Tax season can be tricky for staffing agencies, with unique considerations for classifying workers and maximizing deductions. With multiple employees working multiple job assignments with varying lengths of time, staffing agencies can face challenges when it comes to navigating taxes. With evolving regulations, a myriad of potential deductions and credits, staying compliant and maximizing these best tax strategies for staffing agencies does require a strategic approach. 
Here are the best tax strategies for staffing agencies to help you navigate the complexities of running a staffing agency:
1. Worker Classification: Essential for Compliance
At the heart of tax compliance for staffing agencies lies the critical distinction between employees and independent contractors. Misclassification can trigger significant financial penalties and legal repercussions. It can be difficult for staffing agencies to decide if someone is an employee or an independent contractor. The temporary nature of your short-term jobs and influence from the client company where your member works can make it hard to tell who’s really in charge. When workers aren’t correctly classified, problems can arise.
The IRS employs a multi-factor test to determine worker status, considering elements such as behavioral control, financial control, and the relationship between the parties. When in doubt, utilize Form SS-8 to obtain an official IRS determination. Firms and workers file Form SS-8 to request a determination of the status of a worker for purposes of federal employment taxes and income tax withholding.
According to the IRS, “Filing a Form SS-8 requesting a “worker status” determination means you or the firm is asking the Service to establish if the services you provide to the firm are those of an employee or an independent contractor.”
2. Potential Tax Credits to Consider
Tax credits can be invaluable for staffing agencies seeking to reduce their tax liability. The Work Opportunity Tax Credit (WOTC), for instance, provides a substantial credit for hiring individuals from targeted groups facing barriers to employment, such as veterans, ex-felons, and long-term unemployed individuals. Diligent research and proper documentation are essential to capitalize on these opportunities.
In our experience with our WOTC integrated partner via COATS Staffing Software, it’s not uncommon for clients, especially those focusing on specific WOTC target groups or with a high volume of placements, to save tens of thousands to even hundreds of thousands of dollars annually through the Work Opportunity Tax Credit. Reliance Staffing & Recruiting was credited with over $150K for two years through employees living in empowerment zones, long term unemployment and veteran tax credits.
The maximum tax credit is usually $2,400 per employee. A rate of 25% applies to individuals who work less than 400 but at least 120 hours for the staffing agency. Up to $24,000 in salary can be considered to determine the tax credit for certain qualified veterans. WOTC tax credits work!
A national staffing agency saw over $100,000 in tax savings in one year by using the WOTC tax credit for veterans. This company specialized in placing veterans in manufacturing roles, they implemented a WOTC program that integrated with their applicant tracking system and because they checked for their eligibility during the onboarding process (which was automated) they claimed this large credit on this portion of their new hires. They then expanded their recruitment efforts and offered support services for their veteran candidates.
The amount of savings depends on factors like:
- Number of eligible new hires: The more WOTC-qualifying employees they hire, the greater the credit.
- Targeted groups hired: Some target groups have higher credit amounts than others.
- Employee retention: The credit is sometimes tied to the employee working a minimum number of hours.
- Proper documentation and claiming: Accurate and timely filing is essential to receive the credit.
Research and Development (R&D) Tax Credit: If a staffing agency develops new software or innovative processes for recruiting or matching candidates, you might qualify for this credit.
Employer-Provided Child Care Credit: If a staffing agency offers child care assistance as a benefit to placed employees such as information and referrals, a tax credit can apply. Staffing firms can provide lists of licensed childcare providers, information on different types of care (e.g., daycare centers, home-based care), and resources for evaluating quality.
Disabled Access Credit: If your staffing agency makes improvements to your office to make it more accessible for employees or candidates with disabilities, look into claiming this credit. Some examples include installing ramps, widening doorways, or upgrading restrooms.
3. Record-Keeping
Organized and accurate record-keeping is critical in the staffing industry. Maintaining comprehensive records for each temporary employee such as their classification, wages, taxes withheld, garnishments, liens, benefits provided, and any other relevant information can keep your staffing agency from paying penalties and interest on payroll taxes. This not only facilitates tax preparation but also provides an audit trail if needed.
For the staffing industry, payroll includes not just wages paid to temporary workers, but also employer-paid taxes, benefits (if offered), and any internal payroll costs. Since staffing agencies exist to place workers, this is naturally the biggest outlay and is why your software system has to be highly capable of tracking all data needed for each temporary employee you place.
4. Navigating Payroll Taxes
Staying on top of federal and state payroll tax requirements is, of course, essential. Every staffing agency should understand the nuances of withholding, reporting, and depositing taxes accurately and on time. Understand your state’s unemployment tax rates and regulations which can vary significantly and also change yearly. Report wages and pay unemployment taxes accurately and on time.
Using a staffing industry specific payroll software (such as COATS Staffing Software) to automate these processes and minimize errors should be at the top of your list to implement this year. Having the ability to manage payroll end-to-end including generating employee pay statements, preparing tax forms and encouraging employee self-service reduces errors and saves your team a lot of time. This should be standard practice and automated, the easy part of your daily operations.
5. Maximizing Deductions for Employee Benefits
Many employee benefits offer tax advantages for staffing agencies. Health insurance premiums, retirement plan contributions (more typically provided in higher level or tech staffing firms), and educational assistance programs are often deductible expenses. Structure your benefits programs strategically to maximize these deductions and reduce your overall tax burden.
For example, using a traditional 401(k), both the staffing agency and the employee benefit from tax advantages. Employees can reduce their current taxable income by contributing pre-tax money, which lowers their immediate tax bill. And, a staffing agency can deduct their own contributions to employee accounts, including any matching funds they provide. When the employee and employer benefit, it’s nice to see tax savings for both and can encourage retirement readiness.
6. Home Office Deduction
If you maintain a dedicated home office space used only and regularly for your staffing business, you may be eligible for the home office deduction. Track expenses related to your home office, such as the portion of your office based on your home to deduct for rent, utilities, and repairs. Consult with a tax professional to determine your eligibility and ensure proper documentation.
7. How is your business classified?
Ensure your staffing agency is properly classified for tax purposes. This can affect the types of deductions and credits you can claim. Consult a tax professional to verify that your business structure—whether it’s an LLC, S corporation, or C corporation—is optimized for tax savings.
While there’s no one-size-fits-all answer, S corporations are often a favorable choice for profitable staffing agencies. This structure can offer a balance of tax benefits and liability protection. There are definitely pros and cons to each, each firm needs to review them in detail and carefully consider your specific circumstances.
8. Leverage Section 179 Deduction:
Take advantage of the Section 179 deduction that allows firms to deduct the full purchase price of qualifying equipment and software purchased or financed during the year. This can significantly reduce your taxable income.
This deduction allows staffing firms to immediately expense the cost of a wide range of equipment and software. For example, computers, laptops, and servers that most likely are the backbone of your IT infrastructure are included. It also covers specialized software, such as applicant tracking systems for staffing firms (COATS) or design software for architects. Office furniture like desks, chairs, and filing cabinets also qualify as well as telephone systems, including VoIP and traditional phone equipment, and vehicles used primarily for business purposes.
Prioritizing these best tax strategies for staffing agencies, you will establish a solid foundation for compliance and tax optimization. Having professional guidance from tax advisors or legal counsel specializing in the staffing industry offers support.
The American Staffing Association (ASA) is a great resource for staying in the loop on a wide range of regulations that affect the staffing industry. They keep members updated on important things like employment and tax laws and industry-specific regulations. They also have webinars and conferences where you can learn from experts about complex tax issues. It’s like having a friend who knows all the tax rules for staffing.
The next ASA conference will take place in Washington, D.C. on May 8th through May 9th, 2025 The ASA Staffing Law and Compliance Conference has been held for years and has been a key event for the staffing industry, evolving and adapting to address the constantly changing legal and regulatory landscape.