8732 / Is a life insurance agent typically an employee or an independent contractor? How does this classification impact the agent’s ability to deduct business expenses?

The amount of the deduction for a life insurance agent’s expenses is directly related to the agent’s status either as an independent contractor or an employee. Typically, whether an insurance agent is considered an independent contractor or an employee is determined on the basis of all the facts and circumstances involved. The IRS uses the same 20 factors discussed in Q 8723 in determining an individual’s status as employee or self-employed person.¹

Under the common law rules, most life insurance agents are self-employed individuals, and this is their status generally for tax purposes. Thus, in the usual case, a life insurance agent reports income as an independent contractor, using Schedule C of Form 1040 for business income and deductions. This means that he may deduct most of his business expenses directly from gross income.²

However, even a life insurance agent who is an employee under the common law rules may be permitted to deduct certain business expenses directly from gross income. This rule is limited to those expenses for which reimbursement has been included in the agent’s gross income. Work expenses which are not fully reimbursed are generally deductible as miscellaneous itemized deductions; thus, they are permitted only to the extent that the aggregate exceeds 2 percent of adjusted gross income.³ (Note that these deductions are not available for 2018-2025.)

The IRS has ruled that a full-time life insurance salesperson is not an “employee” for purposes of IRC Sections 62 and 67, even though he is treated as a “statutory employee” for Social Security tax purposes.⁴

On the other hand, the IRS has found that a district manager of an insurance company was an employee of the company, and not an independent contractor.⁵ The IRS found that regional and senior sales vice presidents of an insurance company (but who were not officers of the company) were independent contractors and not employees of the insurance company.⁶

The courts have also made decisions in various cases concerning an insurance agent’s classification as an employee or independent contractor. As with other employment situations, where an employer has the right to control the manner and the means by which the agent performs services, an employer-employee relationship will generally be found.⁷

However, according to decisions from the Sixth and Eleventh Circuits, the fact that an insurance agent received certain employee benefits did not preclude his being considered an independent contractor, based on all the other facts and circumstances of the case. The Sixth Circuit rejected the IRS claim that a discharge provision in an agreement between agent and insurance company guaranteeing that the agent would not be fired for unsatisfactory performance unless he was first given notice that his work was unsatisfactory and his job in jeopardy, and was given the chance to bring his performance up to satisfactory levels, provided the company with the “right to control” the manner in which the agent performed his work. The court ruled that the provision simply reflected both the importance the company attached to sales productivity and its willingness to provide low -producing agents with a chance to bring productivity to acceptable levels before being terminated.⁸

The Sixth Circuit Court of Appeals recently confirmed that lifeinsurance agents were properly classified as independent contractors, rather than employees. The case involved eligibility for benefits under ERISA, and a district court, using the traditional Darden factors for determining classification status, had ruled in 2017 that the agents were employees who were eligible for ERISA benefits. In reversing the lower court, the Sixth Circuit gave weight to the fact that both parties had expressed their intent that an independent contractor relationship would apply. The case also opens the possibility that the weight given to the various Darden factors should vary based upon the context of the case--for example, in this case, financial benefits were at issue, so the court gave more weight to the financial structure of the relationship.⁹

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Planning Point: Certain types of full-time insurance salesmen may qualify as “statutory employees” under IRC Section 3121(d)(3), rather than “common law employees,” and, as such, may use Schedule C of Form 1040 to determine net profit or loss.¹⁰ To qualify as a statutory employee under Section 3121(d)(3), the taxpayer must show: (1) that his entire or principal business activity was devoted to the solicitation of life insurance or annuity contracts; (2) that he did not have a substantial investment in the facilities used in connection with the performance of his services; and (3) that he is not a common law employee.¹¹

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