Wednesday, January 9, 2008

ASK THE TAX PRO – RESIDUAL COMMISI0NS PAID TO A RETIRED INSURANCE SALESMAN

Q. I have been a self employed insurance agent and reported my income and expenses on Schedule C. I retired this year but still receive residual commissions from the insurance company. I have no expenses as I am out of the business. Do I report this income on Form 1040, Line 21?

A. The Taxpayer Relief Act of 1997 added Section 1402(k) to the Tax Code, which provides that amounts received during the year from an insurance company on account of services performed by an individual as an insurance salesman for the company are not considered to be “earnings from self-employment” and subject to the self-employment tax if -
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(1) the amount is received after termination of the individual's agreement to perform services for the company;

(2) the individual performs no services for the company after the agreement ends and before the close of the taxable year;

(3) the payments are conditioned on the salesman's agreeing not to compete with the company for at least one year following termination of the agreement; and
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(4) the amount of the payments depends primarily on: (a) policies sold by, or credited to the account of, the individual during the last year of the agreement, and/or (b) the extent to which the policies remain in force for some period after the agreement ends, and (c) does not depend to any extent on length of service or overall earnings from services performed for such company.
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The Code Section refers to “agreement to perform services” and “termination of agreement” and not “employment agreement” or “termination of employment” - so I do not believe the fact you reported your income and expenses as a “sole proprietor” on Schedule C makes any difference in the determination.

I agree that such “residual” commission payments should be reported as “other income and reimbursements not included on any other line or schedule” on Line 21 of the Form 1040, with perhaps an attached statement to the effect that the income reported on Line 21 represents payments received as per Internal Revenue Code Section 1402(k).

As the payments are not considered to be included in “net earnings from self-employment” or subject to self-employment tax, you also cannot make contributions to a retirement plan based on these payments.

TTFN

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