In a highly-publicized and nationally-coordinated effort, the Internal Revenue Service has begun the process of auditing companies with respect to numerous employment-related tax issues. Rather than wait passively for an audit notice, businesses should proactively review their employment arrangements, practices, and documentation to get out ahead of the issues.
While the IRS is looking at a variety of employment-related tax issues, two prominent ones are worth highlighting.
The first is worker classification, i.e., whether a worker is treated as an independent contractor or an employee. Many businesses routinely classify workers as independent contractors, rather than employees, to reduce payroll taxes. Unfortunately, there are specific tax rules governing when this is permissible, and too often businesses misclassify some or all of their workers. This can lead to severe tax penalties.
The second issue relates to a draconian provision that was added to the tax code after the Enron debacle: Section 409A. This is a sweepingly-broad provision that implicates many common compensation arrangements. While a full description would be too lengthy for this short summary, the important point to know is that violation of this provision, which is far more common than most businesses realizes, can result in horrible tax consequences, including a 40% federal and state penalty tax.
In order to minimize the risks attendant to tax audits raising worker classification, Section 409A, and other employment-related tax issues, it is prudent for businesses to have their compensation arrangements, practices and documentation carefully reviewed and, if necessary, brought into compliance.
For more information, please contact any of our partners.