Although I wrote this originally for El Blog de HOLA with actors in mind, loan-out companies are used by artists and entertainers of all stripes; directors, musicians, writers, producers, fashion designers, etc. Therefore, the following below is beneficial to you too if you have reached a certain level of success in the arts and entertainment industries.
“I’ve heard that a lot of Hollywood actors have a loan-out company for their acting services. What is a loan-out company and should I form one?”
A loan-out company is a business entity formed by entertainers like actors, musicians, directors, producers, etc. (“owner”) to provide their services under the guise of “employee” to a third party like a studio, production company, television network, record label, etc. Although usually a C corporation (one that is taxed separately from its owners), the loan-out can be an LLC (limited liability company)or an S corporation. It is called a loan-out because the company “lends” the services of the “owner”/“employee” via contract with the third party. Instead of the entertainer, the loan-out is the signatory to the contract. The loan-out company then “hires” the entertainer to do the job. However, note that many third party companies like studios make the entertainer sign an inducement which is basically an additional document that creates an obligation to the third party, i.e. it makes the entertainer promise to live up to the promise made by the loan-out.
I know you’re probably asking, What’s the point of doing all that?
In a nutshell, entertainers set up loan-out companies for the following reasons:
• To take advantage of favorable tax breaks that are available to corporations and LLCs (such as medical reimbursements and other employee benefits) but not to self-employed individuals.
• To allow the loan-out to provide the “owner”/“employee” with essential services (everything from accounting to legal to coaching to agency representation) and then deduct them as business expenses.
• To pay a lower tax rate. Under the progressive income tax system, wage earners pay a higher tax rate as their income goes up. However, corporations are taxed at a flat rate and that flat rate is usually lower than the rate for a person earning the same amount.
• To set up an IRS-qualified pension plan that offers tax benefits to “owner”/“employee” contributors.
• To initiate a profit-sharing plan that lets the “owner”/“employee” contribute a certain amount from year to year towards their retirement.
• To protect the company’s assets from the entertainer’s creditors and lawsuits. Technically, any money the entertainer earns through the loan-out as an “owner”/“employee” belongs to the loan-out. Only the property the entertainer possesses, as an individual separate from the loan-out, is accessible to creditors.
By now you’re probably thinking, This loan-out sounds like a good idea, help me form one.
But here’s the reality check:
• You need to be making a good amount of money first; at least $75,000 and preferably over $100,000 a year to truly benefit.
• It takes money and work to maintain a loan-out company. You have to make annual filings and tax payments to the state you formed it in to maintain your company’s status. And you probably have to make payments to the states where you operate in as well. So if you live in New York but work in Los Angeles then you can see how it adds up.
• If your company is a corporation (or your LLC elects to be classified as a corporation) then you will face double taxation. That means the loan-out pays taxes on its net earnings and then the “owner”/“employee” pays taxes on the wages and bonuses the company pays the “owner”/“employee.”
• It can all be for naught as there is a possibility you end up paying the higher personal rate of taxation instead of the lower corporate tax rate because the Internal Revenue Service (IRS) considers your loan-out as a tax-avoidance scheme. The IRS is aware of loan-outs and what they are used for and so if the company is not properly established and maintained then the IRS will be suspicious of the loan-out. To avoid suspicion, the entertainer should form the loan-out BEFORE signing the contract.
The loan-out is simply a business and legal strategic tool to protect and manage your earnings. While it can provide substantial tax benefits and other bonuses, a loan-out requires proper planning, formation, maintenance and administration. Otherwise, it can end up being a major headache. Therefore, it’s worth the time and money to seek out professional help from a tax advisor familiar with the entertainment industry, as well as, an entertainment lawyer who understands the industry and your needs.
Danny Jiminian is an attorney who specializes in Entertainment Law, Intellectual Property, Business Law and Nonprofits and practices out of New York. For a free consultation, reach me at my email.
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