Employment Tax Audits - Employee Reclassifications and Section 530 Relief

When your client is facing a possible worker reclassification, practitioners should try utilizing 530 relief for their client. Qualifying for 530 relief will severely limit the amount of employment taxes the IRS can impose on your client. The following is a law analysis section on Section 530 relief:

Section 530(e)(3) of the Revenue Act of 1978, as amended by the Small Business Job Protection Act of 1996, clarifies that the first step in any case involving whether the business has the employment tax obligations of an employer with respect to workers is determining whether the business meets the requirements of section 530. If so, the business will not have an employment tax liability with respect to the workers at issues.

 

Section 530(a)(1) provides, in part, that if, for purposes of employment taxes, the taxpayer did not treat an individual as an employee for any period, then for purposes of applying such taxes for such period with respect to the taxpayer, the individual shall be deemed not to be an employee, unless the taxpayer had no reasonable basis for not treating the individual as an employee.

 

This relief applies only if both of the following consistency rules are satisfied: 1) all federal tax returns (including information returns) required to be filed by the taxpayer are timely filed on a basis consistent with the taxpayer's treatment of the individual as not being an employee ("reporting consistency"), and 2) the taxpayer (and any predecessor) has not treated any individual holding a substantially similar position as an employee for purposes of employment taxes for periods beginning after December 31, 1977 ("substantive consistency rule").

 

Section 530(a)(2) sets forth three safe havens in determining whether a taxpayer has a reasonable basis for not treating an individual as an employee. They are reasonable reliance on: (A) judicial precedent, published rulings, technical advice with respect to the taxpayer, or a letter ruling to the taxpayer; (B) a past Internal Revenue Service audit of the taxpayer in which there was no assessment attributable to the treatment (for employment tax purposes) of the individuals holding positions substantially similar to the position held by this individual; or (C) long-standing recognized practice of a significant segment of the industry in which such individual was engaged. A business which fails to meet any of three safe havens may nevertheless be entitled to relief, if the business can demonstrate, in some other manner, any other reasonable basis for not treating the worker as an employee.

 

In Bruecher Foundation Services, Inc. v. U.S. (484 F.Supp.2d 600), a case where the taxpayer’s filed 1099’s two days before the court date, the court held, “taxpayer's filing of its returns only after the IRS challenges the classification of its workers fails to demonstrate the good faith that Congress sought to require by demanding that a taxpayer file the appropriate tax returns. See, e.g. Boles Trucking v. United States, 77 F.3d 236, 239 )8^th Cir. 1996), (identifying legislative intent to protect taxpayers misclassifying workers in “good faith”); Gen Inv. Corp. v. United States, 823 F2d337, 340 (9^th Cir. 1987) (“[w]ithout question, Congress intended to protect employers who exercised good faith in determining whether their workers were employees or independent contractors” ); Cf. Med. Emergency Care Assocs., S.C. v. Comm'r, 120 T.C. 15, (2003) (granting Safe Harbor relief where taxpayer filed untimely information returns but mailed returns before audit commenced). Interpreting a late filing such as Bruecher's as satisfying the filing requirement would thus defeat the purpose of such requirement.”

 

“Individuals… who may not be reclassified are those whom the taxpayer has treated in good faith as independent contractors for employment tax purposes. The taxpayer shall be deemed to have acted in good faith only if all Federal tax returns (including information returns) required to be filed by the taxpayer were filed on a basis consistent with a taxpayer’s treatment of such individuals as independent contractors and the taxpayer treated such individual contractors in reasonable reliance…” S.REP No. 95-1263 at 210 (1978)

 

As such, filing 1099’s must be filed in good faith.

Relevant Citations:

Publication 1976

Free CPE: Foreign Earned Income Exclusion

IRS is putting on CPE on the Foreign Earned Income Exclusion on June 29 at 2 PM eastern. You can register here.

They always put on great presentations.

Hobby Loss Rules - Urology and Airplanes Don't Mix

This is probably one of the most interesting Tax Court cases of the year so far. The taxpayer is a urologist. While he was a licensed doctor, he was also a licensed pilot. Mixing his passions, he formed a company called Air Urology, LLC. This was a rental airplane activity (one that was never advertised to the general public). The activity had several large losses each year in question.


Ultimately, the leasing of the airplane was determined to be not engaged in for profit. If you want a quick break down of the factors for such determination, the court lays them out nicely:

Those factors include: "(1) the manner in which the taxpayer carries on the activity, (2) the expertise of the taxpayer or his advisors, (3) the time and effort expended by the taxpayer in carrying on the activity, (4) the expectation that assets used in the activity may appreciate in value, (5) the success of the taxpayer in carrying on other similar or dissimilar activities, (6) the taxpayer's history of income or losses with respect to the activity, (7) the amount of occasional profits, if any, which are earned, (8) the financial status of the taxpayer, and (9) whether elements of personal pleasure or recreation are involved. Sec. 1.183-2(b), Income Tax Regs. No one factor is determinative."

Where the taxpayer gets really creative is in 2008. In 2008, he decided to group his urology practice and airplane rental together for the purposes of IRC 183 (hobby loss rules). Here, the court looks at three things: (1) are they economically intertwined, (2) the business purposes served by carrying on the undertakings separately or together, and (3) the similarity of the undertakings. The court rules that the urology practice and airplane rental were not connected and could not be grouped.

Two of the best lines from the judge was: the urology practice "did not benefit from Dr. Steinberger's use of the airplane because he could have just as easily driven..." and "When his travel time to the airpark and the time to ready the airplane for flight are added to the stipulated flight times, Dr. Steinberger saved no time by flying to Wellington - in fact it took longer than driving.."

Definitely an interesting case for those who are interested in Hobby Losses.


Relevant Citations:
Steinberger v. Commissioner TC Memo 2016-104

Statute of Limitations - Tax Court

An interesting case just came out on the statute of limitations to file in Tax Court. When the Tax Court is closed or inaccessible on the last date of the statute of limitations, the statute of limitations is extended to the next day (unless the next day is a weekend or holiday)


Relevant Cites:


Guralnik 146 TC 15

Odds of Being Audited - Individuals

For anyone who has not looked through the IRS Data Book, I highly recommend it. It is packed with a ton of information.





As you can see, for 2014 of all the returns filed (192,000,000) only 0.7% were actually audited. However, actual audit chances are based on where your income is for the year. This table is from the IRS Data Book. The first column represents a persons adjusted gross income. The second column is how many returns were filed in that group divided by total returns filed. The last column shows how many returns were audited in that group.


So, if you had $10,000,000 or more of adjusted gross income, the IRS audited 34.69 percent of your group. The $50,000 to $70,000 group had the lowest chance of being selected at just 0.47 percent.


It is interesting to see such a high coverage on people who had no adjusted gross income.

All returns [4]	100.00	0.84
No adjusted gross income [5]	1.76	3.78
$1 under $25,000	38.51	1.01
$25,000 under $50,000	23.23	0.50
$50,000 under $75,000	13.13	0.47
$75,000 under $100,000	8.42	0.49
$100,000 under $200,000	11.15	0.64
$200,000 under $500,000	3.08	1.54
$500,000 under $1,000,000	0.48	3.81
$1,000,000 under $5,000,000	0.21	8.42
$5,000,000 under $10,000,000	0.01	19.44
$10,000,000 or more	0.01	34.69

Do You Have a TEFRA Partnership

TEFRA (named after the Tax Equity and Fiscal Responsibility Act) deals with larger partnerships. If you have a partnership that is a TEFRA partnership, you need to appoint a Tax Matters Partner and the partnership will fall under the "strange" TEFRA audit rules
** Note - If you do not have a TEFRA partnership, you do not appoint a Tax Matters Partner.
The Internal Revenue Code calls a non-TEFRA partnership, a small partnership. This means the partnership has less than 11 partners. If at any time during the year, the partnership has more than 10 partners, then the partnership is a TEFRA partnership.
If the partnership has 10 or fewer partners, it can still be a TEFRA partnership if any of the following are partners:

• Partnership;
• Limited liability Company (LLC) which files a Form 1065 or is treated as a disregarded entity (see Revenue Ruling 2004-88) for federal tax purposes;
• Trust (any type, including Grantor Trusts and grantor type trusts, even if the Schedule K-1 contains the SSN of the grantor);
• Nominee;
• Nonresident alien individual; or
• S corporation.

If the partnership has 10 or fewer partners, and does not have any of the above as a partner, it is a small partnership unless it filed Form 8893 to elect to be treated as a TEFRA partnership. This form, if filed, should become part of your client's permanent file.

We will go into the more complicated TEFRA audit rules later. Keep in mind, TEFRA is going away in two years, but the determination of if a partnership is a small partnership will still matter for the new partnership audit rules.

Relevant Citations:

Partnership Audit Technique Guide

Form 8893

IRS FOIA Request Locations

I have been getting questions the last couple of days on where to send a Freedom of Information Act (FOIA) Request to the IRS. The IRS has two addresses to send the request to depending on the type of documents you need.


If you need information from IRS Headquarters, that is not in the electronic reading room yet, then send the request to:
Fax: 877-807-9215
Mail: IRS FOIA Request
HQ FOIA
Stop 211
PO Box 621506
Atlanta, GA 30362-3006


If you want your own records or your client's records, send the request to:
Fax: 877-891-6035
Mail: IRS FOIA Request
Stop 93A
Post Office Box 621506
Atlanta GA 30362-3006


That IRS has put together a great source for FOIA requests here.