There are currently over 60 federal agencies employing over 130,000 government workers with combined budgets in excess of $20 billion, which is ten times higher than the 1960 federal regulatory agency budget. To complicate matters there are over 3,000 federal, state and local jurisdictions which can impact enforcement of these rules and regulations — and in many cases their overlapping authority can result in confusion amongst agencies and taxpayers.
The estimated cost burden to U.S. businesses to comply with the never-ending government regulations is approximately $750 billion. For larger companies with more than 500 employees, this burden financial burden works out to approximately $5,000 per employee — and can exceed $8,000 for businesses in more heavily regulated industries. For industry-specific regulatory compliance costs, please refer to: “Impact of Regulatory Costs.”
The trend in federal and state government regulation has been increasing over the past few decades, but has taken a sharp upturn in the last two years. The BP Gulf Oil disaster and the Arizona immigration controversy will likely result in even more worker scrutiny and regulatory focus — particularly for certain industries.
According to Kim Statham, senior district manager of ADP Payroll Services in Southern California, “There is a new sheriff in town and President Obama has his eye on every U.S. employer.”
One of the main focuses of the Obama Administration is federal compliance — particularly with respect to employers properly documenting employee paperwork.
This shift in focus can represent a major problem for companies that have been lax in complying with the myriad of federal and state employment laws. In the past the individual employees were being targeted by the federal and state governments, but now we are seeing a dramatic shift in the federal focus towards employers.
Specifically, ADP and other professional service providers are seeing the following agency trends:
A. Increase in Federal and State Tax Audits. such audits are on the rise due to the ballooning federal and state tax deficits. This includes increases in income, franchise, payroll, sales-and-use tax audits, excise and property tax audits.
B. Immigration and Customs Enforcement (ICE). Targeting business owners. There are major fines and possible jail time for employers that do not have a completed employment eligibility verification forms (Form I-9) in their files or are viewed as having a pattern of hiring undocumented workers.
C. Employee vs. Independent Contractor Status. Since improper classifications can impact payroll tax liabilities, qualified plan eligibility and eligibility for other employee benefits, including healthcare insurance and federal unemployment benefits, the Feds are taking a close look at employee classification.
Therefore, it is recommended that employers carefully review their human resources procedures including documentation processes to expedite the audit process and minimize penalty exposure.
Following are more detailed discussions regarding the areas of regulatory focus:
Federal and State Tax Audits
The well publicized billions of dollars of federal and state “tax gaps” associated with under-reported income, overstated expenses and other business and individual compliance, has resulted in federal, state and local tax authorities dramatically increasing their audit activities. See previous Tax Gap article.
Since they view a well designed and aggressive audit effort as a profit center, states are increasing the number of auditors and collection agents. The federal administration views income tax audits in the same way and is planning on hiring over 20,000 new auditors — just to focus on the pending Healthcare Act compliance. The Department of Labor is also adding over 350 employees to audit wage and hour violations, child labor complaints and employee classification status.
Due to the fall off in business profits and a shrinking of income tax collections, the government agencies are stepping up efforts in areas where the tax base is tied to gross revenue — such as excise taxes, sales tax, etc.
Over the past few years, California has initiated an aggressive business and CPA education effort to ensure that taxpayers understand the full scope of sales and use tax reporting.
Particularly with the federal auditors, we are seeing more aggressive imposition of penalties — particularly in the international area.
Retirement plan reporting (Form 5500) is also receiving additional scrutiny and penalties can be significant for late or incomplete filings.
Businesses are required to have completed Form I-9 for every employee hired after November 6, 1986. It is essential that both the employee and the representative of the employer are careful as they complete the I-9 form. Management should make sure to fully educate human resources and others responsible for implementing the I-9 completion process.
Employers who are found to have knowingly hired or continued to employ ineligible workers may be fined and in certain circumstances be prosecuted criminally. Monetary penalties range from $375 to $16,000 per violation. There are also penalties for failing to produce a Form I-9 when audited, from $110 to $1,100 per violation. The factors that are considered in imposing the penalties are: size of the business, good faith effort to comply, seriousness of the violation, whether the violations involved unauthorized workers and history of previous violations.
Independent Contractor (1099) vs. Employee (W-2) Classification
Proper classification of workers has been an issue for businesses and tax authorities as well as unemployment agencies for decades. This problem is exacerbated by a number of current factors, including the huge number of unemployed workers in the U.S. and the trend of employers and workers opting for temporary arrangement to minimize costs, legal exposure and commitment.
Unwinding an improperly classified worker for tax collection and reporting, unemployment, healthcare/life insurance and/or qualified plan eligibility can create a major nightmare for the employer, as well as the worker.
Significant tax and regulatory exposure can materialize from misclassifications in which most employers prefer to classify workers as independent contractors to minimize labor costs and regulatory reporting. Employers may in fact be better off classifying the worker as a W-2 employee when the employee may be eligible to generate employer hiring credits or Research & Development credits because these are generally only available for W-2 employees of the taxpayer.
The IRS has provided guidelines for employers over recent years to determine the proper classification of workers as either Independent Contractors or Employees. IRS Announcement FS-2007-27 (December 2007) provides a general overview and various links to applicable IRS forms and other resources. IRS Publication 15-A (PDF) provides more in-depth information on specific fact patterns and industry issues.
For additional worker tax reporting issues, including for partners, please see Cash and Non-Cash Compensation.
With the high unemployment rates, continuing layoff trends, added stress and demands on retained workforces, employers should be aware that Equal Employment Opportunity Commission (EEOC) lawsuits were at record levels with over 93,000 EEOC actions occurring in 2009. Unlike statistics a few years ago, over half of these actions were against small and mid-sized employers.
To mitigate exposure to a variety of legal actions, employers should ensure that all employee evaluations occur consistent with company policies and all employment records are updated in a timely manner.
The impact of any workforce reductions (as well as employee replacements/workforce expansions) must be fully evaluated in advance of employee notification to minimize any exposure associated with EEOC and other federal and state provisions.
Since non-compliance costs can be very expensive and in extreme cases can even force businesses into bankruptcy, taxpayers must shore up their internal infrastructure to deal with the complex reporting and compliance issues or evaluate outsourcing certain aspects of their compliance to their payroll providers or other specialty firms.
Legal counsel should be consulted in most cases to avoid the significant financial and, in some cases, criminal exposure.
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