Increased Payroll Audits for Misclassification of Employees

The frequency of payroll audits has surged over the last five years and businesses are facing increased payroll scrutiny. Most payroll audits have traditionally focused on whether or not a business is misclassifying an employee as an independent contractor, thus avoiding Social Security, Medicare and other payroll taxes. According to an article published last March by the Wall Street Journal,"local businesses misclassify anywhere from 10 percent to more than 60 percent of their workers as independent contractors."

Big Fines from States

Since 2008, states have been springing into action to audit payroll taxes as a way to increase revenue. States are assessing hefty fines for employee misclassification. For example, Colorado passed House Bill 1301, which allows the Colorado Department of Labor and Employment to fine a business up to $5,000 for the first misclassification offense and up to $25,000 for subsequent offenses.

Feds Collaborating with States

The increase in payroll audits has also been intensified by the federal government. The U.S. Department of Labor has issued partnership agreements with California, Connecticut, Hawaii, Illinois, Iowa, Louisiana, Maryland, Massachusetts, Minnesota, Missouri, Montana, Utah and Washington to collaboratively investigate more than 6,000 employers for misclassifying employees. The U.S. Treasury estimates that if all employers were forced to properly classify employees it would result in $8.71 billion in added federal tax revenue over the next decade.

Compliance Help Available

If an employer finds they are misclassifying employees, they can take advantage of a voluntary disclosure program to get in compliance. The IRS is offering a Voluntary Classification Settlement Program (VCSP) that allows employers to reclassify employees while minimizing look back, and waiving penalties and interest. Similar agreements may be negotiated at the state level.

We encourage you to review your classification of employees. A payroll audit can be a very expensive proposition for any employer, and the recent increase in government scrutiny regarding the issue has escalated the likelihood of an audit. Contact your Eide Bailly service provider to learn more.