Or, There are Other Considerations Besides Federal Taxes – Ask Alice

 Federal tax practitioners inhabit so wide a box, packed full of so many  interesting puzzles and conundra, that it’s hard to think that anything else matters. But it may have in Alice Schneider, 2011 T.C. Sum. Op. 72, filed 6/16/11. It’s another Section 7463 “don’t quote me”, but the point here definitely isn’t the Federal tax issue.

This case involved the first go-round of the First-Time Homebuyer Credit, the $7500 payback-over-fifteen-years credit that was supposed to end the housing meltdown. Alice’s Mom willed her New York City cooperative apartment to Alice and Alice’s six siblings in equal shares.  Alice wanted the apartment, so she bought out her siblings for a total of $235,000, getting a credit against the purchase price of one-seventh of her distributive share of Mom’s estate.

The contract of sale ran from her big sister, as executrix of Mom’s estate, as seller, to Alice, as purchaser. Alice claimed the $7500 credit on her 2008 return and filed Form 5405, but IRS disallowed the credit because of the related-party purchase. Alice bought from Mom’s estate, of which she was a beneficiary, and as Section 36 read at the time, a deal between executor of an estate and a beneficiary of that estate was ineligible for the credit.

Alice argued that she really bought from her six siblings, because they got the money, despite the terms of the contract of sale.

No good, Judge Jacobs said: “Although petitioner’s siblings ultimately received the proceeds from the sale of the co-op, petitioner’s acquisition of the co-op was cast as a purchase from her mother’s estate; and it is a well-accepted tax principle that a taxpayer is bound by the form given to the transaction. See Don E. Williams Co. v. Commissioner, 429 U.S. 569, 579-580 (1977); Senra v. Commissioner, T.C. Memo. 2009-79. In this regard, the Supreme Court has held that a taxpayer must accept the tax consequences of his or her choice and may not enjoy the benefit of some other route he or she might have chosen to follow but did not.” 2011 T.C. Sum. Op 72, at p. 6.

Alice did what all disappointed taxpayers,  sellers and purchasers do–blamed her attorney: “According to petitioner, the attorney who represented both her and the estate advised her that it would be ‘cleaner’ to purchase the co-op from the estate rather than from her siblings”. 2011 T.C. Sum. Op. 72, footnote 1 at page 2.

But look at the practicalities. This is not a sale where it’s simply “do the deed”, take it to the register or clerk, pay a few bucks and done. Doing it via the siblings meant first, a transfer from Mom’s estate to the seven children. In a New York City cooperative, this means preparing a lengthy application to the Board of Directors and undergoing rather more scrutiny than a sexting Member of Congress, and paying healthy processing fees to the managing agent, Board of Directors, transfer agent, attorneys, title agents and assorted hangers-on.

Then, even though Sister Alice was just screened as one of the Seven, you may be sure she will be screened again, and have to pay a fresh set of processing fees to the entire cast of characters from Act One, when she buys from the Six.

New York State Transfer Tax will apply to both transfers, at the rate of four dollars per thousand, requiring, in this case, an additional payment of $940. New York City Transfer Tax would also be applicable to the “extra” transfer, at the rate of 1% of gross consideration (here FMV as measured by the contract of sale) plus $100 filing fee, in this case $2360. Thus, nearly half of the $7500 credit would be consumed by the second-sale transfer taxes necessitated by chasing after the $7500 credit. The additional fees of the managing agent, attorneys, et al would easily take care of a large part of the rest.

And as Tax Court pointed out: “Although referred to as a ‘credit’, for the tax year in question (i.e., 2008) the first-time homebuyer credit is essentially a governmental, non-interest-bearing loan inasmuch as the recipient taxpayer must repay the credit over a 15-year period. Sec. 36(f).” 2011 T.C. Sum. Op. 72, footnote 3, at page 4.

So be careful of chasing for a Federal tax benefit–it may cost more than it’s worth.