Designation of Payor To Perform Acts Required of an Employer, 17860-17863 [2014-07152]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 79, Number 61 (Monday, March 31, 2014)]
[Rules and Regulations]
[Pages 17860-17863]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2014-07152]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 31

[TD 9662]
RIN 1545-BJ31


Designation of Payor To Perform Acts Required of an Employer

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations.

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SUMMARY: This document contains final regulations under section 3504 of 
the Internal Revenue Code (Code) providing circumstances under which a 
person (payor) is designated to perform the acts required of an 
employer and is liable for employment taxes with respect to wages or 
compensation paid by the payor to individuals performing services for 
the payor's client pursuant to a service agreement between the payor 
and the client.

DATES: Effective date: These final regulations are effective on March 
31, 2014.
    Applicability date: For dates of applicability, see Sec.  31.3504-
2(f) of these regulations.

FOR FURTHER INFORMATION CONTACT: Jeanne Royal Singley at (202) 317-6798 
(not a toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    This document contains amendments to 26 CFR part 31 under section 
3504 of the Code. On January 29, 2013, Treasury and the IRS published a 
notice of proposed rulemaking (REG-102966-10, 78 FR 6056) (the proposed 
regulations) in the Federal Register under section 3504 of the Code. 
Treasury and the IRS received written and electronic comments 
responding to the proposed regulations. All comments were considered 
and are available for public inspection at https://www.regulations.gov 
or upon request. After consideration of all the public comments, the 
proposed regulations are adopted as amended by this Treasury decision. 
The public comments and revisions are discussed in this preamble.

Explanation of Provisions

    Under section 3504, if a payor pays wages or compensation to 
employees who are employed by one or more employers, the Secretary is 
authorized, in accordance with regulations prescribed by the Secretary, 
to designate such payor to perform acts required of employers under the 
Code. Section 3504 further provides that, except as otherwise 
prescribed by the Secretary, all provisions of law (including 
penalties) applicable with respect to an employer are applicable to the 
payor so designated, but the employer for whom the payor acts remains 
subject to the provisions of law (including penalties) applicable with 
respect to employers. Accordingly, both an employer and the payor 
designated in accordance with regulations under section 3504 are liable 
for the employment taxes on wages or compensation paid by the payor.
    The IRS has established administrative procedures under which a 
payor may request authorization on Form 2678, Employer/Payer 
Appointment of Agent, to file employment tax returns and perform other 
acts for the employer. The proposed regulations provide rules regarding 
the employment tax obligations under certain three-party arrangements 
in which a payor enters into an agreement with the employer (client) to 
perform the employment tax obligations of the client with regard to 
wages or compensation paid by the payor to individuals performing 
services for the client, but the payor does not use the established IRS 
administrative procedures to request authorization to file employment 
tax returns and performs other acts for the client.
    Under the proposed regulations, a payor is designated under section 
3504 to perform the acts of an employer in any case in which the payor 
enters into a service agreement with a client. For this purpose, the 
term service agreement means a written or oral agreement pursuant to 
which the payor (1) asserts it is the employer (or ``co-employer'') of 
individuals performing services for the client, (2) pays wages or 
compensation to the individuals for services the individuals perform 
for the client, and (3) assumes responsibility to collect, report, and 
pay, or assumes liability for, any employment taxes with respect to the 
wages or compensation paid by the payor to the individuals who perform 
services for the client.
    The proposed regulations also provide exceptions to when a payor is 
designated under section 3504 to perform the acts of an employer even 
if the payor has entered into an agreement

[[Page 17861]]

that includes all of the components of a service agreement. The 
proposed regulations also include numerous examples to illustrate the 
rules regarding designation.

Summary of Comments and Explanation of Revisions

    The IRS received comments in response to the proposed regulations. 
The majority of the comments expressed support for the regulations and 
had no suggested changes. Other comments were outside the scope of 
section 3504 and these regulations.
    One commenter suggested deleting the term ``agent'' when describing 
the third party payor that is designated to perform the acts of an 
employer. The commenter indicated that many three-party arrangements 
are not structured as common law agency relationships and that 
designating the payor as an agent for purposes of these regulations may 
raise implications for other unrelated issues. While the proposed 
regulations state that the designation of a payor under the proposed 
regulations has no impact in determining the payor's status for other 
purposes of the Code, Treasury and the IRS agree that describing the 
payor designated to perform the acts of an employer as an ``agent'' may 
be unnecessary, given that section 3504 grants the Secretary authority 
to designate a ``fiduciary, agent, or other person'' to perform such 
acts. Accordingly, the final regulations adopt this change.
    Another commenter asked for clarification of the application of 
section 3504 to payors of group disability income benefits under an 
administrative service contract (commonly referred to as an 
administrative service only agreement or an ``ASO agreement'') with an 
employer. The comment was in response to a specific request in the 
notice of proposed rule-making asking whether the proposed definition 
of service agreement inappropriately designates or fails to designate a 
payor to perform acts of an employer. The commenter explained that 
under an ASO agreement, an insurer that administers employee disability 
claims may agree to withhold employment taxes on the taxable disability 
payments and report and pay the employment taxes to the IRS under the 
insurer's employer identification number. The commenter stated that in 
recent years, some insurance companies have required that the employer 
designate the insurer as an agent on Form 2678 when entering into new 
ASO agreements. The commenter asked whether performing services under 
an ASO agreement makes the insurer an agent under section 3504 that is 
required to file Form 2678. The commenter also asked for an example to 
be included in these final regulations to clarify whether filing Form 
2678 is required to perform employment tax obligations under an ASO 
agreement.
    These regulations address the designation of a payor to perform the 
acts of an employer when the formal IRS administrative procedures to 
designate an agent (i.e., filing Form 2678) are not followed. 
Accordingly, it is beyond the scope of these regulations to address 
whether a Form 2678 must be filed in order to report and pay employment 
taxes in any particular situation.
    However, Sec.  32.1 of the Employment Tax Regulations provides 
specific rules for reporting employment taxes with respect to payments 
made by a third party on account of sickness or accident disability 
(often called ``sick pay''). While those rules are unaffected by 
section 3504 or these regulations, Treasury and the IRS agree a 
clarification of the interaction of those rules and these regulations 
would be helpful.
    Specifically, under Sec.  32.1, a third-party payor of sick pay may 
be treated as an employer or as an agent of the employer with regard to 
the employment tax obligations, depending on the circumstances of the 
arrangement. The proposed regulations contain an exception at Sec.  
31.3504-2(d)(3) that a payor is not designated to perform the acts 
required of an employer for any wages or compensation paid by the payor 
to the individual(s) performing services for a client if the payor is 
the employer. However, the proposed regulations are not clear whether 
the Sec.  31.3504-2(d)(3) exception for payors that are employers 
applies if the third-party payor of the sick pay is treated as an 
employer under Sec.  32.1. To clarify that a third-party payor of sick 
pay that is treated as an employer under Sec.  32.1 will not be 
designated under these regulations to perform the acts of an employer 
with regard to the sick pay, these final regulations add an additional 
exception at Sec.  31.3504-2(d)(4) for payors treated as employers 
under section 3121(a)(2)(A).
    No changes were needed, however, to address situations where the 
third-party payor of the sick pay is the agent of the employer under 
Sec.  32.1. Under those circumstances, these regulations do not apply 
because the payments are not made pursuant to a service agreement 
within the meaning of these regulations. The first component of a 
service agreement is that the payor asserts that it is the employer of 
the individuals performing services for its client, such as by filing 
employment tax returns using its own EIN that include wages paid to the 
individuals performing services for the client. A third-party payor of 
sick pay that is treated as an agent of the employer under Sec.  32.1 
does not file employment tax returns under its own EIN to report and 
pay the taxes on the sick pay or otherwise assert that it is the 
employer. Thus, the arrangement under which the payor pays the sick pay 
as an agent would not be a service agreement and these regulations 
would not apply to designate the payor to perform the acts of the 
employer.
    Finally, although no comments were received with regard to the 
exception at Sec.  31.3504-2(d)(3) for employers, these final 
regulations revise that provision to clarify that the exception 
includes a section 3401(d)(1) employer, also commonly referred to as a 
statutory employer, as discussed in the preamble to the proposed 
regulations. Section 3401(d)(1) provides that for purposes of federal 
income tax withholding, the term employer means the person for whom an 
individual performs or performed any service, of whatever nature, as an 
employee of such person, except that, if the person for whom the 
individual performs or performed the services does not have control of 
the payment of wages for such services, the term employer means the 
person having control of the payment of such wages. For purposes of 
section 3401(d)(1), the term control means legal control. See Sec.  
31.3401(d)-1(f). Thus, when one person is the common law employer of an 
individual because it controls the day-to-day performance of services 
by the individual, another person may be the employer liable to 
collect, report, and pay employment taxes because it is the entity 
solely in control of the payment of wages to the individual. See 
Winstead v. United States, 109 F.3d 989 (4th Cir. 1997). An example is 
added to these regulations at Sec.  31.3504-2(e)(8) to demonstrate the 
application of the exception to a section 3401(d)(1) employer.

Special Analyses

    It has been determined that this final rule is not a significant 
regulatory action as defined in Executive Order 12866, as supplemented 
by Executive Order 13563. Therefore, a regulatory assessment is not 
required. It also has been determined that section 553(b) of the 
Administrative Procedure Act (5 U.S.C. chapter 5) does not apply to 
this regulation, and because the regulation does not impose a 
collection of information on small entities, the Regulatory Flexibility 
Act (5 U.S.C. chapter 6) does not apply. Pursuant to

[[Page 17862]]

section 7805(f) of the Internal Revenue Code, this regulation has been 
submitted to the Chief Counsel for Advocacy of the Small Business 
Administration for comment on its impact on small business, and no 
comments were received.

Drafting Information

    The principal author of these regulations is Jeanne Royal Singley, 
Office of Division Counsel/Associate Chief Counsel (Tax Exempt and 
Government Entities). However, personnel from other offices of the IRS 
and Treasury participated in their development.

List of Subjects in 26 CFR Part 31

    Employment taxes, Income taxes, Penalties, Pensions, Railroad 
retirement, Reporting and recordkeeping requirements, Social security, 
Unemployment compensation.

Adoption of Amendments to the Regulations

    Accordingly, 26 CFR part 31 is amended as follows:

PART 31--EMPLOYMENT TAXES AND COLLECTION OF INCOME TAX AT SOURCE

0
Paragraph 1. The authority citation for part 31 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805 * * *

0
Par. 2. Section 31.3504-2 is added to read as follows:


Sec.  31.3504-2  Designation of payor to perform acts of an employer.

    (a) In general. A person (as defined in section 7701(a)(1)) that 
pays wages or compensation (``payor'') to the individual(s) performing 
services for any client pursuant to a service agreement, except as 
provided in paragraph (d) of this section, is designated to perform the 
acts required of an employer with respect to the wages or compensation 
paid. For purposes of this section the term wages has the same meaning 
as the term wages has for purposes of chapters 21, 23, and 24, and the 
term compensation has the same meaning as the term compensation has for 
purposes of chapter 22. This section is not applicable if the payor has 
been authorized as an agent of the employer under Sec.  31.3504-1.
    (b) Definitions--(1) Client. The term client means an individual or 
entity that enters into a service agreement with the payor.
    (2) Service agreement. (i) The term service agreement means an 
agreement pursuant to which the payor--
    (A) Asserts it is the employer (or ``co-employer'') of the 
individual(s) performing services for the client;
    (B) Pays wages or compensation to the individual(s) for services 
the individual(s) perform for the client; and
    (C) Assumes responsibility to collect, report, and pay, or assumes 
liability for, any taxes applicable under subtitle C of the Code with 
respect to the wages or compensation paid by the payor to the 
individual(s) performing services for the client.
    (ii) For purposes of paragraph (b)(2)(i)(A) of this section, the 
payor may implicitly or explicitly assert it is the employer (or ``co-
employer'') of the individual(s) performing services for the client, 
including by agreeing to--
    (A) Recruit and hire employees for the client or assign employees 
as permanent or temporary members of the client's work force, or 
participate with the client in these actions;
    (B) Hire the client's employees as its own and then provide them 
back to the client to perform services for the client; or
    (C) File employment tax returns using its own employer 
identification number that include wages or compensation paid to the 
individual(s) performing services for the client.
    (c) Effects of designation. If a payor is designated to perform the 
acts required of an employer under this section then the following 
rules apply--
    (1) A payor must perform the acts required of an employer under 
each applicable chapter of the Code and the relevant regulations with 
respect to the wages or compensation paid by such payor. All provisions 
of law (including penalties) and the regulations applicable to the 
employer are applicable to the payor so designated with respect to the 
wages or compensation paid by the payor; and
    (2) Each employer for whom the payor is designated remains subject 
to all provisions of law (including penalties) and of the regulations 
applicable to an employer.
    (d) Exceptions. A payor is not designated to perform the acts 
required of an employer under this section for any wages or 
compensation paid by the payor to the individual(s) performing services 
for a client if--
    (1) The wages or compensation are reported on a return filed under 
the client's employer identification number (as defined in section 6109 
and the applicable regulations);
    (2) The payor is a common paymaster under sections 3121(s) or 
3231(i);
    (3) The payor is the employer of the individual(s) (including an 
employer within the meaning of section 3401(d)(1)); or
    (4) The payor is treated as an employer under section 
3121(a)(2)(A).
    (e) Examples. The following examples illustrate the application of 
this section:

    (1) Example 1. Corporation P enters into an agreement with 
Employer, effective January 1, 2015. Under the agreement, 
Corporation P hires the Employer's employees as its own employees 
and provides them back to Employer to perform services for Employer. 
Corporation P also assumes responsibility to make payment of the 
individuals' wages and for the collection, reporting, and payment of 
applicable taxes. For all pay periods in 2015, Employer provides 
Corporation P with an amount equal to the gross payroll (that is, 
wage and tax amounts) of the individuals, and Corporation P pays 
wages (less the applicable withholding) to the individuals 
performing services for Employer. Corporation P also reports the 
wage and tax amounts on Form 941, Employer's QUARTERLY Federal Tax 
Return, filed for each quarter of 2015 under Corporation P's 
employer identification number. Corporation P is not a common 
paymaster, the employer of the individuals (including an employer 
within the meaning of section 3401(d)(1)), or treated as the 
employer of the individual under section 3121(a)(2)(A). Corporation 
P is designated to perform the acts of an employer with respect to 
all of the wages Corporation P paid to the individuals performing 
services for Employer for all quarters of 2015. Employer and 
Corporation P are each subject to all provisions of law (including 
penalties) applicable in respect of employers for all quarters of 
2015 with respect to such wages.
    (2) Example 2. Same facts as Example 1, except that Corporation 
P only reports the wage and tax amounts on Form 941, Employer's 
QUARTERLY Federal Tax Return, filed for the 1st and 2nd quarters of 
2015. Neither Corporation P nor Employer files returns for the 3rd 
and 4th quarters of 2015. Corporation P is designated to perform the 
acts of an employer with respect to all of the wages Corporation P 
paid to the individuals performing services for Employer for all 
quarters of 2015. Employer and Corporation P are each subject to all 
provisions of law (including penalties) applicable in respect of 
employers for all quarters of 2015 with respect to such wages.
    (3) Example 3. Same facts as Example 1, except that neither 
Corporation P nor Employer reports the wage and tax amounts on Form 
941, Employer's QUARTERLY Federal Tax Return, for any quarter of 
2015. Corporation P is designated to perform the acts of an employer 
with respect to all of the wages Corporation P paid to the 
individuals performing services for Employer for all quarters of 
2015. Employer and Corporation P are each subject to all provisions 
of law (including penalties) applicable in respect of employers for 
all quarters of 2015 with respect to such wages.
    (4) Example 4. Same facts as Example 1, except that Employer 
provides only net payroll (that is, wages less tax amounts) to 
Corporation P for each pay period. Corporation P is designated to 
perform the

[[Page 17863]]

acts of an employer with respect to all of the wages Corporation P 
paid to the individuals performing services for Employer for all 
quarters of 2015. Employer and Corporation P are each subject to all 
provisions of law (including penalties) applicable in respect of 
employers for all quarters of 2015 with respect to such wages.
    (5) Example 5. Same facts as Example 1, except that after 
Corporation P reports the wage and tax amounts on Form 941, 
Employer's QUARTERLY Federal Tax Return, filed for each quarter of 
2015 under Corporation P's employer identification number, 
Corporation P files a claim for refund of the employment taxes it 
paid for each quarter of 2015 that are related to wages Corporation 
P paid to the individuals performing services for Employer. The 
basis for Corporation P's refund claim is that Corporation P is not 
the employer of the individuals that performed services for 
Employer. Corporation P is designated to perform the acts of an 
employer with respect to all of the wages Corporation P paid to the 
individuals performing services for Employer for all quarters of 
2015. Accordingly, Corporation P is not entitled to a refund. 
Employer and Corporation P are each subject to all provisions of law 
(including penalties) applicable in respect of employers for all 
quarters of 2015 with respect to such wages.
    (6) Example 6. Corporation S enters into an agreement with 
Employer, effective January 1, 2015. Under the agreement, 
Corporation S provides payroll services, including payment of wages 
to individuals performing services for Employer, and assumes 
responsibility for the collection, reporting, and payment of 
applicable taxes. For all pay periods in 2015, Employer provides 
Corporation S with an amount equal to the gross payroll (that is, 
wage and tax amounts) of the individuals, and Corporation S pays 
wages (less the applicable withholding) to the individuals 
performing services for Employer. Corporation S also reports the 
wage and tax amounts on Form 941, Employer's QUARTERLY Federal Tax 
Return, filed for each quarter of 2015 under Employer's employer 
identification number. Corporation S is not designated to perform 
the acts of an employer with respect to all of the wages Corporation 
S paid to the individuals performing services for Employer for all 
quarters of 2015. Corporation S did not assert it was the employer 
and filed Forms 941 using Employer's employer identification number. 
Accordingly, Corporation S is not liable for the applicable 
employment taxes under this section. Employer remains subject to all 
provisions of law (including penalties) applicable in respect of 
employers for all quarters of 2015 with respect to such wages.
    (7) Example 7. Corporation T enters into a consulting agreement 
with Manufacturer effective January 1, 2015, to provide consulting 
services to Manufacturer. Corporation T is responsible to pay wages 
to the individuals providing the consulting services to Manufacturer 
and to collect, report, and pay the applicable taxes. Corporation T 
has the right to direct and control the individuals as to when and 
how to perform the consulting services and, thus, is the common law 
employer of the individuals providing the consulting services. 
Corporation T is not designated to perform the acts of an employer 
with respect to all of the wages Corporation T pays to individuals 
providing consulting services to Manufacturer. However, as the 
common law employer of the individuals, Corporation T is subject to 
all provisions of law (including penalties) applicable in respect of 
employers with respect to such wages.
    (8) Example 8. On January 1, 2015, Corporation U enters into an 
agreement with Employer for Employer to farm Corporation U's 
property. Under the agreement, Corporation U and Employer agree to 
split the proceeds of the sale of the products grown on the 
property. Employer hires workers to assist it with the farming. 
Employer has the right to direct and control the workers as to when 
and how to perform the services and, thus, is the common law 
employer of the workers. However, Employer is unable to pay the 
workers until after the products are sold. Therefore, Corporation U 
pays wages to the workers and deducts this amount from Employer's 
share of the profits. Corporation U controls the payment of wages 
within the meaning of section 3401(d)(1). Corporation U is not 
designated to perform the acts of an employer with respect to all of 
the wages Corporation U paid to workers providing services for 
Employer. However, as the section 3401(d)(1) employer of the workers 
performing services for Employer, Corporation U is subject to all 
provisions of law (including penalties) applicable in respect of 
employers with respect to such wages.
    (9) Example 9. Corporation V and Employer execute and submit a 
Form 2678, Employer/Payer Appointment of Agent, to the Service, 
requesting approval to authorize Corporation U to report, deposit, 
and pay taxes with respect to wages it pays, as agent of Employer 
for purposes of Form 941, Employer's QUARTERLY Federal Tax Return. 
The Form 2678 is approved by the Service and effective for all 
quarters of 2015. Accordingly, Corporation V reports the wages it 
pays to individuals performing services for Employer and related tax 
amounts on Form 941 and Schedule R (Form 941), Allocation Schedule 
for Aggregate Form 941 Filers, filed for each quarter of 2015 under 
Corporation V's employer identification number. Corporation V is not 
designated under this section to perform the acts of an employer 
with respect to all of the wages Corporation V paid to the 
individuals performing services for Employer for all quarters of 
2015. However, as an agent authorized under Sec.  31.3504-1(a), 
Corporation V is subject to all provisions of law (including 
penalties) applicable in respect of employers for all quarters of 
2015 with respect to such wages. Employer also remains subject to 
all provisions of law (including penalties) applicable in respect of 
employers for all quarters of 2015 with respect to such wages.

    (f) Effective/applicability date. These final regulations are 
effective for wages or compensation paid by a payor in quarters 
beginning on or after March 31, 2014.

John Dalrymple,
Deputy Commissioner for Services and Enforcement.
    Approved: March 20, 2014.
Mark J. Mazur,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2014-07152 Filed 3-28-14; 8:45 am]
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