Wednesday, September 8, 2021
The courts continue to issue opinions involving important tax issues not only farmers and ranchers, but opinions on issues that impact a broader range of taxpayers. In today’s post I highlight a few of the recent developments involving dependency; conservation easements; the ability to deduct NOLs; whether the “Roberts Tax” is a tax; whether losses are passive; and the deductibility of theft losses.
Recent court developments in tax law – it’s the topic of today’s post
Taxpayer Caring for Brother’s Children Entitled to Child-Related Tax Benefits
Griffin v. Comr., T.C. Sum. Op. 2021-26
During the tax year in issue, the petitioner lived with and cared for her mother at the petitioner’s home. She received compensation for caring for her mother through a state agency. For more than one-half of the tax year, the petitioner also cared for her niece and nephews because their father (her brother) was a disabled single parent. The niece and nephews stayed with her overnight from mid-May to mid-August and on weekends during school closures and on holidays. While they were with her, she paid for their food, home utility use and entertainment. On her 2015 return she claimed dependency exemption deductions for the children and child tax credits as well as the earned income tax credit. On audit and during the examination, the brother provided a signed form 8332, but the petitioner did not attach it to her return. The IRS denied the dependency exemptions, the child tax credits and the earned income tax credit. The Tax Court, rejecting the IRS position, noted that the children stayed with the petitioner for more than one-half of the tax year and that the petitioner’s testimony was credible to establish that the children were “qualifying children” for purposes of I.R.C. §152. Because none of them had reached age 17 during the tax year, the petitioner was entitled to a child tax credit for each one. Also, because I.R.C. §32 uses the same definition of “qualifying child” as does I.R.C. §152, the petitioner was entitled to the earned income tax credit.
IRS Provides Deed Language for Conservation Easement Donations
CCA 202130014 (Jun. 16, 2021)
The IRS has noted that a deed language for a donated conservation easement to a qualified charity fails to satisfy the requirements of I.R.C. §170(h) if the deed contains language that subtracts from the donee’s extinguishment proceeds the value of post-donation improvements or the post-donation increase in value of the property attributable to improvements. Such language violates Treas. Reg. §1.170A-14(g)(6)(ii) unless, as provided in Treas. Reg. §1.170A-14(g)(6). The IRS has provided sample language adhering to Treas. Reg. §1.170A-14(g)(6)(ii) that would not cause the issue from arising on audit. The language specifically states that on any subsequent sale, exchange or involuntary conversion of the property subject to the easement, the done is entitled to a portion of the proceeds at least equal to the proportionate value of the perpetual conservation restriction.
NOL Not Available Due to Lack of Documentation
Martin v. Comr., T.C. Memo. 2021-35
The petitioners, a married couple, has NOLs from 1993-1997 (which could be carried back three years and forward 15 years) that were being used to offset income in 2009 and 2010. The petitioners provided their 1993 and 1994 tax returns, but the returns did not include a detailed schedule related to the NOLs. Based on the information provided, the Tax Court determined that the petitioners had, at most, an NOL of $782,584 in 1993 and $666,002 in 1992 or earlier. Consequently, $1,448,586 of the NOL had expired in 2008 and was not available to offset income in 2009 or 2010. Thus, the petitioners had a potential NOL of $257,125 for their 1994 return. The Tax Court pointed out that the petitioners bore the burden of substantiating NOLs by establishing their existence and the carryover amount to the years at issue. That requires a statement be include with the return establishing the amount of the NOL deduction claimed, including a detailed schedule showing how the taxpayer computed the NOL deduction. The petitioners also filed bankruptcy in 1998. The Tax Court determined that the $257,125 NOL for 1994 was zeroed-out in the bankruptcy. The petitioners provided some information from their 1997-2007 returns which seemed to show Schedule C losses for some years, but had no documentation. They claimed that the NOLs should be allowed because they had survived prior audits of their 20072008 and 2011-2012 returns. The Tax Court pointed out that each year stands on its own and the fact that the IRS didn’t challenge an item on a return in a prior year is irrelevant to the current year’s treatment. Due to the lack of documentation the Tax Court denied any NOL deduction for 2009 or 2010.
“Roberts Tax” is Not a Tax
In re Juntoff, No. 20-13035, 2021 Bankr. LEXIS 995 (Bankr. N.D. Ohio Apr. 15, 2021)
The court held that the “shared-responsibility” payment of Obamacare is not an income tax because it is not measured based on income or gross receipts. The court determined that it also was not an excise tax because an individual’s not purchasing minimum essential coverage was not a transaction. Thus, the payment was not on a transaction. Thus, the “Roberts Tax” was not a tax entitled to priority treatment in bankruptcy under 11 U.S.C. §507(a)(8). The court noted it’s disagreement with the holding in In re Szczyporski, No. 2:20-cv-03133, 2021 U.S. Dist. LEXIS 61628 (E.D. Pa. Mar. 31, 2021) on the same issue.
Losses Not Passive and Fully Deductible
Padda v. Comr., T.C. Memo. 2020-154
The petitioner, a married couple, worked full-time as physicians. They also owned and operated a pain management clinic. During 2008-2012, they also opened five restaurants and a brewery with a 50 percent partner in the same general location as their medical practices. Each restaurant and the brewery operated in a separate LLC. For the years 2010-2012, they deducted nonpassive losses of more than $3 million from these businesses. The IRS claimed that the losses were passive and, thus, nondeductible. The petitioners couldn’t substantiate their participation, but did have some records showing trips and time spent at the various locations. They were also able to obtain sworn statements from 12 witnesses about the petitioners’ involvement in the construction and operation on a daily basis over the years. The Tax Court found the witnesses credible. The Tax Court determined that the petitioners had satisfied the material participation requirement of Temp. Treas. Reg. §1,469-5T(a)(4) because their hours in the non-medical activities exceeded the 100 hours required for each one to be considered a significant participation activity and exceeded the 500-hour threshold. The Tax Court therefore rejected the IRS argument that the restaurants and brewery were passive activities. The claimed losses were currently deductible.
No Theft Loss Deduction
Torres v. Comr., T.C. Memo. 2021-66
The petitioner was the president, CEO and sole shareholder of an S corporation that he cofounded with Ruzendall. From about 2010 forward, Ruzendall was no longer a shareholder but continued to manage the S corporation’s books and records. The petitioner became ill in 2016 and was unable to work and relied on others to handle the taxes for the business. Upon a bookkeeper’s advice, Ruzendall was issues a Form 1099-Misc. for 2016 reporting $166,494 in non-employee compensation. In 2018, the petitioner sued Ruzendall for misappropriation of funds, alleging a loss from embezzlement. In 2019, an amended Form 1120-S was filed. The IRS denied a deduction for embezzlement and the alternative claim as a deduction for compensation. The Court looked to the definition of embezzlement under state law. One of the requirements is an intent to defraud. The taxpayer did not offer evidence the woman intended to defraud the company and denied the deduction. The Court also noted that even if a theft loss occurred it was discovered in 2017, not 2016 and, therefore, could only be deducted in the year of discovery. The Court also denied the taxpayer's alternate argument of a deduction for compensation, but on the taxpayer's claim he did not mention the woman was entitled to compensation. The Court denied the alternative argument.
There are so many relevant and key developments practically on a daily basis. I’ll be posting soon on where this fall’s tax update seminars will be held at and when online updates will be occurring.