This month, the IRS will begin randomly auditing thousands of businesses with regard to their employment tax compliance. This is the largest IRS employment tax audit initiated in many years. The IRS will be auditing businesses of all types, sizes, and market sectors. If your business is chosen for audit, your records pertaining to employment tax issues will be subject to review by the IRS.
The IRS will focus primarily on four areas: (a) proper classification of a worker as an employee or independent contractor; (b) fringe benefits; (c) executive compensation; and (d) payroll taxes. With stated goals of increasing federal tax revenue and reducing the number of workers that are improperly classified as independent contractors, the IRS will be eager to find non-compliance.
The IRS's primary goal of reducing improperly classified workers carries significant monetary risk to employers. The proper classification of a worker as an employee or independent contractor is very fact sensitive and often not easily determined. Taxpayers that have misclassified a worker as an independent contractor risk significant liability including liability for employment taxes, employee benefits (including qualified plan benefits), and overtime pay that have not been paid or provided as a result of misclassifying a worker as an independent contractor. For instance, the IRS has recently proposed a $14,000,000 assessment of taxes and penalties in a worker misclassification audit.
The IRS audits will also address issues such as (i) the proper reporting of fringe benefits, including provision of company cars and expense reimbursement plans; (ii) executive compensation issues such as understating S corporation executive compensation, golden parachutes, nonqualified deferred compensation arrangements, employee loans, spousal travel, stock based compensation, and 409A compliance with respect to deferred compensation plans; and (iii) payroll tax issues such as deposit and reporting requirements.
As a best practice, employers should periodically conduct internal audits of their employment tax compliance, including those issues highlighted by the IRS as being the focus of its audit initiative. A careful evaluation of such issues will allow an employer to self correct any problem prior to any IRS audit and will assist in fending off an IRS attack in the event of an audit. If such a review is conducted in conjunction with counsel, the internal audit might be shielded from review by the IRS via the attorney-client privilege. Consequently, working with counsel to conduct an internal audit has obvious benefits. Moreover, fixing problems before the IRS knocks on the door demonstrates a business's good-faith effort to comply with the law. With the IRS planned audits beginning now, there is no time like the present to work with counsel on an internal employment law, tax, and employee benefits compliance audit.
If Riker Danzig can help your business review its employment tax compliance, please contact us.
