While there are many reasons I don’t like employee leasing companies, the IRS just added another big one to my list. In a recent IRS Office of Chief Counsel Ruling 20171201F, the IRS ruled that the taxpayer was on the hook for employment taxes that were left unpaid by a Professional Employer Organization, or “PEO” (aka an employee leasing company).
Many small businesses use a PEO to handle all of their payroll, HR, Worker’s Compensation insurance issues, and other matters related to employing staff. Under the structure, all of the company’s “employees” are actually hired by the PEO and then leased back to the taxpayer. Most contracts between a PEO and a taxpayer state that they act in a co-employer relationship.
These PEO contracts also usually state the PEO is responsible for payment of the employment tax liability. However, if the PEO doesn’t pay the employment taxes, the IRS doesn’t simply accept the contract terms and assess liability against the PEO. Rather, the IRS analyzes this issue under Internal Revenue Code Section 3401(d)(1) to determine whether the leased employees are truly “employees” of the taxpayer and not the PEO. In almost all cases, the IRS will rule that the taxpayer is the employer and not the PEO. As a result, ultimate responsibility for the payment of employment taxes is still on the taxpayer. [perfectpullquote align=”left” cite=”” link=”” color=”” class=”” size=””] As a result, ultimate responsibility for the payment of employment taxes is still on the taxpayer.[/perfectpullquote]
The IRS has recognized the problem with this position and it subsequently led to the enactment of the Tax Increase Prevention Act of 2014 (TIPA) that a “certified PEO” would be liable for the employment taxes. The requirements for a certified PEO were released in January of this year and can be found here.
The IRS Chief Counsel office, in ruling that the taxpayer was still the employer of the staff, looked at the language in the contract, the fact that all money used to pay the wages came from the taxpayer, and that if the contract was terminated for any reason the taxpayer was still responsible for the payment of wages, salaries, and employment related taxes. In essence, under this ruling, the PEO was nothing more than a conduit to pay wages and payroll taxes.
While the new IRS position provides some protection for taxpayers who want to use a PEO, the only difference, in my opinion, is that now if there is a dispute you have to deal with the IRS directly, instead of having to deal with the IRS and the PEO as to who is responsible. It does not change the fact that if the PEO does not make the payment, you will be embroiled in some sort of dispute that will be time consuming, stressful, and take away from running your business.
If you have any questions about employee leasing companies or other matters regarding your business give me a call at 248-455-6500 or email me [email protected]
