US Department of Labor and Internal Revenue Service Join Forces to End Employee Misclassification

And you thought that governmental agencies didn’t share information? Think again.

On September 19, 2011, the US Department of Labor (DOL) and the Internal Revenue Service (IRS) signed a Memorandum of Understanding that is intended to improve the agencies’ coordination of efforts to end business practices of misclassifying employees in order to avoid providing employment protections. In addition, labor commissioners and other agency leaders in seven states – Connecticut, Maryland, Massachusetts, Minnesota, Missouri, Utah and Washington – have signed similar memorandums of understanding with the department’s Wage and Hour Division, as well as the Employee Benefits Security Administration, Occupational Safety and Health Administration, Office of Federal Contract Compliance Programs and Office of the Solicitor. The state labor agencies of Hawaii, Illinois and Montana, as well as with New York’s attorney general, have announced plans to sign similar agreements.

Under these memorandums of understanding, the U.S. DOL will now share information and coordinate law enforcement with the IRS and participating states providing an opportunity to “level the playing field for law-abiding employers” and ensuring “that employees receive the protections to which they are entitled under federal and state law.”

These memorandums of understanding arose as part of the DOL’s Misclassification Initiative to prevent, detect, and remedy employee misclassification and also provide an opportunity to “foster, promote and develop the welfare of the wage earners, job seekers and retirees; improve working conditions; advance opportunities for profitable employment; and guarantee work-related benefits and rights.”

Employers have appreciated the advantages of work arrangements with those considered to be independent contractors because these arrangements often allow for cost savings and flexibility.  The “advantages” can be significant, as employers do not pay unemployment insurance taxes, workers’ compensation premiums, or the employer’s portion of Social Security and Medicare taxes for independent contractors.  In addition, these workers generally are not eligible for other benefits such as insurance and retirement benefits and also are not protected by most employment laws and, therefore, typically give up overtime wages, pensions, and protections from unlawful discrimination.   

So, what do the Memorandums of Understanding and the Misclassification Initiative mean for employers? Employers who use independent contractors should be prepared to defend its classification of these workers as independent contractors. Employers may risk exposure to liability for failure to pay minimum wages and [any applicable] unpaid overtime, unpaid payroll and related taxes and withholdings, as well as liquidated damages, fines, penalties and any potential attorneys’ fees and costs. 

The determination of whether a worker is an independent contractor or an employee can be very difficult and may even vary from law to law.  Visit some of the applicable IRS and DOL websites and review the factors for determining an employment relationship and employee or independent contractor status.

In addition, the IRS announced, on September 21, 2011, a new program, the Voluntary Classification Settlement Program (VCSP) designed to permit businesses to voluntarily reclassify workers as employees for employment tax purposes for future tax periods with partial relief from federal employment taxes. To participate in this new voluntary program, the taxpayer must meet certain eligibility requirements, apply to participate in VCSP by filing Form 8952, Application for Voluntary Classification Settlement Program, and enter into a closing agreement with the IRS. 


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