In Uncategorized on 04/15/2014 at 12:23

Cautionary Tales for Lawyers

I would have posted this yesterday, 4/14/14, but I arrived home late last night from a family celebration (and I again thank my brother and sister-in-law for their overwhelming hospitality), so I deferred until now.

Every lawyer has received The Phone Call. It comes, for the most part, long after the case or matter is concluded, the file closed, and client forgotten (or nearly so). It comes, again for the most part, when one is finally packing up to go home after an exhausting day, and one dares to turn one’s mind to something cold, and clear, and containing an olive.

Then it comes. “I just got [whatever], and it’s all your fault”. The voice on the telephone is loud and grating, rather like the ice against the plates on the side of the Titanic at that moment, one hundred two years ago today.

First up, Allen H. Johnson, 2014 T. C. Memo. 67, filed 4/14/14. Allen was a man of good faith, who played, as he thought, according to the rules. He made his spousal maintenance payments in accordance with the terms, conditions and provisions of the divorce decree from the Family Court of the State of Minnesota, as the same were thereafter modified and amended.

Said divorce decree provided, in pertinent part: “A divorce decree…required Mr. Johnson to pay spousal maintenance of $6,068 per month. In addition to the spousal maintenance payments, the divorce decree also required Mr. Johnson to pay 40% of his gross bonus to his ex-wife. Both the periodic spousal maintenance payments and the additional payment terminate upon the occurrence of any one of the following events: (a) the graduation from high school of the youngest child; (b) the remarriage of Mr. Johnson’s ex-wife, or (c) the death of either Mr. Johnson or his ex-wife. The divorce decree states that the spousal maintenance should be deductible to Mr. Johnson under section 215 and includible in his ex-wife’s gross income under section 71.” 2014 T. C. Memo. 67, at pp. 2-3.

And there was a separate child support provision. And Mr. Johnson took the deduction, and ex-Mrs. Johnson took in the payments as gross income.

Sounds OK? Nope.

It does satisfy the Big Four of Section 71(b): part of a divorce decree, doesn’t state that it is not includible or allowable, spouses aren’t living in same household when payments made, and dies with payee spouse.

But it misses Section 71(c)(2). It is tied in to a “contingency involving a child”. And that derails the deduction. The legislative intent is obvious: to keep people from playing games by making child support payments (not deductible except as limited by Section 152) deductible without limit by labeling the payments as alimony and not child support.

OK, nothing novel here. See my blogpost “End of the Trail”, 9/5/12.

Allen’s divorce lawyer (or whoever provided the tax advice) blew it. Having the payments end with the graduation of the youngest child, or anything to do with any child, is the critical error.

As shown in my blogpost aforesaid, dear divorce lawyers, tie the end of payments to a date certain. If that date certain happens to coincide with someone’s eighteenth birthday, well, that’s a coincidence. Who knows when, whether or if anyone will attain to the age of eighteen years, graduate from high school, marry or join the circus?

Allen’s CPA followed the divorce decree when preparing Allen’s return, so Allen acted in good faith, thus no 20% substantial understatement chop. But he still owes tax and interest, and I doubt he’s a happy camper. His divorce lawyer (or whoever provided the tax advice) may already have received The Phone Call.

Next up, Estate of Wallace R. Woodbury, Deceased, Wallace Richards Woodbury, Jr., Executor, 2014 T. C. Memo. 66, filed 4/14/14. The Late Wally owned a lot of closely-held family businesses, said Wally Junior, so he needed more time to file the 706. He wanted the Section 6166(a) closely-held small business 10-year installment plan. So first he sought an extension of the nine-month basic filing period, filing Form 4768, and checking the Section 6166 installment box and the Section 6161 extension of time to pay box.

IRS gave him the maximum six months’ extension, but Wally Junior needed more, so he asked for more. Unfortunately, whoever was advising Wally Junior never looked at Section 6081(a); the maximum extension for anyone in-country to file anything is six months. So IRS told Wally Junior he couldn’t have any more time.

And whoever was advising Wally Junior didn’t list the small businesses and show they were 35% or more in value of the gross estate in the cover letter they sent with the Form 4768. And it took Wally Junior nearly three years to file the 706.

You can guess the rest: no extension, no installment plan (Section 6166 election must accompany timely-filed return, per regulations) and no extension of time to pay.

Wally Junior wants a declaratory judgment (that’s a DJ to us professionals) per Section 7479. That provision lets Tax Court rule on a Section 6166 installment election, but not Section 6161 pay election. “(…our jurisdiction in the instant case arises under sec. 7479, which confers jurisdiction on the Court to make a declaratory judgment regarding whether an election may be made under sec. 6166 or whether the extension of time for payment of tax provided in sec. 6166(a) has ceased to apply with respect to an estate. Accordingly, we do not consider sec. 6161.” 2014 T. C. Memo. 66, at p. 4, footnote 4.

He gets his DJ, though. And it isn’t great. You’re too late, baby. You didn’t make your election with a timely-filed return. Your substantial compliance argument is out, as you didn’t substantially comply. You didn’t timely tell IRS what your closely-helds were and how they amounted to 35% or more of the gross estate, which are among the essential elements of complying with Section 6166(a). And while you made payments as if you had made a proper Section 6166(a) election, that doesn’t help you.

Tax Court has no equitable jurisdiction, so they can’t let you pay the balance and interest over what would have been the remaining term of an installment agreement.

Statutes of limitations are harsh, but there has to be an end, even where it could hurt.

Now why is this a cautionary tale for lawyers? See 2014 T. C. Memo. 66, at p. 7, footnote 6. Conceding the Section 6081(a) outside limit for extensions to file, Wally Junior states in his petition: ““Petitioner, relying upon legal counsel’s erroneous advice that a second extension of time could be obtained to file the 706 return, sought to obtain a second extension of time, which was subsequently denied and which therefore resulted in Petitioner making an untimely filing of the Decedent’s 706 return”.

Leaving aside the fact that Wally Junior knew or should have known that, when IRS bounced his second extension request, he had to bestir himself vigorously, or at least go to the bullpen for other counsel, lawyers should be aware that, in tax law, here there be dragons.

And the first one hears that there are dragons may be The Phone Call.



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