In the arena of tax law, often minor differences in a situation may create major differences in how a situation is evaluated for tax purposes.  What a taxpayer must show to demonstrate an activity was entered into with an intention to make a profit is one of those areas where there are different tests depending on the situation.

Specifically, a not for profit organization seeking to offset unrelated business taxable income from one activity with losses from another unrelated business activity faces a very different hurdle to show that the second activity was entered into with the intent to make a profit.  This issue was discussed recently in the case of Losantiville Country Club v. Commissioner, TC Memo 2017-158.

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When a taxpayer has made a “net gift” within three years of the taxpayer’s death, how is that gift handled for purposes of the “gross up” rule for such gifts found in IRC §2035(a) and (b)?  In the case of Estate of Sommers v. Commissioner, 149 TC No. 8, the taxpayer argued that the estate should be allowed a deduction on the Form 706 for the gift tax that was paid by the donors.

There is a transfer tax advantage to making fully taxable gifts prior to the date a taxpayer dies and paying the gift tax.  Although the estate and gift taxes are now “unified” with the same rates being applied, the gift tax is not imposed on the amount that is actually used to pay the gift tax—rather that tax is removed from the pool of assets that will eventually be subject to the tax. 

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The IRS has recently indicated a level of “unhappiness” with the concept of a microcaptive insurance company, adding them to the agency’s “dirty dozen” tax scams list in 2015 and declaring them a transaction of interest in Notice 2016-66.  In the case of Avrahami, et al v. Commissioner, 149 TC No. 17 we have the first time the Tax Court scrutinized this particular structure.

Captive insurance companies have been recognized as legitimate insurance arrangements by the courts in several cases (see Rent-A-Center, Inc. v. Commissioner, 142 TC 1 and AMERCO & Subs. v. Commissioner, 96 TC 18) so long as certain criteria are met that distinguish the arrangement as insurance rather than merely establishing a “set aside” of funds for potential liabilities.  These cases have generally involved large entities with the resulting captive being itself a relatively large organization.

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In Chief Counsel Advice 201733013 the IRS concluded there is not an exemption from filing a tax return for small partnerships under any of the below authorities:

• IRC §6031;
• IRC §6693; or
• Revenue Procedure 84-35.

IRC §6031(a) imposes the requirement that each partnership must file an annual partnership return. IRC §6698 imposes a per month penalty when the partnership fails to file a return—and for 2017 returns that penalty amount is set at $200 per month.[1]  This penalty can be waived if the failure to file is due to reasonable cause. [2]

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Qualified retirement plan provision in the IRC generally give controlling owner-employees a trade-off—they can benefit under the plan, but only to the extent that an appropriate benefit is offered to the “rank and file.” Not surprisingly, some owners, attempting to maximize their benefit and avoid the cost of funding for other individuals, have attempted to establish structures to “isolate” the rank and file outside of the organization whose employees are covered by the program while still obtaining their services. And, similarly not surprisingly, the law has provisions meant to address such structures.

This type of arrangement was challenged by the IRS in the case of Paza Staffing Services v. Commissioner, Docket No. 6881-12R and is the subject of an unpublished order and decision published on August 17, 2017.   The plan in question was an employee stock ownership plan (ESOP) established by a corporation controlled by Dr. Zapolanski.

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Actress Helen Hayes is not often quoted in Tax Court proceedings, but this case the court referenced her statement that “age is not important unless you are a cheese” as an introduction to a case that dealt with a situation where age was important to more than cheese. The case of Omoloh v. Commissioner, T.C. Summ. Op. 2017-64.

The issue in this case arose because Mr. Omoloh had taken a distribution from an individual retirement account. The question was whether Mr. Omoloh was over age 59 ½ and thus not subject to the 10 percent additional tax on premature distributions from his IRA.

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In a split decision, the Fifth Circuit Court of Appeals reversed and remanded the Tax Court’s 2015 opinion in the case of BC Ranch II, LP et al v. Commissioner, Case No. 16-60068 and 16-60069. All the judges on the panel agreed that the Tax Court had erred in deciding that the entire amount paid by limited partners for their interests represented disguised sales and in deciding that a valuation penalty applied. But the panel split on a key question of whether the partnership had complied with the requirements to obtain a charitable contribution for the donation of a conservation easement, with a majority finding the Tax Court had erred in determining the contribution did not qualify for a deduction.

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Taxpayers who seek deductions for employee business expenses will find the deduction barred if the taxpayer cannot show that he/she was not entitled to reimbursement from his/her employer for the expenses shown on the Form 2106.  This was the issue that tripped up the taxpayer in the case of Howard v. Commissioner, T.C. Summ. Op. 2017-65.

Employees are considered to be in a trade or business and thus are allowed a deduction for expenses incurred in pursuit of that trade or business if the expenses are “ordinary and necessary” expenses.[1]  However, if the employer offers to reimburse the expenses (such as via an expense reimbursement policy), but the employee does not take the employer up on the offer no deduction is allowed.  The expense in that case would not be “necessary” as the taxpayer had a source of reimbursement.

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In the case of Hann v. United States, Court of Federal Claims Case No. 15-20T, the taxpayer in question was seeking to claim an ordinary loss from aportion of the underwriting commissions paid when he elected to participate an initial public offering (IPO) of his employer’s stock. 

Under the terms of participation, Mr. Hann had to agree to dispose of the same proportion of all stock and stock rights he held as the primary shareholders were selling, which required him to exercise his vested and exercisable stock options to comply with that requirement if he wanted to participate. 

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In the case of Owens v. Commissioner, TC Memo 2017-157, the issue to be decided involved a $9.5 million bad deduction claimed as a business bad debt an individual who took the position he was in the trade or business of lending money.  The IRS argued that he wasn’t in the business of lending money, that the debts in question were not actually debts and, even if they were, the loan did not become worthless in the year he claimed the loss.

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The IRS has announced that it will not acquiesce with regard to a Tax Court decision that dealt with reverse like-kind exchanges under Section 1031 in Action on Decision AOD 2017-06.

The decision in question involved the issue of whether the benefits and burdens test was appropriate to be applied to a Section 1031 exchange.  The case, Estate of George H. Bartell Jr. et al. v. Commissioner, 147 TC No. 5 was previously discussed on this site in an article dated August 11, 2016.

Benefits and Burdens Test Does Not Apply in Case of Reverse §1031 Exchange

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The Eleventh Circuit panel hearing the appeal in the case of Kardash, Sr. v. Commissioner, Case No. 16-14254, CA11 agreed that Mr. Kardash was not a villain and, in many ways, was a victim along with the IRS of a “the fraud conducted by his friends and coworkers at FECP, Ralph Hughes and John Stanton.”

But the Court found that, ultimately, Mr. Kardash ended up with funds that rightly belonged to the IRS and that IRC §6109, relying on applicable Florida state law, required him to pay those funds over to the IRS under the law of transferee liability.

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In the case of Rutkoske, Sr. et al v. Commissioner, 149 TC No. 6, the Tax Court was asked to consider what types of income counted as “gross income from the trade or business of farming” for purposes of gaining access to the increased deduction for qualified conservation easements of property used in agriculture or livestock production under IRC §170(b)(1)(E)(iv).

Normally a deduction for a qualified conservation easement is limited to 50% of the taxpayer’s income after reduction for other charitable contributions.[1]  However, that limit rise to 100% for the contribution of property used in agriculture or livestock production by a qualified farmer or rancher.[2]

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In Private Letter Ruling 201730002 we find a situation where a taxpayer’s death instantly terminated the S corporation in which he owned a 100% interest.  The structure he created to hold the S corporation stock set up a situation in which the S election’s validity continued only so long as the shareholder remained alive.

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