Most Tax Court cases do not deal with novel or interesting points of law, or reinforce our present understanding with apt illustrations. But every so often there comes a case that, while neither introducing the new nor rejuvenating the old, tells a story that brings a smile to even the most jaded and trench-weary practitioner.

Such is the tale of Ronald S. Mills and Judy A. Mills, 2013 T. C. Memo. 4, filed 1/9/13, Judge Wherry carefully sticking to the facts. He lets Ron and Judy’s tale speak for itself.

Ron and Judy are real estateniks, running their business through three wholly-owned LLCs in (where else?) California. The LLCs were created, and their tax returns filed, by accountant Robert A. Sandlin.

Robert A. wasn’t a certified public accountant, but he was an enrolled agent, at least until he was placed on the inactive list in the year immediately preceding the year at issue. Judge Wherry explains: “An enrolled agent is an individual ‘who demonstrates special competence in tax matters by written examination administered by, or administered under the oversight of, the Director of Practice [now the Office of Professional Responsibility] and who has not engaged in any conduct that would justify the censure, suspension, or disbarment of any practitioner’. 31 C.F.R. sec. 10.4(a) (2007).” 2013 T.C. Memo. 4, at p. 4, footnote 4.

Bob was nothing if not inventive: “As stated, Mr. Sandlin assisted petitioners in forming the three LLCs. Petitioners relied on Mr. Sandlin to establish depreciation schedules for the assets held by the LLCs. Mr. Sandlin also told petitioners that they could amortize the value of Mr. Mills’ contribution of his life, time, and expertise in real estate management.” 2013 T. C. Memo. 4, at p. 4.

This is akin to the old basis-in-labor protester argument; see my blogpost “An Obliging Judge”, 10/18/12.

Needless to say, this earns Ron and Judy a $111K deficiency in tax and a $18K late filing addition, both of which they concede. But they want to fight about the $22K Section 6662(a) accuracy penalty.

They relied on Robert A.

Alas, “A trial was initially set for the trial calendar session beginning December 5, 2011, in Los Angeles, California. On December 7, 2011, we granted petitioners’ oral motion to continue the case to allow them time to speak with their former adviser, Mr. Sandlin. Petitioners and respondent had only just found Mr. Sandlin, who was then residing in Colorado at a Federal penitentiary.

“Mr. Sandlin, when he was not advising taxpayers to amortize the value of their own lives, was stealing money from clients’ individual retirement accounts using forged power-of-attorney forms. He also kept for himself client money that he had promised to pay over to Federal and State taxing authorities to settle outstanding tax liabilities. On January 22, 2009, Mr. Sandlin pleaded guilty to one count of wire fraud under 18 U.S.C. sec. 1343 and one count of willfully causing another to commit wire fraud under 18 U.S.C. sec. 2(b). On March 18, 2010, as part of an amended plea agreement, Mr. Sandlin agreed not to prepare Federal tax returns, represent people before the IRS, or hold himself out as an enrolled agent.

“The trial went forward without Mr. Sandlin and was held in Los Angeles on March 12, 2012.” 2013 T. C. Memo. 4, at pp. 5-6.

Ron came up with the valuations of his life and experience, based upon which he took the deductions; he wasn’t a passive bystander. And while Robert A. might once have been an EA, he wasn’t when he prepared the returns at issue, and the record didn’t show when he first became an EA,  nor what other special expertise he had.

“Finally, petitioners must also show that they relied upon Mr. Sandlin’s advice in good faith. Petitioners’ main reason for trusting Mr. Sandlin was that he had the trappings of success: a boat and a busy office. But an appearance of prosperity is not necessarily synonymous with competence.” 2013 T. C. Memo. 4, at p. 11.

So Ron and Judy get the penalty.

That must explain my career; I never had a boat.

There’s a Won’t

No, not a testamentary instrument here, but a Designated Order from STJ Armen (“The Judge With a Heart”) in Gary & Janet Will, Docket No. 25519-11, filed 1/8/13. So there are two “Will”s. And the “won’t” refers to STJ Armen’s denial of an IRS motion to introduce evidence after making a motion for summary judgment.

Trial is calendared for February this year, but in December IRS moves for summary judgment. I like summary judgment; it smokes out the other side and provides cheap discovery. “Marshal and lay bare your proofs”, and put it all in writing, under oath, is my kind of discovery.

Gary & Janet have until Thursday to respond, and it’s now only Tuesday, so STJ Armen is awaiting their response.

Meantime, “Most recently, on January 4, 2013, respondent filed a Motion For Leave To File 91(f) Motion Out Of Time. On that same date, respondent lodged a Motion to Show Cause Why Proposed Facts and Evidence Should Not Be Accepted As Established, and attached thereto a proposed Stipulation Of Facts incorporating some 16 exhibits. Eight of these 16 exhibits (Exs. 3-J through 7-J; 9-J through 11-J) consist of documents already a part of the record in this case (e.g., a copy of the petition filed to commence this case). The remaining 8 exhibits consist of copies of the notices of deficiency (Exs. 1-J, 2-J) from which petitioners appealed to this Court; the Appeals Case Memorandum (Ex. 8-J); petitioners’ Forms 1040 for the years in issue (Ex. 12-J); petitioners’ Submission Of Evidence (Ex. 13-J); and various IRS transcripts (Exs. 14-J through 16-J) pertaining to the years in issue.” Order, p. 1.

Given the undecided motion for summary judgment, and the fact the trial is set for next month, this motion may be moot. But even if the motion for summary judgment fails, IRS can put those documents in at the trial, to the extent relevant.

So the motion is denied.

Takeaway– Make sure you don’t waste time making motions that will not succeed, and make sure, when you move for summary judgment, to “Marshal and lay bare your proofs”, all of your proofs.

Fillmore L. Carr was an IRS Revenue Agent who settled an employment claim (nature of claim unspecified, but not physical or bodily injury) for $20K, net of withholding. But Fill didn’t bother to put this happy fact on his 1040 in the year he received payment (six years after the stipulation of settlement in the employment claim; again, for reasons unstated).

So we get Special Trial Judge Lew Carluzzo (great first name, Judge) handing Fill a confirmed deficiency, with the prospect of a substantial understatement addition to tax after the Rule 155 bean-count.

You can read the whole story in Fillmore L. Carr and Darlene Carr, 2013 T. C. Sum. Op. 3, filed 1/7/13, a 7463 “just sayin’”.

“Petitioners did not include any portion of the settlement payment or the accrued interest in the income reported on their return. The income tax refund claimed on their return, however, takes into account the Federal income tax withheld from the settlement payment.” 2013 T. C. Sum. Op. 3, at p. 4.

It gets better (or worse, depending upon your point of view). “According to the petition, the ‘Form 1099-INT’ and the ‘Form W-2’ are ‘in error’, but no allegations of facts in support of these assignments of error are made in the petition. Petitioners’ inartful pleading, their failure to submit a pretrial memorandum, and petitioner’s vague presentation at trial make it difficult for us to understand the precise nature of their challenge to the deficiency here in dispute. As best we can determine from what is included in the record, it appears that petitioners challenge the deficiency upon the following grounds: (1) the settlement payment and the interest are specifically excludable from income pursuant to some provision of the Internal Revenue Code; and (2) if the settlement payment and the interest that accrued on that settlement payment are includable in their income, then the proper year of inclusion is 2002, the year the settlement agreement was entered into, and not 2008, the year the payment was made.” 2013 T. C. Sum. Op. 3, at p. 6.

Judge Lew is nothing if not to the point. To answer the exclusion question: “The simple answer is no; neither item is excludable from petitioners’ income.” 2013 T. C. Sum. Op. 3, at p. 6.

Oh yes, and Fill and defaulting Darlene are cash basis taxpayers, and they admit they are. Anyway, their claim the settlement proceeds were received in an earlier year makes no sense, because they received six years’ worth of interest, which couldn’t possibly have accrued in the year of settlement.

Finally, Judge Lew drives home the point: “Petitioner is not an unsophisticated taxpayer; as noted, he is a former IRS revenue agent. We would expect that if petitioners’ position was supported by one of the exclusions from income set forth in one of the sections included in subtitle A, chapter 1, subchapter B, part III of the Internal Revenue Code, our attention would have been directed to that section.” 2013 T. C. Sum. Op. 3, at p.7.

Fill never pointed to a Code section exempting payment of employment claims from tax, largely, I suspect, because there isn’t one.

I guess all his years as a revenue agent, listening to lame arguments, spurious excuses, misconstructions of the IRC and the Regulations, protester nonsense and downright lying from hapless or mischievous taxpayers, finally got to Fill, and he succumbed. It must be an occupational hazard. Tax law rots the mind and erodes one’s moral sense.

Judge David Gustafson fans will remember the obliging judge from Thomas John Babcock, Docket No. 21863-11, Order filed 10/19/12, who endeavored to track down Thomas John when he wasn’t getting the message. To refresh your recollection, see my blogpost “We’ll Come to You – Part Deux”, 10/12/12.

Judge Gale, not to be outdone, goes searching for the heirs at law, distributees, legatees, personal representatives and general hangers-on of the late Gordon F. McCaleb, in Docket No. 656-12S, Order filed 1/4/13.

The late Gordo was fighting a $4K deficiency (IRS conceded the accuracy penalty). Gordo’s story:  “Respondent used a zero basis to calculate the income petitioner realized from his sale of the stock options. In his petition, petitioner acknowledged that the deficiency ‘was due to stock options that were left off the return’ but alleged that he paid ‘tax on the income through payroll withholding’ and that he ‘should have included basis to the extent of sales’ on a Schedule D, Capital Gains and Losses, that ‘should have been included with the return and was not’.” Order, p. 1 (Footnote omitted).

Comes the trial, and Gordo doesn’t show. IRS explains, in the immortal words of Starfleet Surgeon Commander Leonard McCoy to Starfleet Starship Captain James T. Kirk, “He’s dead, Jim.”

IRS says throw out the case for want of timely prosecution, insomuch as Gordo has shuffled off this mortal coil without leaving behind him executor, administrator, personal representative, or any of the consolations of probate law. Or more elegantly: “Respondent’s counsel filed a motion to dismiss for lack of prosecution. Therein, respondent advises that petitioner did not leave a will and that no representative or fiduciary is currently authorized to act on behalf of petitioner’s estate. Respondent further advises that petitioner’s only ascertainable heirs are his surviving issue….” Order, p. 2.

Judge Gale denies the motion, with copious citation to relevant State law; petitioners come and go, but Tax Court cases go on. “This Court’s jurisdiction over a case continues unimpaired by the death of a petitioner, even when there is no personal representative appointed to act in the place and stead of the decedent. Indeed, our jurisdiction resulting from a properly filed petition continues until our functions are terminated by decision or dismissal. An order dismissing a case for lack of prosecution is considered a decision that the deficiency is the amount determined by the Internal Revenue Service. Sec. 7459(d). In situations similar to the present case we have recognized that there may be survivors whose monetary interests are capable of being affected by satisfaction of the liabilities which will be determined consequent upon a dismissal for lack of prosecution. Accordingly, we have found it appropriate to give notice of the proceedings to those whose interests stand to be affected, so that they may have an opportunity to be heard if they so desire.” Order, p. 2. (Citations omitted.)

And Rule 63(a) lets the judge, on his or her own initiative, order substitution of a proper party to carry on the fight of the dear departed (and incidentally to protect his, her or their wallet or wallets).

So Judge Gale cites the aforementioned State law at length, and even includes a copy thereof (cribbed from Westlaw) to be served on the aforesaid issue of the late Gordo, together with copies of this Order, and even gives the Clerk of the Court the last known addresses of the aforesaid issue to make it easy to mail the same.

And Judge Gale extends an invitation to the heirs, good for thirty days, in the immortal words of Charles Lutwidge Dodgson, “will you, won’t you, will you, won’t you, won’t you join the dance?”

The Tax Court Judges are so obliging.

And Socially Insecure

That’s Jim Brady’s plight in James Brady and Mary Brady, as Jim bats lead-off in 2013 T.C. Memo. 1, filed 1/3/13, Judge Goeke pitching the bad news.

Jim forgot to report about $1.5K in dividends, so he gets an underreporting penalty, but that’s the least of Jim’s problems.

Jim is a retired Wall Street floor broker with a varied background–“Before his employment as a broker, Mr. Brady worked in sanitation, construction, as a sergeant in the U.S. Marines, and as a New York Stock Exchange clerk.” 2013 T. C. Memo. 1, at p. 12, footnote 3.

Jim was disabled and getting paid by Unum under a disability policy–payments concededly non-taxable, but the policy provided that if Jim could get Social Security, he would have to take it and pay Unum back out of whatever he got from SSA. And Social Security is taxable, up to 85% of benefits.

Jim strikes out with SSA the first time around, loses appeal number one, but wins an administrative hearing and gets $87K, of which $73K is retroactive benefit money he owes Unum for past benefits.

Jim goes to Ronny, a CPA and lawyer, to do his return. Ronny reports Jim’s $14K current benefits, but nets out the retro Jim paid Unum. Jim admits on the trial he forgot to give Ronny the 1099s he got for the dividends.

No good, says Judge Goeke, Jim owes tax on the whole enchilada, at least up to 85% thereof. If it was a payback to SSA for past benefits, that can be netted, but not paybacks to private insurers. See Section 86(d)(2)(A).

Judge Goeke: “We addressed a similar issue involving reimbursement of funds to a private insurer in Seaver v. Commissioner, T.C. Memo. 2009-270. In that case we held that when a recipient of Social Security benefits is required by contract to reimburse a third party for tax-free benefits previously received, the recipient is not entitled to a deduction for the reimbursement. Id., slip op. at 7. We stated that we were not ‘free to question’ the choices that Congress had made regarding Social Security benefits and benefits paid by a private insurer.” 2013 T. C. Memo. 1, at pp. 5-6.

Tax Court may not be free to question Congress’ choices, but I am. This is another way that a disabled person, who has no other sources of income but relies on insurance (whether private or governmental), gets mistreated. And that’s regardless of partisan issues; this is a non-political blog, friends.

So Jim is on the hook for the tax. But he relied on Ronny, the attorney and CPA, so penalties only for the dividends.

Now for yet another example why one should hire a lawyer with Tax Court experience, or a Tax Court admittee, that rare specimen who passed through the needle’s eye, for a Tax Court trial. Jim might have made a Section 86(e) election, and adjusted the taxable amount of the benefits he received. Maybe it would have helped him, although IRS said it wouldn’t, even if he could so elect four years after the fact, which IRS did not concede.

“At trial the Court inquired whether petitioners would like to make the section 86(e) election if the election would aid them and if making the election so long after filing their 2008 return was possible. Petitioners stated that they would. However, not only have we found no authority for making the section 86(e) election so long after the filing of the relevant tax return, but respondent has stated in his brief that ‘based on the petitioners’ income in the previous years’, even if a section 86(e) election was made it ‘would do nothing to limit petitioners’ tax liability.’  Petitioners’ tax returns (or other statements of income) for 2005 through 2007 were not introduced into evidence for our review, and petitioners did not dispute respondent’s statement. Given that the burden of proof is on petitioners, we find they have not proven that the section 86(e) election is of any consequence in this case. We will not proceed to address whether it is possible for petitioners to make such an election with respect to 2008 at this late date.” 2013 T. C. Memo. 1, at p. 7. (Footnote omitted).

The omitted footnote says Jim had a chance to file a post-trial brief after IRS had filed theirs, but Jim didn’t. There may be no authority to allow a late-filed Section 86(e) election, but it might have been worth asking. There doesn’t seem to be any authority denying it.

Pity the pro se in Tax Court.

Slow start to 2013 in Tax Court, just one Section 7463 that’s the ordinary substantiation rehash, so let’s go to the Designated Hitters. Judge Morrison denies summary judgment to Brad Glazer, in Bradley Glazer, Docket No. 10777-12S, filed 1/2/13, on his alimony deductions for both of his ex-wives.

Brad claims Madra, Wife No. 1, was entitled to alimony per their divorce decree if her disability payments were cut or extinguished. But he only proffers the decree allegedly supporting this claim in his reply to IRS’ response to Brad’s motion for summary judgment.

No good, says Judge Morrison: “Respondent has not had a chance to respond to petitioner’s reply or to the documents attached to this reply. Rather than ordering further briefing of the summary-judgment motion, it is more efficient to leave these documents to be introduced by petitioner at trial and for respondent to present his views of the documents then.” Order, p. 1.

Summary judgment means “marshal and lay bare your proofs” to begin with, right? Brad didn’t, so Brad’s payments to Mad, and the basis therefor and the deductibility thereof, must await the trial.

And Brad has another alimony issue, this time with Wife No. 2, Helena.  Here again Brad pays and wants the deduction. And again Judge Morrison squelches him: “However, his 2001 divorce decree from Helena Glazer made no provision for ongoing alimony payments. Although petitioner alleges that his signature on a Form I-864 imposed on him an obligation to provide support to Helena Glazer, petitioner did not show through acceptable documents, affidavits, or sworn declarations, that he signed any Form I-864.” Order, p. 2.

So Brad must prove Mad’s entitlement, and deal with Helena and the elusive I-864. Should be a fun trial.

Incidentally, I-864 is not a six-lane horror show with feeder roads and fast fooderies, but rather an Affidavit of Support for immigration purposes.

The WordPress.com stats helper monkeys prepared a 2012 annual report for this blog.

Here’s an excerpt:

600 people reached the top of Mt. Everest in 2012. This blog got about 7,700 views in 2012. If every person who reached the top of Mt. Everest viewed this blog, it would have taken 13 years to get that many views.

Click here to see the complete report.

IRS announces the CAF system will be out until 1/6/13. Hold off on those 2848s and 8821s, and your transcript requests and Electronic Account Resolution requests, tax pros. If you fax forms during the downtime, they will be manually processed, so don’t submit them again electronically after the system comes back. Says IRS: “The Practitioner Priority Service is available at 866-860-4259 if you have additional questions.”

Happy New Year, one and all.

And You’d Better Slice It Right

That’s the lesson for John J. Norman, Jr., and M. Elizabeth Norman, 2012 T. C. Memo. 360, filed 12/27/12, as taught by Chief Judge Thornton.

JJ was a real estate broker. He and Liz wanted to buy a house in historic Warrenton, VA. The property they found had land, lots of land, under starry skies above, so, taking the advice of Bob Fletcher and Cole Porter from their 1934 hit, rather than fencing it in, they thought they might subdivide and develop it.

After much palaver with their sellers, who had the same idea but gave up on it, and after feasibility studies and an abortive hook-up with a professional developer, JJ and Liz having meanwhile bought the house with a hefty mortgage (which exceeded the Section 163(h) magic $1.1 million number for principal residence interest), the development deal runs aground on local political shoals regarding traffic on the local access road.

Unhappily for JJ and Liz, neither the contract of sale at acquisition, nor the terms of the hefty mortgage, allocated price or mortgage proceeds between house and land, and development land.

JJ and Liz wanted to take the interest on the mortgage debt above the $1.1 million as investment interest, and even though their other investment income didn’t cover, they could carry the unused portion forward.

IRS said no; no business use of the land, and no allocation between investment property indebtedness and principal residence. CJ Thornton finds a business purpose for something, but without knowing what land was involved, nor what debt, if any, covered investment land, there cannot be any allocation, and thus no investment interest.

JJ and Liz offered no expert testimony on the relative values of whatever land they wanted to ascribe to investment as opposed to principal residence, relied on conversations with the seller pre-contract (that were not embodied in the contract), and the mortgage made no reference to development or other use of the property.

IRS does concede the accuracy penalty, though.

Bottom line– what your contract and mortgage say, or don’t say, is the story you’re stuck with. See my blogpost “Buying Trouble”, 1/18/12.

Judge Vasquez has a Christmas present for Donald R. Fitch and Brenda T. Fitch in 2012 T. C. Memo. 358, filed 12/26/12. They get to depreciate Donald’s repurchase of his accounting practice, after an explanation of Donald’s sale to Mark and the repurchase thereof four-and-a-half months letter, which incidentally explains the title of this blogpost.

Donald was a single-shingle CPA in San Francisco, who spent ten years building his practice until stricken with a brain aneurysm, which put him in the hospital for a week and led to a slow recovery.

Unable to keep his practice going, he sold it to Mark, a CPA from Massachusetts, who had provided services to Donald sporadically as an IC. The agreement of sale stated Donald had had a brain aneurysm and needed to sell. Payment was to be made in a single installment of principal and interest (at AFR) one year after sale. Donald helped a little with the transition, and reported the capital gain on the sale.

Four-and-a-half months into his ownership of the practice, Mark suffered a seizure and was hospitalized.

Gotta be something about being a CPA. It’s a risky occupation.

Mark sold the practice back to Donald for the same price he paid, stating in the sales agreement he was ill and couldn’t go on running the practice.

Donald started depreciating the practice, using the 15-year Section 197 rules for intangibles, but getting the numbers wrong; he was $15K low per year.

IRS blows the deal up, of course, claiming it was a give-and-go, Donald was depreciating self-created intangibles, and also blowing up Donald’s and Brenda’s spousal meal deductions and their real estate operations. The real estate and spousal meals are too fact-driven and too much like other Section 274 and Section 469 face-offs to warrant space here.

The key is the bona fides of the sale and resale of the accounting practice, and Judge Vasquez finds for Donald.

Judge Vasquez: “Respondent contends that petitioners presented false testimony and fabricated documents in an attempt to prove that the transactions took place. We disagree. We find petitioners’ testimony to be credible and persuasive. See Diaz v. Commissioner, 58 T.C. 560, 564 (1972) (stating that the process of distilling truth from the testimony of witnesses, whose demeanor we observe and whose credibility we evaluate, is the daily grist of judicial life). Furthermore, we find the sale and repurchase agreements to be genuine and trustworthy.” 2012 T. C. Memo. 358, at p. 12.

IRS also questioned Donald’s wisdom in repurchasing the accounting practice. But Judge Vasquez doesn’t want to second-guess Donald: “However, it is beyond this Court’s purview to second-guess [Donald’s] business judgment or the manner of operations of his business.” 2012 T.C. Memo. 358, at p. 12, footnote 11.

“Respondent [IRS] attacks the agreements for their brevity, arguing that they lack ‘details that would certainly be present on an authentic sales contract of nearly one million dollars.’ However, the circumstances surrounding the sale and repurchase transactions present a different story. [Donald] was recovering from an aneurysm at the time he sold the C.P.A. practice to [Mark]. They had a working relationship dating back to 1996, and they understood the need to effect a quick sale on account of [Donald’s] medical condition. They put the basic elements of their agreement into writing and left the details to be sorted out later. Likewise, when [Mark] suffered a seizure, they signed a similar agreement to effect a quick repurchase. In these circumstances, we find it hard to believe that a lack of details somehow suggests the agreements were fabricated. Respondent does not argue that the sale and repurchase agreements are invalid or unenforceable under State law. Accordingly, we find that petitioners have proven that the sale and repurchase transactions actually took place.” 2012 T. C. Memo. 358, at p. 13 (footnote omitted, but IRS said there were no default provisions and the agreements were very short.)

And the deal was not a rescission, as Donald did not get back exactly what he had sold, as the practice had been ongoing, and Donald and Mark were not back in exactly the same position as before.

Finally, “Respondent cursorily cites section 1.197-2(d)(2)(iii)(C), Income Tax Regs. in support of the position that ‘no amortization is available under I.R.C. § 197 for self-created intangibles that are repurchased as part of a series of related transactions’. Self-created intangibles generally are not amortizable. Sec. 197(c)(2). However, an exception is provided if a taxpayer disposes of a selfcreated intangible and subsequently reacquires the intangible from a seller (in whose hands the intangible is amortizable) in an unrelated transaction. Sec. 1.197-2(d)(2)(iii)(C), Income Tax Regs.

“Almost all of the intangibles that [Donald] reacquired in the repurchase transaction were originally created by him. The issue therefore turns on whether the sale and repurchase transactions were related transactions. We find that the transactions were impelled by separate business exigencies, namely [Donald’s] anuerysm and [Mark’s] seizure. It is hard to believe these medical conditions could have been predicted or the transactions necessitated by them preplanned. We find that the sale and repurchase transactions are not related transactions, and therefore the rules generally disallowing the amortization of self-created intangibles do not apply.” 2012 T. C. Memo. 358, at p. 15 (Footnote omitted.)

And for a bonus Judge Vasquez corrects Donald’s erroneous underestimate of his allowable depreciation.