Senate Bill Would Crack Down on Employers Who Misclassify Workers to Avoid Payroll Taxes

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A new proposal in the Senate would crack down on employers who misclassify workers as independent contractors to avoid paying federal payroll taxes. Low-income workers who are not knowledgeable about the tax rules can be classified as independent contractors and not realize that this means they must pay both the employer portion and the employee portion of federal payroll taxes to the IRS on their own.

Anecdotal accounts from volunteer tax preparers who help low-income families file for the EITC indicate that they have had to tell some people in this situation that they actually owe a huge amount of payroll taxes that they had not planned for. When these workers do not or are not able to make the payment, this results in reduced taxes being paid into Social Security and Medicare. The Government Accountability Office has estimated that the cost each year is at least several billion dollars in lost revenues.

The proposal would reform the current rules, which provide a "safe harbor" that lets employers who misclassify workers as independent contractors continue doing so if they had a "reasonable basis" for the classification. Under current law, the reasonable basis can be that the practice is widespread in the particular industry, meaning that construction companies can misclassify workers because so many other construction companies do the same. The misclassification can also lead to the denial of other workers' rights and benefits as well as employer-provided health benefits and pension benefits.

The bill (S. 2044) would bar employers from using this "reasonable basis" argument and would allow the IRS to tell employers to reclassify workers in this situation. The bill is sponsored by Senators Barack Obama (D-IL), Edward Kennedy (D-MA), Richard Durbin (D-IL), and Patty Murray (D-WA).

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