A recent decision by the Massachusetts Appellate Tax Board ruled that a painting company's workers were employees and not independent contractors. As a result, the employer was liable for income tax withholding on the amounts it paid the workers (Anthony Contracting, Inc. v. Commr. of Rev., Mass. App. Tax Bd., Dkt. No. C321996, 09/26/2016 ).

This case highlights the income tax withholding implications when Massachusetts or other states determine that workers should have been classified as employees and not as independent contractors.

Background

The employer operated a commercial painting company and hired workers to perform painting services for its customers.

There were no written contracts between the company and its workers. The company considered these painters to be independent contractors. As compensation for their services, the painters received an hourly rate of pay that was determined by the company.

While the company claimed that it issued Forms 1099-MISC for nonemployee compensation paid to the painters, it was unable to furnish copies of Forms 1099-MISC for many of the years covered by the Commissioner of Revenue's assessment.

The Commissioner of Revenue determined that the painters were subject to the company's supervision, direction and control and were actually its employees, resulting in an assessment of over $76,000 in income tax withholding, penalties and interest from March 2007 through March 2012.

Painters are determined to be employees

The Appellate Tax Board noted the existence of some possible indicators of an independent contractor relationship. However, the Board cited Massachusetts' strict test of an employment relationship under Massachusetts G.L. c. 149, Section 148B, where an individual performing any service:

" … shall be considered to be an employee … unless:

(1) the individual is free from control and direction in connection with the performance of the service, both under his contract for the performance of service and in fact; and

(2) the service is performed outside the usual course of the business of the employer; and,

(3) the individual is customarily engaged in an independently established trade, occupation, profession or business of the same nature as that involved in the service performed."

In this case, the Board noted that:

— The company had a supervisor who managed and directed the painters' work.
— The painters received a fixed hourly pay rate that was established by the company, and did not have any opportunity to make a profit or loss based on their own skills or efforts.
— The company provided paint and equipment such as scaffolding.
— There was no consistent record of the company issuing Forms 1099-MISC or other tax forms to the painters.
— The painters performed services "squarely within the [company's] usual course of business."
— There was no evidence that the painters were in their own independently established businesses.

As a result, the Board concluded that despite some possible indicators of independence, the painters are considered employees under the state's law and the company is subject to income tax withholding, penalties and interest on the amounts it paid to the painters.

Ernst & Young LLP insights

Worker classification is a complex and increasingly important consideration, with potential consequences for wage and hour compliance, workers’ compensation, income tax withholding and unemployment insurance.

New York State, for example, created a multi-agency task force that recently discovered over $300 million in unreported wages and assessed over $8 million in unemployment insurance (UI) taxes.

Similarly, Massachusetts established a Council on the Underground Economy which coordinates the efforts of multiple state agencies regarding enforcement of employment-related laws.

Read our special report on worker classification here.

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