Joining forces, the U.S. Department of Labor (DOL) and the Internal Revenue Service (IRS) recently announced a Memorandum of Understanding (MOU) to coordinate efforts to resolve employer practices of misclassifying employees as independent contractors. In addition, authorities from 11 states, including New York, Illinois and Washington, have either agreed to the MOU or have agreed to execute separate MOUs with the DOL’s Wage and Hour Division (WHD). At a signing ceremony hosted by the DOL, Secretary of Labor Hilda Solis stated the “message” of their coordinated effort was that these agencies were “standing united to end the practice of misclassifying employees.”
The MOU is one result of a report released by the General Accounting Office (GAO) entitled “Employee Misclassification – Improved Coordination, Outreach and Targeting Could Better Ensure Detection and Prevention.” In its report, the GAO described the impact of misclassifying employees as independent contractors on various factors, including:
As part of its announcement, the IRS unveiled its Voluntary Classification Settlement Program (VCSP), on Sept. 21, 2011, for eligible employers who erroneously classify their employees as independent contractors. Under the VCSP, the IRS will waive part of an employer’s employment tax liability, as well as some interest and penalties, and will exempt the employer from an employment tax audit for misclassified workers in prior years. To qualify, an employer must currently treat misclassified workers as independent contractors, must have filed the proper Form 1099 documents and can not be the target of a classification audit by the WHD or a state agency. What the IRS fails to warn employers, however, is that it will notify the WHD and (possibly relevant state agencies) of the employer’s misclassification practices, thus in all likelihood triggering additional audits and investigations finding backwages due, penalties and other unintended consequences imposed by WHD and other state agencies.
To minimize a company’s entrapment in this independent contractor initiative, an employer should consider the following actions: