Long-time readers of this my blog will remember that trusts can be real estate professionals; those who come late can see my blogpost “Trust Me, Trust Me,” 9/27/14. Now Ch J Maurice B (“Mighty Mo”) Foley says a trust can be better than a next friend in Estate of JoAnn Molero, Deceased, Docket No. 31299-21, filed 4/14/22.

Seems the late JoAnn’s daughter Leslie moves to be recognized as next friend, because the petition was filed after the late JoAnn became the late JoAnn.

“The motion states that no probate proceeding was commenced with respect to decedent’s estate because JoAnn Molero and her husband Charles C. Molero, who predeceased decedent, had established a revocable living trust, of which Leslie … is now the successor trustee. The motion was signed by decedent’s other children, Frank Molero and Bryan Molero, indicating that they do not object to the granting of the motion. On April 8, 2022, a status report was filed on behalf of decedent. Attached to the status report is a copy of decedent’s trust document, which sets forth information concerning the trust’s successor trustee and the trustee’s powers.” Order, at p. 1.

Looks like the late JoAnn and the even later Charles C. took Norm Dacey’s 1967 advice to heart, and avoided probate.

But Rule 60(d) next friendship only applies to infants and incompetents, and neither the late JoAnn nor the even later Charles C. qualifies.

But have no fear, Ch J Mighty Mo is on the case.

“However, the Court is satisfied that Leslie…, in her capacity of successor trustee of decedent’s living trust, is legally qualified to represent decedent in this litigation.” Order, at p. 1.

So Ch J Mighty Mo unfriends Leslie, but subs in the trust, with Leslie as trustee.

Practice tip: Draw your inter vivos trusts to let successor trustees commence, defend, compromise, settle, intervene in, take appeals from, or sub into, any judicial or administrative proceeding. And attach a copy of the trust instrument (and any amendments) to your motion papers when you’re subbing in.

And a Taishoff “Good Job” to Leslie’s trusty attorneys at Neilson-Spaulding.

IRS says no to the adult children of Douglas Mihalik and Wendi J. Mihalik, T. C. Memo. 2022-36, filed 4/13/22. Doug is a retired airline pilot; part of his package is free stand-by passes for himself, family and “friends.” His former employer tracks those passes, and labels each recipient as family or friend. The former employer assigns a cash value to each pass issued to one other than spouse or dependent child of former employee, and gives the former employee a 1099-MISC for the aggregate at no extra charge.

Doug and Wendi report nada. So IRS hands them a SNOD, which they petition.

Doug and Wendi are less than clear about the application of Section 132 de minimis fringes. These are low-cost (too small to consider) or no-additional-cost-to-employer (past or present).

IRS moves for summary J. Doug and Wendi don’t prepare for trial, allege some protester jive, and claim they moved for discovery, but the motion didn’t make it into the record. Anyway, what they claimed they asked for had no bearing on the case.

Judge David Gustafson sorts it out.

“Section 132(a)(1) excludes from gross income the value of any fringe benefit that qualifies as a ‘no-additional-cost service’. As defined in section 132(b), a ‘no-additional-cost service’ is any service that is  (1) provided by an employer to an employee, (2) at no substantial additional cost to the employer (including forgone revenue), (3) for use by the employee, and (4) offered for sale to customers in the ordinary course of business of the employer. See also Treas. Reg. § 1.132-2(a)(1).  Excess capacity services, such as stand-by flights provided by commercial airlines to their employees, are generally considered no-additional-cost services and are non-taxable to the recipients.” T. C. Memo. 2022-36, at p. 7. (Footnote omitted, but it says fringe stand-bys only go if no revenue passenger shows, so the airline loses nothing as the plane was going anyway).

So Doug and Wendi and daughter are OK, as Section 132(h) limits the no-additional-cost fringes to employee, spouse and dependent (per Section 152) children. But  the two free-fliers, though having same surname as Doug and Wendi, are nowhere proven to be among the Chosen Few.

They’re not shown as dependents on Doug’s and Wendi’s tax return for year at issue, and IRS says their ages make them too old for dependent child status.

As for de minimis cash benefits, these are almost never tax-free.

“Examples of excludable de minimis fringe benefits include coffee, doughnuts, and soft drinks, local telephone calls, and occasional personal use of an employer’s copy machine.  Examples of benefits that are not excludable de minimis fringes are: season tickets to sporting or theatrical events, the commuting use of an employer-provided automobile or other vehicle more than one day a month, and use of employer-owned or leased facilities (such as an apartment, hunting lodge, boat, etc.) for a weekend.” T. C. Memo. 2022-36, at p. 8. (Citations omitted).

And the fringes aren’t so small that it would be burdensome to track; Doug’s former employer does a grand job of tracking.

This is the famous ABA Model Rule 3.7 story: a lawyer cannot be a witness in a case where he is the advocate, lest he have to argue his own credibility, and confuse and mislead the jury between his/her (unsworn) argument and sworn testimony, and otherwise wear two irreconcilable hats. But today Judge David Gustafson allows a lawyer’s own statements to furnish basis for Appeals’ conclusion that George Gilmore, Docket No. 192-21L, filed 4/12/22, is not eligible for CNC.

George owes $1 million in self-reported taxes over a four (count ’em, four) year stretch. He got a NITL therefor at no extra charge, goes to Appeals claiming he can’t pay, but has assets he’s trying to sell. George never asks for an IA or OIC. But nine (count ’em, nine) months later, nothing has moved, despite contracts with past-due closing dates. Appeals NODs the levy.

George claims abuse of direction because Appeals “…(1) failing to analyze the liquidity of his assets; (2) failing to set forth factual findings in support of the determination that he did not make reasonable efforts to liquidate his assets; and (3) failing to give him a reasonable time to submit a proposal for liquidating his assets.” Order, at p. 6.

First, George told Appeals what the assets he was trying to sell should bring. No reason not to take him at his word. Taishoff says it’s an old rule that the owner of property can testify as to what that property is worth.

Second, as for George’s efforts to sell, the calendar tells the tale. “Mr. Gilmore first made assurances that he was liquidating his assets to pay his tax liabilities in March 2020. He made these same assurances seven months later in October 2020 when he provided copies of contracts in support of his expectation that he would be able to liquidate his assets. However, these reassurances were hardly reassuring, since they showed that the passage of six months had not yielded actual sales. The contracts listed closing dates and release dates that had come and gone. When another two months went by with no sales, we cannot criticize IRS Appeals’ conclusion in December 2020 that Mr. Gilmore had been given ‘an appropriate amount of time’.” Order, at p. 7. (Reference to record omitted).

As for a reasonable time to sell, “…he did not offer any interim payment schedule or propose any other collection alternative. He simply asked the IRS to agree that it should leave him alone for an unstated amount of time without requiring him to make any payment. We see no abuse of discretion in SO V’s determination that, based upon Mr. Gilmore’s own representations and documents, Mr. Gilmore should have been able to make some payment towards his tax liabilities,  and that he was therefore not eligible for a ‘currently not collectible’ collection alternative based on a complete inability to pay. Because in his CDP hearing Mr. Gilmore raised only his supposed inability to pay, the question whether Mr. Gilmore had an ability to make any payment was the only issue that SO V was required to consider in the CDP hearing.” Order, at p. 7 (Name omitted).

The SO could rely on what Mr. Gilmore told him.

“Mr. Gilmore owed more than $1 million. The information that he had provided to IRS Appeals indicated that Mr. Gilmore owned assets, that asset sales were imminent, and that the proceeds could be used to satisfy Mr. Gilmore’s tax liabilities.  However, in the 9 months from the proposal of asset liquidation to the issuance of the notice of determination there were no payments to the IRS, and SO V did not abuse his discretion in sustaining the proposed levies under these facts and circumstances.” Order, at p. 8. (Name omitted).

I wonder if this is the same George Gilmore, now or formerly of Ocean County, NJ. If it is not, I apologize. If it is, a Google search will provide some interesting background.

Judge Travis A. (“Tag”) Greaves has another SSA 530 IC vs EE reclassification, but since it’s a piscine barrelshoot for IRS I won’t bother with the whole story of Pediatric Impressions Home Health, Inc., T. C. Memo. 2022-35, filed 4/12/22.

The Impressionists get slugged with FICA/FUTA for 99 (count ’em, 99) home healthcare providers, who provide care for special-needs children. Of course, the command-and-control by the Impressionists is complete.

I note only that the Impressionists changed from classifying the providers as employees to treating them as ICs, without any change in the operation, even for the same employees.

“Petitioner’s administrator, president, and sole shareholder, Ms. Agbo, testified that she decided to change the classification of its workers on the advice of petitioner’s certified public accountant, but she failed to offer any evidence to support this claim.” T. C. Memo. 2022-35, at p. 13.

No worry, Ms. Agbo. I’m sure IRS will be auditing your CPA’s clients to ascertain exactly what advice s/he was giving them. And it might get a wee bit expensive for them, too.

Richard M. Abraham was the head honcho of The REDI Foundation, Inc., T. C. Memo. 2022-34, filed 4/11/22, a 501(c)(3) flogger of online real estate development courses. It’s not REDI that’s at issue, it’s the FICA and ITW for Richard’s draws from REDI (FUTA is apparently off the table for unstated reasons).

Richard incorporated REDI back in 1980 and was a corporate director and officer throughout. Richard says his corporate officership was merely incidental, that he really was an IC, and wanted a sashay through the multitudinous factors of employeeship.

Judge Nega isn’t having any. Section 3121(d)(1) defines “any officer” as an employee of the corporation. As a statutory employee, the only outs are the statutory exemptions. Commonlaw distinctions are preempted.

“The text of the regulations thus recognizes a longstanding exception from employee status for officers who (1) perform ‘only minor services’ and (2) do not receive and are not entitled to receive remuneration for those services.” T. C. Memo. 2022-34, at p. 5. And an officer can perform minor services for no compensation and also be an employee, provided the lines between the two are clearly drawn and maintained.

“The record establishes that Mr. Abraham provided services for petitioner that constituted its entire source of income and received remuneration for those services; as respondent suggests, it is a ‘fair inference’ that Mr. Abraham did so as an officer and statutory employee.” T. C. Memo. 2022-34, at p. 5.

Richard’s argument that he was paid royalties for his coursework is a loser. Simply paying yourself what you call “royalties” from your controlled corporation doesn’t make it so.

Richard’s 1099-MISC to himself from REDI is self-serving, and Richard has no written contract with REDI describing his duties.

“Mr. Abraham was the sole person in charge of overseeing and executing the online course (petitioner’s only business activity); he necessarily provided a wide variety of services to petitioner, including managerial decisions about the content, marketing, and enrollment of the online course.” T. C. Memo. 2022-34, at p. 7.

His services weren’t minor. And Richard’s command-and-control argument is for commonlaw EE situations, not statutory. And the SSA Section 530 longstanding-practices argument is also for commonlaw employees, not statutory ones.

Richard’s evidence for good-faith reliance to avoid the add-ons is missing, both for failure to file 941s and failure to pay. But so is the Section 6751(b) Boss Hoss sign-off, so IRS folds the chops.

Wendell C. Robinson & May T. Jung-Robinson, Docket No. 6446-19L, filed 4/11/22, are back, following the off-the-bencher Judge David Gustafson gave them back in January, for which see my blogpost “Don’t Debate, Abate,” 1/10/22.

But Wendell & May still want to debate, so Judge Gustafson shuts them down.

“Neither the ‘computation’ nor the memorandum submitted by the Robinsons contains a computation of their ultimate liability as determined by our bench opinion. Instead, the Robinsons explicitly attempt what Rule 155(c) flatly forbids: They ‘seek modification and reversal of the Court’s decision, based on Petitioner’s [sic] belief that the Court’s decision is based on a mistake of fact and law’. The Robinsons attach various exhibits (all of which were previously admitted into evidence) to support their argument that the Court should adopt the calculations in their original …. return.” Order, at p. 5.

Rule 155s are strictly beancounts, not reargument, reconsideration, or renewal. If you’re at a Rule 155, it’s only the numbers.

But IRS’ numbers are wonky.

“Our opinion… held that the Robinsons are liable for the section 6651(a)(2) addition to tax on $35,637 (the amount of unpaid tax liability reported by the Robinsons…), and we are unable to determine why the Commissioner calculated the section 6651(a)(2) addition to tax using $40,794.31 instead of $35,637. We will order him to show cause why this should not be corrected.” Order, at p. 6.

Takeaway- Don’t treat Rule 155s as routine. Drill down on the opinion that sends you to the Rule 155. Don’t expect the Court to rubberstamp your numbers. Doublecheck IRS’ numbers.

Don’t debate, calculate and recalculate.

No, I haven’t taken on the role of war correspondent. One of my correspondents, Peter Reilly, CPA, backed by the inexhaustible resources of the Forbes empire, sends me 4 Cir’s reversal of the case of Vitaly Baturin, a Russian scientist who claimed exemption from US income tax on the $75K he got from Thomas Jefferson National Accelerator Facility, a USDOE facility where he was boosting their atom-smasher from 6Bev to 12Bev to unravel the source of the universe.

Here’s Baturin v Commissioner, No. 20-1648, 4/6/22.

For the backstory on Vitaly, see my blogpost “Only Be Sure to Call It Please Research – Part Deux,” 12/18/19.

Judge Motz says the US – Russian Federation Tax Treaty is less generous than the old deal with the now-defunct USSR. Anyway, treaties must be liberally construed in favor of the contracting parties, not the claimants thereunder. Grants and wages are two separate categories, whose separation must be maintained. US law governs, and Section 117 only helps Vitaly when the Jeffs get no benefit from his work.

True, the money was allocated before Vitaly ever came on the scene, but that doesn’t matter if the Jeffs got the benefit of his work.

Judge Motz at 4 Cir, though reversing, gives pore l’il ol’ Tax Court the benefit of the doubt.

“The Tax Court, of course, did not have the benefit of our decision when it heard testimony and decided this case. As a result, the record is not entirely clear as to the specifics of Dr. Baturin’s relationship with Jefferson Lab. We are not a fact-finding body, and the question of how best to characterize the payments at issue here is a largely fact-dependent question.

“Thus, on remand, the Tax Court should determine what Jefferson Lab gained from having Dr. Baturin on staff. In doing so, the court should consider, for example, the following questions: If not Dr. Baturin, would Jefferson Lab have brought someone else to work on upgrading the detector? Did the projects Dr. Baturin worked on pre-and/or post-date his tenure at Jefferson Lab, or were they dependent on his presence? Did Jefferson Lab retain the rights to the product of Dr. Baturin’s research? How much discretion did Dr. Baturin have to direct the day-to-day performance of his work? Cf. Rev. Rul. 80-36, 1980 WL 129605, *1 (outlining relevant considerations to determine whether researchers’ income was tax-exempt under U.S.-Japan Income Tax Convention). In short, was there a ‘substantial quid pro quo’ here? We trust the Tax Court to answer these questions, and we think it appropriate to allow that court the opportunity to apply the framework we have described here in the first instance.” Opinion No. 20-1648, at pp. 15-16. (Citation omitted).

Looks like grants are gifts, disinterested love and affection, not payment for services. To Russia with love?

Readers may remember Amanda Iris Gluck Irrevocable Trust, Docket No. 5760-19L, filed 4/8/22, s/a/k/a AIGIT from its appearance two (count ’em, two) years ago in my blogpost “Sue Now, Pay Later,” 5/26/20. Then, IRS lost summary J, so AIGIT got to contest the $48 million capital gain of a partnership (“partnership”) of which AGIT was an indirect partner  through a tiered partnership arrangement, but neither AIGIT’s direct partnership nor AIGIT reported anything about that on their respective returns for the year at issue.

Judge Albert G (“Scholar Al”) Lauber is still on the case, and AIGIT doesn’t get summary J.

AIGIT claims the unreported capital gain was wiped out by the lead partnership’s wipeout, per Section 731. But AIGIT fails to prove it. All AIGIT has is the returns and other filings of the various partnerships, but those are only statements of a claim, not proof.

“Respondent also points to several possible discrepancies in the tax filings petitioners have supplied. [Partnership] did not indicate on its Form 1065 for [year at issue] that the return was the partnership’s ‘final return,’ nor did it check the box, ‘Final K-1,’ on the Schedule K-1…. If [partnership] in fact terminated at year-end…, one might have expected its Form 1065 to have been completed differently. There is likewise no mention in any tax filing that [direct partnership] recognized a loss upon [partnership’s] purported termination. [AIGIT’s partnership] did not report a capital loss on lines 8 or 9 of its Form 1065, and it did not attach any statement identifying a loss or indicating that its accountant ‘netted’ a loss.” Order, at pp. 5-6.

So Judge Scholar Al has a laundry list of fact questions at p. 5, which see if you’re ever involved with liquidating a partnership.

AIGIT’s claim that the allocated capital gain would increase their basis in the direct partnership, thus augmenting the capital loss on dissolution and offsetting that gain, also fails for want of substantiation.

I see AIGIT’s trusty attorney is admitted in Our Fair State. I trust he is busily preparing for trial.

In criminal proceedings in Our Fair State, when this red “E” lights up, it means a tribunal has made an error so grave that it totally undermines its findings, so that even without objection by the injured defendant or their counsel, even when right of appeal is waived, the findings must be tossed.

OK, but our courts are armed cap-à-pié with the full judicial power of Our Fair State. What can pore l’il ol’ Tax Court do?

That Obliging Jurist Judge David Gustafson would like to know, and in pursuance thereof, he’d like IRS and Tatsuya Kito, Docket No. 20174-19L, filed 4/7/22, to tell him.

Tats petitioned six (count ’em, six) years’ worth of NODs from a NITL and a NFTL; sent in an OIC which got bounced. Tats’ OIC included years not in the NITL or NFTL, but that’s OK. Judge Gustafson has the cases; you can even throw in TFRPs. At every stage, Year X was included in the proceedings.

Except the NOD from the NITL, which only discusses the six years petitioned, reviews seven (count ’em, seven) years, throwing in one not petitioned, but provides a chart on Page One showing only five (count ’em, five) of petitioned years, but leaving off Year X. Appeals decides Tats can pay in full, so no CAlt. (CAlt stands for collection alternative, not to confuse with abbreviation for California).

Tats then files his petition (not specifying which years are involved but attaching the NOD), and seeks remand for change-of-circumstances. The Supplemental NOD only addresses the five years, sustains the collection.

Then Tats and IRS send in a stipulated decision including Year X.

Judge Gustafson bounces it. Pore l’il ol’ Tax Court’s jurisdiction is straitjacketed.

“Strictly speaking, we do not review the IRS’s collection notices (i.e.,  neither the notice of lien filing (which included Year X) nor the proposed levy (which did not)); rather, we review IRS Appeals’ determination as to those collection notices. If IRS collection personnel filed a notice of lien for Years 1 and 2, but (when that collection became the subject of a CDP hearing) IRS Appeals sustained the lien as to Year 1 and did not reach Year 2, then the Tax Court’s jurisdiction in a subsequent case under section 6330(d)  extends only to Year 1 and does not extend to the year as to which IRS Appeals made no determination.” Order, at p. 4.

IRS asks Judge Gustafson to decide that Appeals did make a determination as to Year X. Just a mistake in the paperwork.

No go.

“IRS Appeals’ multiple explicit statements of the periods as to which it was making a determination is the best evidence of the extent of its determination. To go beyond the literal language of the determinations (arguably, to contradict it) sets us on a most uncertain path, whereas we ought to entertain jurisdiction only where it has been plainly conferred on us. We begin with the presumption that the notices mean what they repeatedly say. This is most weighty.” Order, at p. 4.

Judge Gustafson cannot find even an implicit decision. Neither petition nor answer specified years at issue. “The original and supplemental notices simply refer to the CDP requests; they do not mention, even glancingly, that the CDP requests included [Year X].” Order, at p. 5. Judge, I think you meant “tangentially.”

Howbeit, the OIC was bounced, right? And it mentioned Year X, right? But as hereinabove stated (as my expensive colleagues would say), you can throw anything you like into an OIC. Appeals can only consider what the NOD says. Tax Court can only review the NOD itself.

And now we come to mode-of-proceedings. IRS claims harmless error, as prosecutors do when they or the court blew it. But Judge Gustafson applies our good NY learning.

“The harmless error rule ‘is to be used only “when a mistake of the administrative body is one that clearly had no bearing on the procedure used or the substance of decision reached.”‘ Romano-Murphy v. Commissioner, 152 T.C. 278, 311 (2019) (quoting U.S. Steel Corp. v. EPA, 595 F.2d 207, 215 (5th Cir. 1979)). Here, however, the error (if it was an error) had a definite ‘bearing’ on the ‘substance of [the] decision’, leaving unclear the critical question whether a particular year was in fact addressed in the determination.

“In this case it is not at all implausible to suggest that IRS Appeals may have meant to include [Year X] in its determination, or that IRS Appeals would have included [Year X] if it had noticed it, or that IRS Appeals intended to add [Year X] but failed to do so, or that IRS Appeals obviously ought to have done so, as efficiency, coherence, and good government would require. But these plausible suggestions do not tell us what IRS Appeals actually did determine.” Order, at p. 6.

For Romano-Murphy, see my blogpost “Assessment First, Determination Afterward,” 5/19/21.

OK, so Tax Court is out of it for Year X. So what to do?

“Perhaps, since the parties are not bound by our jurisdictional limits, they can reach an agreement that could be stipulated–even in the portion of the proposed stipulated decision document below the judge’s signature line. See Hill v. Commissioner, T.C. Memo. 2021-121, at *18. Or perhaps a second remand could be undertaken to allow IRS Appeals to issue a supplemental determination that addresses petitioner’s CDP request as to [Year X] (which remains pending if, as we hold, no determination for that year has yet been made). Or there may be superior alternatives.” Order, at p. 6.

For Hill, see my blogpost “Three Point Play,” 10/25/21.

For Tats and IRS, talk among yourselves.

There’s no doubt Steven W. Webert and Catherine S. Webert, T. C. Memo. 2022-32, filed 4/7/22, only lived in their dream house for one year, then rented it, and didn’t sell it for another ten (count ’em, ten) years. Their MFJ 1040s for the subject years all told the same story.

But what the 1040s didn’t tell was Catherine’s battle with cancer, and the astronomical medical bills that her treatment generated. When the home equity line of credit failed to cover, they tried to sell, but the Black ’08 was upon them. The upshot is a $237K deficiency, but part of that is the $194K capital gain on the sale.

Catherine concedes IRS’ summary J motion to disallow the Section 121 principal residence exclusion, but Steve doesn’t. They divorced the year after sale, and Catherine wants innocent spousery.

Judge David Gustafson will always try to find a way when he hears a truly sad tale.

IRS gets summary J that Steve and Catherine fail to meet the two-out-of-five-years-preceding-sale use and occupancy tests of Section 121. Steve’s vague claim otherwise is torpedoed by the 1040s and Schedule E rental info they filed.

But what about Reg. Section 1.121(b)(3) sale-by-reason-of-health outs?

“During the period at issue, it is clear that the Weberts suffered many unfortunate and prolonged difficulties. They are not mentioned in the Commissioner’s motion…; they are alluded to in Mr. Webert’s response…; and in Ms. Webert’s response, those problems and their effects are described in some detail in an attachment … to her Form 8857, “Request for Innocent Spouse Relief”, which was signed under penalty of perjury. It seems clear that Ms. Webert ’s health was both a cause of the need to move from the Mercer Island house and a precipitating cause for the financial circumstances that contributed to that need. However, in his response to the Commissioner’s motion for summary judgment, Mr. Webert did not anticipate the Commissioner’s arguments (for which we do not blame him), and he therefore did not argue that any of these difficulties fall under the safe harbors enumerated under Treasury Regulation § 1.121-3(b) nor that they were the ‘primary reason’ for the sale of the Mercer Island house in 2015. If we draw all reasonable inferences in Mr. Webert’s favor (as Rule 121 requires), it appears that the health problems may have been the primary reason for the attempts to sell which began in 2009 and did not succeed until 2015.  Consequently, we find a genuine dispute on that factual issue, and we assume that health reasons were the primary reason for the sale. We cannot grant partial summary judgment to the Commissioner on the section 121 exclusion issue if, in order to do so, we must assume otherwise.” T. C. Memo. 2022-32, at pp. 11-12.

The issue is whether Catherine’s health was a “material fact” in the sale.

Of course, even if health was a “material fact” in the sale, all that results is a partial exclusion, and if there was no personal occupancy in any of the five years preceding sale, there is no exclusion.

Clear? Thought not.

Defending the GAAP

Judge Mark V Holmes is back with one of his oldies-but-goodies, Continuing Life Communities Thousand Oaks LLC, Spieker CLC, LLC, Tax Matters Partner, T. C. Memo. 2022-31, filed 4/6/22. And the only reason the Oakies are still around can be found in my blogpost “Titular Signatory,” 8/3/16, when Mr. Spieker signed off on some SOL extenders.

But today I bet he’s glad he did, as Judge Holmes upholds his GAAP tax reporting of various items of future income in this continuing care operation. Those of us on short final for The Big Eight-Oh are often solicited by such operations, especially if the operators think we can stump up a quick half-mil for a floor plan.

“Continuing Life’s business is to provide housing and care to seniors even as their needs change. A new resident might need only housing and food, but as time batters away he may need more. And although Continuing Life is not a hospital, it does promise to provide for its residents’ needs all the way through skilled nursing care. The range of services that it promises costs a lot. And this is reflected in the entry fee—the initial payment that Continuing Life charges to move into the community—and in large monthly payments too. Continuing Life is no outlier—industry surveys show that the entry fees in similar communities average $402,000, with some at over $2 million, and that monthly service fees run between $2,000 and $4,000.” T. C. Memo. 2022-31, at p. 2 (footnote omitted, but it comes from a publication of AARP, of which I am an (un)retired member.)

The issue is not the upfront; that’s held in a unitrust which loans funds to the Oakies at no interest for capital recovery and improvements. It’s not the monthly $2K to $4K, that’s ordinary income, and operating expenses are deductions. It’s the so-called Deferred Fee.

If a resident dies or leaves voluntarily, they get back the upfront when the unit is resold less up to 25% thereof (depending upon how long they stayed). If they’re tossed for cause, they get it all back.

OK, so how do you treat these Deferred Fees? Every one of the residents will leave voluntarily or die, but who knows when?

AICPA, the CPAs’ guru, has the answer. Position 90-8. And no, that’s not an addendum to the Kama Sutra. “We’ll focus only on the provisions that are relevant for this case. The key provisions are those that deal with advance fees. Position 90–8, para. 15 defines an advance fee as a ‘payment required to be made by a resident prior to, or at the time of, admission.’ Some continuing-care communities refund the total amount or a portion of the advance fee on the occurrence of a specified event. These amounts are called the refundable portion, and the remainder is called the nonrefundable portion. The refundable portion is credited as a liability, and the nonrefundable portion is accounted for as deferred revenue. Id. paras. 20–23. For the nonrefundable portion, Position 90–8 again recognized the ‘wide diversity of practice exist[ing] among [continuing-care retirement communities] when accounting for nonrefundable advance fees.’ Id. para. 34. Although there are eight listed methods, only two are relevant here. Paragraph 35 provides that one method recognizes nonrefundable advance fees ‘as revenue in the period the fees are receivable if future periodic fees can reasonably be expected to cover the cost of future services.’ Paragraph 36 provides a second method, which defers recognition of nonrefundable advance fees and amortizes them into income as consideration for providing future services. This method treats the nonrefundable advance fees as future costs that ‘are not recoverable from other revenue sources.’ And, as a result, the matching principle requires that the nonrefundable advance fee be deferred until the expenses arise. The AICPA came down on the side of this latter method….” T. C. Memo. 2022-31, at pp. 11-12 (Footnotes omitted).

Now these operations are strictly regulated, and the Oakies had to use GAAP per CA law. So they straight-line amortized the Deferred Fees over the estimated life of each resident.

IRS says no, in this case GAAP does not clearly reflect Oakies’ income and expenses. The pick-up of Deferred Fees is too slow, and slugged the Oakies with a $20 million tax bill. Everyone agrees the Oakies used GAAP, but IRS says they get to choose what clearly reflects.

Now Section 446(a) says generally (love that word!) it’s gambler’s choice, so what the Oakies used consistently they can keep using. But the exceptions and exceptions to exceptions, and exceptions to exceptions to exceptions, are what keeps us tax lawyers in vodka Gibsons.

There’s enough case law to stock a good-sized law review article, but I’ll spare y’all.

There’s Supremes learning that IRS has more than the usual presumption of correctness when it comes to accounting methods. Ya see, GAAP is for management, investors, lenders, creditors, and certain regulators. IRS is there to guard the fisc, a supercreditor.

“Clearly” means honestly, straightforwardly, plainly, and frankly, but not necessarily perfectly, without fault or flaw. Judge Holmes laments that the case law is jumbled and scrambled, but that’s what we have.

“Yet on the undisputed facts of this case, some of these additional factors also favor Continuing Life: The expenses that Continuing Life incurs because of its continuing-care promise are expenses that it incurs over the entire lifespan of each of its residents, yet it is entitled to the Deferred Fees only when residents depart from the community. We can conclude from this that Continuing Life’s method matches income and expenses better than the accelerated treatment that the Commissioner proposes. We can also conclude from this that Continuing Life’s method, even when viewed on an annual basis, looks like a better match than the Commissioner’s because it recognizes income each year that a resident continues to live in the community and thus impels Community Life to incur expenses on that resident’s behalf.” T. C. Memo. 2022-31, at p. 20.

And the Deferred Fees are not so unique. “Deferred Fees are without doubt material to Continuing Life’s bottom line, but their treatment as an accrued item by a taxpayer following the accrual method doesn’t mark them as out of the ordinary (as it might, for example, for a cash-method taxpayer who uses accrual accounting for a particular item of material expense).” T. C. Memo. 2022-31, at p. 21.

Under the “all-events” test for recognition on the accrual basis, CA law and the Oakies’ operating license requires payment only on death or voluntary vacatur. Until then, the Oakies had to perform the services contracted for. No receipt or recognition by the Oakies until then, so life expectancy is a reasonable yardstick.

And the Oakies couldn’t touch the Deferred Fees until they performed.

IRS has discretion, but the Oakies win.