICA, but was not due to the misclassification.
If the IRS finds that the employer failed to file the proper returns, then, except where the failure is due to reasonable cause and not willful neglect, the penalties double. Then, the penalties are:
• 3% of the wages paid to the employees; and
• 40% of the amount that should have been withheld from the employee’s wages for FICA, but was not.
If the misclassification on the part of the employer is intentional and therefore the employer intentionally neglected to withhold the necessary employment taxes, the limits discussed above do not apply in assessing the employer’s liability. The penalties for intentional misclassification are more severe. Moreover, the limits are not applicable to the employee’s share of the FICA taxes if the worker is a “statutory employee,” nor where the employer withholds federal income tax from the worker’s wages, but does not withhold FICA.
Lastly, if the required to pay an “employee reclassification” tax liability, the employer may not recover the tax assessed from the employee. In addtion, the employer may not deduct the amount of tax assessed from the employee’s wages. The Internal Revenue Code provides further that the employee’s liability for his or her share of the tax is not affected by the assessment or payment of the penalty tax by the employer.
If you have a legal question regarding independent contractors in New York, contact the Law Office of Frederic R. Abramson at 212-233-0666
For a free Risk/Reward assessment. Please click below and fill out our quick form.
As the IRS has reported asking for significant funds to increase their agents in an effort to go after several new revenue opportunites, including misclassified 
workers. The tensions between parties has heated up again on Capitol Hill over actual numbers and costs. Here is an excerpt from an article titled, "Debate brews over expansion of Internal Revenue Service's workforce". click for full article
Republicans lawmakers are warning the law would put as many as 16,000 new Internal Revenue Service agents and workers on the streets. They claim Democrats tucked dozens of new departments and boards into the bill. And Sen. Jim DeMint (R-S.C.) predicts a massive expansion of the federal work force.
“There are going to be tens of thousands, maybe hundreds of thousands, before this is all over,” DeMint told POLITICO. “We are going to be looking for the real truth of what this means. Just on something as simple as having 16,000 IRS agents chasing them around, that is going to open a lot of eyes.”
There’s just one problem: Experts say the figures are highly speculative.
Administration aides, who were cognizant that creating massive new bureaucracies would be bad politics, have sought to minimize the potential for a major expansion, sources said.
But the Obama administration has done little to quiet this tempest, as the key players who will implement the new law have provided few specifics on how it may increase the federal payroll.
With the loss by the Republican's on the Obama Healthcare Bill you can bet this will be one of their next stands against Obama and the Democratic Party. Misclassification of employees will continue to be at the forefront of human resource management services.
Interested in a free Risk/Reward, evaluation on your current program? Please click below and be directed to our Assessement area.
by Maria Ricci
I have a strong belief that whether you are a small, medium size or large corporation, a tenure policy will definitely be one of great benefit to you. Although it is not obligatory for an enterprise to have one, it plays an important role in the proper management of your 
independent contractor community, it is a highly contributing factor toward the mitigation of co-employment risk and it also promotes cost saving opportunities.
The benefits are not easily acquired. Here are some items to consider when establishing the policy:
- Establish a limit that coincides with the recommended time line present in your labor law standards based on your province or state of business.
- Ensure that the proper resources are in place to monitor-audit the policy.
- Select a vendor management tool that will assist with the quality control of the established policy.
- Seek legal advice to ensure validity and protection of the established policy.
- Create a clear “exception” process because there will be some.
Benefits of voting “Yea”:
- Will reduce the risk of an independent contractor claiming employee status due to length of service.
- The obligation to recruit for new talent in order to comply with the established tenure will assist the corporation in obtaining a more contemporary workforce.
- All of the above will assist the corporation in achieving their cost saving objectives. This will occur with the acquisition of new talent through positive turnover. Through attracting a contemporary workforce wanting to share their gained experience versus being paid top dollar for the experience they have gained through the years working for the same corporation.
- Decreases the financial risks of a negative legal ruling.
Risks of voting, “Nay”:
- Will increase the risk of having to offer a permanent position to an independent contractor due to length of service.
- Will increase the risk of having to incur unnecessary legal fees to debate the hiring of an independent contractor due to length of service.
- Will increase the risk of not engaging the best talent to get the job done.
- Will increase the risk of paying out of market rates in trying to retain a contractor who has already been there past ideal tenure.
I vote Yea!!
TRUE STORY: A client of ours terminated a contractor who had been with the company for 15 years. Yes, 15 years. The contractor sued the corporation for back severance for the 15 years and other fringe benefits not received. While not yet through the court system yet, the ruling which will most likely be in favor of the employee will be approximately $1.2MM in severance, benefits and taxes.
Please share your thoughts…….
As we have been reporting over the past month on the heightened interest in the Tax Authorities' pursuit of misclassified workers, here is a recent ruling from Massachusetts last week on why the IRS feels that there is an opportunity to generate rev
enue in this arena.
BOSTON, MA-Two former owners of a temporary employment agency in Stoughton were charged today with paying more than $24 million dollars in unreported cash to employees of their temporary employment agency as part of a conspiracy to avoid paying more than $7 million dollars in taxes, and hundreds of thousands dollars in workers compensation insurance premiums.
(Media-Newswire.com) - BOSTON, MA—Two former owners of a temporary employment agency in Stoughton were charged today with paying more than $24 million dollars in unreported cash to employees of their temporary employment agency as part of a conspiracy to avoid paying more than $7 million dollars in taxes, and hundreds of thousands dollars in workers compensation insurance premiums.
United States Attorney Carmen M. Ortiz; Susan Dukes, Special Agent in Charge of the Internal Revenue Service, Criminal Division – Boston Field Office; Warren T. Bamford, Special Agent in Charge of the Federal Bureau of Investigation – Boston Field Office; and Anthony DiPaolo, Chief of Investigations for the Insurance Fraud Bureau of Massachusetts,
announced today that MICHAEL POWERS, age 45, of Wesport, and JOHN MAHAN, age 46, of Stoughton, were charged with one count of conspiracy to defraud the Internal Revenue Service ( IRS ) and their workers compensation insurers, one count of mail fraud, and two counts of false tax returns, all arising out of their operation of a temporary employment agency.According to the Indictment, between 2000 and 2004, POWERS and MAHAN owned and operated Commonwealth Temporary Services, Inc. It is alleged that in order to avoid paying employment taxes, such as Social Security and Medicare, and to fraudulently reduce the businesses’ insurance premiums, POWERS and MAHAN arranged to pay more than $24 million of their payroll in cash, under the table.
Commonwealth Temporary Services, Inc. supplied hundreds of temporary laborers to businesses throughout Eastern Massachusetts. The amount an employer pays in payroll taxes ( FICA ) and workers compensation insurance premiums is largely dependent on the size of their payroll. POWERS and MAHAN allegedly lied to both the IRS and their insurers about the size of their payroll, and paid the majority of their employees in cash to make their fraud more difficult to detect.
If convicted, POWERS and MAHAN each face a maximum of five years in prison, three years of supervised release, and a $250,000 fine on the conspiracy charge; 20 years in prison, three years of supervised release, and a $250,000 fine on the mail fraud charge; and three years in prison, one year of supervised release, and a $250,000 fine on the tax fraud charges.This case was investigated by the Internal Revenue Service, Criminal Investigation – Boston Field Office and the Federal Bureau of Investigation – Boston Field Office, with assistance from the Insurance Fraud Bureau of Massachusetts. It is being prosecuted by Assistant U.S. Attorney Sarah E. Walters of Ortiz’s Economic Crimes Unit.
The details contained in the indictment are allegations. The defendants are presumed to be innocent unless and until proven guilty beyond a reasonable doubt in a court of law.
In our series on how to be prepared in the various aspects of Independent Contractor risks, we came accross this article from a the CPA firm of
Habif, Arogeti & Wynne, LLP in Atlanta.
We trust you'll find these Audit proceedures helpful.
IRS Employment Tax Audit InitiativeBy Frank Ciaburri
Last fall, the IRS announced a major audit program targeting underpayment of employment taxes by companies. Over the next three years, they expect to conduct approximately 6,000 audits of randomly selected employers for employment tax compliance. A broad cross-section of businesses are targeted, including tax exempt employers. To ramp up for this initiative, the IRS has trained 200 to 300 experienced agents to handle the workload. Starting this month, the IRS will be sending letters to employers selected for audit. Once selected, a company should expect the audits to be very detailed and time consuming. In addition, the audit may expand into other aspects of company operations.
The audits are part of the National Research Program, which is structured to gather statistical information about compliant and noncompliant employers. This information will be used to help determine whether enforcement or legislative changes will be necessary to address evasion of employment tax schemes. The goal is to test how much of an estimated $15 billion gap in employment taxes actually exists and how to close it. Of course, collecting revenue from non-compliant employers is an important aspect.
Audit Focus
The expectation is that the audits will be thorough and will address areas perceived to be issue prone:
- Worker Classification
- Fringe Benefits
- Owner/Officer/Executive compensation
- Reimbursed Expenses
- Non-Filers
The audits will begin with the examination of federal employment tax returns and in larger companies will typically impact functions other than payroll, including benefits, legal and tax.
Of the issues being examined, employer misclassification of workers as independent contractors has the greatest collection potential for the IRS, as the employer could be liable for employment taxes even if the misclassified workers have paid their employment taxes. For fringe benefits, the audit focus will be on the proper treatment of fringe benefits and per diems as tax free rather than as compensation. For compensation of owners and other highly paid employees such as officers and executives, the IR will consider whether compensation is reasonable in amount and will include deferred compensation, stock options, and other perks. Expense reimbursements will be reviewed for compliance with the accountable plan rules to exclude them from compensation.
How to Prepare for a Potential Audit
To make sure your company is ready for an audit, consider taking the following actions:
- Ensure that past employment tax returns and supporting records are available and have been reviewed for compliance with applicable rules. This includes reviewing past employment tax notices and ensuring that they have been resolved.
- Perform a self-audit of your company's employment tax practices and procedures, focusing on the areas the IRS would audit if your company were selected. If issues are discovered in this process, consult with tax counsel to determine the appropriate corrective action.
If Your Company is Selected for Audit
If your company is selected for audit, designate the person that will manage the audit. This may be an internal resource and/or outside tax counsel. In larger companies, an audit may be handled by the payroll and/or tax departments, as they have experience in dealing with IRS audits.
Smaller enterprises, whether they prepare their own payroll or use a payroll services provider, generally should consider having their tax counsel manage the audit, as tax counsel regularly handles IRS audits.
In the PSC Train Blog this week we have been discussing "prevention" steps for Independent Contractor risks. Today we are going to address a seemingly innocent operational convenience that can have deep legal and cost consequences.
We encounter many times when organizations find out, after the fact, that a independent contractor is working on premise without the proper corporate documentation. When this occurs the company works to get the proper paperwork in place after the assignment has begun. Sometimes due to the urgency of the work, the contractor is engaged immediately with the promise of paperwork to follow. So, what's the big deal?
Well it turns out that when a contractor is asked to complete and execute paperwork outlining terms and conditions of their assignment after they have been engaged, that documentation can be deemed null and void by the courts because it was completed after the engagement took place. The contractor could contend that it was signed under duress. Meaning that if they didn't sign it they might have lost that the assignment and the revenue. They could contend that some of the terms and conditions, like non-compete, non-disclosure, were unknown to them and therefore unenforcible by law. There are a slew of exposures that can be caused by operationally putting the "kart before the horse". So, what's the solution?
First, don't let this happen. Create a policy whereby a contractor cannot be engaged or arrive to perform any work until all paperwork is completed and verfied. This isn't always optimal but it might be better than the legal and cost alternative. Educate offenders of this policy.
Secondly, you can provide the contractor "consideration" for signing the document. While the laws vary by state, provice and federal jurisdictions. Most legal advice will direct that by paying the contractor a nominal sum of money in consideration for signing the contract post assignment, the effect is that the contractor was compensated for the contractual considerations and therefore, the contract is valid and thus the terms enforcible.
As with many things in life, something so simple or small can be very dangerous.
Check in with us next week while we explore more news and prevention strategies in the world of employer of record services.
NOTE: We strongly recommend that you consult your legal counsel on the proper activities before your institute any of the recommendations in this post. These are merely operational guidance.