Even When He Gets It Wrong

Another life insurance small claimer, the usual loan against cash value, with a deemed distribution not an annuity, so it’s taxable. And it’s not cancellation of debt, it’s repayment of a loan (extinguishment of debt), so Section 72 makes it taxable whether or not the distributee is insolvent, thus Section 108 doesn’t apply.

Ordinarily I wouldn’t blog a case like Samuel Brach and Lillian Brach, 2013 T. C. Sum. Op. 96, filed 12/2/13, except that Sam and Lil get off the 20% understatement chop because they relied on Moses (“Mighty Mo”) Neuman, EA.

Sam was disabled, and when he couldn’t make premium payments on his life insurance policy, Guardian Life sent him $3K and a 1099-R stating Sam got $65K, of which $32K was taxable and the rest was his investment in the contract (now where have we heard those words before? No prize for the correct answer).

Sam and Lil gave Mighty Mo every W-2 and 1099 they got. Mighty Mo went over their financial position, decided they were insolvent and therefore the $32K wasn’t taxable, and thus Sam and Lil’s Social Security wasn’t taxable either.

Mighty Mo never attached a Form 982 Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment), nor their 1099-SSAs, nor the 1099-R, to Sam and Lil’s Form 1040.

Deficiency time. Sam and Lil petition.

Of course the distribution from Guardian wasn’t cancellation of debt, it was repayment of the loan, and therefore treated as if Guardian wrote Sam a check and Sam wrote Guardian a check. Everything over Sam’s aggregated paid-in premiums is taxable, and therefore so is the Social Security, at least in part.

What about the 20% understatement chop?

Sam and Lil got lucky; they drew The Judge with a Heart, STJ Armen: “Petitioners retained Mr. Neuman, an enrolled agent, to prepare their 2010 tax return. As an enrolled agent, Mr. Neuman practiced before the Internal Revenue Service as a tax professional, a fact known to petitioners.” 2013 T. C. Sum. Op. 96, at p. 13.

“The status of enrolled agent can tend to show competence. See Mills v. Commissioner, T.C. Memo. 2013-4; see also Mortensen v. Commissioner, 440 F.3d 375, 388 (6th Cir. 2006) (‘Much like a taxpayer’s reliance on an attorney or an accountant, reliance on an enrolled agent is a factor we may consider in determining the reasonableness of a taxpayer’s actions’.), aff’g T.C. Memo. 2004- 279. An enrolled agent is an individual who has displayed ‘special competence in tax matters’. 31 C.F.R. sec. 10.4(a) (2007). In the instant case, the record demonstrates both that petitioners reasonably believed that Mr. Neuman was competent to prepare their return and that they had no reason to question his advice.” 2013 T. C. Sum. Op. 96, at p. 14.

And Sam and Lil told Mighty Mo the whole story, and were unsophisticates. So no 20% chop.

Makes me feel good, as an EA, to know that my status “can tend to show competence” and that I have “displayed special competence in tax matters.”