Worker classification is a hotly contested audit issue that has caused anxiety for business owners all across the country. Whether a worker is classified as an employee or as an independent contractor can mean a substantial difference in the amount of employment taxes that the business pays. In addition, the new health care reform law imposes health care coverage requirements on an employer with more than 50 full-time employees, a fact which may tempt many employers to hire independent contractors instead. It is one thing to legitimately employ an independent contractor. However, an employer who misclassifies his employees either inadvertently or deliberately to minimize its employment tax or health care coverage responsibilities, may become subject to interest, penalties and tax liens. Such measures can cripple an otherwise successful business.

A business that is not currently under audit for employment taxes, but that wishes to correct its workers’ classification, may choose to enter the Voluntary Classification Settlement Program (VCSP). The IRS opened the program in 2011, and it is still in effect. Eligible businesses that enter the program are required to pay only 10 percent of the employment taxes that would have otherwise been due for the most recent tax year. In addition, there would be no interest or penalties, and the IRS would not conduct an employment tax audit of the business.

Additionally, the IRS has a voluntary settlement program to resolve worker classification issues called Classification Settlement Program (CSP).  This allows businesses and tax examiners to resolve worker classification cases as early in the administrative process as possible, thereby reducing taxpayer burden. In the CSP, examiners can offer a business under audit a worker classification settlement using a standard closing agreement developed for this purpose. The CSP procedures also ensure that the taxpayer relief provisions are properly applied. The IRS opened the program in March 1996. A taxpayer declining to accept a settlement offer retains all rights to administrative appeal that exist under the Service’s current IRS procedures and all existing rights to judicial review.

In light of the IRS’s predominantly pro-taxpayer initiatives, you may want to re-examine your worker classifications at this time. Even when potential employment tax liabilities are not overwhelming, it’s important to remember that misclassification can also cause pension plan difficulties.