Magazine article The CPA Journal

Considerations in the Classification of Workers

Magazine article The CPA Journal

Considerations in the Classification of Workers

Article excerpt

Schramm Decision Addresses Adjunct Professors

The recent decision in William E. Schramm, et al v. Comm'r (TC Memo 2011-212) concerned the employment status of an adjunct professor at Nova Southeastern University (NSU). In his capacity of adjunct professor, Schramm taught online courses. At issue in the case was Schramm' s attempt to be classified as self-employed (i.e., filing Schedule C). A positive aspect of such status for a worker is the ability to treat work-related business expenses as deductions for adjusted gross income (AGI). A further tax benefit associated with such treatment is that the deduction of expenses on Schedule C can potentially reduce certain other types of taxes. In contrast, were Schramm to be treated as an employee, such expenses would likely be classified as "tier 2" itemized deductions (i.e., subject to the 2% of AGI floor, discussed below).

A Critical Distinction

With respect to employment taxes, employees are subject to withholding of Social Security and FICA taxes. Such taxes have generally been paid at the rate of 7.65% by the employee (6.2% for Social Security and 1.45% for Medicare, up to a certain maximum amount) and matched by the employer. Note that the employer can deduct the matching amount for AGI as a trade or business expense.

In contrast, a self-employed individual (e.g., an independent contractor) is subject to self-employment tax (under the S elf -Employment Contributions Act). Such tax has generally been at the rate of 15.3%, as self-employed persons pay both the employee and employer portions (on themselves). A self-employed person can deduct one-half of such self employment tax for AGI. Note, however, that this deduction does not, in fact, offset one-half of the additional Social Security and Medicare taxes paid.

The trade or business expenses of a selfemployed person are treated as a deduction for AGI. Such deductions provide the dual benefit of reducing the taxable income derived from the trade or business (thus reducing the amount of tax on such income) as well as potentially reducing the amount of other taxes.

The trade or business expenses of an employee that are not reimbursed under an accountable plan are treated as tier 2 itemized deductions. In order for a taxpayer to derive a tax savings from such deductions, a taxpayer must not only itemize deductions, but also must have total tier 2 itemized deductions exceed 2% of his AGI. Only to the extent that the total tier 2 itemized deductions exceed 2% of AGI can they be included in itemized deductions. Note that, as a result, there is generally a reduction in the amount of the tier 2 itemized deductions that can actually be used to save taxes on the return. One way to enable an employee to avoid such treatment is to have the amount be reimbursed by an employer under an accountable plan.

With respect to itemized deductions, the court in Schramm mentioned, among other items, that "itemized deductions may be limited under Section 68 and may have alternative minimum tax implications under Section 56 (b)(l)(A)(i)."

Note that the classification of a worker 's status may have other repercussions, as it can impact certain other rights and benefits; for example, eligibility for COBRA (Consolidated Omnibus Budget Reconciliation Act) healthcare benefits; Americans with Disabilities Act protection; Age Discrimination in Employment Act coverage; ERISA (Employee Retirement Income Security Act) benefits; coverage by various other labor laws, such as the Family and Medical Leave Act; and the ability to avail oneself of the EEOC (Equal Employment Opportunity Commission).

A Typical Example

John, an employee, works for ABC Company. Periodically, John must go out of town for business purposes, for which he is not reimbursed. On a recent trip, John incurred deductible costs of $1,500, which he paid out of pocket and for which he was not reimbursed. He has an AGI of $50,000. …

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