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Worker Classification is still an IRS Priority



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The stakes can be very high for employers in this situation.  IRS is seeking back payroll taxes from employers that wrongly treat workers as contractors and not employees.  Unreported or under-reported payroll taxes make up a big chunk of the overall federal “tax gap”….to the tune of around $119B for 2022.

 

The IRS uses 3 tests to classify workers:

1)    The behavioral test looks at whether the firm controls or has the right to control the worker’s job.

2)    The financial test looks at who controls the economics of the worker’s job.

3)    The Type-of-relationship test examines how the parties perceive each other. 

 

Each of these 3 tests is made up of multiple factors, around 20 in total.

 

Sometimes the IRS is prohibited from reclassifying contractors as employees.  This happens when the business qualifies for Section 530 relief, a provision in a 1978 law.  The business must have at all times treated similarly situated workers as contractors AND filed 1099s for the disputed workers.  In addition, the company must have a reasonable basis for treating them as contractors and not employees.  The reasonable basis standard can be met by relying on a prior court decision or IRS ruling, a no-change employment tax audit, or a long-standing industry practice.

 

The IRS recently issued guidance for firms seeking Section 530 safe-harbor relief.  Among other things, the guidance clarifies the scope of employees covered by relief and explains how firms can meet the reasonable basis rule (Rev Proc 2025-10).

 
 
 

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