657 / How are an insurance agent’s commissions treated for self-employment tax purposes?

Termination payments (as distinguished from renewal commissions) received by a former insurance salesman are not treated as self-employment income if: (1) the amount is received after the termination of the agent’s agreement to perform for the company; (2) the agent does not perform services for the company after the date of the termination of the service agreement and before the end of the taxable year; (3) the agent enters into a covenant not to compete with the company for at least a one-year period beginning on the date of the termination; and
(4) the amount of the payment (a) depends primarily on policies sold by or credited to the agent’s account during the last year of the service agreement or to the extent such policies remain in effect for some period after termination of service, or both, and (b) does not depend to any extent on the length of service or overall earnings from services performed for such company (without regard to whether eligibility for payment depends on length of service).¹ For termination payments that do not fall within the above description, earlier case law and rulings may apply.

In a Tax Court summary opinion, the Tax Court distinguished the self-employment tax treatment of renewal commissions as compared to termination payments. In that case, the Tax Court found that the insurance agent’s renewal commissions were self-employment income subject to self-employment tax because they were tied to the quantity and quality of the taxpayer’s prior labor, and derived from the carrying on of the taxpayer’s business as an independent insurance agent.² Additionally, the Tax Court held that the insurance agent was subject to self-employment tax because he was not a statutory employee, but instead engaged in a self-employed trade or business activity.³

Finally, the 11th Circuit held that the FICA statute requiring an employer to pay a portion of the FICA tax on behalf of an “employee” does not impliedly provide a private cause of action to purported “employees” – in this case, insurance agents claiming they had been improperly classified as independent contractors – to sue their purported “employer” for nonpayment of the employer’s portion of FICA taxes.⁴