Worker classification is an ongoing issue that affects accountants and their clients.

Misclassification of workers can mean not only that your client is liable for back payroll taxes, but it can also generate professional liability claims against the accountant.

“Many times accountants are not familiar with the independent contractor/employee distinctions, and the IRS comes in or the Department of Labor or Workers Compensation board comes in and says they’re employees, not independent contractors,” said John Raspante, senior vice president and director of risk management for NAPLIA, the North American Professional Liability Insurance Agency.

“The rules are complex,” said Raspante. “And they are subject to multiple review—the IRS, the DOL [Department of Labor] or the state workers compensation board can dispute the status of a worker. The IRS is very successful in these types of examinations. It’s very common for them to reclassify independent contractors as employees, and the claim that arises can be very material.”

“It’s more of a legal question, but practitioners get roped into making decisions or calculations,” said Randi Werner, a loss prevention executive at Camico. “If they get it wrong, it can be very costly.”

Moreover, the distinction as to whether an individual is an employee is crucial in the application of the Affordable Care Act rules, since a non-employee may be excluded, according to Knoxville, Tenn.-based CPA Edgar Gee.

Generally, under common law principles a person is an employee if he or she is subject to another’s right to control the manner and means of performing the work, while independent contractors obtain customers on their own to provide services to and are not subject to control over the manner by which they perform their services. To simplify the common law tests, the IRS provided 20 factors that help to determine the degree of control in a worker relationship. In 2001 the IRS compressed these into three categories, but none of these provide a definitive test as to whether a particular worker is an employee or independent contractor.

TEFRA (Tax Equity and Fiscal Responsibility Act of 1982) added Code Section 3508, which provides some certainty for two classes of workers—licensed real estate agents and direct sellers. These are treated for federal income and employment tax purposes as self-employed persons “where substantially all the remuneration paid for their services as real estate agents or direct sellers is directly related to sales or other output and where such services are performed pursuant to a written contract providing that they will not be treated as employees for federal tax purposes,” according to the Conference Agreement.

“Courts have interpreted this liberally and in a very taxpayer-friendly manner,” said Gee. “It can’t be a permanent retail establishment, but every other kind of sales is covered, including outside sales, delivery people working on commission or performance-based, and messengers—basically anyone selling tangible or intangible products or services.”

“The significance of this law is that virtually all states have similar, if not identical, statutes for state purposes,” said Gee. “For example, California adopted the same statute in 1983, the first year after it became federal law.”

Moreover, many states have subsumed other occupations within the statutory exemptions, Gee indicated.

“Fishermen and harvesters—fruit and vegetable pickers—are considered direct sellers, and therefore independent contractors under California law,” said Willis Jackson, a Knoxville, Tenn.-based attorney. Together, Jackson and Gee have litigated classification cases—and won—in numerous states.

“Because of the way the definitions and calculations are made are determined under the Affordable Care Act, it’s absolutely essential that independent contractors be determined to be so,” Gee said.

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