Clarification of the Voluntary Classification Settlement Program for Employers

Clarification of the Voluntary Classification Settlement Program for employers (Form 8952)

IRS introduced this last year, and I explored how this could affect employers, and whether or not this is a good idea – or an audit trap. [See MarketWatch article.]

The VCSP is for business employers , governments and exempt organizations, who have been treating their workers as independent contractors, incorrectly. This is your opportunity to have IRS agree not to audit you for your past employment tax sins – in exchange for two things:

1. You pay about 1% (yes, that’s ONE percent) of the prior year’s taxes – without any penalties or interest.
2. You agree to treat all your employees AS EMPLOYEES and keep them on payroll for at least the next three years, giving IRS the right to audit each of those three years for 6 years, instead of for 3 years.

Yesterday, we got some answers directly from IRS.

• Can household employers use this amnesty, if they have been issuing 1099s to their home workers?
  • Yes, my sources at IRS verify, if 1099-MISCs are filed, those who hire household workers qualify for this VCSP program!
  • What if an employer’s workers are already approved as non-employers under the Section 530 safe-harbor?
    • They are already protected. No need to participate.
    • One aspect of the eligibility is that you are not currently under audit by any government agency dealing with employment issues. However, a CPA at the meeting revealed that a tax controversy attorney has submitted cases where his clients were under audit. The IRS’s VCSP unit accepted these applications.
      • Why? Because the real goal is to bring employers into compliance. Not having workers on payroll when they should be employees raises so many more problems throughout the entire system (Employment tax issues, the employee’s tax return, Social Security earnings issues, unpaid taxes, etc.), that some managers at IRS are looking at the bigger picture.
      • Suggestion: Since it costs nothing to apply – try – perhaps IRS will accept the application.
    • What about owners of S corporations who have not put themselves on payroll? They would not have had to issue 1099s (they received K-1s instead and did pay taxes on all the S Corp income on Schedule E). Can they participate in VCSP.
      • No. To qualify, you must have issued 1099s to all workers not treated as employees.
      • However, see the note above.  IRS is actively running an audit project to find S corporations with profits where the owner/shareholder is not on payroll. You will be caught soon anyway – and penalized for at least the prior three years. So, what do you have to lose by applying?
    • Any news about partnering with states to participate in this program?
      • No. There are no states on board with this.
      • So, there is a danger that the state will want to look back at the last three years, once the employer suddenly starts putting these people on payroll, after receiving IRS amnesty. Take that into consideration before applying for this program.
    • Will the state be notified about employers who participate?
      • Although IRS sends information to the states when there is an employment audit, this is not an audit. The states will not be receiving information about the employer’s amnesty or   participation in the program.
    • What if the employer doesn’t participate? What happens when they get audited?
      • If audited, they will be assessed 10.68% tax on what should have been their payroll for three-four years PLUS a variety of penalties (10% – 25%) PLUS interest on the taxes and penalties.
      • The state will get a record of the audit – and the state will assess their taxes and penalties.
      • It’s quite likely that IRS will keep watching to make sure they put their employees on payroll for the next couple of years.
      • NEWS! IRS IS increasing their payroll audits…so tax sinners beware!
    • ANSWER TO COME!
    • Starting in 2011 and 2012, companies that pay their freelancers by credit card or PayPal or similar payment systems are not required to send out 10990MISCs for those payments. The freelancers will be getting the 1099-Ks from the banking entities.  How will this affect the requirement to be in compliance for VCSP purposes?
      • Note: If the company sometimes pays by check or cash and sometimes via credit card or PayPal, you still need to issue 1099-MISC for those payments not made via credit card, PayPal, etc.
      • I didn’t think about this question until this morning. So I have just sent it to the Stakeholder Liaison officers. We’ll get an answer by early next week.

TaxMama’s advice?

If you are in business and have been paying people as freelancers, it’s time to sit down with your tax professional and review your payment policies. Have your Tax Pro assess ALL the people you pay as freelancers, not just the ones working for you locally. That means, include your virtual assistants.

Consider your options carefully. If you are breaking the law, perhaps it’s time to comply.

Remember, in order to comply, you must be sending 1099s to your workers. Do so immediately for last year. You may need to wait two more years to fulfill the requirement for 3 years of 1099s.