Converting Employees to Contractors and Anti-Abuse

By Jason Watson, CPA

Posted November 23, 2018

There will be some gaming of the system where employees are asking to be treated as a contractor for the purposes of grabbing the Section 199A deduction. The IRS is wise to the ways of the gamer… Proposed Regulation 1.199A-5(d)(3) reads-

Specifically, proposed § 1.199A–5(d)(3) provides that, solely for purposes of section 199A(d)(1)(B) and the regulations thereunder, an individual who was treated as an employee for Federal employment tax purposes by the person to whom he or she provided services, and who is subsequently treated as other than an employee by such person with regard to the provision of substantially the same services directly or indirectly to the person (or a related person), is presumed to be in the trade or business of performing services as an employee with regard to such services.

This presumption may be rebutted only upon a showing by the individual that, under Federal tax rules, regulations, and principles (including common-law employee classification rules), the individual is performing services in a capacity other than as an employee. This presumption applies regardless of whether the individual provides services directly or indirectly through an entity or entities.

This presumption is solely for purposes of section 199A and does not otherwise change the employment tax classification of the individual. Section 199A is in subtitle A of the Code, and this rule does not apply for purposes of any other subtitle, including subtitle C. Accordingly, this rule does not implicate section 530(b) of the Revenue Act of 1978. Proposed § 1.199A–5(d)(3)(ii) contains three examples illustrating this rule.

So… the whole “hey boss, convert me to a 1099 and pay me less since I will be picking up a smooth 199A deduction. You win. I win.” won’t fly.

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