In the Corporate Shell Game, You Just Might Lose

Posted by Dave Putt

As our senior management representative handling new customer implementations, I’m privy to some of the best facial expressions business executives have to offer.

A few weeks ago, I visited a new customer to begin implementing our Independent Contractor Compliance services, which included a review of their historic Independent Contractor processes. By their own admission, they knew their process for handing Sole Proprietors (1099s) was not good, and full of tax reclassification risk. However, they heartened themselves by suggesting they knew that they were safe if the independent contractor was incorporated. They candidly admitted that they didn’t even register the size of any incorporated supplier in any manner: revenue, headcount, or number of customers. In effect, they treated Joe Just Me Consulting Inc. the same as Accenture.

The pained Munchian visages begin when I countered that there is as much risk in those small corporations as there is in the 1099s. I indicated that JJMC likely has no employees and “subcontracts” Joe the worker as a 1099. In this scenario JJMC doesn’t carry Workers Compensation insurance as it has no employees. Joe may also not carry health insurance, but may become interested in yours if he gets sick. Even if Joe pays himself as a W-2 employee, he likely draws a very low salary but enjoys a large dividend check from time to time: a classic method for bypassing Social Security taxes. Did you really think a $99 Legalzoom incorporation special would solve all your co-employment and reclassification risk problems? The IRS and other tax and labor enforcement agencies pay little attention to a corporate “shell” – they are interested in the substance of a relationship. To the dismay of many corporate tax departments, the IRS now deftly pierces these lightly veiled corporations during audits, so take care: when it comes to independent contractor compliance, you might just lose the “corporate shell” game.

Now, with a rigorous independent contractor compliance program in place for the client, we’ll be breaking down these constructs to remove any latent risks. The program will be a flagship for best-in-class compliance. We expect that the customer can relax some overused facial muscles very soon.


Tags: reclassification, risk, 1099, sole proprietor, independent contractor, compliance