In Chief Counsel Advice Memorandum 201724025, the IRS considered an employer’s liability for employment taxes where the staffing agency that provided employees to the employer failed to pay the taxes.
The employer/taxpayer entered into a contract with a professional employer organization (PEO) to staff its workforce. Under the agreement, the taxpayer assumed the responsibility for the day-to-day supervision and control of the employees. The taxpayer was also required to deposit, one day prior to each payroll date, an amount equal to all wages, salaries and other amounts to be paid to or with respect to the employees. The PEO was obligated to administer the payroll and to file all payroll tax returns.
As is typical in the industry, the PEO contract stated that the workers were “co-employees” of the PEO and taxpayer. However, the taxpayer did not dispute that the workers were its common-law employees.
In the years at issue, the taxpayer did not file any employment tax returns because the PEO was responsible for administering the payroll and filing the returns. On audit, the taxpayer learned that the PEO, in fact, had not filed the employment tax returns, nor had it paid the related taxes. The taxpayer asserted, however, that it should not be liable for the taxes because it had paid the taxes over to the PEO, which was responsible for paying them over to the government.
The IRS disagreed, holding the taxpayer responsible for the unpaid employment taxes. In reaching this conclusion, the IRS noted that under Code Section 3401(d), if the common-law employer does not have control of the payment of wages, then for withholding and employment tax purposes, “employer” means the person having control over the payment of wages. Although the PEO administered the payroll, the IRS held that it was not in control of the payment of wages because it had not assumed legal responsibility for the payment of the wages to the employees. This is because the taxpayer was required to fund the payroll account prior to each payroll date and was also required to provide a letter of credit or security deposit naming the PEO as beneficiary. The PEO contract provided that the PEO could terminate the contract immediately without notice and that, in such event, the taxpayer would be responsible for payment of all wages, salaries and employment-related taxes.
Based on the foregoing, the IRS held that the PEO did not have control of the payment of wages and that the employer/taxpayer was not relieved of its liability for employment taxes relating to the employees. Thus, the employer was required to pay the unpaid employment taxes, even though it had already paid those amounts to the PEO.
Alvarez & Marsal Taxand Says:
If your company is party to a contract with a PEO covering any portion of your workforce, a review of the PEO agreements for terms and conditions similar to those at issue in this ruling is warranted. Even if the agreements do not contain such terms, the company should nevertheless require periodic documentation from the PEO to verify that the employment tax returns have been filed and the related taxes paid.
The information contained herein is of a general nature and based on authorities that are subject to change. Readers are reminded that they should not consider this publication to be a recommendation to undertake any tax position, nor consider the information contained herein to be complete. Before any item or treatment is reported or excluded from reporting on tax returns, financial statements or any other document, for any reason, readers should thoroughly evaluate their specific facts and circumstances, and obtain the advice and assistance of qualified tax advisers. The information reported in this publication may not continue to apply to a reader's situation as a result of changing laws and associated authoritative literature, and readers are reminded to consult with their tax or other professional advisers before determining if any information contained herein remains applicable to their facts and circumstances.
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