We welcome back guest blogger Omeed Firouzi who brings us up to date on litigation over the scope of section 7434’s cause of action for the fraudulent filing of information returns. Christine
Internal Revenue Code Section 7434 has been the subject of numerous posts here. In the aftermath of the Liverett decision in the Eastern District of Virginia in 2016, courts have largely agreed that while intentionally wrongful overreporting of income on an information return constitutes “fraudulent filing,” misclassification itself (actually receiving a 1099-MISC instead of a W-2 with no dispute about the income amount) is not actionable under section 7434.
Nevertheless, a small handful of federal district court decisions very recently have left the door open, at least in the preliminary stages of litigation, to the possibility that Section 7434 could encompass misclassification claims. The United States District Court for the Western District of Washington in September became the most recent court to address the matter.
The facts in Ranko v. Gulf Maine Products Co. Inc., Et. Al. involve taxpayer William Ranko and his work for seafood processor and wholesaler Gulf Marine. Ranko filed suit in King County Superior Court but Gulf Marine removed the case to the federal district court, on the basis of diversity of citizenship. Mr. Ranko alleges several causes of action, including violations of Section 7434 and various employment-related claims.
With regard to the specific federal tax issue at hand, Mr. Ranko alleged that Gulf Marine misclassified him as an independent contractor in tax years 2016, 2017, and 2018. Mr. Ranko was referred to as an Outside Sales Manager and was treated as an employee, he alleged, yet his employer failed to withhold taxes. As a result of such misclassification, Mr. Ranko owed more federal taxes than he should have. While there is no evidence in the case that Mr. Ranko filed a Form SS-8 to challenge his misclassification before the IRS, the facts alleged do seem to support Mr. Ranko’s contention that he was an employee.
Mr. Ranko attested that such misclassification was itself a violation of Section 7434. Though Mr. Ranko separately claimed nonpayment of wages, he did not allege that the actual amounts on the 1099-MISC filed by Gulf Marine were incorrect. Rather, he alleged that the “fraudulent filing” under 7434 was the wrongful, intentional filing of 1099s rather than the W-2s that he should have received.
Interestingly, unlike several other courts that have analyzed Section 7434 at length, the court here did not engage in an extensive analysis of the Liverett decision and its interpretation of the legislative history behind Section 7434. Rather, the court focused on the intentionality of the employer’s alleged misconduct in allowing Mr. Ranko’s claim to move forward. Indeed, the court noted that “the misclassification enabled Gulf Marine to avoid tax liability by failing to ‘pay one half of the payroll taxes” and that such “allegations are sufficient to raise a reasonable inference that Gulf Marine willfully filed a fraudulent information return with respect to payments purported to have been made to” Mr. Ranko. Consequently, the court denied Gulf Marine’s motion to dismiss this cause of action.
The Ranko court appears to be part of the aforementioned trend of district courts that have refused to dismiss outright the possibility that misclassification on its own is actionable under Section 7434. Part of how the Ranko court got here too relied on the Greenwald v. Regency Mgmt. Servs., LLC decision in the U.S. District Court for the District of Maryland in 2019.
The Greenwald case was brought by Maryland employment attorney Richard Neuworth (who I’ve incidentally had the privilege of getting to know at various ABA Tax Section conferences and who has been a resource on misclassification work) as he has sought to protect wronged employees in such cases. In Greenwald, the workers alleged that their information returns did not include commissions (on which taxes were not withheld) that they received after their employment ended, and so those information returns constituted “fraudulent filing.” The court there agreed there were sufficient grounds for a claim under 7434. But the Ranko court here appears to be going even further in stating that even when there is no dispute at all about the dollar amount reported on the information return, there can be a 7434 claim.
The Ranko court may be helping to break new ground here. Then again, the District of New Jersey recently again ruled the other way on this matter. Ultimately, as discussed extensively on this blog, the issue is one of statutory interpretation. Whether “fraudulent” is an adjective that describes the filing in a broad sense or whether “fraudulent” only relates to “payments” will continue to vex courts for some time to come, absent congressional action. Notably though, the statutory text at Section 7434(a) does not include the words “amount,” “compensation” or “income.”
Rather, the statute states the willful filing must be “with respect to payments purported to be made.” The Ranko court appears to be construing the statute broadly to understand that the phrase, “payments purported to be made,” encompasses any payments and fraud that is present with respect to such payments. In other words, fraud “with respect to [the] payments” is not limited solely to fraud in the amount of the payment reported.
Instead, the argument is that the payments should have been reported or handled differently. This could encompass different specific acts, but the Ranko court is clearly concerned that the employer’s treatment and reporting of the payments as non-employee compensation burdens the employee with taxes they should not owe. This is not only due to the lack of withholding but also simply due to the different FICA/Medicare tax burdens on employees versus non-employees. Should the case move further along, it will be fascinating to see whether the court will find that it was Congress’ intent to protect such individuals from employer misconduct.