Re: freelancing

Subject: Re: freelancing
From: Mike Bradley <mike -at- ZOSER -dot- SPHINX -dot- COM>
Date: Wed, 15 Feb 1995 12:17:01 -0800

> >Does the above strike anyone else as "risky". I've known several companies
> >that will absolutely not use a contractor who was an employee because the IRS
> >will maintain that :"if the contractor (or any contractor) is doing the exact
> >same thing they did as an employee (or that any other employee is doing), the
> >"contractor" is not doing anything unique and is therefore an employee. i.e.
> >pay IRS back taxes etc.

Yes, the IRS would probably apply the consistency rule and hold that an
employee rehired as a contractor should have remained an employee. Companies
generally get around this by rehiring the ex-employees through a third party.
Pacific Telesis does this a lot; it gives employees an early retirement
package and then rehires them through a temp agency.

FYI, the rule isn't an IRS regulation; it's in the tax law enacted in 1978, or
maybe 76--I don't have a copy handy. The rule holds that contract workers
doing essentially the same work as employees have to be employees. In the
case of rehired ex-employees, I think that, to avoid violating the rule,
an employer would have to give them very different work from what they did as

The major penalties, though, don't accrue to the worker. They are various
employer taxes, such as the FICA taxes that employers don't pay for
contractors, plus interest and maybe penalties. The worker does have to
refile his/her income taxes, losing the business deductions s/he took as a
contactor and the tax savings on any Keogh, and sometimes IRA, contributions
s/he made.

> >==============
> >I still haven't incorporated, and according to my lawyer and accountant,
> >it isn't necessary. I'm going to check into it again this year to see if
> >it's worth it for me yet. It costs about $500 to incorporate, but
> >involves additional paperwork; I have to see if the benefits are worth
> >the costs.
> ================
> >From everything I've heard, incorporating may make some employers feel
> better about hiring a contractor, but incorporation does notthing for the
> contractor from a tax standpoint.

Incorporating has lost nearly all its value, as I see it. Employers now have
essentially the same federal tax liabilites, and often the same state
liabilities, for contractors hired through personal service corporations as
for contractors hired direct. In practice, the IRS is reported to be pretty
lenient--if you're a personal service corp., they won't reclassify you as an
employee. However, given the trend of the past 20 years, I can't see this
leniency lasting.

FYI, a personal service corp. is a corp. who business is selling the services
of its owners. It's the kind of corp. that consultants like us form. In the
past, before the conservative no-new-taxes era, employers had no tax liability
for these corps. Now, since legislatures can't pass new taxes, they have to
pressure their tax agencies to squeeze every penny out of existing tax law.

- Mike

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