Many agricultural businesses struggle with the lack of clarity on whether workers should be classified employees or independent contractors.  While the classification factors provide a framework for analysis, the current interpretations by enforcement agencies have become more restrictive toward finding workers to be classified as employees.  The result of misclassification findings can be costly.  If the IRS determines during an audit that workers should have been paid as employees, but were instead paid as independent contractors, the IRS may order the business to pay employment taxes relating to the workers' past compensation in addition to penalties and interest.

The IRS recently announced a new program that permits employers to prospectively reclassify workers from independent contractors to employees for federal employment tax purposes without fear of IRS employment tax audits for prior years. The program is referred to as the Voluntary Classification Settlement Program or VCSP. 

As its name implies, the VCSP is voluntary.  To participate in the program, an employer must meet certain conditions.  First, the employer must have treated the workers consistently as non-employees and must have filed all Forms 1099 for workers at issue during the previous three years.    Second, the employer must not be currently under audit by the IRS, Department of Labor or by any state agency concerning the classification of workers.  Third, if the employer was previously audited concerning the classification of workers, the employer must have complied with the results of that audit.

Under VCSP, the IRS agrees not to audit the employer with respect to classification of workers for prior years.  In return, the taxpayer agrees to change the classification of workers from independent contractor to employee and pay 10 percent of the employment tax liability on compensation paid to the workers during the most recent tax year, computed at reduced rates, without interest or penalties.  While these are generous provisions from the IRS, the potential significant disadvantage of the program is that the employer must agree to extend the period of limitations for assessment of employment taxes by three years for the first, second, and third calendar years after the date the taxpayer agreed to begin treating the workers as employees.  Also, VCSP applies only to IRS liabilities and does not reduce an employer's potential liability in other areas, such as state unemployment. 

To participate in the program, Form 8952, Application for Voluntary Classification Settlement Program, is filed with the IRS.  The IRS will contact the employer and verify eligibility to participate in the program. If the taxpayer's application is accepted, the taxpayer will enter into a closing agreement with IRS to finalize the terms of the VCSP.  The taxpayer will be required to make full and complete payment at the time the closing agreement is executed.

The Voluntary Classification Settlement Program may be a good option for some businesses, however each situation is unique and should be carefully reviewed in light of current enforcement trends.  The first step is to carefully examine the current classification of your workers to determine whether reclassification is necessary.  If you believe the program may benefit you, be sure to understand all aspects of the program and its impact on your business beyond the settlement, including wage and hour issues and future employment tax.