Summary: Include the income when it is earned, not when it is received. For real estate agents, this is most often considered to be the date that all conditions are met on the sale, as opposed to the closing date. So relying on a tax return may lead to errors in the calculation of income replacement benefits.
Background: In real estate sales, an agent performs many tasks in order to sell a property. Most of the work is performed prior to the sale, although the agent receives no compensation related to this work until the sale closes. Many offers are conditional on some future event, such as the purchaser being able to obtain financing or a home inspection. Once the purchaser waives the conditions of sale, the offer becomes “firm” and the payment of the commission becomes reasonably certain.
The amount of commission that an agent will receive from the sale can be determined once the transaction price has been established,which usually occurs at the time an offer for the property has been accepted.
The actual payment of the commission to the agent occurs on the date the transaction closes, which may be weeks or months in the future. It is on this date, when the transaction closes, that the agent receives their commission, and on this date that the income is recorded for income tax purposes.
Key Decisions:
Gaudreault and Pilot (FSCO P-007144)
The Reallocation:
For IRB purposes, arbitrators appear to have accepted that the income is earned at the point at which there is a firm agreement in place, when all conditions have been met, as it is reasonably certain at that point that the agent will receive the commission income.
If the offer “firm” date falls within the pre-accident period (52-weeks pre-accident or the last taxation year), the related commission income would be included in the insured’s gross annual income, regardless of when the transaction closes. For sales that close during the pre-accident period, but which became “firm” prior to the start of the pre-accident period, the income would be excluded from the calculation of gross annual income. Likewise, if an offer becomes “firm” after the accident, it may be included as income earned after the accident.
The following is an example which illustrates these concepts.
Mr. Jones was injured in a car accident on February 29, 2008. He reported net income on his 2007 tax return as follows:
Net Income in the last taxation year before the accident: $32,000
Less: Commissions paid in Feb 2007 that became firm in Dec 2006 ($4,000)
Add: Commissions paid in Jan 2008 that became firm in Dec 2007 $8,000
Adjusted gross annual income $36,000
Due to the value of some commissions, this reallocation process can cause drastic swings in an individuals income. It is for this reason, that background detail on an insured’s actual sales is required.
What are you to do?
Most real estate offices can provide detailed reports showing the sales date, the “firm” date, the closing date and commission details of the transactions. In addition, “trade record sheets” for each transaction can be used to confirm this information.
If you would like a sample document request list for a real estate agent, please do not hesitate to contact us at info@adsforensics.com.