IRS Proposes New Rule That Could Impact Phased Retirement Programs

September 14, 2018

A new IRS proposal on implementing last year’s tax cut law would make it harder for employees to become independent contractors with their former employers if they “directly or indirectly” provide “substantially the same services” to the company.

Terminated employees who become independent contractors with their former employer would be presumed, under the proposed rule, to be employees, unless they can prove they do not meet the IRS common-law employee classification test.

Section 199A allows independent contractors to deduct up to 20 percent of income from a domestic business operated as a sole proprietorship, a partnership, or S corporation, and the IRS is worried that some employees will switch to independent contractor status in order to take advantage of the 199A deduction.

Importantly, the presumption would only apply to the 199A deduction and not to any other section of the tax code.

Takeaway:  Phased retirement programs that liberally allow former W-2 employees to seamlessly move to independent contractor status and resume their prior job responsibilities may need to ensure that those former employees will be able to prove to the IRS they are in fact independent contractors.