Music Teachers and Unemployment Compensation Taxes

Music retailers who offer lessons to their customers have an option when it comes to “hiring” a teacher to provide instruction: they can treat the teacher as an employee or, if IRS guidance is met, they can treat the teacher as an independent contractor.

IRS rules are not clear-cut, but essentially provide that a teacher is more likely to be an independent contractor if the retailer does not exercise much control over the teacher’s activity. Some elements demonstrating a lack of retailer control are: (a) the teacher setting his/her own hours, (b) the teacher only being paid for lessons offered, rather than for time spent in the store, and (c) the teacher provides his/her own music and lesson instruments (except perhaps for a piano).  A written agreement with the teacher is helpful, but does not by itself determine the nature of the relationship.

The benefits to a retailer of an independent contractor relationship are substantial. The retailer does not have to pay the employer share of Social Security payroll taxes for the teacher and does not have to withhold federal or state income taxes. Similarly, the teacher is not eligible for benefits offered to regular employees. But the retailer does have to file an annual Form 1099 reflecting payments made to the teacher for services rendered.

As some music retailers in an Eastern state found out recently, the independent contractor relationship may not extend to state unemployment taxes. That’s because at least 25 states require employers to pay unemployment taxes on payments made to all independent contractors (as well as employees) unless the individual’s services are performed either outside the usual course of the business for the retailer or are performed outside of all places of business for the enterprise for which it is performed.

For example, payments made to an independent contractor electrician for work performed at the retailer’s establishment would be exempt from unemployment taxes because electrical work is not within the scope of the music retailer’s ordinary business operations. But because a music teacher’s services are within the scope of the retailer’s business, those payments are not exempt from unemployment taxes.

As indicated, not all states treat independent contractors in this manner; it’s therefore a good idea to determine how your state handles independent contractors so that payments can be made when they are due—rather than being hit with penalties for failing to make proper payments on time.