The main problem here is a lot of employees might want to convert to an independent contractor status with their former employer so they can qualify for the Section 199A deduction. For example, you make $100,000 as a W-2 employee. This probably costs your employer around $25,000 in payroll taxes, vacation, sick pay, 401k contributions and other benefits for a total of $125,000. You stroll up to the boss and say “Hey, make me a contractor; you save $25 large and I deduct $20 large, and everyone wins.” This could be abused, right?
But what about the legitimate relationships where an employee retires but is retained as a contractor? Or a company’s risk department and other departments believe it is better to have more independent contractors than employees. Section 199A holds a presumption that if you are performing substantially the same services as a contractor as you were as an employee, you will be considered an employee for the purposes of Section 199A qualified business income deduction.
So, theoretically you could be on the hook for self-employment taxes since that is how one part of the tax code is defining you but also not be eligible for the Section 199A deduction because that part of the tax code reads No. Not cool. Here is a blurb from the final regulations-
The final regulations provide that an individual may rebut the presumption by showing records, such as contracts or partnership agreements, that are sufficient to corroborate the individual’s status as a non-employee for three years from the date a person ceases to treat the individual as an employee for Federal employment taxes.(page 108)
Additionally, the SSTB designation is a direct response to what the IRS and Congress consider disguised W-2 compensation. Their position is that a doctor running an S Corp as an independent surgeon to a hospital is simply a disguised W-2, and as such all his or her income should be subjected to Social Security (up to the limits) and Medicare taxes.
Historically most personal services were performed by employees but the trend is now more independent contractors. In addition, to prevent W-2 converted to 1099 contractor abuse in the future in light of the wonderful Section 199A deduction, Congress created the SSTB designation. Simply, the tax code doesn’t want more employees to be converted to contractors.
Taxpayer's Comprehensive Guide to LLCs and S Corps : 2019 Edition
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