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The New York state Tax Appeals Tribunal has shot down a time-honored practice among New York City personal injury firms where, for tax purposes, associates who refer cases to their own firms are treated as independent contractors. In Matter of Fuchsberg & Fuchsberg, 817914, the Tribunal reversed an administrative law judge on two key issues. It found that the Manhattan personal injury practice must withhold and remit income taxes for associates who are rewarded for referrals. It also found that the “safe harbor” provisions of � 530 of the Federal Revenue Act of 1978, 26 U.S.C.A. � 3401, do not shield Fuchsberg & Fuchsberg from liability. The case arose after New York state challenged a compensation scheme frequently employed by Manhattan firms and used by Fuchsberg & Fuchsberg for 19 years. Like other personal injury firms, Fuchsberg & Fuchsberg paid its associates a set salary and withheld payroll taxes from that sum. However, it also afforded associates up to 50 percent of a negligence case contingency fee when they referred the case to their employer. On that income, Fuchsberg & Fuchsberg did not withhold taxes. The Fuchsberg associates timely reported that income and paid the required taxes, the state acknowledged. Fuchsberg & Fuchsberg maintained that it treated its referring associates exactly the same as it treated outside attorneys who brought business to the firm. It argued that its associates were hired to practice law, not drum up business, and that referrals resulting from family, social or other contacts were extra-curricular networking activities outside of their normal employment duties. Hence, the firm argued, their associates often wore two hats — that of an employee and that of an independent contractor — and were appropriately compensated separately for their distinct roles. Last year, Administrative Law Judge Dennis M. Galliher held for the Fuchsberg firm, finding that it treated referring associates precisely the same as it treated non-employees who refer cases to the Church Street practice. Galliher observed that the Fuchsberg attorneys are not required to refer matters to the firm, and he noted that Fuchsberg & Fuchsberg does not have a quota on the number of cases they bring in, or the value of business they attract. As such, he said, they function just as independent contractors. DECISION APPEALED On the appeal, the Division of Taxation acknowledged that a person can function simultaneously as an employee and independent contractor, but insisted that is not the situation here. It argued, as a practical matter, that associate referrals are hardly a distinct service performed by associates. The Tribunal agreed, viewing with skepticism managing partner Abraham Fuchsberg’s assertion that his employees are not only under no obligation to refer clients to the firm, but are free to refer clients to other firms. “This scenario seems untenable,” President Donald C. DeWitt and Commissioner Carroll R. Jenkins said in their decision. “[I]t is incongruous to imagine that an employee whose business reputation and salary is dependent on [Fuchsberg & Fuchsberg] would refer clients outside of his own firm if the case fell within the expertise of petitioner.” The Tribunal also rejected Galliher’s findings with regard to the “safe harbor” claim. “In the absence of any proof demonstrating that it determined that the independent contractors were performing a distinct service to warrant separate treatment, petitioner does not qualify for the relief set forth in section 530 of the Internal Revenue Act,” it said. Stephen Hochberg and Theodore Silver appeared for the firm. Mark F. Volk and Kevin R. Law represented the Division of Taxation.

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