Sen. John Kerry (D-Mass.) and Rep. Jim McDermott (D-Wash.) recently introduced the Fair Playing Field Act of 2010, which would amend the Internal Revenue Code of 1986 to add new Section 3511 to authorize the Treasury Department to issue prospective, clear guidance regarding the employment status of workers. (S. 3786 and H.R. 6128)
The legislation is based, in part, on a congressional finding that the “misclassification [classifying employees as independent contractors] for tax purposes contributes to inequities in the competitive positions of businesses and to the Federal and State tax gap, and may also result in misclassifications for other purposes, such as denial of unemployment benefits, workplace health and safety protections, and retirement or other benefits or protections available to employees.”
Vice President Biden, in support of the proposed legislation, said, “When employees are classified as independent contractors, whether by design or because the rules are unclear, they are denied access to critical benefits and protections, at significant cost to government at all levels. (As previously reported, President Obama’s Fiscal Year 2011 budget requests $25 million for a multiagency initiative to strengthen and coordinate federal and state initiatives to identify and deter worker misclassification. Additionally, the budget requests an additional $12 million and 90 new investigators for the Wage and Hour Division to strengthen its efforts to ensure compliance with worker classification requirements among other initiatives. See Proposed Federal Legislation Seeks to Remedy and Penalize Worker Misclassification.) Vice President Biden went on to say, “For these reasons, stopping worker misclassification is a priority for the President’s Middle Class Task Force, which I chair, and I applaud Senator Kerry and Congressman McDermott for introducing this bill.”
The proposed legislation is similar to legislation introduced last year by Sen. Kerry and Rep. McDermott. (S. 3408 and H.R. 2882) See Proposed Legislation Likely to Classify More Workers as Employees.
The Fair Playing Field Act of 2010 would amend the Internal Revenue Code to authorize the IRS to issue new prospective guidance regarding worker classification, to prevent retroactive tax assessments with respect to such clarifications, and to repeal the safe harbor set forth in Section 530 of the Revenue Act of 1978.
For more than 30 years, Section 530, which was enacted in response to the financial hardship imposed on small businesses when the IRS reclassified their workers as employees, has provided a “safe harbor” to businesses with a reasonable basis for classifying a worker as an independent contractor. Moreover, it generally has prohibited the IRS from publishing any regulation or revenue ruling with respect to the employment status of any individual for purposes of employment taxes.
Unlike the proposed legislation introduced last year, the Fair Playing Field Act also would prohibit retroactive tax assessments for businesses that previously misclassified their workers as independent contractors, but otherwise complied with their tax reporting obligations with respect to such workers, provided that they had a reasonable basis for such misclassification.
A reasonable basis for a misclassification would include:
- Reliance on judicial precedent, published rulings, technical advice with respect to the taxpayer, or a letter ruling to the taxpayer;
- A past IRS audit of the taxpayer in which there was no assessment attributable to the treatment of the individuals holding positions substantially similar to the position held by the worker(s) in question; or
- Long-standing, recognized practice of a significant segment of the industry in which such individual was engaged.
(Previous bills introduced regarding worker classification would have made it more difficult for businesses to establish a reasonable basis for classifying a worker as an independent contractor.) Additionally, the new safe harbor provision would not apply if all workers in the same position were not treated consistently beginning on Jan. 1, 1978.
The prohibition on retroactive tax assessments would protect businesses in much the same way that Section 530 currently protects businesses. The requirements for the prohibition on retroactive tax assessments to apply are very similar to the requirements for Section 530 to apply.
Previously misclassified workers subject to the prohibition on retroactive tax assessments would be considered employees on the earlier of:
- The first day of the first calendar quarter beginning more than 180 days after the date of an employee classification determination affecting the employee; or
- The effective date of the first applicable final regulation issued by the IRS that affects such individual (or, if later, the first day of the first calendar quarter beginning more than 180 days after such regulation is issued).
Section 530 relief is not available in the case of a worker who, pursuant to an arrangement between the business and a client, provides services for that client as any of the following: engineer, designer, drafter, computer programmer, system analyst, or other similarly skilled worker engaged in a similar line of work. The proposed legislation takes the same approach by not prohibiting retroactive tax assessments for these types of workers. Certain other special provisions under Section 530 are also incorporated into the proposed legislation.
Under new notice provisions, businesses would be required to provide their independent contractors with: notice of their federal tax obligations; the labor and employment laws that do not apply to them; and the right of such independent contractors to receive a status determination from the IRS regarding their classification as an independent contractor.
As with Section 530 currently, the burden of proof would be shifted to the IRS under the proposed legislation if:
- The business established a prima facie case that it was reasonable not to treat an individual as an employee; and
- The business fully cooperates with reasonable requests from the IRS.
The Fair Playing Field Act is one of a number of new measures that have been introduced into Congress and state legislatures in recent years to address worker classification issues. Such legislation generally makes it more difficult to successfully classify a worker as an independent contractor, and more costly if such a classification is incorrect. Accordingly, businesses should carefully consider whether classifying new workers as independent contractors is appropriate, and they should review their current classifications.