Temporary Expansion of the Voluntary Worker Classification Settlement Program

On December 17, 2012, the IRS issued Announcement 2012-46 temporarily modifying the Voluntary Worker Classification Settlement Program originally established on September 21, 2011 (see prior post).  This is a program that reduces the penalties on employers who come forward to correct workers misclassified as independent contractors who instead should have been classified as employees.  There is not a bright-line test in properly classifying workers, and errors can be made.  In addition, workers classified as employees are much more costly to a business than if the workers were instead classified as nonemployees.  Examples of additional costs are payroll taxes, health insurance (if offered to employees), and retirement plan (if offered to employees) contributions.  Therefore, some businesses may have tended toward classifying workers as independent contractors.  If the IRS discovers that workers were misclassified, the IRS can impose years of back taxes, interest, and penalties on the employer.  In addition, the employer could be responsible for past overtime pay, retirement plan contributions, and other employee fringe benefits.  With potential penalties building up over the years, employers felt stuck with the problem without a low-cost way of correcting the misclassification. 

Under the 2011 settlement program, the employer was not eligible to participate if it had not issue all required Forms 1099 for their workers during the three prior years.  The modified program allows employers that did not file required Forms 1099 to participate in the settlement program, but only if application is made on or before June 30, 2013.  The cost of entering into the modified program is higher than the regular program. 

The modified settlement program enables eligible employers to obtain substantial relief from past taxes, penalties, and interest if they prospectively treat workers as employees. To be eligible, a business must:

 

1.    Have consistently treated the workers in the past as nonemployees,

2.    Not be currently under an employment tax audit by the IRS, and

3.    Not be currently under audit by the Department of Labor or by a state agency concerning the classification of these workers.

Eligible employers must file Form 8952 with the IRS by June 30, 2013.  Employers accepted into the program will be required to electronically file all required Forms 1099 for the prior three years, in accordance with IRS instructions that will be provided once the IRS has reviewed the application and verified that the employer is eligible for the modified settlement program. 

Employers accepted into the temporary, modified program will pay a penalty of from 1.26% to 1.97% of wages (up from about 1% under the regular program) paid to the reclassified workers for the past year.  The IRS will not audit the employer for payroll taxes related to these workers for prior years. 

In addition to the reduced payroll tax penalty, a reduced penalty on the late filing of Forms 1099 will apply.  The amount of the penalty is based upon the total number of Forms 1099 that should have been filed during the three prior years.  The amount penalty is: 

1.     From 1 to 25 non-filed forms, the lesser of $500 or $50 per form.

2.     From 26 to 49 non-filed forms, the lesser of $3,675 or $75 per form.

3.     For 50 or more non-filed forms, the lesser of $10,000 or $100 per form.

This is a voluntary Federal program.  Participation in the program could be shared with states that may or may not have a voluntary compliance program of their own.  Note also that correcting worker classification may have an impact under the 2014 health insurance mandate for employers having 50 or more employees beginning in 2013.