The freelance or 1099 or gig economy means a lot more people work as contractors rather than employees. The tax and non-tax federal and state laws have never been sufficient for easily distinguishing between these two types of workers. The consequences for getting it wrong are costly for both the employer and worker. Employers face payroll taxes, penalties and interest for misclassifying employees as contractors. Starting in 2015, some of these employers will also have exposure to the employer mandate which can be a penalty of $2,080 per full-time employee, assuming at least one full-time employee claims the premium tax credit. Employers also have risks of disqualified benefit plans for misclassifying workers.
The new group of workers we seem to hear most about are Uber and Lyft drivers. There is also litigation going on for these companies regarding application of labor laws to the workers. (See my June 20, 2015 post for more and links to District Court decisions that are still in litigation today.) Another complication in these cases, I think, is exactly what type of businesses Uber and Lyft are. They claim they are network platforms that merely connect drivers and riders. But, they don't seem to be like the Yellow Pages or eBay. These companies set the prices, Uber denies tips, they offer incentives to get new drivers and passengers, and state laws require them to do background checks and provide insurance. I saw an ad for a tax analyst for one of these companies a few months ago which made it sound like a transportation provider rather than a matchmaker. It will be interesting to see what the federal court says in 2016. And, while these are labor law cases at the moment, I suspect the IRS will take a look (it may be doing so already) and given similar classification schemes, will find a similar conclusion. If that conclusion is employee rather than contractor, for these two companies, I don't see any way they can avoid a significant "assessable payment" under Section 4980H(a) for not offering coverage to all of their full-time employees and their dependents up to age 26. Employers do not (cannot) offer health coverage to contractors. And, given the income range of many of the drivers, it's a good bet that at least one (likely many), obtained a premium tax credit.
Briefly, there are two ways the Section 4980H penalty becomes relevant in the worker classification tax issue today:
First, an employer thinks it is not an "applicable large employer" (ALE) so doesn't worry about the penalty. But, it turns out that one ore more of its contactors who work on average 30 or more hours per week per month is really an employee. Now, counting these misclassified workers (whether full-time or part-time), the employer finds that in its base year, it had 50 ore more full-time and full-time equivalent employees and is an ALE, potentially subject to the Section 4980H assessable payment.
Second, the employer already knows it is an ALE. If it has enough full-time misclassified workers, it might find that it did not offer coverage to at least 95% of its full-time employees and their dependents up to age 26 and so has exposure to the Section 4980H(a) penalty if at least one full-time employee claims the premium tax credit. The penalty is $2,080 per full-time employee, calculated on a monthly basis (so 1/12 of this amount for each month there is a violation). For a large company, this can be quite a large, non-deductible penalty.
Will Congress step in and provide some clarification? Why not do what was done for direct sellers and real estate agents years ago and statutorily make these freelancers contractors (non-employees per Section 3508)? Why not also change non-tax laws to make the workers eligible for more safety net provisions? I'll have more on this in 2016 - for both state and federal law significance). I think worker classification is an area definitely in need of and capable of being moved into the 21st century (long overdue).
My complete list of ten news and activities of 2015 with tax policy relevance (no ranking involved):
1. Congress can alter our tax system via a lot of non-tax bills - here
2. IRS funding challenges - here
3. Justice Kennedy called for a review of the 1992 Quill decision - here
4. IRS disagreeing with a court decision via a proposed regulation - here
5. Why not let the Internet Tax Freedom Act just expire - here
6. A growing amount of non-binding "guidance" from the IRS - here
7. Due date changes starting for 2016 returns to improve tax administration - here
8. BEPS - base erosion and profit shifting - here
9. Tax issues in the sharing economy and reality that they can be simplified - here
10. Worker classification in the freelance/1099/gig economy - above.
Happy New Year! What do you think?
