Tax Developments in the Courts – The “Tax Home”; Sale of the Home; and Gambling Deductions

Overview

Three recent court cases touch on issues that often face clients.  One involves the tricky issue of what is a taxpayer’s “tax home.” Another case involves the issue of unforeseen circumstances as an exception to the two-year ownership and usage requirement for the principal residence gain exclusion provision.  The final case for discussion today involves the deduction for gambling losses, and a rather unique set of facts.

Recent tax decisions in the courts – it’s the topic of today’s blog post.

Tax “Home” At Issue

Geiman v. Comr., T.C. Memo. 2021-80

An individual’s “tax home” is the geographical area where the person earns the majority of their income.  The location of the permanent residence doesn’t matter for this purpose.  The tax home is what the IRS uses to determine whether travel expenses for business are deductible.  It’s the taxpayer’s regular place of business – the general area where business or work is located. 

This distinction between a taxpayer’s personal residence and their tax home often comes into play for those that have an indefinite work assignment(s) that last more than a year.  In that situation, the place of the assignment becomes the taxpayer’s tax home.  That means that the taxpayer can’t deduct any business-related travel expenses.  This points out another key distinction – the costs of traveling back and forth from the tax home for business are deductible, but commuting expenses associated from home to work are not. 

That brings us to Mr. Geiman, the petitioner in this case.  He was a licensed union journeyman electrician who owned a trailer home and a rental property in Colorado. His membership in his local union near his home gave him priority status for jobs in and around that area. When work dried up in the area near his home, he traveled to jobs he could obtain through other local unions. As a result, he spent most of 2013 working jobs in Wyoming and elsewhere in Colorado. On his 2013 return, he claimed a $39,392 deduction for unreimbursed employee business expenses – meals; lodging; vehicle expenses (mileage); and union dues. He also claimed a deduction of $6,025 for “other” expenses such as a laptop computer, tools, printer and hard drive. The petitioner claimed a home mortgage interest deduction on the 2013 return for the Colorado home. He voted in Colorado, his vehicles were registered there, and he received his mail at his Colorado home. The IRS disallowed the deductions.

The Tax Court noted that a taxpayer can deduct all reasonable and necessary travel expenses “while away from home in pursuit of a trade or business” under I.R.C. §162(a)(2). As noted above, a taxpayer’s “tax home” for this purpose means the vicinity of the taxpayer’s principal place of business rather than personal residence. In addition, when it differs from the vicinity of the taxpayer’s principal place of employment, a taxpayer’s residence may be treated (as noted above) as the taxpayer’s tax home if the taxpayer’s principal place of business is temporary rather than indefinite. If a taxpayer cannot show the existence of both a permanent and temporary abode for business purposes during the tax year, no deductions are allowed.

The Tax Court cited three factors, based on Rev. Rul. 73-529, 1973-2 C.B. 37, for consideration in determining whether a taxpayer has a tax home – (1) whether the taxpayer incurred duplicative living expenses while traveling and maintaining the home; (2) whether the taxpayer has personal and historical connections to the home; and 3) whether the taxpayer has a business justification for maintaining the home. Upon application of the factors, the Tax Court held that the petitioner’s tax home was his Colorado home for 2013. His work consisted of a series of temporary jobs, each of which lasted no more than a few months. That meant that he did not have a principal place of business in 2013. He paid a mortgage on the Colorado home, and had significant personal and historical ties to the area of his Colorado home where he had been a resident since at least 2007. Also, his relationship with the local union near his Colorado home gave him a business justification for making his home where he did in Colorado. Thus, the Tax Court concluded that the petitioner was away from home for purposes of I.R.C. §162(a)(2), allowing him to deduct business-related travel expenses.

But, Geiman had a problem.  He didn’t keep good records of his expenses.  Ultimately, the Tax Court said what he had substantiated could be deducted.  Thus, the Tax Court allowed substantiated meal expenses which were tied to a business purpose to be deducted. The Tax Court also allowed lodging expenses to be deducted to the extent they were substantiated by time, place and business purpose for the expense. The Tax Court also allowed a deduction for business mileage at the IRS rate where it was substantiated by starting and ending point – simply using Google maps was insufficient on this point.  The Tax Court also allowed the petitioner’s claimed deductions for union and professional dues, but not “other expenses” for lack of proof that they were incurred as an ordinary and necessary business expense. The end-result was that the Tax Court allowed deductions totaling approximately $7,500. 

Unforeseen Circumstances Exception to Two-Rule Home Ownership Rule At Issue

United States v. Forte, No. 2-:18-cv-00200-DBB, 2021 U.S. Dist. LEXIS (D. Utah Jun. 21, 2021)

Upon the sale of the principal residence, a taxpayer can exclude up to $500,000 of the gain from tax.  That’s the limit for a taxpayer filing as married filing jointly (MFJ).  For a single filer, the limit is $250,000.  I.R.C. §121(b)(1-2).  To qualify for the exclusion, the taxpayer must own the home and use it as the taxpayer’s principal residence for at least two years before the sale.  I.R.C. §121(a).  If the two-year requirement can’t be met, a partial exclusion is possible and there are some exceptions that can, perhaps, apply.  For example, if the taxpayer’s job changed that required the taxpayer to move to a new location, or health problems required the sale, those are recognized exceptions to the two-year rule.  There’s also another exception – an exception for “unforeseen” circumstances.  I.R.C. §121(b)(5)(C)(ii)(III).  The unforeseen circumstances exception was at issue in a recent case.

In this case, the defendants, a married couple, bought a home in 2000 and lived there until 2005 when they sold it. They put about $150,000 worth of furniture in the home. In 2003, they bought a lot with the intent to build a home. They took out a loan an began construction on the home. They also did not get paid the full contract amount for the 2005 home sale and couldn’t collect fully on the seller finance notes. They experienced financial trouble in 2005, but moved into the new home in December of 2005 and purchased an adjacent lot for $435,000 with the intent to retain a scenic view from their new home.

After moving into their new home, the defendants sought to refinance the loan to a lower interest rate, but were unable to do so due to bad credit. Thus, a friend helped them refinance by allowing them to borrow in his name. They then executed a deed conveying title to the friend. A trust deed named the friend as Trustor for the defendants as beneficiaries. The friend obtained a $1.4 million loan, kept $20,000 of the proceeds and used the balance to pay off the defendants’ loans. The defendants made the mortgage payments on the new loan. In 2006, they also executed a deed for the adjacent lot in the friend’s favor. In 2007, the friend signed a quitclaim deed conveying the home’s title to the defendants. The loan on the home went into default, and the defendants then transferred title to an LLC that they owned. They then sold the home and the adjacent lot for $2.7 million later in September of 2007 and moved out.

An IRS agent filed a report allowing a basis increase in the initial home for the furniture that was sold with that home, and determined that the defendants could exclude $458,333 of gain on the 2007 sale of the new home even though they had not lived there for two years before the sale. Both the IRS and the defendants challenged the agent’s positions and motioned for summary judgment. The defendants claimed that they suffered unexpected financial problems requiring the sale before the end of the two-year period for exclusion of gain under I.R.C. §121. As such, the defendants claimed that they were entitled to a partial exclusion of gain for the period that they did own and use the home.

The court noted that the defendants’ motion for summary judgment required them to show that there was no genuine issue of material fact that the home sale was not by reason of unforeseen circumstances. The court denied the motion. A reasonable jury, the court determined, could either agree or disagree with the agent’s report. While the defendants were experiencing financial problems in 2005 before moving into the new home, the facts were disputed as to when they realized that they would not be able to collect the remaining $695,000 of holdbacks from the buyers of the first home. The court also denied the defendants’ motion that they were entitled to a basis increase for the cost of the furniture placed in the initial home. The defendants failed to cite any authority for such a basis increase. 

Drug-Induced Gambling Losses Disallowed

Mancini v. Comr., No. 19-73302, 2021 U.S. App. LEXIS 19362 (9th Cir. Jun. 29, 2021), aff’g., T.C. Memo. 2019-16

All gambling winnings are taxable income.  Unless a taxpayer is in the trade or business of gambling, and most aren’t, it’s not correct to subtract losses from winnings and only report the difference.  But, a taxpayer that’s not in the trade or business of gambling can list annual gambling losses as an itemized deduction on Schedule A up to the amount of winnings.  But, to get around the limitations, can a gambling loss be characterized as casualty loss?  This last point was at issue in this case.

The petitioner was diagnosed with Parkinson’s disease in 2004 and began taking prescription medicine to help him control his movements. Over time, the medication dosage was increased. The petitioner had been a recreational gambler, but in 2008 he began gambling compulsively.  By the end of 2010 he had drained all of his bank accounts and almost all of his retirement savings. In 2009, he started selling real estate holdings for less than fair market value and used the proceeds to pay his accumulated gambling debt. In 2010, his doctor took him off his medication and his compulsive gambling ceased along with his compulsive cleanliness, and suicidal thoughts. The medication he had been on was known to lead to impulse control disorders, including compulsive gambling.

On his 2008-2010 returns he reported gambling winnings and also deducted gambling losses to the extent of his winnings. He later filed amended returns characterizing the gambling losses as casualty losses. While the Tax Court determined that the compulsive gambling was a likely side effect of the medication, the Tax Court agreed with the IRS that the gambling losses were not deductible under I.R.C. §165. Also, the gambling losses over a three-year period failed the “suddenness” test to be a deductible casualty loss. In addition, the Tax Court found that the petitioner had failed to adequately substantiate the losses. On appeal, the appellate court affirmed. 

Conclusion

Tax Court cases with good discussion of issues of relevance to many never cease to keep rolling in.