The IRS will sometimes offer grace to businesses that have misclassified employees as independent contractors. They do this through the Voluntary Classification Settlement Program (VCSP).
Businesses that voluntarily admit to worker misclassification will pay 10 percent of their payroll tax liability due for the most recent tax year. Participating employers are not responsible for interest or penalties on the tax liability. Also, they are not audited for the worker’s classification in previous years.
Why was VCSP created?
Worker misclassification is rampant. VCSP is part of an IRS effort to crack down on worker misclassification. The IRS is also collaborating with the U.S. Department of Labor (DOL) and several states to share information.
When a worker is classified as an independent contractor, a company issues a year-end 1099-MISC showing the amount paid. The business does not pay anything toward the worker’s Social Security and Medicare taxes. The business also does not withhold the worker’s share of payroll taxes from their wages. Contractors are responsible for paying their own taxes on their income.
Contractors are not covered by the company’s insurance for workers’ compensation or unemployment. When a worker is classified as an independent contractor vs. employee, they miss out on important benefits.
Who is eligible?
You could be eligible to participate in the VCSP if you want to voluntarily change the classification of your workers from independent contractors to employees. The workers you want to reclassify must have been consistently treated as contractors, and you must have completed all 1099s for the previous three years.
You cannot participate if you are currently under employment audit by the IRS. Businesses being audited by the IRS are eligible to participate as long as it is not an employment tax audit.
In addition, you cannot currently be under audit for worker classification by the DOL or by a state government agency. If the IRS or DOL audited you for worker classification in the past, you may still be eligible if you complied with the results of the audit.
How can I participate?
If you are interested in participating in the program, fill out Form 8952, Application for Voluntary Classification Settlement Program, at least 60 days before you intend to start treating the workers as employees. Once you submit the application, the IRS will review it and contact you about your acceptance to the program.
Employers that are accepted into the VCSP will sign a closing agreement. This agreement means:
- you will treat the workers as employees for all future taxes,
- you will pay 10 percent of the employment taxes that would be due on the wages you paid to the workers,
- you will not be liable for interest or penalties on what you pay,
- and you will not be under employment tax audit for previous years.
You will pay in full all money you owe under the VCSP when you sign and return the closing agreement. You will use Form 8952 to calculate how much you owe.
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This article was updated on 10/7/2015 from its original publish date of 9/23/2011.