Recently, our office has received a number of calls and messages regarding changes to contracts where the hourly taxable rate has been lowered significantly and the per diem has increased as well.
Is this legal? Do I have risks? Is this wage re-characterization? Should I extend the contract? Will I get audited?
These are all good questions.
First, an agency/employer can change the terms of a contract in this manner but only in a NEW contract, not in the middle of a contract that has not been completed. Revenue Ruling 2012-25 (which is linked in our References and Citations section of this blog) allows a PROSPECTIVE change to an employees taxable / per diem, but not a mid contract change. If it follows the Revenue Ruling them it is not wage re-characterization
Second, there are some risks that are not borne equally by all travelers. Loans, disability, workers compensation, and unemployment all rely on the taxable rate. Per diems are reimbursements / expense offsets so they are not income and do not count for these items. Social Security is based on the 35 highest years or earnings so if the earnings history needs some years of higher earnings, this arrangement might not work well.
Third, Can I get audited? Anyone can get audited just for breathing 🙂 However, there are thresholds that the IRS uses to further investigate arrangements where additional tax might be collected. Lower taxable wages are not the litmus test. It is how these wages interact with other financial commitments that could trigger an audit. For example, if you have a high mortgage interest payment (the IRS gets a report) and your taxable hourly would struggle to keep up with this, one could question whether you had other sources of income that are not being reported. Also, an agency whose tax returns show a smaller amount of wages in comparison to a larger amount of travel expenses could trigger an audit that would require a review of the travelers return.
Lastly, should I take the contract? There is no right or wrong answer to this if the conditions noted earlier are met. The answer really rests in the other areas that we mentioned. Also, don’t decline a contract for this reason alone especially when you have a trustworthy recruiter (very important), its a destination you really want (you’ll have a lifetime of memories). or the agency has a lot of contracts to choose from. Loyalty does have its perks.
Feel free to contact us with any questions!
A bill being introduced to restore job expenses for employees and even better, as an above the line deduction.