What is a worker classification issue? When the Internal Revenue Service (“IRS”) believes that a taxpayer (i.e. employer or service recipient) is improperly treating workers as independent contractors instead of employees it will pursue the taxpayer by initiating an examination, more commonly known as an audit, where the taxpayer will likely receive a Letter 3850 (Rev 3-2006) in the mail providing them notice of the inquiry. A worker classification issue will usually start with an analysis of whether the worker should have been classified as an independent contractor or an employee. If it is determined that the workers should have been treated as employees, then a calculation must be prepared to determine how much the taxpayer (employer) owes the IRS.
Often, a taxpayer will resolve the tax liability generated from the worker classification audit through one of the IRS settlement programs (known as CSP or Classification Settlement Program) or through Section 530 of the Revenue Act of 1978. Also, a taxpayer who fails to withhold the required tax may be entitled to relief, under §§ 3402(d), 3102(f)(3), 1463 or Regulations § 1.1474-4, but they must show that the worker reported the payments and paid the corresponding tax. More simply stated, an independent contractor does not have any of its taxes withheld from a check it receives. However, if the independent contractor should have been classified as an employee, then the employer would be entitled to offset some of the tax liability it owes the IRS by proving that the misclassified worker still paid his or her taxes that should have been withheld.
In a recent Tax Court case, the Mescalero Apache Tribe (“Tribe”) won on a motion to compel discovery against the IRS. The Tribe was in the middle of a worker classification case. In dispute, was the reclassification of hundreds of workers as employees instead of independent contractor. The taxpayer, Tribe, has the burden of proof to show its worker paid income tax to reduce the amount it would owe the IRS. (Mescalero Apache Tribe v. Commissioner, 148 T.C. No. 11)
The IRS has a Form 4669, Statement of Payments Received, that workers can complete to report the amount of income taxes paid and provide relief to the employer by reducing its liability to the IRS. However, for a larger taxpayer with hundreds of workers, it may be hard to find workers who no longer work for the taxpayer, for many different reasons. Here, the Tribe wanted the information the IRS had on the payments made by the workers who they could not get completed Form 4669s from as it related to the income tax paid by that worker for services rendered to the Tribe.
However, the IRS was fighting not to reveal what they labeled confidential taxpayer information pursuant to § 6103, which disallows the IRS from disclosing returns and information on returns because that information should remain confidential. In the end, the Tax Court ruled in favor of the Tribe, that the disclosure of third-party taxpayer information is not barred under IRC §6103. The court ruled that even though the Tribe had the burden of proof to show its workers paid income tax, that did not render the return information nondiscoverable (meaning not attainable through discovery). So, if a Taxpayer cannot get all workers to complete a Form 4669 for relief from income taxes paid by misclassified workers the Tax Court determined that the employer may request such information in discovery.
A small win for the taxpayer!
About the Author: Michael Anidjar is an associate attorney who joined The Law Offices of Moffa, Sutton, & Donnini, P.A. in 2016. Mr. Anidjar’s practice concentrates in the area of federal and state taxation of businesses and its owners. Mr. Anidjar has been a licensed Certified Public Accountant since 2008 and his experience and background in tax compliance serves as a communication bridge between accountant, lawyer, and taxpayer, when resolving tax issues.
Mr. Anidjar was born and raised in South Florida. He is heavily involved in the community through organizations like the Jewish Federation of Broward County. He is not only a firm believer in due process rights, but considers assisting individuals with food, shelter, and other basic needs during difficult times an obligation of fellow community members.