Despite flexible pay and work arrangements, the Tax Court has found that the president, associate attorneys and law clerk of an S corporation doing business as a law firm were employees and not independent contractors for tax purposes (Donald G. Cave A Professional Law Corp., TC Memo. 2011-48). The court rejected the S corporation’s claim that the individuals enjoyed sufficient control over their work to treat them as independent contractors.

A law firm operated as a S corporation and in 2003 and 2004 several law school graduates went to work for the corporation as associate attorneys. The attorneys received one-half of the gross fees collected in cases they generated and one-third of the gross fees collected in cases referred to them by the president of the S corporation, also a lawyer at the firm. The S corporation also hired a law clerk who received a set salary.

The S corporation did not treat the president, the associate attorneys or the law clerk as employees for federal employment tax purposes. Rather, the S corporation treated them as independent contractors. The IRS rejected this treatment.

Court’s analysis
The court looked to whether the S corporation’s president was an employee of the corporation, noting that an officer of a corporation who performs substantial services for the corporation and receives remuneration for such services is a statutory employee for employment tax purposes. The court found that the president made all the corporation’s decisions, such as hiring. The president was a statutory employee of the S corp for employment tax purposes, the court found.

The court also looked to the status of the associate attorneys, who had some independence over the preparation of their cases. However, the president assigned all of the cases and reviewed pleadings and correspondence prepared by the associate attorneys. The president also provided all of the office tools and furnishings. The court concluded that the associate attorneys were employees of the S corp.

Finally, the court determined that the law clerk, despite having flexibility regarding hours of work and where he could work, received all of his assignments from the president and associate attorneys. The law clerk was an employee of the S corporation, the court determined.

Section 530
Employers are eligible for Section 530 relief if, among other things, they had a reasonable basis for treating an employee as an independent contractor. The court found that the president failed to investigate whether the associate attorneys and the law clerk were employees or independent contractors. His reliance on advice from a tax professional regarding the issue was misplaced and Section 530 relief was unavailable.