Attorney-at-Law

Archive for September, 2011|Monthly archive page

BONANZA

In Uncategorized on 09/01/2011 at 00:09

At the IRS Nationwide Tax Forum in National Harbor, MD, I was soaking up knowledge and learning, and trying to find something to blog, when two Enrolled Agents from Washington State, Gene Bell and Kathy Hettick, put on quite a show. Aside from blasting through the hot topics on Subchapter S corporations, they dropped a bomb.

IRS is going after preparers, not for the few grand in preparer penalties (remember the poor lady who messed up the late Lawrence Wickersham’s and Dancehall Mary’s return?). No, because by auditing one dud return from a preparer, they can blaze a trail to dozens, if not hundreds, of dud returns perpetrated by said preparer; put the fear of the Righteous Jehovah and the Continental Congress in the hearts, minds and wallets of dozens, if not hundreds, of taxpayers, the erstwhile clients of said preparer; and hand out slam-dunk assessments to said taxpayers at all points of the compass.

Another bonanza, of course, is the Sub S corp, whose one and only shareholder, officer and director is actively engaged in a personal service trade or business, and whose Form 1120-S shows distributions to said one and only shareholder of hundreds of thousands of dollars, but reports no payroll, salary or wages. The S Corp files no Forms 941 and makes no payments of employment taxes withheld. Trust fund violation penalties follow, as well as recharacterization of distributions, assessment of interest, negligence penalties and other sleep-disturbing matters.

In short, beware.

I looked at the day’s Tax Court decisions, seeking diversion. Only one case looked vaguely interesting, Charles R. and Shanda G. Douglas, 2011 T.C. Mem. 214, released 8/31/11, and that not because of Ms. Douglas’ unique given name. No, not because IRS conceded the Section 6662(c) negligence penalty, or that Judge Goeke found that Charley and Shanda relied on their CPA and thus weren’t liable for the Section 6662(a) substantial understatement penalty either, although they did substantially understate their tax due.

The case involves a Sub S Corp, Bantam Leasing, Inc., but Sub S concepts don’t determine the outcome.

No, Judge Goeke unpacks the concept of the idle asset. Here’s Judge Goeke’s take: “…Shanda Douglas was the sole owner and officer of Bantam. Charles Douglas was an employee of Bantam, which operates an over-the-road trucking business.

“Roughly 75 percent of Bantam’s business is classified as ‘critical timing’ delivery services. In this line of work, punctual dispatch of cargo is important as Bantam’s accounts could be placed in jeopardy should Bantam fail to deliver on time. Mr. Douglas believed an aircraft would minimize the risk of losing customers on account of tardy delivery, not by moving freight but by potentially replacing drivers who become ill or who are unable to continue. Mr. Douglas consulted his certified public accountant … about the tax aspects of purchasing an aircraft.” 2011 T.C. Mem. 214, at p. 3.

Charley didn’t do things by halves. He bought one plane, sold it, bought another, wrote off the maximum expense permitted by Section 179, and wrote off operating expenses of the plane as well. Only one problem–Charley couldn’t fly a plane, and neither could Shanda. In fact, Bantam hadn’t a single employee, contractor or drinking buddy who could fly anything.

So Charley took to the skies, but by the time the year at issue arrived, all Charley had was a student license, the aerial equivalent of a learner’s permit. Neither Charley nor anyone else used the plane to deliver a spare driver, a spare tire or anything else. All Charley used the plane for was to take flying lessons.

IRS grounded Charley with a heavier-than-air deficiency. IRS argued that the Section 179 deduction only becomes available when the property is placed in service, that is, ready, willing and able to be used for a specified function. The plane was placed in service, right enough, but the purpose was personal use, not business use. Thus, no deduction.

Charley’s lawyers argued “idle asset”, that is, an asset ready, willing and able but awaiting the right moment for business use.

Judge Goeke shoots that one down (sorry, guys), thus: “Depreciation deductions may be available under the ‘idle asset’ rule in situations where an asset, while not in actual use, was nevertheless devoted to the business of the taxpayer and was ready for use should the occasion arise. See Piggy Wiggly S., Inc. v. Commissioner, 84 T.C. 739, 745-746 (1985), affd. 803 F.2d 1572 (11th Cir. 1986). In the context of the established facts, however, petitioners’ attempt to employ the ‘idle asset’ rule cannot succeed as their aircraft does not fit within the rule’s requirements. The Cessna 172 was not idle in that it was used for training by Mr. Douglas, and it was simply never available for its alleged business function of providing an expedited method of transporting drivers to retrieve disabled vehicles. An aircraft cannot be considered ready and available for business use without a suitable pilot to fly it. …no employees or officers of Bantam held a pilot’s license that would have enabled them to use the aircraft to transport a replacement driver. Petitioners’ vague assertion that there were ‘stand-by pilots’… is not credible. There is no evidence in the record, aside from Mr. Douglas’ statement, that there were any ‘stand-by’ pilots for the aircraft; and there is no evidence at all that would support a finding that Bantam had access to standby pilots on an expedited schedule, which was the alleged business reason for the aircraft. There is no evidence in the record of any agreement between a qualified pilot and Bantam that might suggest his or her availability for the purpose of flying drivers to disabled vehicles on short notice.” 2011 T.C. Mem 214, at pp. 5-6.

So the upkeep and maintenance deductions for the plane also crash, because they were not business expenses.

But, as aforesaid, Charley and Shanda are spared the Section 6662 (a) substantial underreporting penalty. Apparently Charley asked his trusted CPA about business use of aircraft, told her the full story, and relied in good faith on her expertise (presumably that was the last time he will so rely), so Charley and Shanda are off that hook.

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