IRS guidance on medical resident FICA refund claims.

In Chief Counsel Advice (CCA) 200029030, the IRS National Office provided guidance for determining whether the student FICA exception applies to medical residents. The three-step process involves determining the status of the resident's common-law employer, establishing that the resident is a student, and meeting procedural requirements for obtaining a refund of FICA taxes.

Medical residents have generally been treated by the licks (and the Social Security Administration) as employees subject to FICA tax on their wages. In contrast, services performed by student employees of institutions of higher learning are exempted from FICA, provided the students are enrolled and regularly attending classes. A recent Eighth Circuit decision, State of Minnesota v. Apfel, 151 F3d 742 (1998), seemed to provide an opportunity to claim that services performed by medical residents are performed "as an incident to and for the purpose of pursuing a course of study" at a school, college or university, and that therefore medical residents are able to qualify for the student exception from FICA.

Common-Law Employer

According to the CCA, the first step in determining whether a resident is subject to FICA is to determine the resident's common-law employer--the entity that has the right to direct and control the resident's work. Direction and control not only determine whether the worker is an employee, but also illustrate which party is the employer when the resident has a relationship with more than one entity (e.g., a hospital and a medical school).

The National Office cautioned that the entity that pays the resident may not be the common-law employer and could instead be a statutory employer under Sec. 3401(d)(1). On the other hand, the sponsoring institution (i.e., the medical school or hospital having overall authority and responsibility for the resident's graduate medical education) may be an agent for purposes of employment tax obligations under Sec. 3504, a common paymaster under Sec. 3121 (s), or may be acting merely as a common-law agent for payroll purposes. Regardless, the student FICA exclusion applies only to the common-law employer.

The issue is further complicated by the dual functions of graduate medical education (GME) programs. The primary purpose of GME programs is to train residents, but the programs also provide residents to hospitals for the performance of patient care services. Further, while the sponsoring institution will evaluate a resident's training, it may not have the right to direct and control his patient care services. The National Office pointed out that, because the court in Apfel did not consider the medical school's employer status, the case is "not legal authority for the proposition that the medical school is the common law employer of medical residents who perform services at a hospital that is not part of the medical school or its university"

To determine direction and control, the National Office instructed its agents to determine with whom tort liability for resident negligence lies and which entity benefits economically from resident services. In addition, documentary evidence (such as employment contracts' position descriptions and written policies) is "highly relevant" to the inquiry. Other factors include the identity of the sponsoring institution, the type and duration of the residency programs at issue in the claim, the number of residents in each program and whether rotations are performed at participating institutions and their duration.

Section 218 Agreements

If a resident's common-law employer is a state or local government entity, such as a state university or hospital, an agent will determine whether the resident's services are covered under a Section 218 "agreement." Before 1991, Social Security coverage of state and local government employees was available only under an agreement pursuant to Section 218 of the Social Security Act between the state and the Social Security Administration. Such employees were excluded from coverage under FICA. If a resident's service is not covered under a Section 218 agreement, he may be subject to FICA tax under Sees. 3101-3126. Since 1991, Sec. 3121(b)(7)(F) provides that state and local government employees are covered under FICA, unless they participate in a retirement system that provides minimum retirement benefits comparable to Social Security retirement benefits.

Employer Status

The student FICA exception is available only for services performed for a school, college, university or a related Sec. 509(a)(3) organization. The Service warned that, while a university medical school would dearly meet that definition, a hospital generally would not. Even if a hospital and a medical school report wages under the same employer identification number (EIN), they may not be considered a single employer. If wages are reported under the same EIN, the agent will determine whether the university hospital is incorporated separately under state law. The existence of an affiliation agreement (without more information) will not establish that a hospital is a related Sec. 509(a)(3) organization. Also, if a medical school faculty practice plan is the common-law employer, the IRS will determine whether the plan is a related Sec. 509(a)(3) organization with respect to the university or to the medical school.

Even if an entity is a Sec. 509(a)(3) organization, the student FICA exception might not be available if the school, college or university is a state or local government employer. Citing Sec. 3121(b)(10)(B), the National Office noted that "if the related [school, college or university] is an entity that participates in a state's [Section] 218 agreement, and that state has chosen to cover students under its agreement, then the student FICA exception is not available" to the related Sec. 509(a)(3) organization.

Student Status

The IRS will use a facts-and-circumstances approach to determine whether a medical resident is a student. To do so, an agent will examine the written educational requirements of the residency program to determine whether the program changes from year to year as a residency progresses. The agent is also instructed to explore whether the written program requirements are followed in practice, looking to records of teaching rounds, seminars and other activities viewed as the equivalent to classroom activities.

Other factors include academic requirements (such as exams or research papers and projects), time spent in classroom activities, whether the program leads to a degree or certificate, and whether a resident can be terminated from the program for failure to meet academic standards. Agents will also inquire as to whether the resident is provided with employee benefits (such as vacation, sick leave and the ability to participate in a retirement or Sec. 403(b) plan).

Procedural Requirements

Several procedural requirements must be met for an employer to receive a refund of the employer and employee portions of FICA tax:

1. If more than the correct amount of employer or employee FICA tax is paid on any remuneration, adjustments to both the tax and the amount to be deducted must be made; if an overpayment cannot be adjusted, the amount must be refunded (Sec. 6413(a)).

2. When an employer has paid more than the correct amount of employee tax under Sec. 3101 after the return reporting the payment has been filed, the employer "shall repay or reimburse the employee" if the error is ascertained within the applicable limitations period. The employer is exempted from the refund requirement if the overcollection and overpayment to the district director is "made the subject of a claim ... for refund or credit, and the employer elects to secure the written consent of the employee to the allowance of the refund or credit under the procedure provided in [Kegs. Sec. 31.6402(a)-2(a)(2)(i)]."

3. Claims for refunds or credits must include a statement that the employer has repaid the tax to the employee or has obtained written consent from the employee to the allowance of the refund or credit (Regs. Sec. 31.6402(a)-2(a)(2)(1)).

4. If the claim relates to tax collected in a year prior to the year in which the credit or refund claim is made, the employer must submit a statement obtained from the employee that (a) the employee has not claimed refund or credit of the amount of the overcollection or, if so, such claim has been rejected (Regs. Sec. 31.6402(a)-2(a)(2)(ii)) and (b) the employee will not claim a refund or credit of such amount. The employer's notification and request for employee consents will be treated as fulfilling its duty to first adjust employee overcollection, even if the employee refuses to sign a consent.

FROM PHIL ROYALTY, WASHINGTON, DC