The Minnesota Department of Revenue recently launched a limited pilot program to allow businesses to convert workers from independent contractors to employees with reduced consequences for Minnesota withholding tax. This program is known as the Worker Classification Voluntary Compliance Initiative and is currently available only through December 16, 2011.

The Department’s pilot program will closely follow the qualification and application process of the Voluntary Classification Settlement Program (VCSP) recently announced by the Internal Revenue Service and discussed is the preceding blog article.

To qualify for the state program, the business must meet all of the eligibility requirements for the VCSP (See Form 8952 and the previous article in this blog). The business must also:

1. be an active business with Minnesota employees;
2. agree to register for Minnesota withholding tax (if not registered);
3. furnish information identifying the misclassified workers and the compensation paid to each worker;
4. pay a tax at the rate of 3% of compensation [wages] paid to the affected workers for the calendar year 2010;
5. agree to treat all workers in the affected classes as employees beginning January 1, 2012 and for all periods thereafter, unless the relationship between the worker and the employer changes; and,
6. upon request from the Department of Revenue, make records available for audit to verify the tax liability and the accuracy of any statements.

The benefits to the business include:

1. Avoiding all penalties and interest.
2. Limiting the tax obligations for past tax periods.
3. Eliminating the risk that the Department may assess tax for a minimum of 3½ years or longer if Minnesota withholding tax returns have not been filed.
4. Avoiding an audit.

To participate, the business must complete and submit Internal Revenue Service Form 8952, with a cover letter indicating that the business wants to apply for the Minnesota Voluntary Compliance Initiative. The business must write across the top of the form, Minnesota Worker Classification Voluntary Compliance Initiative The business must also attach a worksheet to show its calculation of the amount due Minnesota, as follows:

1. Calendar year 2010 compensation paid to all classes of workers to be reclassified (from Line 18, Column C of federal form 8952).
2. Compensation from Line 1 paid for work performed by Minnesota residents or work performed in Minnesota by nonresidents.
3. Multiply the amount of Line 2 by 3 percent (.03). This is the Minnesota VCI payment.

WARNING! As explained in the preceding blog article, converting independent contractors to employees can have significant implications far beyond the taxes owed to the IRS and the Department of Revenue. Please carefully review the impact this conversion with have on the business’ obligations under all of the laws concerning employees. Some of these laws are listed in the preceding blog article.

For more information about the state program, contact: Voluntary Compliance Program, Attn: Jessica Swanson, Minnesota Department of Revenue, Mail Station 6501, St. Paul, MN 55146-6501. Phone: (651) 556-4034. Fax: (651)556-5152. Email: jessica.l.swanson@state.mn.us

Many companies are struggling with the problem of determining how to properly classify their workers. Are they employees or independent contractors? As explained in earlier articles, the IRS has been motivated for a variety of reasons to reclassify independent contractors as employees. Businesses have been reluctant o reclassify their workers because of the significant costs of treating them as employees. One of those costs is the additional back taxes that may be owed to the IRS.

On September 21, 2011, the Internal Revenue Service announced a new program that will enable many businesses to resolve past worker classification issues and avoid significant obligations to the IRS. This new program, the Voluntary Classification Settlement Program (VCSP), will allow businesses to convert their workers to employees by making a minimal payment covering past payroll tax obligations rather than waiting for an IRS audit.

Eligible businesses can obtain substantial relief from federal payroll taxes they may have owed for the past, if they prospectively treat workers as employees. The VCSP is available to many businesses, tax-exempt organizations and government entities that currently erroneously treat their workers or a class or group of workers as nonemployees or independent contractors, and now want to correctly treat these workers as employees.

To be eligible, the business must:

1. Consistently have treated the workers in the past as nonemployees;

2. Filed all required Forms 1099 for the workers for the previous three years;

3. Not currently be under audit by the IRS;

4. Not currently be under audit by the Department of Labor or a state agency concerning the classification of these workers.

Interested businesses can apply for the program by filing Form 8952, Application for Voluntary Classification Settlement Program, at least 60 days before they want to begin treating the workers as employees.

Businesses participating in the program will receive the following benefits:

1. Pay an amount effectively equaling just more than one percent of the wages paid to the reclassified workers for the past year;

2. Pay no interest or penalties;

3. Not be audited on payroll taxes related to these workers for prior years.

Businesses will also be subject to additional obligations. For the first three years under the program, the business will be subject to a special six-year statute of limitations, rather than the usual three years that generally applies to payroll taxes.

WARNING! The IRS is only one of the many federal and state agencies that care about how a business classifies its workers. This agreement is only with the IRS. By reclassifying its workers as employees, the business is also potentially exposing itself to additional liabilities under other laws and with other federal and state agencies:

1. Employee Retirement and Income Security Act (ERISA) administered by the Pension Benefit Guarantee Corporation

2. Fair Labor Standards Act (FLSA) administered by the Wage and Hour Division of the U.S. Department of Labor

3. National Labor Relations Act (NLRA) administered by the National Labor Relations Board

4. Title VII (Civil Rights Act) administered by the Equal Employment Opportunity Commission

5. Age Discrimination and Employment Act of 1967 (ADEA) administered by the Wage and Hour Division of the U.S. Department of Labor

6. Americans with Disabilities Act (ADA) administered by the Equal Employment Opportunity Commission

7. Federal Tort Claims Act

8. Genetic Information Nondiscrimination Act of 2008 (GINA) administered by the Equal Employment Opportunity Commission

9. Minnesota Workers’ Compensation Act administered by the Minnesota Department of Labor and Industry

10. Minnesota State Unemployment Compensation administered by the Minnesota Department of Employment and Economic Development

11. Minnesota Fair Labor Standards Act administered by the Minnesota Department of Labor and Industry

12. Minnesota Income Tax Withholding administered by the Minnesota Department of Revenue.

Before participating in the IRS program, thoroughly discuss the full impact of this reclassification with your attorney.

For details about the IRS VCSP, including FAQs, go to the IRS VCSP FAQs and Announcement 2011-64.

This is the tenth post in the Independent Contractor/Employee series. This series is dedicated to presenting individuals, sole proprietorships, and small to large businesses with a basic understanding of independent contractor issues.

Under the Classification Settlement Program (CSP), IRS examiners will offer worker classification settlements to taxpayers under examination using a standard closing agreement developed in the IRS National Office. Generally, these closing agreements will provide businesses that filed Forms 1099, but do not meet all the requirements of Section 530, with an opportunity to reclassify workers prospectively, combined with a specified tax assessment not exceeding one year’s tax liability.

The amount of the tax assessments made under the standard closing agreements will depend on the extent to which the taxpayer has satisfied the requirements of Section 530. For example, in general, the IRS will not assess a business for more than one year’s liability when the business has complied with information reporting requirements, but does not meet any of the other Section 530 requirements. A business that has come closer to meeting all Section 530 requirements would have a smaller tax assessment. By contrast, under the usual IRS examination procedures, a business would generally have a tax assessment for all open tax years.

Taxpayer participation in the CSP will be entirely voluntary, and a taxpayer may accept a CSP settlement offer at any time during the examination process. A taxpayer’s rejection of a CSP offer will in no way affect the outcome of the examination. Moreover, a taxpayer declining to accept a settlement offer under the CSP will retain all rights to administrative appeal that exist under the IRS’ current policies and procedures.

This is the ninth post in the Independent Contractor/Employee series. This series is dedicated to presenting individuals, sole proprietorships, and small to large businesses with a basic understanding of independent contractor issues.

To protect businesses from the effects of worker reclassification, Congress enacted Section 530 of the Revenue Act of 1978. Right to receive Section 530 relief is not dependent on common law employee status of workers.

When requesting Section 530 Safe Harbor status for an employer, consider the following information:

1. The Internal Revenue Service must provide a written notice of the Section 530 provisions before a worker reclassification audit.
2. Taxpayers may rely on past audits only if the audit covered specific employee/ independent contractor issues.
3. If a taxpayer establishes a prima facie case that it meets the substantive and reporting consistency requirements and one of the reasonable basis safe harbors, and the taxpayer has fully cooperated with reasonable requests from the IRS, then the burden of proof with respect to Section 530 relief shifts to the IRS.
4. Later treatment of worker as employee is permissible. The taxpayer may treat an individual who he or she has been treating as an independent contractor for prior years as an employee for more recent years without losing his or her ability to apply Section 530 to the earlier independent contractor status.

This is the eighth post in the Independent Contractor/Employee series. This series is dedicated to presenting individuals, sole proprietorships, and small to large businesses with a basic understanding of independent contractor issues.

To protect businesses from the effects of worker reclassification, Congress enacted Section 530 of the Revenue Act of 1978. Right to receive Section 530 relief is not dependent on common law employee status of workers.

A business can avoid reclassification if it meets the requirements of Section 530, as follows:

1. Has the business treated the individual or any other individual holding a substantially similar position as an employee during the period under examination or prior period? If yes, Section 530 does not apply.

2. Were all federal tax returns (including informational returns) required to be filed for the period under examination by the business, with respect to the individual, filed on a basis consistent with treating the individual as an employee? If no, Section 530 does not apply. If yes, and the answer to any of the following questions is yes, Section 530 may apply.

a. Is there judicial precedent or published ruling under which the individual may reasonably be considered as not being an employee?

b. Has technical advice or other determination been issued with respect to the business indicating the individual should not be treated as an employee?

c. Does the business have a letter ruling indicating the individual should not be treated as an employee?

d. Was there a prior examination for a period in which the business employed the individual in question and employment taxes were not an issue?

e. Is it a long-standing recognized practice of a significant segment of the industry to treat such individuals as not being employees?

f. Did the business have any other reasonable basis for treating the individual as no being an employee?

Determining whether a position is “substantially similar” to a position held by another individual who has been classified as an employee must include a consideration of the relationship between the taxpayer and those individuals, not just a comparison of the workers’ jobs.

The term “long standing practice” may not be construed as requiring that the practice must have continued for more than ten years. An industry practice in existence for a shorter period may still be considered long standing depending upon the facts of the case.

The term “significant segment” may not be construed to require a reasonable showing of the practice of more than 25 percent of the industry, without taking into account the taxpayer. This is merely a safe harbor, a lower percentage may still be a significant segment of the taxpayer’s industry depending upon the facts of the case.