The IRS earlier this week temporarily expanded the Voluntary Classification Settlement Program (VCSP), which was the subject of a prior post, to permit taxpayers who do not meet all of the conditions for the original Program to reclassify independent contractors as employees for federal employment tax purposes. The expanded program (the “VCSP Temporary Eligibility Expansion”) is available through June 30, 2013.
Who is Eligible for the Expanded VCSP?
The VCSP Temporary Eligibility Expansion is available to taxpayers who meet all of the conditions to participate in the original VCSP, except that they have not previously filed all required Forms 1099 consistent with non-employee treatment for workers proposed for reclassification. The other eligibility conditions include the following:
- The taxpayer must have consistently treated the workers as non-employees.
- Neither the taxpayer nor any other member of its affiliated group is currently under employment tax audit by the IRS.
- If the taxpayer was previously audited by the IRS or the Department of Labor concerning the classification of workers proposed for reclassification, the taxpayer has complied with the results of that audit and is not currently contesting the classification in court.
What are the Initial Costs of Participation in the VCSP?
Whereas the settlement payment under the original VCSP is 10% of the employment tax liability that may have been due on compensation paid to the workers for the most recent tax year, determined under the reduced rates of section 3509 of the Internal Revenue Code, the settlement payment under the VCSP Temporary Eligibility Expansion will be 25% of that amount. In addition, the taxpayer must pay a reduced penalty for unfiled Forms 1099 for the previous three years. As under the original VCSP, the taxpayer is not liable for interest and penalties on the employment tax liability and will not be subject to an employment tax audit with respect to worker classification of the class or classes of reclassified workers for prior years.
How Does a Taxpayer Apply for the VCSP?
Taxpayers that wish to participate in the VCSP Temporary Eligibility Expansion must submit an application on or before June 30, 2013 using IRS Form 8952, with the phrase “VCSP Temporary Eligibility Expansion” inserted at the top of the Form. The original VCSP Program continues to be available for taxpayers who have timely filed Forms 1099 for workers it seeks to reclassify.
Is the VCSP a Good Alternative?
Business taxpayers who have not filed Forms 1099 for non-employee service providers may consider this reclassification opportunity as an alternative to other strategies to achieve compliance with federal tax laws governing employee classification, including bona fide restructuring of the relationship between service providers and service recipients, the use of a third party employee leasing or staffing company, and voluntary reclassification outside of any government program. Those alternatives can be analyzed using IC Diagnostics ™ and other proprietary compliance tools of Pepper Hamilton’s Independent Contractor Compliance practice. Taxpayers may also be eligible for a safe harbor from liability from employment taxes under section 530 of the Revenue Act of 1978. Additional background on these alternatives can be found in our white paper on minimizing IC misclassification liability.
We continue to hold a number of the same significant reservations about taxpayer participation in this VCSP Temporary Eligibility Expansion as we had about the original VCSP. The two leading concerns are as follows:
- Participation in the VCSP only addresses potential employment tax exposure and does not eliminate potential exposure to other enforcement actions relating to overtime, unemployment taxes, workers compensation, and state and local income taxes.
- There is a risk that participation in the VCSP will lead reclassified workers to believe that they may have been misclassified in the past, and they will then use their reclassification as a reason to assert claims before administrative agencies or in private litigation seeking overtime pay, unpaid employee expenses, and/or employee benefits that would have been available to them if they had been previously misclassified as independent contractors. It should be remembered that the seminal Microsoft case on the collateral consequences of reclassification, which settled for just under $100 million, commenced shortly after Microsoft resolved its employment tax liabilities with the IRS.
Consequently, when weighing the pros and cons of participating in the VCSP Temporary Eligibility Expansion program, business taxpayers should ask: Is it worth the price of admission? And are there better alternatives?