In Uncategorized on 04/20/2011 at 13:27

 The Doctrine Explained, and My Inventory Discussed

The doctrine of mitigation, found in Sections 1311 through 1314, allows a party to apply an adjustment to an item of gross income embodied in a Tax Court determination as to an open year, to the same class of item in an otherwise closed year. A thorough explanation is found in a 7463 not-for-nothin’ opinion, Tuwana Jynne Anthony, 2011 T.C. Sum. Op. 50, released 4/18/11.

Tuwana was the sole proprietor of a cosmetic consultancy. She also sold cosmetics and kept an inventory for sale to her customers. In the course of an IRS examination, Tuwana adjusted her year-end inventory valuation to reflect her purchase price of the goods, rather than the price at which she sold the goods to her customers. As she marked up her goods by more than 100%, the adjustment was considerable.

However, the adjustment was embodied in a stipulation, which in turn was embodied in a final Tax Court order, in a prior proceeding resulting from that examination. IRS asserted a deficiency for a closed year in the present proceeding, based upon the stipulated adjustment in the prior proceeding. Tuwana petitioned timely, and Judge Swift held for IRS.

Judge Swift thus defines the parameters of the doctrine: “…the mitigation provisions… permit the correction of an item that is shown to be erroneous by a determination in an administrative or judicial proceeding relating to another year or to a related taxpayer. Fruit of the Loom, Inc. v. Commissioner, T.C. Memo. 1994-492, affd. 72 F.3d 1338 (7th Cir. 1996). The limited conditions under which the mitigation provisions will be applied may be described generally as follows: (1) There has been a determination (as defined in section 1313(a)); (2) the determination must fall within one of the specified “circumstances of adjustment” or  “doubling-up” situations described in section 1312; (3) with respect to the treatment of the item in question for the determination year, the party against whom the mitigation provisions are invoked must have maintained a position inconsistent with the treatment of the item in another year of the same (or related) taxpayer, which year is barred by the generally applicable period of limitations or by some other rule of law, see sec. 1311(b); and (4) the party who seeks to employ the mitigation provisions must act timely thereunder and in the proper manner to make a corrective adjustment, see sec. 1314.” T.C. Sum.Op. 2011-50, at pp. 6-7.

Note that general statements concerning a stipulation in a Tax Court order, but not particularizing stipulated terms, is insufficient to trigger mitigation, as the order is not a “determination” within the meaning of Section 1313(a). Here, the order in the prior proceeding had sufficient particulars to qualify under Section 1313(a), the only real disputed factor in Tax Court’s mitigation analysis.

So Tuwana had to adjust her ending inventory for the prior (closed) year to harmonize with the opening inventory for the (stipulated) year, thus triggering the mitigating adjustment and the deficiency for the (otherwise closed) year.

Takeaway for the practitioner–less is more. If you don’t want to open the door to mitigation, keep it simple; no details about stipulations. And watch out for the colloquies in Court; the transcripts can contain enough particulars to haunt you.

Further takeaway–Tuwana was self-represented in the first and the second proceedings. When the draft order was prepared in the first proceeding, she didn’t object to the particularizing. Warning–even when you settle, your adversary is not your friend.

Tuwana wanted to bring in some unrelated items to offset the closed-year deficiency, but Section 1314(c) makes that a non-starter. Taxpayer has no credits or off-sets for any item other than the specific item adjusted.

And now for a different kind of inventory. I’ve been running this blog for four months. I’ve had no feedback and no comments.

Does anybody read this stuff? If you do, even a simple “yeah” in the “Comment” section of each of my posts would be appreciated. I’d appreciate suggestions on how to make the blog more useful to the practitioner in the trenches even more. I’m writing for the front-line tax professional, not for the academician or the theoretician, although they’re welcome here too. I’m always happy to adjust my inventory.

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