Question 13: I know the IRS recently issued some audit guidelines about independent contractors. What are they and what affect do they have?
Answer: The IRS has had its institutional hands tied for years. Congress has forbidden them from writing new regulations dealing with the classification of workers as independent contractors or employees. Meanwhile, their existing Revenue Rulings, like Rev. Rul 87-21 which lays out the "20 factor test," are slipping out of date. Court rulings have recognized factors not included in the 20 factor test (such as the intent of the parties, and the skill of the worker). Business conditions have changed so that some factors are not as relevant as they once were (e.g., with telecommuting a popular option, being able to set your own hours or working at home is not as clear a sign of independent contractor status as it once was).

The audit guidelines address these issues. They reorganize the factors affecting employee status under three categories, behavioral control, economic control, and the relationship of the parties. While the guidelines cannot be cited in court, auditors are supposed to use them in analyzing employment situations.

The analysis in the guidelines is excellent, and they are a good primer for anyone faced with an employment tax audit. However, because they cannot be used in court, ultimately it is the formal published rulings (both administrative and judicial) that control. Cases that have come down after the audit guidelines continue to use the 20 factor test, and continue to rely on factors such as control over hours worked as important, even though those factors are discounted by the guidelines.

Chapter 2 of my new book Who's the Employer? discusses employee status and the audit guidelines at great length. There is a detailed chart comparing the guidelines with the 20 factor test.

Important notice:

Answers are provided as general guidance on the subjects covered in the question and are not provided as legal advice to the questioner or to readers. Any legal issues should be reviewed by your legal counsel to apply the law to the particular facts of this and similar situations.

The law in this area changes frequently. Answers are believed to be correct as of the posting dates shown. The completeness or accuracy of a particular answer may be affected by changes in the law (statutes, regulations, rulings, court decisions, etc.) that occur after the date on which a particular Q&A is posted.