Archive for January, 2012|Monthly archive page


In Uncategorized on 01/12/2012 at 17:41

If You Want a Deduction

 Dear to the hearts of the oil and gas industry is the ability to expense intangible drilling costs (IDCs). These are all the make-readies and put-togethers before the drill touches the ground. As Judge Gustafson explains in Caltex Oil Venture, Caltex Management Corporation, Tax Matters Partner, 138 T.C. 2, filed 1/12/12, these IDCs include “clearing of ground, draining, road-making, and surveying work to all amounts paid for labor, fuel, repairs, hauling, and supplies (e.g., drilling muds, chemicals and cement) incident to and necessary in the drilling and preparation of wells for the production of oil and gas.” 138 T. C. 2, at p. 3, footnote 2.

While ordinarily these costs would be capitalized, they get special tax treatment, so that they can be deducted as expenses. Caltex Oil Venture (Caltex) is a typical oil and gas shelter. Caltex enters into a contract with a drilling services company, whereby the services company does all the work to get the well pumping (a two year process), but Caltex incurs the IDCs and deducts them up front, around $5 million worth. Caltex pays 10% down and the rest by a note (that never gets into evidence, but Judge Gustafson assumes for Rule 121 benefit-of-the-doubt purposes that the note was executed and delivered).

Caltex is an accrual basis taxpayer. Caltex tried to write off its entire investment in Year One, claiming all events had occurred to create its liability to pay, and that the sum due was reasonably ascertainable. Fine, says IRS, but Section 461(h) economic performance hadn’t occurred because, as both Caltex and IRS stipulated, “[n]o drill penetrated the ground for purposes of drilling a well by or on behalf of Caltex Oil Venture” during the years at issue. 138 T. C. 2, at p. 6.

Caltex responds that they have 90 days after the end of their tax year, because Section 461(i)(2)(A) says they can deduct in the previous year if drilling of the well commences within said 90 days. Except it didn’t, says IRS, because you or your servicer didn’t put a drill bit in the ground in either year.

But we did some work, says Caltex; we got permits and did site preparation. And even if we didn’t drill within 90 days, we have the Regulation Section 1.461-4(d)(6)(ii), the 3-1/2 month rule, which says if we reasonably expected performance from the servicer in 3-1/2 months, we can deduct the IDCs.

No good either way, says Judge Gustafson.

As to the 90-day push, the Section 461(i)(2)(A) language is plain: drilling must commence within said 90 days. “According to Webster’s Third New International Dictionary 690 (2002), to ‘drill’ means ‘to make (a rounded hole or cavity in a solid) by removing bits with a rotating drill’, while to ‘commence’ means ‘to begin’.  Id. at 456. Giving effect to the plain meaning of these words, we find it unambiguous that ‘drilling of the well commences’ when the boring of a hole for the well begins. Therefore, we find that the plain language of section 461(i)(2)(A) dictates that, as a matter of law, ‘drilling of the well commences’ when the drill bit penetrates the ground to start the hole for the well.” 138 T.C. 2, at p. 17.

As to the 3-1/2 month rule, IRS says this applies only if all of the work could reasonably be anticipated to be completed within 3-1/2 months after end of tax year, and everyone agrees that’s a “nevah hoppen”. Caltex replies that some work got done in the 3-1/2 months. Judge Gustafson says that, where the contract is divisible or severable, that is, where it calls for work in stages or phases with payment made or due proportionately, economic performance occurs as each stage or phase is completed and the 3-1/2 month rule helps. But here there was a single-shot payment up front, so economic performance of the entire contract must be reasonably anticipated within the 3-1/2 month window before deduction of IDCs allowed.

Caltex says that makes it impossible for the 3-1/2 month window to do any good for investors in what a certain Director in a major accounting firm, stationed in Houston, calls the “owl bidniz”. That’s  “oil business” to you Yankees. Wells just can’t be drilled in less than two years.

Judge Gustafson says so sad, too bad, but the Internal Revenue Code was not written solely for the benefit of the “owl bidniz,” and maybe the 3-1/2 month rule helps somebody else. Besides, the point of the rule was to make it easier for taxpayers to figure out when services or property was provided, and economic performance occurred. With commendable restraint, Judge Gustafson says: “It would be somewhat at odds with such a regime–engineered to avoid difficulties in determining when services have been provided–to allow a taxpayer to accelerate deductions for just the portion of services expected to be provided within 3-1/2 months of payment and, in order to do so, to make ex post facto valuations of those services–valuations that would require fact-intensive analyses by both the taxpayer and the IRS. This is the very difficulty that the regulation sought to avoid.” 138 T.C. 2, at p. 30.

Besides, Caltex, draft your contracts to be divisible, and you’ve solved your problem, at least in part.

By the way, Regulation section 1.461-4(g)(1)(ii)(A), provides that “payment includes the furnishing of cash or cash equivalents and the netting of offsetting accounts. Payment does not include the furnishing of a note or other evidence of indebtedness of the taxpayer, whether or not the evidence is guaranteed by any other instrument (including a standby letter of credit) or by any third party (including a government agency).” 138 T. C. 2, at p. 34. So Caltex would be limited to work actually performed to the extent paid for in cash in Year One plus 90 days, or around $7K, says IRS.

Judge Gustafson leaves that for trial, because Caltex disputes the amount. But Judge Gustafson gives IRS summary judgment knocking out the $5 million deduction.

Takeaway–Drill, baby, drill.


In Uncategorized on 01/11/2012 at 21:35

Judge Gustafson gets an oddball, in Ann Marie Minihan, Petitioner, and John J. Minihan, Jr., Intervenor, 138 T.C. 1, filed 1/12/12.

Mrs. Minihan claims she’s a Section 6015 innocent spouse, but IRS already levied on a joint account she held with John J., her former spouse, for the full amount of tax, interest, and penalties (note the Harvard comma, because this is a Massachusetts case where Massachusetts law plays a big part).

So IRS says “Even if Mrs Minihan is an injured innocent (which we don’t agree), no tax is due, so no collection action will follow. But in case Mrs. Minihan is seeking a refund, we’ll move for Rule 121 partial summary judgment that she isn’t entitled to a refund even if she can prove innocent spousehood, because we levied on a joint account, and by Mass law either joint account holder can withdraw 100% of the money, irrespective of who put it there or what deals they had between themselves.”

Judge Gustafson puts it this way: “The question whether a section 6015(f) petitioner is eligible for any relief is logically prior to the question whether she is entitled to a particular form of relief (i.e., a refund); and in a sense the Court’s holding a partial trial on the latter question first puts the cart before the horse. However, because here the entire joint liability has been satisfied, petitioner’s request for relief is moot (since the IRS will engage in no more collection activity) unless a refund is possible. The IRS sensibly moved for partial summary judgment on this issue, since if the motion succeeded, the parties and the Court could avoid a trial on the fact-intensive and sometimes vexing question of entitlement to equitable relief under section 6015(f).” 138 T.C. 1, at p. 2, footnote 2.

Note that the new proposed innocent spouse Rev. Proc. in IRS Notice 2012-8, 2012-4 I.R.B. 1 (see my blogpost “Innocence is Bliss,” 1/6/12) is mentioned in the decision, but plays no part in the outcome. 138 T.C. 1, at p. 12, footnote 7.

The only question is whose money is it,  anyway.  After trial,  Mrs. Minihan’s pro bono counsel moved to reopen the record to submit documentation showing the bank account IRS levied upon was one from which neither Mrs. Minihan nor John J. could unilaterally withdraw money. Judge Gustafson allows this over IRS and John J. objections, because it won’t change the result. While the bank’s paperwork isn’t of the best, Mrs. Minihan prevails.

Before IRS levied, Mrs. Minihan filed her Section 6015 petition, which stopped IRS from pursuing collection against her. So IRS went after the joint account. IRS set up what are called “mirror” accounts, his-and-hers, to go after John J.’s money, wheresoever it might be. IRS says “because joint money belongs to whoever grabs it first, we can seize the joint account.”

No, says Judge Gustafson. You can levy, all right, but that doesn’t decide whose money it is. As between depositors and the bank, either party can take out all the money, and the bank is off the hook. See Section 7426; if someone who doesn’t owe tax has their property levied upon to pay the tax of someone who does, they can sue to get it back.  See also US v. Rodgers, 461 US 677 (1983).

But Mrs. Minihan missed the statute of limitations to go under Section 7426. No problem, says Judge Gustafson; there’s wonderful “notwithstanding any other provision of law” language in Section 6015(g)(1) that saves the day, allowing the injured spouse to challenge the levy when all other recourse is gone. So Section 6015 is the innocent spouse’s cure-all.

Presuming without deciding that Mrs. Minihan is entitled to innocent spouse relief under Section 6015(f) equitable principles,  and a refund if she overpaid notwithstanding any other provision of law (except some specifically enumerated ones), Judge Gustafson looks at Massachusetts’ take on joint accounts and what went into the account.

Mass law, says Judge Gustafson, citing several cases, is that as between the depositors, it’s a question of intent, and a question of fact, as to whose money it is, anyway.

“The money in the joint account came from the sale of the couple’s long- time marital house, in which they had made a home together during almost two decades of marriage. Although the money to pay the mortgage had come from the earnings of Mr. Minihan, his earning potential depended on Ms. Minihan’s making her contribution to the household by keeping house, raising the children, and fulfilling the other responsibilities of the stay-at-home spouse.

“Most telling, however, is Mr. Minihan’s testimony at trial: When asked why, on one occasion when he unilaterally withdrew from the account $5,000 for himself, he also withdrew $5,000 for Ms. Minihan, Mr. Minihan testified: “I did so because it was equitable. That was–if one was going to take out $10,000, the other one would take out $10,000”. Mr. Minihan had every incentive in this case to minimize Ms. Minihan’s claim on the funds in the joint account, but even his testimony suggests that the parties intended that Mr. and Ms. Minihan each had a 50-percent interest in the account, notwithstanding that the initial source of the funds might be traced to Mr. Minihan’s paycheck.” 138 T.C. 1, at pp. 26-27.

The money, incidentally, was supposed to pay for their three children’s education and living expenses, according to the evidence Mrs. Minihan brought in, and John J. and IRS couldn’t rebut.

In short: “The propriety of the creditor’s levy is one thing; the right of a third party to assert a claim against the creditor for the property it seized is another thing.” 138 T. C. 1, at p. 28.

So Mrs. Minihan can get back her 50%, assuming she can prove she’s an innocent spouse.

Takeaway- The either-depositor-can-take-all rule is there to protect the bank, not the depositors, so the bank hasn’t to decide a jump-ball between joint account holders. But if IRS levies on a joint account, it’s not “game over.” Ask the question: “Whose money is it anyway?”


In Uncategorized on 01/10/2012 at 14:03

In deciding whether litigating fiduciaries should be reimbursed legal fees and disbursements from the estate for which they are acting, Judge Goeke reminds us that the key question is, ‘Is the estate a player or a spectator?’ Is the fiduciary fighting for the estate, or is the estate a mere stakeholder while the fiduciaries fight with one another or with someone else? To see an in-depth analysis, look at Estate of Raymond J. Gill, Deceased, Sabal Trust Company, Personal Representative, 2012 T.C. Mem. 7, filed 1/9/12.

Famous Ray was a man of means. He and his wife Joan had an elaborate estate plan, with credit shelter trusts, marital trusts, living trusts, and springing trusts for the children and grandchildren of the said Famous Ray and Joan.

Joan dies first, and that’s the problem, because Famous Ray takes a business trip to Germany, and brings back a souvenir costing ten years of litigation and $830K in legal fees and disbursements, namely, the Beautiful Valerie, who becomes Mrs Famous Ray II (hereinafter “MFR”). MFR causes Famous Ray to restructure the estate plan, oust his children (Mark and Mrs. Alabaster) as fiduciaries, and install MFR and SunTrust in their place and stead, and give MFR all kinds of goodies.

Mrs. Alabaster, on getting the news, gleams, but not, as Katherine Lee Bates suggests in her immortal hymn “America, the Beautiful”, “undimm’d by human tears.” No, Mrs. A springs to the attack as soon as Famous Ray is in the cold, cold ground and she gets wind of MFR’s shenanigans.

Enter the lawyers. Lawsuit follows, then mediation follows, then comes a stipulation that MFR immediately breaches. More lawsuits, more mediation, and a new stipulation. Mrs. A ousts MFR and recoups some cash (which goes to her and Mark). Finally, Sabal Trust Company succeeds SunTrust, who aided and abetted MFR throughout their ten-year odyssey through the Florida courts.

Emerging bloodied but victorious, and installed as fiduciary, Mrs A seeks, inter alia as my high-priced colleagues say, to get paid back for the $830K she and Mark ponied up for the legal talent.

Now Judge Goeke gets down to business. But first, “(W)e have corrected minor mathematical errors made by the parties in their calculations. Those corrections have reduced the total administration expense deductions sought by $6.” 2012 T. C. Mem. 7, at p. 15, footnote 3. Ya gotta love a court that, faced with a claim for $830K, has time to do the arithmetic and find $6, which is less than one minute of a white shoe second-year associate’s billable time.

Next, IRS left off disbursements in reckoning the $2.8 million deficiency slapped on Famous Ray’s estate. Judge Goeke: “In his calculations, respondent [IRS] took only attorney’s fees into account and failed to include related court costs (such as those for transcripts and depositions) incurred by the estate’s lawyers. Such costs are deductible under section 20.2053-3(d), Estate Tax Regs.” 2012 T. C. Mem. 7, at p. 16.

But whether fees or disbursements, these must be chargeable to the estate under local law. Canvassing Florida law, Judge Goeke finds some part of the legal fees claimed to be allowable as charges to the estate.

But are they reasonable? Whether allowable or not by State law, to pass muster for deductibility for Federal estate tax purposes these fees must be reasonable. Judge Geoke finds they are: “Because Fla. Stat. Ann. sec. 733.106(3) allows attorneys to be awarded reasonable attorney’s fees only for services to an estate, and the legal fees comprised mostly attorney’s fees, we find this is strong evidence of the reasonableness of the fees. In addition, the estate introduced into evidence voluminous records of legal fees incurred by the Gill children over the years in which litigation was ongoing. Considering these records as a whole, we see nothing unreasonable about those fees. We also consider the fact that the Gill children were reimbursed less than their actual legal fees. Respondent offered no evidence of his own that the legal fees were unreasonable.” 2012 T.C. Mem. 7, at p. 21. No evidence from IRS? On what then did IRS base its deficiency?

Final fence before the finish line: were the legal fees in question “essential to the proper settlement of the estate”? If not, no deduction. And State law is not dispositive on this point. See Reg. 20.2053-3(c)(3).

Here comes the test: is this a dispute between beneficiaries as to who gets what, with the estate uninvolved as it only has to pay one or the other; or is this a question of who is a fiduciary and are they acting as such? If the former, in the immortal words of Humphrey Bogart in the 1948 classic “Treasure of the Sierra Madre”, “why don’t everybody smoke their own?” But if acting as a fiduciary, even with a personal interest in the outcome, and even if the end result of the legal process puts money in the fiduciary’s own pocket, the legal fees and disbursements are proper deductions. Judge Goeke canvasses the caselaw, and finds that, as to some of the fees, Mrs A was acting as fiduciary, so she gets some of the fees, even though the outcome of the litigation enriched her personally.

Some deductions the estate doesn’t get, largely because of poor recordkeeping.  Each litigation stands on its own, and Judge Goeke goes through the who, what, where and when of each, and if the paperwork isn’t clear, Mrs A loses, as she has the burden of proof. And even MFR’s and SunTrust’s legal fees, for which they were reimbursed by the estate for the time they were fiduciaries, are deductible, to the extent allowable, reasonable and essential.

The accountants’ fees are disallowed, again for poor recordkeeping. Shame on the accountants. But the lawyers weren’t all that much better, either.

Takeaway–Document, document, document. Have the lawyers do their bills to show exactly which clients they represented, in what capacity (individual or fiduciary), and what they did and when they did it. And the accountants likewise.


In Uncategorized on 01/06/2012 at 16:27

Or, Less Work for Us Tax Court Bloggers?

Though no new Tax Court cases came down on January 6, IRS kindly filled the gap by issuing IRS Notice 2012-8 on January 5, setting out a proposed replacement to Rev. Proc. 2003-61, 2003-2 C.B. 296, the Section 6015(f) equity relief for the innocent spouse.

Apparently the spate of Tax Court cases over the last few years has caused IRS to re-engineer its approach where the requestor makes out a case for spousal abuse by, or financial control exercised by, the non-requestor. And the proposed Rev. Proc. also cleans up the process generally.

A couple of points follow, but read the whole Notice, there’s a lot more.

IRS will “streamline” its treatment of innocent spousery when: “… the requesting spouse establishes that the requesting spouse:

(1) Is no longer married to the nonrequesting spouse…;

(2) Would suffer economic hardship if relief were not granted…; and

(3) Did not know or have reason to know that there was an understatement or deficiency on the joint return…, or did not know or have reason to know that the nonrequesting spouse would not or could not pay the underpayment of tax reported on the joint income tax return …. If the nonrequesting spouse abused the requesting spouse or maintained control over the household finances by restricting the requesting spouse’s access to financial information, and therefore, because of the abuse or financial control the requesting spouse was not able to challenge the treatment of any items on the joint return, or to question the payment of the taxes reported as due on the joint return or challenge the nonrequesting spouse’s assurance regarding payment of the taxes, for fear of the nonrequesting spouse’s retaliation, then the abuse or financial control will result in this factor being satisfied even if the requesting spouse had knowledge or reason to know of the items giving rise to the understatement or deficiency or had knowledge or reason to know that the nonrequesting spouse would not pay the tax liability.” Notice 2012-8, at pp. 14-15.

The proposed Rev. Proc. also defines “economic hardship”, a useful step when what we usually see is a dissection of a spouse’s income and expenses, a time-wasting exercise that cannot be applied in any case but the one at bar. Here’s IRS’ new answer: “If the requesting spouse’s income is below 250% of the Federal poverty guidelines, or if the requesting spouse’s monthly income exceeds the requesting spouse’s reasonable basic monthly living expenses by $300 or less, then this factor will weigh in favor of relief unless the requesting spouse has assets out of which the requesting spouse can make payments towards the tax liability and still adequately meet the requesting spouse’s reasonable basic living expenses. If the requesting spouse’s income exceeds these standards, the Service will consider all facts and circumstances in determining whether the requesting spouse would suffer economic hardship if relief is not granted.” Notice 2012-8, at pp. 17-18.

Oh yes, IRS will apply all these new procedures at once, without waiting for the Rev. Proc. to issue in final form. “Because the provisions in the proposed revenue procedure expand the equitable relief analysis by providing additional considerations for taxpayers seeking relief, until the revenue procedure is finalized, the Service will apply the provisions in the proposed revenue procedure instead of Rev. Proc. 2003-61 in evaluating claims for equitable relief under section 6015(f). If taxpayers conclude that they would receive more favorable treatment under one or more of the factors provided in Rev. Proc. 2003-61 they should advise the Service in their application for relief or supplement an already existing application. Then the Service will apply those factors from Rev. Proc. 2003-61, until a new revenue procedure is finalized.” Notice 2012-8, at p. 3. So until the new Rev. Proc. is issued, it’s gambler’s choice.

Hopefully, the new procedures will supply speedy relief to the innocent without the need for Tax Court intervention, and discourage the undeserving. Of course, for a $60 petition fee, the undeserving can still waste Tax Court’s time.

Maybe there will be less in the innocent spouse sphere for us bloggers to blog about, as well.


In Uncategorized on 01/05/2012 at 16:54

But That Doesn‘t Mean You Get a Deduction

Budding authors, before you sing Richard Rodgers’ and Lorenz Hart’s 1940 classic song from “Pal Joey”, read and heed the lesson Judge Vasquez gives you would-be best-sellers in Michael S. Oros, 2012 T. C. Mem. 4, filed 1/4/12.

Mike worked full-time for Intel (ba-bing, ba-bing), but he hankered for far horizons and, he claimed, for the fame and fortune of professional authordom. So he wrote up a business plan (he had an MBA), and took off on a four-month trip spanning two tax years, during which he visited South America, Australia, Asia and Africa. He collected vacation pay and sabbatical pay from Intel while doing so. He said he was going to write a book, self-publish it and make money therefrom.

Mike took 4542 photographs (though not professionally-trained, he claimed he was an accomplished amateur photog), kept a detailed diary of his travels, and arranged his travels around events he wanted to see and photograph. He produced credit card receipts and statements from his trip at trial, but didn’t itemize what was business and what wasn’t.

But four years after his trip, all Mike had was a 100 to 150 page first draft of his book, which didn’t make it into the record at trial. And Mike had never written anything before.

Mike seeks about $19K in Schedule C deductions, against no income. Mike didn’t give up the day job at Intel.

Now Judge Vasquez agrees that just because someone hasn’t published before, that doesn’t mean they’re not in the trade or business of writing for profit. Every for-profit author had a first story that didn’t make money, or where the author lost money. And just because they have a day job doesn’t mean they’re not a for-profit author, either. Moreover, IRS never claimed Mike wasn’t in it for profit.

But the newbie Shakespeare has to show continuous effort, or, as Judge Vasquez puts it, “(P)etitioner failed to produce evidence to show some intent or effect on his part to engage in and continue in the writing field with substantial regularity and with the purpose of producing income and a livelihood. In Hawkins v. Commissioner, supra, we noted that the taxpayer’s published book of poetry “could just as easily be an isolated venture for the personal satisfaction of * * * [the taxpayer] seeing * * * [her] poetry in print as it could be a product of trade or business.” Id. The same could be said of petitioner; his planned travel book could just as easily be an isolated venture for the personal satisfaction of taking a worldwide trip and seeing his travel adventures in print as it could be a product of a trade or business.” 2012 T. C. Mem. 4, at p. 7.

And you can satisfy your intellectual curiosity about the Hawkins case at Hawkins v. Commissioner, T.C. Memo. 1979-101, affd. without published opinion 652 F.2d 62 (9th Cir. 1981).

Anyway, even if Mike was in it for the money, he falls foul of the strict substantiation of Section 274(d), IRS’ big torpedo for eager taxpayers. To deduct travel and meals, you have to show who, what, when, where, how and why for each and every expense as you make the payment, and tie it in to the business.

So Mike’s literary venture, while personally rewarding and possibly artistically meritorious, fails of taxpayer subsidy.

IRS says “Time for the five-and-ten, the Section 6662(a) negligence with substantial understatement (the greater of $5000 or ten percent of tax properly due) penalty on top”. But Mike says he went to his friendly neighborhood tax preparer, who had more than 36 years of experience, and told the preparer the whole story. And said preparer told Mike to go for it.

So Mike acted in good faith and with reasonable cause, and, as Judge Vasquez puts it, “(B)ecause the reasonable cause and good faith exception is a defense to both negligence and a substantial understatement of income tax, the section 6662 penalty does not apply.” 2012 T. C. Mem. 4, at p. 11.

Takeaway–Just because you could write a book doesn’t mean you’re in it for the gold. Write and keep writing, substantiate and keep substantiating, even if you don’t give up the day job.


In Uncategorized on 01/04/2012 at 16:40

OR, Employer’s Evasion Is No Defense to Employee

This is the lesson Judge Cohen teaches Tom Henk (not to be confused with Tom Hanks, co-star of the captioned 2002 movie), who is caught, and hit for self-employment tax, in Thomas G. Henk, Jr., a Section 7463 “Just Sayin’”, 2012 T. C. Sum. Op. 2, filed 1/4/12.

Tom worked for an outfit called Dealer Financial Services, who sacked him on June 13 of the year at issue. Tom got a $10K check from Franklin Financial Corp., a “sister” of Dealer, although Tom never worked, or did anything else, for Franklin. The $10K was supposedly severance pay Dealer owed Tom.

Franklin filed a Form 1099-MISC on Tom, but Tom never reported the $10K and claimed he never got the money, although as trial approached he conceded receipt. As Doctor Johnson famously remarked, “Depend upon it, Sir, when a man is to be hanged in the morning, it concentrates his mind wonderfully.”

Dealer, of course, never paid FICA, FUTA or Medicare/Medicaid taxes on anything but the wage money Tom earned up to the date they canned him. And Franklin never paid such taxes on the post-canning $10K.

Tom claimed at trial that the $10K was wages, upon which Dealer should have paid FICA, FUTA, and all that jazz, and that Franklin was a conduit that Dealer was using to escape its tax liability. But Tom couldn’t prove that on the record, although it does look mighty suspicious. Judge Cohen points out that the issue of whether Dealer or Franklin has to pay any part of the FICA, FUTA, etc., that’s owed on the $10K is not before the Court.

But Tom is before the Court; IRS says the $10K is nonemployee compensation upon which SE tax is due, and Judge Cohen opines simply:  “Petitioner’s suspicions concerning the motivation of his former employer are irrelevant to the taxability of the amount that he received.” 2012 T. C. Sum. Op. 2, at p. 3.

IRS concedes the 92.35% SE computation and 50% AGI deduction (the year at issue was before the self-employed give-up in the current, 2011, law, so the AGI break is 50%, not 57.51%, on the $10K), and Tom gets stuck for the rest.

Takeaway– If the check is suspicious, protest it then, not after IRS nails you. Or maybe drop  a Form SS-8 ,“Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding”, on Federal or whoever is the gamester.