The Internal Revenue Service does not have the information it needs to ensure that employers are eligible for and comply with the Voluntary Classification Settlement Program, according to a new government report.

The report, from the Treasury Inspector General for Tax Administration, found that the IRS estimates that employers misclassify millions of workers as independent contractors instead of employees. In September 2011, the IRS implemented the Voluntary Classification Settlement Program to allow employers to voluntarily reclassify workers as employees for Federal employment tax purposes. Employers that are accepted into the VCSP enter into a signed agreement with the IRS to treat workers as employees for future tax periods.

TIGTA found that the IRS does not require employers to provide information on the VCSP application that identifies the specific workers who are being reclassified, such as the workers’ names and Social Security numbers. Without the specific worker identification information, the IRS cannot determine if the applicant met VCSP eligibility requirements.

In addition, the IRS is unable to verify the accuracy of the compensation amount reported on the application and, ultimately, the applicant’s computation of the VCSP payment amount owed. Without identifying information for the workers being reclassified, the IRS is also unable to establish an effective process to monitor VCSP agreements to ensure employer compliance.

Finally, the IRS’s processes to track and monitor program applications are ineffective and are not always accurate, and the follow-up review control logs do not always reflect accepted agreements.
TIGTA made five recommendations, including that the IRS require employers applying for the VCSP to provide the names and Social Security numbers for the workers being reclassified, revise internal procedures for processing VCSP applications to evaluate employer eligibility, and ensure that worker compensation and the VCSP payment is accurate.

The IRS should also develop follow-up review processes to ensure compliance with the terms of agreements; develop reporting capabilities to allow for a single system for both tracking inventory and monitoring program performance; and revise its processes to ensure that accepted agreements are successfully sent to and received by the IRS business units responsible for monitoring compliance, TIGTA suggested.

“The classification of whether a worker is an employee or an independent contractor has significant tax implications for the worker, the employer, and the IRS,” said TIGTA Inspector General J. Russell George in a statement. “The IRS must address this important issue.”

IRS management agreed with the recommendations. The IRS plans to revise the VCSP application to instruct employers to provide worker identification information and to revise internal procedures to use this information to evaluate eligibility for the program and compliance with VCSP agreements. The IRS also plans to implement reporting capabilities for the Reporting Compliance Case Management System to allow for a single inventory system for inventory tracking and monitoring program performance. Finally, the IRS indicated that it has developed and implemented internal procedures to ensure that inventory is accurately input and agreements are transferred to the appropriate business units for compliance monitoring.

“We agree that requiring the names and Social Security numbers of the workers the business wants to reclassify will help determine that the application is reasonably accurate and will be useful in evaluating compliance after the agreement is signed,” wrote Karen Schiller, commissioner of the IRS’s Small Business/Self-Employed Division, in response to the report. “However it must be noted that during certain times of the calendar year the most recent Form 1099 information filed by taxpayer/employer is not available. This makes ‘complete accuracy’ in certain respects of the program unattainable.”

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