2. Issues involving Corporate Officers
In the context of employment tax examinations involving payments to corporate officers, confusion can arise with respect to whether there is an “actual controversy involving a determination . . . that . . . one or more individuals performing services for such person are employees.” A common situation is where an individual is both an independent contractor for a corporate taxpayer and serves as an officer of that corporation, and the taxpayer treats all payments to the individual as payments to an independent contractor. That is, the taxpayer files forms 1099 with respect to all payments to that individual, and files no form W-2 with respect to that individual. At the audit, the Service determines that a portion of the payments to the corporate officer are for services performed in his capacity as a corporate officer and proposes an assessment of employment taxes with respect to the payments that constitute remuneration for services performed in the capacity as a corporate officer. The taxpayer asserts that no payments made to that individual are for services performed in that person’s capacity as an officer because all payments are made to the individual in his capacity as an independent contractor for the corporation. In such a situation, since the taxpayer does not treat the
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individual as an employee, a controversy exists whether the individual is an employee. See § 3.03, Rev. Proc. 85-18, 1985-1 C.B. 518 (interpretation of term “treat”). As a result, a notice of determination should be issued.
Nor does that result change if the taxpayer admits during the audit that the individual is an employee but argues that no remuneration was received by that individual for services as an officer. Since the taxpayer has not been treating the individual as an employee, and the Service determines that the individual is performing services in his capacity as an employee, that disagreement constitutes an actual controversy involving a determination that the worker is performing services as an employee, and a notice of determination should be issued.
Some Service personnel have asserted that because corporate officers are “statutory employees,” a notice of determination need not be issued. But nothing in the statutory language of Code section 7436 makes the Tax Court’s power to review worker status limited to a determination based on the common law analysis of worker status. See also § 3.09, Rev. Proc. 85-18, supra (definition of employee for purposes of section 530 treatment is not limited to IRC § 3121(d)(2)). The Tax Court has the power to review determinations made under statutory provisions establishing worker status. Thus, whether the Service’s determination is based on the common law or a statutory provision that provides that an individual is deemed an employee (e.g., IRC § 3121(d)(1), (3)) or a statutory provision that provides that an individual is deemed to not be an employee (e.g., IRC § 3506, § 3508), so long as there exists an actual controversy involving whether a worker is an employee (and the other requirements of section 7436 are met), a notice of determination should be issued.
Some Service personnel have questioned whether an actual controversy can exist concerning the status of a corporate officer, in particular, since Code section 3121(d)(1) specifically states that “the term ‘employee’ means any officer of a corporation” and Code section 3401(c) provides that “[t]he term ‘employee’ includes a corporate officer.” They assert that since the statute classifies the corporate officer as an employee, it is impossible to have a valid controversy over the issue, so that no notice of determination should be issued. But the regulations under the statutory provisions clarify that there are circumstances under which the officer will not be considered an employee. Section 31.3121(d)-1(c) of the Employment Tax Regulations provides:
Generally, an officer of a corporation is an employee of the corporation. However, an officer of a corporation who as such does not perform any services or performs only minor services and who neither receives nor is entitled to receive, directly or indirectly, any remuneration is considered not to be an employee of the corporation. . . .
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See also Treas. Reg. § 31.3401(c)-1)(f). Thus, where a taxpayer is asserting that the corporate officer at issue performs no services or only minor services as a corporate officer and that the officer is not entitled to remuneration in his capacity as a corporate officer, a disagreement can exist under the regulations as to whether the person is to be deemed an employee of the corporation. Because a valid legal disagreement can exist with respect to the services that are being compensated, there can exist a controversy involving the determination that an individual who is a corporate officer is an employee. So, if the other requirements for a notice of determination are met, a notice of determination should be issued despite the fact that the employment tax statutes include officers as employees.
Some Service personnel have questioned whether a notice of determination should be issued in situations involving an owner of a closely-held corporation who also performs services for the corporation. For example, the officer of a closely- held corporation is already receiving wages as an employee, but because the individual is also an owner, the corporate officer/owner is receiving profit distributions as well. In the audit, the Service determines that some of the payments characterized by taxpayer as profit distributions should be characterized as wages, subject to employment taxes. Even though the taxpayer objects to the change in the characterization of the payments, such a situation does not involve a controversy whether the individual officer/owner is an employee. The taxpayer is already treating the individual as an employee by withholding income taxes and the employee’s portion of FICA, by paying the employer’s portion of employment taxes with respect to some payments and by issuing forms W-2 with respect to the individual. When the Service determines that some of the payments are wages rather than profits, the controversy involves the proper characterization of the payments, not the proper status of the individual. Thus, when the Service asserts that additional payments to an employee should be treated as wages, the fourth requirement of section 7436 is not met and no notice of determination should be issued.
Occasionally, a closely-held corporation makes payments to its owner/officer, with some payments treated as remuneration for services in his capacity as an independent contractor for the corporation and some payments as profit distribution of the corporation. Taxpayer issues forms 1099 with respect to the payments, but no forms W-2 are issued and no employment taxes are withheld or paid. If the audit reveals that the individual is performing some services in his capacity as a corporate officer and has received remuneration for those services, then the Service determines that pursuant to Treas. Reg. § 31.3121(d)-1(c), the individual is an employee with respect to the services performed in his capacity as an officer. Since taxpayer is not already treating the individual as an employee, a controversy exists whether the owner/officer is an employee of the corporation, and a notice of determination must be issued.
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Sometimes during the audit or appeals process, a taxpayer will agree with the Service that a corporate officer who was not treated as an employee by the taxpayer should have been classified as an employee with respect to a portion of the payments to that individual. Yet, the taxpayer disagrees with the Service as to the amount of the payments that should be treated as wages. In such circumstances, an actual controversy involving a determination by the Service that the individual is an employee does exist (because taxpayer was not treating the individual as an employee and the Service determined he was an employee) and a notice of determination must be issued. But since the taxpayer does not intend to challenge the determination that the officer is an employee, taxpayer may wish to settle that issue and waive his right to Tax Court review in the manner set forth in Notice 98-43, 1998-33 I.R.B. 13, 14. If the taxpayer explicitly waives the restrictions on assessment provided in Code sections 7436(d) and 6213(a), a notice of determination need not be issued. But if taxpayer does not wish to sign the waiver, a notice of determination must be issued.
Finally, some Service personnel have questioned whether section 530 treatment is available to taxpayers who have not treated corporate officers as employees. Section 530 treatment is available “if the taxpayer did not treat an individual as an employee.” § 530(a)(1). There is nothing in the language of section 530 that prevents a taxpayer from obtaining section 530 treatment when the Service determines that its corporate officers are employees.
Confusion may have arisen from the statutory language of section 530(c)(2), which provides that the term “employment status” means
the status of an individual, under the usual common law rules applicable in determining the employer-employee relationship. . ..
But the term “employment status” is not used in section 530(a) or any other portion of section 530 that establishes a taxpayer’s right to relief from employment taxes. Rather “employment status” is a term used in two places in section 530. First, it appears in section 530(b), which prohibited the Service from issuing guidance on employment status under the common law. The term “employment status” also appears in section 530(e)(1), which establishes that before an audit relating to employment status can begin, the Service must provide the taxpayer with a written notice of section 530. So, if a taxpayer has not treated an officer as an employee, but the taxpayer meets the various requirements for relief from employment taxes under section 530 of the Revenue Act of 1978, the taxpayer will be entitled to section 530 treatment.