IRS Cracks Down on Worker Status Abuse

The Associated Press has reported that the IRS and many states are cracking down on on the widespread use of the contractor model for workers.    By using the contractor model, the company saves the cost of payroll taxes, workers compensation expenses, and unemployment insurance levies.    The interest in this issue is likely driven by declining tax revenue during the recession as well as pressure by labor unions and competitive businesses that use an employee model. 

In its most recent report on the topic, the Government Accountability Office estimated that employee mis-classification resulted in the underpayment of an estimated $2.72 billion in Social Security taxes, unemployment insurance taxes and federal income taxes in 2006.  The IRS has just begun a 3-year study of the use of contractors.



The progress of this study will be followed closely by the courier, express and postal industry, as the industry is built upon a contract worker model.   Nearly all local couriers and delivery drivers are contractors.  FedEx Ground and FedEx Home both use contractors for local delivery.  The USPS uses contractors for providing its most rural delivery service.   Outside of the courier, express and postal industry, the contractor model is used extensively in construction and information technology.

While the IRS actions will attract the most attention, state level investigations will likely have a greater impact on the industry.  New York State alone investigated 19,200 cases in 2009, a figure 6,900 more than were investigated in the prior 16 months.   Other states and localities have investigated abuse of contractor status as part of money laundering schemes, and abuse of the workers compensation system by employers.

Investigations and prosecutions at the state level provide a populist image for prosecutors seeking political advancement.  Even more importantly, if these investigations and prosecutions raise revenue for the state or locality, the revenue raised can become critical during a time of lower tax revenue.