Bill Would Target Independent Contractor Misclassification

Senator John Kerry (D-MA) and Rep. Jim McDermott (D-WA) have introduced a bill that would curtail the use of a federal “safe harbor” that allows businesses to treat workers as independent contractors for federal employment tax purposes, regardless of the employee’s actual status under the common law test. The Fair Playing Field Act of 2010 (pdf) (H.R. 6128, S. 3786) would, among other things, require the Secretary of the Treasury to issue prospective guidance on worker classification for federal employment tax purposes. The safe harbor provided under section 530 of the Revenue Act of 1978 would continue to be available until the date an individual’s employment status is reclassified. The worker’s reclassification date would be the earlier of (a) the first day of the first calendar quarter beginning more than 180 days after the date of an employee classification determination by the Secretary of the Treasury; or (b) the effective date of the “first application final regulation” issued by the Secretary of the Treasury with respect to such individual (or if later, the first day of the first calendar quarter beginning more than 180 days after such regulation is issued).

Earlier versions of these bills, which were introduced in 2009 as the Taxpayer Responsibility, Accountability, and Consistency Act of 2009 (H.R. 3408, S. 2882), but have languished in committee, also took aim at employee misclassification and the section 530 safe harbor. The section 530 safe harbor provision provides that it would be considered “reasonable” to classify an individual as an independent contractor for federal employment tax purposes if the employer relies on: (a) a past IRS audit with respect to the taxpayer; (b) published rulings or judicial precedent; or (c) long-standing recognized practice in the industry. Moreover, the employer must not have treated the individual as an employee for any period. For any time after 1978, all of the employer’s federal tax returns must reflect that the workers were classified as independent contractors. Along the same vein, in order to benefit from the safe harbor provision, the employer must not have classified workers performing substantially similar work as employees. The updated version of the legislation would exempt certain skilled workers from the application of the proposed new safe harbor rules.

As summarized in a press release, the Fair Playing Field Act aims to “close a tax loophole currently allowing businesses to misclassify workers as ‘independent contractors,’ thereby creating an unfair environment for businesses that play by the rules and an unfair environment for workers,” by doing the following:

• End the moratorium on Internal Revenue Service (IRS) guidance addressing worker classification. The Secretary of Treasury would be directed to issue prospective guidance clarifying the employment status of individuals for federal employment tax purposes.
• Amend the provisions of the tax code that provide for reduced penalties for failure to deduct and withhold income taxes and the employee’s share of FICA taxes.
• Require persons who contract independent contractors on a regular and ongoing basis to provide a written statement to each independent contractor of the federal tax obligations of independent contractors, the labor and employment law protections that do not apply to independent contractors, and the right of the independent contractor to seek a status determination from the IRS.
• Require the Secretary of the Treasury to issue annual reports on worker misclassification.

The Senate bill has been referred to Senate Finance Committee, while the House companion bill has been referred to the House Committee on Ways and Means.

Worker misclassification has recently received increased attention by both the Administration and Congress. The President’s budget for the 2011 fiscal year includes provisions that target the misclassification of employees as independent contractors and are estimated to raise more than $7 billion in revenue over 10 years. In June, the Senate Committee on Health, Education, Labor and Pensions (HELP) held a hearing on this issue. Specifically, the HELP Committee debated the merits of the Employee Misclassification Prevention Act (H.R. 5107, S. 3254), legislation that would, among other things, amend the Fair Labor Standards Act (FLSA) to require employers to keep records on and notify workers of their employment or independent contractor classification and their right to challenge that classification.

Photo credit:   SchulteProductions