INSIGHT: Author Karin Slaughter Owes Self-Employment Tax on Payments For Her ‘Brand’

The crime fiction author Karin Slaughter failed to convince the U.S. Tax Court that income from her “brand” was investment income not subject to self-employment tax.

Slaughter argued that some of the income from her publishing contracts was not related to her trade or business of writing. Her tax advisers allocated some of her income as investment income based on how much time she spent building her “brand” and not writing.

The Tax Court concluded that building her “brand” was part of Slaughter’s trade or business and ruled that all of the payments to Slaughter under her publishing contracts were income derived from her trade or business as an author. As such, that income was subject to self-employment tax. (Slaughter v. Commissioner, T.C. Memo. 2019-65 (6/4/19)).

Slaughter has worked since the 1990s to establish herself as a “brand author.” A brand author is one who provides prestige or reliable profits to a publishing house. She succeeded in working with a media coach and publishers to develop her name and likeness into a successful brand. In addition to writing, Slaughter spent time during the years at issue meeting with publishers, agents, media contacts, and others “to protect and further her status as a brand author.”

Slaughter received payments pursuant to contracts she had entered into. The publishers agreed to make two types of payments. The first was a nonrefundable advance. The second was a royalty, i.e., a portion of the revenue or profits generated by the sale of Slaughter’s manuscripts.

The publishers received more than just the right to print, publish, distribute, sell, and license the works written by Slaughter. They also secured the right to use her name and likeness in advertising, promotion, and publicity for the contracted works. The contracts also included non-compete clauses.

Slaughter received more than just advances and royalties. Some contracts, for example, included a “marketing guaranty,” requiring the publisher to spend a minimum amount on marketing for Slaughter’s books. Slaughter’s contracts did not allocate the advances or the royalties between writing the works, promoting the works, non-compete clauses, or exclusive options.

Slaughter’s promotional activities and writing created a very successful brand and body of work. She has written 18 novels; and has sold over 35 million books which have been published in 37 languages. In Slaughter’s case, her brand includes her name and likeness as well as her reputation, goodwill, and existing readership. Book buyers walk into book stores and request Slaughter’s books using her name rather than the title. Today, Slaughter spends the same amount of time writing a book as she did in 1999. The change in income (her typical advance has grown eightfold) is due to Slaughter’s cachet as a brand author. Slaughter’s name is valuable to her publishing house because it is how book buyers identify her books. In short, publishers now pay more for Slaughter’s work because of her brand.

Slaughter’s tax preparers concluded that any amount paid to Slaughter for the use of her name and likeness was “investment income,” i.e., payment for an intangible asset beyond that of her trade or business as an author. The tax preparer noted the distinction between investment income and income generated from writing because, in her opinion, only the latter would give rise to self-employment tax. To calculate the amount reported on Slaughter’s Schedule C, the preparers used a calendar-based approach. They applied the percentage of the year which Slaughter spent writing to the total payments she received for the year. The preparers told Slaughter that they did not find authority for treating the income in the manner they suggested, but advised her, nonetheless, “that the allocation on the returns was proper.” The Internal Revenue Service determined deficiencies in Slaughter’s self-employment tax totaling $267,000.

‘Derived’ From Any Trade or Business

Section 1401(a) imposes a tax on the “self-employment income” of every individual. Section 1402(b) defines self-employment income as “net earnings from self-employment.” Section 1402(a) defines net earnings from self-employment as the gross income derived by an individual from any trade or business carried on by such individual, less the deductions allowable, which are attributable to such trade or business. The term “derived,” requires a nexus between the income received and a trade or business carried on, the court said. The definition of trade or business must be construed broadly. For income to be subject to self-employment tax, a taxpayer (i) must be engaged in a trade or business; and (ii) the income must be derived from that trade or business.

The IRS contended that there was a sufficient nexus between the royalties paid to Slaughter and her trade or business of writing such that all of her income from publishing contracts is subject to self-employment tax. Slaughter contended that the payments for her brand are separate and distinct from payments for her trade or business of writing.

Slaughter offered expert testimony in support her contention that her publishers’ intent was to pay one amount for her writing and another amount for her brand. On the basis of this testimony, Slaughter contended that the amount paid for her writing was what a publisher would pay a “non-brand author,” and the excess over that amount was a separate and distinct payment for her brand.

The court noted that the statute provides that “net earnings from self-employment” includes income derived from any trade or business. An allocation within Slaughter’s contracts “is beside the point if all elements are to be allocated to a trade or business.”

The court concluded that Slaughter’s brand was part of her trade or business. The court said it construed trade or business broadly, and found that Slaughter was engaged in developing her brand with continuity and regularity for the primary purpose of income and profit. In short, developing her brand constituted the conduct of a trade or business and the income attributable to the brand was therefore derived from “any trade or business carried on by such individual.” The fact that Slaughter’s brand involved personal traits, such as her name and likeness, did not mean that it could not form part of her trade or business.

To satisfy the nexus test, the court observed, the earnings must be tied to the quantity or quality of the taxpayer’s labor. The question was not whether Slaughter’s brand was “tied to the quantity or quality of her writing, but rather whether the payments for her brand” were tied to the quantity or quality of her efforts in developing her brand. Slaughter herself admitted she had worked to develop a brand.

Slaughter’s treatment of her expenses was further evidence that payments for her brand derived from a trade or business. Slaughter deducted her expenses on Schedule C. Such expenses, the court noted, demonstrated that Slaughter’s trade or business extended beyond writing to promotion. If such promotion and brand-related expenditures were Schedule C trade or business expenses, then it followed that the income derived from the brand to which those expenses relate was also trade or business income. Thus, all of the payments to Slaughter, the advances and the royalties alike, pursuant to the publishing contracts, constituted “income derived from her trade or business as an author,” and such income was subject to self-employment tax, the court said.

As regards penalties, the court took note of the fact that Slaughter engaged the services of several qualified professionals to prepare her income tax returns. It was, the court concluded, reasonable for Slaughter to rely on her preparers’ expertise, considering that she had no background in finance. The preparers’ advice was based on an assessment of the facts of Slaughter’s situation and a comparison to available authority. Slaughter, therefore, was not liable for the negligence penalties—which amounted to over $53,000—asserted by the IRS.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Robert Willens is president of the tax and consulting firm Robert Willens LLC in New York and an adjunct professor of finance at Columbia University Graduate School of Business.