The Senate Tax Bill’s “Clarification” of Independent Contractor Status: Tax and Employment Law Tradeoffs

By: Diane Ring

Shu-Yi Oei and I have been tracking the recent tax reform developments as well as a couple of proposed tax bills that deal with worker classification, information reporting, and tax withholding. Based on a description prepared by the Joint Committee on Taxation, it looks like the Senate Tax Bill is going to include a new safe harbor provision guaranteeing worker classification as an independent contractor and will make changes to independent contractor withholding and information reporting. We posted our analysis of this proposal and its potentially serious implications on TaxProf Blog: The Senate Bill and the Battles Over Worker Classification.

Our main points:

1. Not just tax: This worker classification safe harbor is not just about tax, it will likely have impacts on employment/labor law outcomes and protections as well.

2. Not just gig workers: Based on the Joint Committee description, the proposal is not limited to gig economy workers —anyone who meets the safe harbor requirements (which are pretty easy to satisfy in many cases) can be classified as an independent contractor. This may have the effect of encouraging employers to push workers into work relationships that come within the safe harbor. Or, in certain cases, it may facilitate the strategic movement of higher-income workers into independent contractor status — see point 4 below.

3. Unspoken tradeoffs: There are tremendous tradeoffs at stake between the potential tax benefits (e.g., clarity, withholding, above-the-line deductions) and employment/labor law losses (e.g., worker protections such as collective bargaining) for workers coming within the safe harbor.

4. Unforseen interactions with the passthrough rate: One point we did not explore in our TaxProf post: The House and Senate bills both contain different versions of a reduced tax rate on passthroughs (including sole proprietorships). Depending on the specific details of a final reform proposal for the reduced passthrough rate and the worker classification safe harbor, the combination of the two could result in a larger pool of independent contractors trying to fit into the passthrough rate. Of course, the appeal of the passthrough rate would depend on: (a) the tax rate the worker would otherwise face on the income, and (2) the difficulty of qualifying under the new passthrough regime. Both the House and Senate Bills have taken steps to prevent use of their proposed regimes to benefit labor income, but tax policy analysts are already predicting significant tax planning efforts to secure the benefits of a passthrough rate. Obviously, there is still a lot we do not know, but if it becomes easier for a subset of workers to be classified as independent contractors, then this puts more pressure on exactly how the passthrough rate is designed.

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