Often, thinking it will save them money, businesses classify individuals providing services for them as independent contractors instead of employees. Independent contractors do not need to be on the company’s health insurance or pension plans, and the business does not need to pay matching FICA taxes. However, often the distinction between a contractor and employee is made for business convenience and economy—ignoring the fact that the law provides standards for distinguishing between the two.
Consequently, many businesses have classified individuals as “contractors” who are in reality, employees. A main factor is control over the manner, method, location and timing of the work performed. Other factors include whether the business provides tools, training, performance reviews, business cards or other indicia of employment. If sufficient control is exerted, and other factors exist, the worker is likely an employee and not a contractor.
Properly reclassifying former contractors as employees can be costly for businesses. To ameliorate such expenses, and ensure proper classification going forward, the IRS has launched a Voluntary Classification Settlement Program (VCSP) which is designed “to increase tax compliance and reduce burden for employers by providing greater certainty for employers, workers and the government.”
Under the program, employers who meet certain eligibility requirements can reclassify these individuals and obtain what the IRS calls “substantial relief” on any back taxes otherwise owed, by paying only a fraction of the amount that would otherwise be due. No penalties or fees will be assessed. The employer is required to then abide by certain restrictions going forward, including maintaining these individuals as employees.
However, be mindful that there are areas of exposure for employers here. True independent contractors who work over 40 hours in one workweek are not entitled to overtime pay. But, employees who work that many hours are. If an individual is converted to an employee from a contractor under the IRS Settlement Program, the amnesty involved does not apply to any overtime pay your company may be liable for. For that reason, it may be best to consult with an employment lawyer prior to engaging in any reclassification project—through the IRS or otherwise.