I am writing to let you know of an important and disturbing development that is threatening the yoga community in California.
The Threat To Your Yoga Studio
The California Economic Development Department (the “EDD”) has been aggressively targeting yoga studios in California to determine whether they have properly classified yoga teachers and other workers as independent contractors rather than as employees. The EDD targets industries that are abusing the tax laws, audits and forces re-classification of workers from independent contractors to employees. The EDD may have set its sights on the yoga industry in California.
I know of eight studios that are being audited in the Bay Area alone. I know of several more which are under audit in Southern California. Although some audits are ongoing, substantial fines have been imposed against yoga studios. I do not know of any studios that have won their audits. If you hear of any audits in your area, please let me know.
The EDD has an agreement with the IRS where they share information about companies that have misclassified their workers. If a studio is audited by the EDD, it may be audited again by the IRS. I have seen this in other States.
If you are audited and lose, you will pay back taxes and penalties. You may be forced to change your business model to employer-employee and your cost of doing business will increase. Your relationship with your teachers will change. You must comply with a large body of employment and tax laws.
Penalties For Misclassification
If you misclassify your workers and lose your audit, you may be liable for state unemployment taxes, worker’s compensation insurance, unpaid payroll taxes, penalties and interest. The EDD can look back three years. If you are audited by the IRS and lose, you may be liable for federal tax withholding, FICA and Medicare payments, federal unemployment, penalties and interest. In 2012, California passed a new independent contractor law. It imposes harsh civil penalties. For each violation, you may face a penalty of between $5,000 and $15,000 in addition to back taxes and other penalties. These may increase if there is a “pattern or practice” of violations.
What Can Yoga Studios Do?
You have three choices:
1. Do nothing and hope you do not get audited.
This is an unwise strategy. Your chances of being audited have now increased. If a studio in your town has been audited and converts to employer-employee, it may report your studio to the EDD because it is at a competitive disadvantage. Audits have been triggered when workers have mistakenly filed for unemployment compensation. The EDD randomly audits businesses. If you do nothing and are audited, you may be following business practices that may cause you to lose your audit.
2. Build Your Case That Your Teachers Are Independent Contractors
Take a very conservative position on classifying your workers as independent contractors and build the strongest legal case to defend yourself. The basic steps are to research and understand the law, complete the IRS and California independent contractor worksheets to assess whether you have properly classified your workers, change your business practices, use professional independent contractor agreements and avoid red flags.
The law in this area is too complex to discuss in this letter but the key legal test is control. The more you control your teachers, the greater the chance they are employees. The less you control your teachers, the greater the chance they are independent contractors.
You should consult with your tax expert, accountant or employment lawyer to get professional guidance on whether you have properly classified your workers.
3. Convert to the Employer-Employee Model
Studios are beginning to convert to the employer-employee model as a way to cut-off the accrual of additional liability and to stop worrying about an audit. This is more common for larger studios or studio chains. Some smaller studios are beginning to convert. You should consult with your tax expert, accountant or employment lawyer to get professional guidance if you want to convert.
Avoid Red Flags
Make sure that you do not have any red flags. Some of these red flags are: (i) failing to get invoices from your teachers; (ii) not using professional independent contractor agreements or using “do it yourself” agreements (or none at all); (iii) supervising your teachers; (iii) requiring teachers to follow a studio manual which makes them do odd jobs around the studio and controls the way they teach; (iv) requiring teachers to open and close the studio and collect money from students; (v) paying benefits or business expenses of the teachers; and (vi) not requiring teachers to run independent businesses.
What Should Yoga Teachers Do About The Independent Contractor Problem?
Many yoga teachers think this is not their problem because the studios are liable for properly classifying their workers. However, yoga teachers have an important stake in this issue. If a studio is audited and loses, it may be driven out of business. This devastates the yoga community and you will lose your job. If the studio survives and converts to employer-employee, taxes will be deducted from your paycheck and you will lose your tax deductions for that studio.
Yoga teachers should bring these issues to the attention of the studio owners and encourage them to make intentional, informed decisions as to the business model they wish to follow. If you work at a studio and see the red flags, provide the studio with a copy of this article and encourage it to get professional help.
My Role In This Situation
My intention is to educate the California yoga community about the alarming actions of the EDD and the effect that an audit and potential tax liabilities may have on the viability of yoga studios. I hope to empower you to understand and comply with the tax laws to reduce your chances of tax liability. I want to see yoga studios build strong businesses so they can continue to provide the benefits of yoga.
I am not a member of the California State Bar, I do not specialize in employment law and this letter is not legal advice. I am not soliciting or accepting any legal representation of yoga studios in California on matters involving classification of yoga teachers.
Here is how I can help:
1. You can buy a copy of my book Light on Law For Independent Contractors. It has 200 pages of discussion and resources on both the federal and state law of independent contractors and employees. It has a chapter on California law. It has both the IRS and EDD worksheets to use for classifying workers. It has model independent contractor and employment agreements. Here is the link if you are interested:
2. You can consult with me from a business point of view to discuss your situation and assess the best way forward. I will be happy to provide you with the EDD Information and Worksheet, the Tax Audit Guidelines, the EDD Worksheet and the IRS Guidelines.
3. You can contact me and I will be happy to refer you to a California lawyer who specializes in this area of the law.
I am very sorry to bring these unpleasant developments to you but I have seen the results of these audits and they are heartbreaking. We cannot continue under the conventional view that teachers are independent contractors because “everyone else does it that way.” Both the IRS and the States are auditing businesses nationally over this issue. They view using independent contractors as abusive and want the tax revenues. I view this is a result of the success of yoga. As money has flowed into yoga and the mainstream media has embraced yoga in everything from advertisements to movies, it has caught the attention of the tax collectors and they are following the money. They want our tax revenues.
ASCAP is the American Society of Composers, Authors and Publishers. It is a membership association of more than 500,000 composers, songwriters, lyricists and music publishers of every kind of music. It represents hundreds of thousands of music creators worldwide.
ASCAP protects the rights of its members by licensing and distributing royalties for the non-dramatic public performances of their copyrighted works. It licenses music to all who want to perform copyrighted music publicly.
An ASCAP license authorizes performances of millions of copyrighted musical works in the ASCAP repertory and in the repertories of affiliated foreign performing rights organizations representing over 100 territories. ASCAP announced that it distributed over $851.2 million in royalties to its members in 2013, an increase of nearly $24 million over 2012.
ASCAP has discovered that yoga studios are a source of licensing revenues and are now targeting the community. ASCAP has been sending demand letters to yoga studios which require them to purchase a license for the performance of music within the studio.
Playing music in a yoga studio is considered a public performance of music which requires the permission of the owner of the music. The permission requires the payment of a licensing fee. Because studios are receiving an economic benefit from playing music to enhance the experience of the students, it strengthens the claim that the owners of the music are entitled to payment of a license fee.
The most recent ASCAP letter that I have seen requires the payment of royalties because a yoga studio is considered a “dance school” within the definition of the ASCAP license. A “dance school” is a school that teaches “jazz, classical, ballet, tap, modern ballet, acrobatic, gymnastic, square, folk, ethnic, baton, aerobics, yoga, zumba, pilates, hip-hop, fitness, exercise and workout classes.” The fees are based upon tiers of students. These tiers are: not more than 75, not more than 150, not more than 300 and over 300 students.
Unfortunately, the license is only for a year, and you can expect ASCAP to hit you for another license in the second year. The fee is also adjusted annually based upon he Consumer Price Index.
As a practical matter, there is very little you can do. ASCAP has lawyers, money and are experts at extracting licensing fees. If you decide not to pay the fee, ASCAP will ramp up the pressure until you do and you may be at risk for an infringement action. The fine under the Copyright Act for a public performance violation can be as high as $150,000 per occurrence (i.e., per song played).
You may also be at risk for paying fees to the other two licensing agencies which are similar to ASCAP: BMI and SESAC. Yoga Alliance has advised the following:
“However, if you pay licensing fees to ASCAP, that won’t protect you from BMI and SESAC. A public performance without permission of even one musical work from within either company’s catalog triggers the obligation to pay royalties for use of their entire catalog. Furthermore, paying ASCAP may make it more likely that you will subsequently face demands from BMI and/or SESAC to pay them licensing fees as well. So the only way to eliminate all risk is to pay licensing fees to all three companies…”
In my workshops, my advice has been for studios to play as much music as they can that is covered by a blanket license. This is music from Pandora and Spotify, and other sources which have ASCAP blanket licenses. Then you have an argument that only a portion of your studio’s musical performances are infringing. Using live and original music may help your argument. This may give you an argument to lower your license fees.
You may also be able to use music that is in the public domain (old music that was composed before the early 1900s) or music that is made available royalty-free through a Creative Commons license. These options are not attractive because it will be difficult for you to find appropriate music that is outside of the scope of ASCAP and, even if you do, you may still get hit and be compelled to pay the ASCAP licensing fee. It is legally complicated to determine if music is in the public domain or if it is being used within a Creative Commons license.
Another approach is to take the position that the studio is not liable for the music played by its independent contractors (i.e., the teachers). By definition, the teachers are running independent businesses and are responsible for their own music. Many teachers bring their own devices and plug into the studio’s system. The studio is only responsible for music played by its employees. A studio may be able to use this argument to negotiate getting into the cheapest tier.
Obviously, this approach would not be popular with the teachers! Also, ASCAP may take the position that it will base its calculation of your license fees upon the number of students in the studio, irrespective of who is playing the music.
Last, I understand that Yoga Alliance is planning to contact ASCAP, BMI and SESAC to determine whether they can negotiate a special deal for yoga studios. I wish them the best of luck on this but chances of success are low.
Signing a lease is one of the most important economic actions that you will take as the owner of a yoga or wellness studio.
The key point of this post is that you must read, understand and negotiate your lease. There is no such thing as a “standard” lease and you should never accept the form that is provided by your landlord. It will always be written in the landlord’s favor.
All terms of a lease are negotiable but your leverage depends on whether your local rental market is hot or cold. If plenty of commercial space is available, you may win some concessions. If your rental market is tight, you may have less leverage. Always remember that a bad lease can harm your business.
Here are 20 key points to consider in negotiating any lease:
1. Personal Guarantee. Are you obligated to personally guarantee the lease or is it an obligation of your legal entity? Naturally, you want to sign the lease in the name of your entity. If you sign it in your personal name, you are personally responsible for all liabilities arising under the lease. These include rental payments and indemnity.
2. Landlord Build-outs. Many disputes result from the landlord’s obligation to build out or modify the leased space. Make sure that your lease has a clear description of the landlord’s obligations. What is the landlord obligated to do, what are you obligated to do, how much will it cost, who will pay the cost and who is responsible for cost over-runs? You need to have a firm completion date in writing. What if the landlord does not complete the build-out on time and your opening is delayed? Will the landlord pay a penalty or abate rent? I have seen several studios forced into delaying their openings because the landlord delayed completing the construction.
3. Zoning. Do the local zoning laws permit a yoga studio business in the space that you are leasing? Make sure that you know this for a fact; do not rely upon statements by landlords and leasing agents. Studio owners have signed leases and then found out that their space was not zoned for a yoga studio. Check with the local municipality for zoning, license and inspection requirements before you sign the lease.
4. Lease term. What is the term of the lease, and can you extend the lease? If you elect to extend the term, what is the rental rate? Is it the same or does it go up for the extended term? Do not be afraid to negotiate your rental rate and your lease term! A short-term lease is usually to your benefit. Shorter leases give you more flexibility if the needs of your business change — for example, you want more space or decide that a different location would be better. However, a long-term lease ensures that you’ll have an affordable space for a longer period of time. Landlords are often inclined to make more concessions on long term leases than short term leases.
5. Security deposits. Make sure that the lease is clear on how you get your security deposit back. Under what circumstances can the landlord withhold your security deposit? Is it clear and is it fair? Some leases require that the tenant give written notice of the expiration of the lease as a condition to the landlord’s obligation to return the security deposit. Put the notice date on your calendar.
6. Use of the Space. Make sure that the scope of use in the lease is broad enough to allow you to expand your business. Can you open a boutique, a tea shop, or provide massage therapy? After the lease is signed, it may be hard to convince the landlord to let you change your business. Your business may expand and you do not want your lease to block your plans.
7. Parking. What about parking? How many parking spaces do you get and do you have to pay for additional parking? Is there enough parking if your business grows?
8. Subleasing. You may want to sublease a portion of your space or you may want to leave the space before the end of the lease. Make sure that you have the right to sublease. Negotiate language that the landlord cannot deny your right to sublease unless it has a commercially valid reason. Your right to sublease should not be at the landlord’s discretion. You will probably remain liable on the lease if your sub-lessee does not pay the rent, but at least you will have this important right.
9. Signage. Do you have the right to put up signs on the building? What are the landlord’s restrictions on your signage?
10. Rules and Regulations. Many leases require tenants to comply with the landlord’s rules and regulations but these are often not provided with the lease. Make sure that you review a copy of the rules and regulations before you sign the lease.
11. Heating and Cooling. The lease should be clear on the landlord’s obligation to heat and cool the space. Do you have control of the temperature of your space or is it centrally controlled?
12. Location. Before you sign the lease make sure that the location is appropriate for a yoga studio. How does natural light look throughout the course of the day? How does the energy of the space feel? Who are the tenants? Are they noisy and will they disturb your classes? Are there complimentary businesses in the area which may be willing to refer students to your studio?
13. Rental Rates. Negotiate the rental rate. Make sure that you know what similar spaces are renting for in the area and use your knowledge to negotiate a fair rental rate. Be careful about automatic increases in rent if you want to extend the term of the lease. Some leases include an annual increase to your rent. If the landlord insists on this provision, try to get a cap on the amount of each year’s increase, and try to exclude a rent increase for the first year.
14. Hidden Expenses and Utilities. Landlords often include extra expenses such as maintenance fees, upkeep for shared facilities (common area maintenance) and so on. What about utilities? These charges are usually the responsibility of the tenant but how are they measured? Are they individually metered or apportioned by the square footage? Be sure that you understand all of these “hidden fees” before you sign the lease.
15. Repairs and Upkeep. Even though the landlord owns the building, you may be responsible for repairs and upkeep. Commercial leases vary in their approach to this – some provide that the tenant is responsible for upkeep and repairs while others state that the landlord is responsible. Understand and negotiate your lease.
16. Default. You may lose your lease if you default. This may occur even if the default is unintentional. What is a default? If you default, will you be locked out immediately? Do you have an opportunity to cure the default? What is your cure period?
17. Gross and Net Leases. Be very clear as to whether the landlord will pay utilities, repairs, taxes and insurance. With a “gross lease,” your rent includes these costs. However, with a ” net lease” you pay for these items separately.
18. Don’t Negotiate Your Lease In “Panic Mode.” You may be in a rush to sign a lease to launch your new studio or maybe your business has grown so quickly that you want to lease a new space. These pressures can affect your ability to negotiate the best deal for your business. It is important to remain open, flexible and creative about your lease and your space. Don’t let yourself become desperate; landlords are expert at sensing this and it will put you at a disadvantage.
19. Don’t Be Attached to One Property. You are putting yourself at a huge disadvantage if you decide that a particular space will “make or break” your business. Always negotiate knowing that, if you can’t get a fair deal, your business will thrive elsewhere. I have seen situations where the owners fell in love with a space and were willing to make large concessions. However, when the deal fell through, the owners found an alternate space which was much better than the original!
20. Get Representation. It is wise to find an expert to help you negotiate your lease. This could be a commercial real estate broker who knows your location or a lawyer. If you use a broker, make sure that the broker is not also representing the landlord. This is a conflict of interest and you will lose.