SSR 65-6: SECTION 203. -- NET EARNINGS FROM SELF-EMPLOYMENT -- SUBSTANTIAL SERVICES FOR DEDUCTION PURPOSES
20 CFR 404.416
- An old-age insurance beneficiary alleged he had retired and had leased his partnership interest in a motel to his son. His son took no part in the business operation and management; however, the beneficiary continued to participate in its operation and management much the same as he had before the leasing arrangement. The beneficiary's former partner continued to regard him as his partner and to consult him regarding business matters. Held, the beneficiary continued as a partner in the motel and was rendering substantial services in self-employment, which in view of his earnings caused deductions from his benefits under section 203 of the Act.
A fully insured worker, R, filed application for and became entitled to old-age insurance benefits beginning May 1961. R stated that he had derived earnings of only $1,000 from January 1, 1961, until May 7, 1961, when he filed his application, and that he did not expect to earn over $1,200 for the entire year. he also stated that beginning with May 1961 he was neither working as an employee for wages in excess of $100 a month nor rendering substantial services in self-employment.
R and his partner, P, had operated the X Motel under an oral partnership agreement since 1947. Both R and P devoted equal time to its operation and shared equally in the income or loss of the business. They filed partnership returns each year and jointly owned all the partnership property.
R stated that in May 1961 he had leased his interest in the partnership to his son, S; that according to the agreement he (R) would not share in the profits (or losses) of the business but that S would pay him a "rental fee" of $1,000 annually; and that R would be available for counsel but would not participate in the operation and management of the motel.
At the time of the agreement, S was employed full time elsewhere. He apparently did some work for the motel during the period from May 1961 until September 1961 when he entered a dental school as a full-time student. He never took a substantially active part in the management and operation of the motel. During the time S worked at the motel, R worked there 2 days a week performing such jobs as renting and cleaning rooms and related services for which it was allegedly agreed he was to be paid $50 a month by S. In addition, R was available for work and remained at the motel 8 hours a day every other day of the week. R stated that S never paid him for the work as the business was not making enough money to make such payments possible. The net partnership profits were $5,600 in 1961 and $3,400 in 1962.
Beginning in September 1961, R resumed rendering such services as were needed to further the success of the business. P operated the motel 12 hours a day and R operated it the other 12 hours.
When S returned from school for summer vacation in 1962, he resumed his former employment and took no part in operating the motel. P never consulted S regarding any business matters and at all times treated R as his partner. The leasing arrangement was terminated effective December 31, 1962.
Section 203 of the Social Security Act provides, in effect, that if "excess earnings" for a taxable year are chargeable to a month in that year, a deduction will be made from benefits for that month. A person has excess earnings in a taxable year when his earnings for that year (i.e., his wages for services rendered in that year plus his net earnings from self-employment in that year) exceed $100 times the number of months in that year. Excess earnings may be charged (and work deductions can be imposed) only for months in which the beneficiary is entitled to benefits, is under age 72, and has either rendered services for wages of over $100 or has rendered substantial services in self-employment.
Section 211(a) of the Act provides, in pertinent part, for the inclusion of the distributive share of income from a trade or business carried on by a partnership, of which an individual is a member, in computing the net earnings from self-employment of such individual.
The issue here is whether work deductions under section 203 of the Act should be imposed against R's benefits for the months of May 1961 through December 1962 when the leasing arrangement was alleged to have been in effect. In other words, if R withdrew from the partnership in May 1961, and thereafter did not work as an employee for wages of $100 a month, nor render substantial services in self-employment, his old-age insurance benefits would not be subject to deductions for May 1961 through December 1962. On the other hand, if he continued to be a partner in the motel business and rendered substantial services in self-employment in all of the months involved, then his earnings would include one-half of the net profits (or loss) of the business and deductions against his benefits would have to be imposed on the basis of such earnings if such earnings exceeded $1,200 a year.
In determining whether an individual's services in self-employment are substantial, § 404.416 of the Social Security Administration Regulations (20 CFR 404.416) provides that the following factors, among others, be considered: (1) the amount of time the individual devoted to any trade or business: (2) the nature of the services rendered by the individual; (3) the relationship of the individual's activity performed prior to the time he allegedly retired with that performed thereafter; (4) the presence or absence of a paid manager, a partner, or a family member who manages the business; (5) the type of business establishment that is involved; and (6) the amount of capital invested in the trade or business.
The facts of this case do not rebut the statutory presumption (section 203(f)(4) of the Act) that R rendered substantial services; they do not demonstrate that R actually divorced himself from the partnership or that his son acquired any interest in the partnership, regardless of the "leasing" of R's share of the partnership to him. P continued to regard R as an active partner in the business and, notwithstanding the "lease," consulted R about business matters. R continued to actively participate in the operation and management of the business and was responsible for being at the motel for 12 hours daily from September 1961 on and at least 8 hours daily prior thereto.
While in general it is neither improper nor illegal to terminate or otherwise arrange a business relationship in order to receive benefit payments under the Act, any such arrangement or transaction must be bona fide. If it is not such, it is neither within the spirit nor the letter of the law. The following court decisions support the Secretary's authority to look through the form to the substance of an arrangement: Flemming v. Lindgren 275 F.2d 596 (9 Cir. 1960); Gancher v. Hobby 145 F.Supp. 461 (D. Conn., 1955); Howatt v. Folsom 253 F.2d 680 (3 Cir., 1958).
In this case, R was regarded by P as a full partner in the business; was consulted as to the operation of the business; and he assisted as a full partner in the management of the business. The amount of time R spent in the rendition of services was substantial and his services were vital to the business.
Accordingly, it is held that R did not retire as of May 1961 as he alleged but continued as a partner in the business and rendered substantial services in self-employment in each of the months of May 1961 through December 1962, that he had earnings of $2,800 in 1961 and $1,700 in 1962 (50 percent of the partnership profits), and that deductions should be imposed against his monthly benefits on the basis of such work and earnings.