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© 2015 Land Grant University Tax Education Foundation, Inc. 607

RULINGS AND CASES

16AUTHORITY FOR TAX POSITIONS . . . . . . . 608

Substantial Authority . . . . . . . . . . . . . . . . . 609Reasonable Basis . . . . . . . . . . . . . . . . . . . . 609Circuit Courts of Appeals . . . . . . . . . . . . . . 610Organization of the Internal Revenue Code 611Deciphering Treasury Regulations . . . . . . . . 614

ACCOUNTING . . . . . . . . . . . . . . . . . . . . . . . 616REG-109187-11 . . . . . . . . . . . . . . . . . . . 616

AGRICULTURAL ISSUES . . . . . . . . . . . . . . . 616Field Attorney Advice 2015-08-01F . . . . 616

BANKRUPTCY . . . . . . . . . . . . . . . . . . . . . . . 618In re Wilson . . . . . . . . . . . . . . . . . . . . . . 618In re Fahey . . . . . . . . . . . . . . . . . . . . . . . 618Yuska v. Commissioner . . . . . . . . . . . . . . 619

BASIS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 619Rev . Proc . 2015-37 . . . . . . . . . . . . . . . . 619REG-107595-11 . . . . . . . . . . . . . . . . . . . 620

BUSINESS ENTITIES . . . . . . . . . . . . . . . . . . . 622Corporations . . . . . . . . . . . . . . . . . . . . . . 622

Bell v. Commissioner . . . . . . . . . . . . . . . . 622Letter Ruling 2015-22-001 . . . . . . . . . . . 623

Partnerships . . . . . . . . . . . . . . . . . . . . . . 624Coastal Heart Medical Group, Inc.

v. Commissioner . . . . . . . . . . . . . . . . . 624REG-151416-06 . . . . . . . . . . . . . . . . . . . 625Letter Ruling 2015-28-001 . . . . . . . . . . . 625Prop . Treas . Reg . § 1 .83-2 . . . . . . . . . . . . 626Methvin v. Commissioner . . . . . . . . . . . . 626

S Corporations . . . . . . . . . . . . . . . . . . . . 627Eaglehawk Carbon, Inc. v. United States . 627

BUSINESS ISSUES . . . . . . . . . . . . . . . . . . . . 628Deductions . . . . . . . . . . . . . . . . . . . . . . . 628

McMillan v. Commissioner . . . . . . . . . . . 628Olive v. Commissioner . . . . . . . . . . . . . . . 628Chief Counsel Advice 2015-31-016 . . . . 629Chief Counsel Advice 2014-39-001 . . . . 629Letter Ruling 2014-47-027 . . . . . . . . . . . 630

Letter Ruling 2015-28-026 . . . . . . . . . . . 631Employees . . . . . . . . . . . . . . . . . . . . . . . . 631

T .D . 9696 . . . . . . . . . . . . . . . . . . . . . . . . 631Central Motorplex, Inc. v. Commissioner . 632Notice 2015-6 . . . . . . . . . . . . . . . . . . . . 633Letter Ruling 2014-41-004 . . . . . . . . . . . 633

Hobby Losses . . . . . . . . . . . . . . . . . . . . . 634McMillan v. Commissioner . . . . . . . . . . . 634

CANCELLATION OF DEBT INCOME . . . . . . 635Wyatt v. Commissioner . . . . . . . . . . . . . . 635Chief Counsel Advice 2015-25-010 . . . . 635

DOMESTIC PRODUCTION ACTIVITIES DEDUCTION . . . . . . . . . . . . . . . . . . . . . 636Large Business and International

Directive I-04-0315-001 . . . . . . . . . . . 636ESTATE AND GIFT TAXES . . . . . . . . . . . . . . 637

T .D . 9725 . . . . . . . . . . . . . . . . . . . . . . . . 637Letter Ruling 2015-23-003 . . . . . . . . . . . 638Frequently Asked Questions

on Estate Taxes . . . . . . . . . . . . . . . . . . 639FOREIGN TAX ISSUES . . . . . . . . . . . . . . . . . 640

Rogers v. Commissioner . . . . . . . . . . . . . 640HEALTH CARE . . . . . . . . . . . . . . . . . . . . . . . 640

Letter Ruling 2015-28-004 . . . . . . . . . . . 640INDIVIDUAL ISSUES . . . . . . . . . . . . . . . . . . 642

Capital Gains . . . . . . . . . . . . . . . . . . . . . . 642Fargo v. Commissioner . . . . . . . . . . . . . . 642

Credits . . . . . . . . . . . . . . . . . . . . . . . . . . . 643Estate of Menges v. Commissioner . . . . . 643Saenz v. Commissioner . . . . . . . . . . . . . 643

Deductions: Charitable . . . . . . . . . . . . . . 644Kunkel v. Commissioner . . . . . . . . . . . . . 644Costello v. Commissioner . . . . . . . . . . . . 645Mitchell v. Commissioner . . . . . . . . . . . . 646Bosque Canyon Ranch, L.P.

v. Commissioner . . . . . . . . . . . . . . . . . 647Kaufman v. Commissioner . . . . . . . . . . . 648

FINAL COPYRIGHT 2015 LGUTEF

608 AUTHORITY FOR TAX POSITIONS

2.Therelevantfactsaffectingthetaxtreatmentoftheitemareadequatelydisclosedonthereturnandthereisareasonablebasisforthepositiontakenonthetaxreturn.

AUTHORITY FOR TAX POSITIONS If the IRS successfully challenges a tax return position that understates tax, the taxpayer may face an accuracy-related penalty .

I.R.C.§6662generallyimposesa20%penaltyonataxpayerwhotakesataxreturnpositionthatsubstantiallyunderstatesthetaxdueiftheIRSsuccessfullychallengestheposition.However,thepenaltydoesnotapplyintwocircumstances:

1.Thereissubstantialauthoritytosupportthepositiontakenonthetaxreturn.

Deductions: Home Mortgage Interest . . 648Copeland v. Commissioner . . . . . . . . . . . 648Chief Counsel Advice 2014-51-027 . . . . 649Voss v. Commissioner . . . . . . . . . . . . . . . 649Phan v. Commissioner . . . . . . . . . . . . . . 651

Deductions: Vacation Home . . . . . . . . . . 651Redisch v. Commissioner . . . . . . . . . . . . . 651Van Malssen v. Commissioner . . . . . . . . . 652

Deductions: Other. . . . . . . . . . . . . . . . . . 653Iglicki v. Commissioner . . . . . . . . . . . . . . 653Cutler v. Commissioner . . . . . . . . . . . . . . 653

Filing Status. . . . . . . . . . . . . . . . . . . . . . . 654Obergefell v. Hodges . . . . . . . . . . . . . . . 654Ibrahim v. Commissioner . . . . . . . . . . . . . 655

Income . . . . . . . . . . . . . . . . . . . . . . . . . . . 655Elbaz v. Commissioner . . . . . . . . . . . . . . 655Maines v. Commissioner . . . . . . . . . . . . . 656Sewards v. Commissioner . . . . . . . . . . . 657Campbell v. United States . . . . . . . . . . . . 658Speer v. Commissioner . . . . . . . . . . . . . . 658Notice 2015-21 . . . . . . . . . . . . . . . . . . . 659Letter Ruling 2015-21-009 . . . . . . . . . . . 659Prop . Treas . Reg . § 1 .529-1 et seq . . . . . . 660REG-136018-13 . . . . . . . . . . . . . . . . . . . 661

Self-Employment Tax . . . . . . . . . . . . . . . 662Morehouse v . Commissioner . . . . . . . . . . 662

IRS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 663Due Dates . . . . . . . . . . . . . . . . . . . . . . . . 663

Revenue Ruling 2015-13 . . . . . . . . . . . . 663Notice 2015-57 . . . . . . . . . . . . . . . . . . . 663REG-136676-13 . . . . . . . . . . . . . . . . . . . 664

Forms . . . . . . . . . . . . . . . . . . . . . . . . . . . . 665Field Attorney Advice 2015-10-02F . . . . 665

Penalties . . . . . . . . . . . . . . . . . . . . . . . . . 665Chief Counsel Advice 2015-19-029 . . . . 665Chief Counsel Advice 2015-20-010 . . . . 666

SBSE-04-0615-0045 . . . . . . . . . . . . . . . . 667Musa v. Commissioner . . . . . . . . . . . . . . 667Notice 2014-58 . . . . . . . . . . . . . . . . . . . 668

Power of Attorney . . . . . . . . . . . . . . . . . 669Chief Counsel Advice 2015-22-005 . . . . 669

Procedure . . . . . . . . . . . . . . . . . . . . . . . . 670Notice 2015-38 . . . . . . . . . . . . . . . . . . . 670Gyorgy v. Commissioner . . . . . . . . . . . . . 671Heckman v. Commissioner . . . . . . . . . . . 671Karagozian v. Commissioner . . . . . . . . . . 672

Refunds . . . . . . . . . . . . . . . . . . . . . . . . . . 673Butts v. Commissioner . . . . . . . . . . . . . . 673T .D . 9727 . . . . . . . . . . . . . . . . . . . . . . . . 674

LIKE-KIND EXCHANGES . . . . . . . . . . . . . . . 674North Central Rental & Leasing, LLC

v. United States . . . . . . . . . . . . . . . . . 674NET OPERATING LOSSES . . . . . . . . . . . . . . 675

Marvel Enterprises, Inc. v. Commissioner . 675PASSIVE ACTIVITIES . . . . . . . . . . . . . . . . . . 676

Williams v. Commissioner . . . . . . . . . . . . 676Lamas v. Commissioner . . . . . . . . . . . . . . 676

RECORDS . . . . . . . . . . . . . . . . . . . . . . . . . . . 677Sabolic v. Commissioner . . . . . . . . . . . . . 677

RETIREMENT . . . . . . . . . . . . . . . . . . . . . . . . 678Ellis v. Commissioner . . . . . . . . . . . . . . . . 678Announcement 2014-32 . . . . . . . . . . . . 679Letter Ruling 2015-23-019 . . . . . . . . . . . 679Letter Ruling 2015-10-060 . . . . . . . . . . . 681

TAX PRACTICE . . . . . . . . . . . . . . . . . . . . . . . 681Specht v. United States . . . . . . . . . . . . . . 681Annual Filing Season Program . . . . . . . . 682

TRADE OR BUSINESS . . . . . . . . . . . . . . . . . 682Boneparte v. Commissioner . . . . . . . . . . 682

TRUSTS AND ESTATES . . . . . . . . . . . . . . . . 683Program Manager Technical Assistance

Letter 2014-18 . . . . . . . . . . . . . . . . . . 683


Reasonable Basis 609

16

9.PrivateletterrulingsandtechnicaladvicememorandaissuedafterOctober31,1976

10.Actionsondecisions(AODs)andgeneralcounselmemorandaissuedafterMarch12,1981

11.IRSinformationreleasesorpressreleases,and notices, announcements, and otheradministrativepronouncementspublishedbytheIRSintheInternalRevenueBulletin

Authority for More Than One Position

There may be substantial authority for more than one position with respect to the same item or set of facts [Treas . Reg . § 1 .6662-4(d)(3)(i)] . That means it is possible for two different taxpayers who take two different positions on the same issue to each have substantial authority for the chosen position .

Timeliness of Substantial Authority

Tax law sometimes changes over time . There is substantial authority for the treatment of an item if there is substantial authority

■■ at the time the return containing the item is filed, or

■■ on the last day of the tax year to which the return relates [Treas . Reg . § 1 .6662-4(d)(3)(iv)(C)] .

Reasonable Basis

Thereasonablebasisstandardisnotasstringentasthesubstantialauthoritystandard.Thereisareasonablebasisforapositiononataxreturnifthereissomeauthorityforthepositioneveniftheweightofcontraryauthorityisgreater.How-ever,thereasonablebasisstandardisnotsatisfiedbyareturnpositionthatismerelyarguableorismerelyacolorableclaim.Itmustbereason-ablybasedonauthoritiesthatcanbeusedtofindsubstantialauthorityforaposition—takingintoaccounttherelevanceandpersuasivenessoftheauthoritiesandsubsequentdevelopments[Treas.Reg.§1.6662-3(b)(3)].

Adequate Disclosure on Tax Return

Disclosure is adequate if an item is properly reported on Form 8275, Disclosure Statement, or Form 8275-R, Regulation Disclosure Statement . Some items are considered adequately disclosed on the tax return itself . See Rev . Proc . 2015-16, 2015-7 I .R .B . 596 .

Substantial Authority

Thereissubstantialauthorityforapositiontakenonataxreturnonlyiftheweightofauthoritiessupportingthepositionissubstantialinrelation-shiptotheweightofauthoritiessupportingcon-trarypositions.Theweightofauthoritiesdoesnothavetomeetthemore-likely-than-notstandard—thestandardthatismetwhenthereisagreaterthan50%likelihoodofthepositionbeingupheld.However,thesubstantialauthoritystandardismorestringentthanthereasonablebasisstandarddiscussednext.

Thepossibilitythatareturnwillnotbeauditedor,ifaudited,thatanitemwillnotberaisedonauditisnotrelevantindeterminingwhetherthesubstantialauthoritystandard(orthereasonablebasisstandard)issatisfied[Treas.Reg.§1.6662-4(d)(2)].

Indeterminingwhetherthereissubstantialauthorityforapositiontakenonataxreturn,thefollowingitemsrepresentauthority:

1.ApplicableprovisionsoftheInternalRev-enueCodeandotherstatutoryprovisions

2.Proposed,temporary,andfinalregulationsconstruingsuchstatutes

3.Revenuerulingsandrevenueprocedures4.Tax treaties and regulations thereunder,

andTreasuryDepartmentandotherofficialexplanationsofsuchtreaties

5.Federalcourtcases6.Congressionalcommitteereports7.Jointexplanatorystatementsincludedincon-

gressionalconferencecommitteereports8.Generalexplanationsoftaxlegislationpre-

paredbytheJointCommitteeonTaxation



8.EighthCircuit—Minnesota,Iowa,Missouri,Arkansas,Nebraska,NorthDakota,SouthDakota

9.NinthCircuit—Montana,Idaho,Washing-ton,Oregon,California,Nevada,Arizona,Alaska,Hawaii,Guam,NorthernMarianaIslands

10.TenthCircuit—Wyoming,Utah,Colorado,NewMexico,Kansas,Oklahoma

11.EleventhCircuit—Alabama,Georgia,Florida12.District of Columbia Circuit—District of

Columbia13.FederalCircuit—anyfederaldistrictcourt,US

CourtofFederalClaims,USCourtofInter-nationalTrade,USCourtofAppealsforVet-eransClaims

Precedent for Tax CourtTheTaxCourt’sjurisdictionistheentireUnitedStatesanditspossessions.Therefore,aTaxCourtopinioninvolvingataxpayerinCaliforniaisprecedentialforataxpayerinNewYork.How-ever,TaxCourtcasesareappealedtotheUScir-cuitcourtofappealsforthecircuitinwhichthetaxpayerlives.Ifacircuitcourtofappealsover-rulesaTaxCourtcase,thecaseisoverruledonly

FIGURE 16.1 Map of Circuit Courts of Appeals Jurisdictions

Circuit Courts of Appeals

Thereare13U.S.circuitcourtsofappeals.ExceptfortheFederalCircuit,eachcourt’sjurisdictiontohearappealsislimitedgeographically,asshowninFigure 16.1.ThesecourtscanhearappealsfromtaxpayersintheirjurisdictionsofdecisionsbytheUSdistrictcourtsandtheTaxCourt.

Jurisdiction of Circuit Courts of Appeals

1.FirstCircuit—Maine,NewHampshire,Mas-sachusetts,RhodeIsland,PuertoRico

2.Second Circuit—Vermont, New York,Connecticut

3.ThirdCircuit—Pennsylvania,NewJersey,Delaware,USVirginIslands

4.FourthCircuit—Maryland,Virginia,WestVirginia,NorthCarolina,SouthCarolina

5.FifthCircuit—Texas,Louisiana,Mississippi6.SixthCircuit—Michigan,Ohio,Kentucky,

Tennessee7.SeventhCircuit—Wisconsin,Illinois,Indiana


Organization of the Internal Revenue Code 611

16

chapter1oftheInternalRevenueCode.Othercodesections,regulations,andIRSrulingsrefertosubchapters,suchassubchapterC,J,K,S,orT.Whatdosuchreferencesmean?

Mostfederallawsareconsolidatedinto51titlesthatconstitutetheUnitedStatesCode.Ingeneral,eachtitleisdividedintosubtitles,chap-ters,subchapters,andsections.Title26oftheU.S.CodefocusesonfederaltaxlawandisalsocalledtheInternalRevenueCode.Generally,taxlawresearchbeginswithanInternalRevenueCodesection.

However,aspreviouslystated,aresearcheroftenneedstoknowwhatsectionsareincludedinalargergrouping.ChapternumbersandsectionnumbersaregenerallyconsecutivethroughouttheInternalRevenueCode,althoughsomehavebeenrepealedorhavebeenskipped(reservedforfutureuse).Nochapterorsectionnumbersarerepeatedinthecurrentcode,althoughthenum-berofarepealedsectionmaybereassignedtoanewsection.

Figure 16.2showsthesubtitlesandchaptersoftheInternalRevenueCode,andFigure 16.3 liststhesubchaptersofchapter1oftheInternalRevenueCode.Subchapteralphasarerepeatedwithindifferentchapters.Forexample,chapters1,3,and6ofsubtitleAeachincludeasubchap-terA,sothatthechapternumberaswellasthesubchapteralphamustbeknowntoresearchasubchapterwithoutknowingthesectionnumber.

withrespecttotaxpayerswholiveinthatcircuit[Treas.Reg.§1.6662-4(d)(3)(iii)].Taxpayersout-sidethejurisdictionofthecircuitcourtofappealsthatoverruledtheTaxCourtarenotboundbythatdecision.

Effect on Substantial AuthorityTreas.Reg.§1.6662-4(d)(3)(iv)(B)saysthatthetaxpayer’sresidenceisnottakenintoaccountforpurposesoftheapplicabilityofacourtcaseindeterminingwhetherornotthereissubstantialauthorityforthetaxtreatmentofanitem.Conse-quently,eventhoughtaxpayersarenotboundbycircuitcourtofappealsopinionsoutsideoftheirowncircuit,theycanandmustconsiderthoseopinionswhendeterminingwhetherthereissub-stantialauthorityforapositiononataxreturn.

Organization of the Internal Revenue Code

Treas.Reg.§1.1411-1,whichprovidesgeneralrulesforthenetinvestmentincometax(NIIT),beginswiththegeneralrulethat,exceptasoth-erwiseprovided,all InternalRevenueCodeprovisionsthatapplyforchapter1purposesindeterminingataxpayer’staxableincomealsoapplyindeterminingtheNIIT.Toapplythisrule,ataxprofessionalmustknowwhatisincludedin

FIGURE 16.2 Subtitles and Chapters of the Internal Revenue Code

Grouping Title Sections

Subtitle A Income Taxes §§ 1–1563

Chapter 1 Normal Taxes and Surtaxes §§ 1–1400U-3

Chapter 2 Tax on Self-Employment Income §§ 1401–1403

Chapter 2A Unearned Income Medicare Contribution § 1411

Chapter 3 Withholding of Tax on Nonresident Aliens and Foreign Corporations §§ 1441–1464

Chapter 4 Taxes to Enforce Reporting on Certain Foreign Accounts §§ 1471–1474

Chapter 5 [Repealed]

Chapter 6 Consolidated Returns §§ 1501–1563

Subtitle B Estate and Gift Taxes §§ 2001–2801

Chapter 11 Estate Tax §§ 2001–2210

Chapter 12 Gift Tax §§ 2501–2524

Chapter 13 Tax on Generation-Skipping Transfers §§ 2601–2664

Chapter 14 Special Valuation Rules §§ 2701–2704

Chapter 15 Gifts and Bequests From Expatriates § 2801



Subtitle C Employment Taxes and Collection of Income Tax §§ 3101–3510

Chapter 22 Railroad Retirement Tax Act §§ 3201–3241

Chapter 23 Federal Unemployment Tax Act §§ 3301–3311

Chapter 23A Railroad Unemployment Repayment Tax §§ 3321–3322

Chapter 24 Collection of Income Tax at Source §§ 3401–3406

Chapter 25 General Provisions Relating To Employment Taxes and Collection of Income Taxes at Source

§§ 3501–3510

Subtitle D Miscellaneous Excise Taxes §§ 4001–5000

Chapter 31 Retail Excise Taxes §§ 4001–4053

Chapter 32 Manufacturers Excise Taxes §§ 4064–4227

Chapter 33 Facilities and Services §§ 4251–4293

Chapter 34 Policies Issued By Foreign Insurers §§ 4371–4377

Chapter 35 Taxes on Wagering §§ 4401–4424

Chapter 36 Certain Other Excise Taxes §§ 4461–4484

Chapter 37 [Repealed]

Chapter 38 Environmental Taxes §§ 4611–4682

Chapter 39 Registration-Required Obligations § 4701

Chapter 40 General Provisions Relating to Occupational Taxes §§ 4901–4907

Chapter 41 Public Charities §§ 4911–4912

Chapter 42 Private Foundations and Certain Other Tax-Exempt Organizations §§ 4940–4967

Chapter 43 Qualified Pension, etc ., Plans §§ 4971–4980I

Chapter 44 Qualified Investment Entities §§ 4981–4982

Chapter 45 Provisions Relating to Expatriated Entities § 4985

Chapter 46 Golden Parachute Payments § 4999

Chapter 47 Certain Group Health Plans § 5000

Chapter 48 Maintenance of Minimum Essential Coverage § 5000A

Chapter 49 Cosmetic Services § 5000B

Chapter 50 Foreign Procurement § 5000C

Subtitle E Alcohol, Tobacco, and Certain Other Excise Taxes §§ 5001–5891

Chapter 51 Distilled Spirits, Wines, and Beer §§ 5001–5692

Chapter 52 Tobacco Products and Cigarette Papers and Tubes §§ 5701–5763

Chapter 53 Machine Guns, Destructive Devices, and Certain Other Firearms §§ 5801–5872

Chapter 54 Greenmail § 5881

Chapter 55 Structured Settlement Factoring Transactions § 5891

Subtitle F Procedure and Administration §§ 6001–7874

Chapter 61 Information and Returns §§ 6001–6117

Chapter 62 Time and Place for Paying Tax §§ 6151–6167

Chapter 63 Assessment §§ 6201–6255

Chapter 64 Collection §§ 6301–6344

Chapter 65 Abatements, Credits, and Refunds §§ 6401–6432

Chapter 66 Limitations §§ 6501–6533

Chapter 67 Interest §§ 6601–6631

Chapter 68 Additions to the Tax, Additional Amounts, and Assessable Penalties §§ 6651–6751

Chapter 69 General Provisions Relating to Stamps §§ 6801–6808

FIGURE 16.2 Subtitles and Chapters of the Internal Revenue Code (Continued)


Organization of the Internal Revenue Code 613

16

Subtitle F Procedure and Administration (continued) §§ 6001–7874

Chapter 70 Jeopardy, Receivership, etc . §§ 6851–6873

Chapter 71 Transferees and Fiduciaries §§ 6901–6905

Chapter 72 Licensing and Registration §§ 7001–7012

Chapter 73 Bonds §§ 7101–7103

Chapter 74 Closing Agreements and Compromises §§ 7121–7124

Chapter 75 Crimes, Other Offenses, and Forfeitures §§ 7201–7344

Chapter 76 Judicial Proceedings §§ 7401–7491

Chapter 77 Miscellaneous Provisions §§ 7501–7528

Chapter 78 Discovery of Liability and Enforcement of Title §§ 7601–7655

Chapter 79 Definitions §§ 7701–7704

Chapter 80 General Rules §§ 7801–7874

Subtitle G The Joint Committee on Taxation §§ 8001–8023

Chapter 91 Organization and Membership of the Joint Committee §§ 8001–8005

Chapter 92 Powers and Duties of the Joint Committee §§ 8021–8023

Subtitle H Financing of Presidential Election Campaigns §§ 9001–9042

Chapter 95 Presidential Election Campaign Fund §§ 9001–9013

Chapter 96 Presidential Primary Matching Payment Account §§ 9031–9042

Subtitle I Trust Fund Code §§ 9500–9602

Short title § 9500

Chapter 98 Trust Fund Code §§ 9501–9602

Subtitle J Coal Industry Health Benefits §§ 9701–9722

Chapter 99 Coal Industry Health Benefits §§ 9701–9722

Subtitle K Group Health Plan Requirements §§ 9801–9834

Chapter 100 Group Health Plan Requirements §§ 9801–9834

FIGURE 16.3 Subchapters of Chapter 1, “Normal Taxes and Surtaxes”Subchapter Title Sections

Subchapter A Determination of Tax Liability §§ 1–59B

Subchapter B Computation of Taxable Income §§ 61–291

Subchapter C Corporate Distributions and Adjustments §§ 301–385

Subchapter D Deferred Compensation, etc . §§ 401–436

Subchapter E Accounting Periods and Methods of Accounting §§ 441–483

Subchapter F Exempt Organizations §§ 501–530

Subchapter G Corporations Used to Avoid Income Tax on Shareholders §§ 531–565

Subchapter H Banking Institutions §§ 581–597

Subchapter I Natural Resources §§ 611–638

Subchapter J Estates, Trusts, Beneficiaries, and Decedents §§ 641–692

Subchapter K Partners and Partnerships §§ 701–777

Subchapter L Insurance Companies §§ 801–848

Subchapter M Regulated Investment Companies and Real Estate Investment Trusts §§ 851–860G

Subchapter N Tax Based on Income From Sources Within or Without the United States §§ 861–999

Subchapter O Gain or Loss on Disposition of Property §§ 1001–1092

Subchapter P Capital Gains and Losses §§ 1201–1298

FIGURE 16.2 Subtitles and Chapters of the Internal Revenue Code (Continued)



areseparatedbyahyphen(forexample,Treas.Reg.§1.162-4).Ifaregulationrelatestoaspecificsubsection,thesubsectionmaybeidentifiedinparenthesesafterthesectionnumber.

Thepartnumberdescribesthetypeofregu-lation.Incometaxregulationsmostoftenbeginwitha1,butFigure 16.4 shows that theseregulationscanbeginwithanynumberfrom1through19.

Deciphering Treasury Regulations

TreasuryregulationsareusuallyformattedwithaprefixthatisapartnumberfollowedbyanInter-nalRevenueCodesectionnumberfollowedbyasequentialnumber.Thepartnumberandthesectionnumberareseparatedbyaperiod,andthesectionnumberandthesequentialnumber

Subchapter Q Readjustment of Tax Between Years and Special Limitations §§ 1301–1351

Subchapter R Election to Determine Corporate Tax on Certain International Shipping Activities Using Per Ton Rate

§§ 1352–1359

Subchapter R [Repealed]

Subchapter S Tax Treatment of S Corporations and Their Shareholders §§ 1361–1379

Subchapter T Cooperatives and Their Patrons §§ 1381–1388

Subchapter U Designation and Treatment of Empowerment Zones, Enterprise Communities, and Rural Development Investment Areas

§§ 1391–1397F

Subchapter V Title 11 Cases §§ 1398–1399

Subchapter W District of Columbia Enterprise Zone §§ 1400–1400C

Subchapter X Renewal Communities §§ 1400E–1400J

Subchapter Y Short-Term Regional Benefits §§ 1400L–1400U-3

FIGURE 16.4 Prefixes That Begin Treasury Regulation Citations

Subchapter Type of Tax Part Numbers

Subchapter A Income tax Parts 1 to 19

Subchapter B Estate and gift taxes Parts 20 to 27

Subchapter C Employment taxes and collection of income tax at source

Parts 30 to 37

Subchapter D Miscellaneous excise taxes Parts 40 to 158

Subchapter E [Reserved]

Subchapter F Procedure and administration Parts 300 to 421

Subchapter G Regulations under tax conventions Parts 500 to 521

Subchapter H Internal Revenue practice Parts 600 to 802

Example 16.1 Basis of Property Acquired from a Decedent

I.R.C.§1014setsouttherulesfordeterminingbasisinpropertythatistransferredfromadece-denttoasurvivorbybequest,devise,orinheri-tanceorbytransfertothedecedent’sestateaswellastransfersbytrustandothermeans.Therearenineregulationsthatfleshouttherules.Theyarenumbered1through9andthenumberofeachoneisprecededby§1.1014-,forexample,§1.1014-1.Eachoftheregulationshasaheading

thatdescribesthecontentoftheregulation:forexample,§1.1014-2,“Propertyacquiredfromadecedent.”

Example 16.2 Temporary Treasury Regulation

I.R.C.§162(l)providesthatself-employedindi-vidualsmaytakeadeductionfortheirmedicalinsurancecostsasanadjustmenttogrossincomeifspecificcriteriaaremet.Temp.Treas.Reg.

FIGURE 16.3 Subchapters of Chapter 1, “Normal Taxes and Surtaxes” (Continued)


Deciphering Treasury Regulations 615

16

Figure 16.5liststheincometaxregulationprefixesandregulationsections.Notethatmostoftheprefixesexceptfor1relatetotemporaryregulationsissuedunderspecificlaws.(Someoftheseoldertemporaryregulations,suchasTemp.Treas.Reg.§7.465-2,“Determinationofamountatrisk.”stillexist.)TheTreasury’spracticenow,though,istousea1prefixforsuchregulationsandaddaTtotheendoftheregulationnumber.

§1.162(l)-1Tisatemporaryincometaxregu-lationapplicablefortaxyearsbeginningafterDecember31,2013, thatwillexpireonJuly24,2017.TheregulationcoordinatestheI.R.C.§162(l)deductionwiththenewpremiumtaxcreditunderI.R.C.§36B.

FIGURE 16.5 Income Tax Regulation Prefixes

Part Topic Regulations

Part 1 Income taxes §§ 1 .0-1 to 1 .9300-1

Part 2 Maritime construction reserve fund §§ 2 .1 to 2 .1-28

Part 3 Capital construction fund §§ 3 .0 to 3 .11

Part 4 Temporary income tax regulations under section 954 of the Internal Revenue Code

§§ 4 .954-0 to 4 .954-2

Part 5 Temporary income tax regulations under the Revenue Act of 1978 §§ 5 .856-1 to 5 .6411-1

Part 5c Temporary income tax regulations under the Economic Recovery Tax Act of 1981

§§ 5c .44f-1 to 5c .1305-1

Part 5e Temporary income tax regulations, travel expenses of members of Congress

§§ 5e .274-8 to5e .274-8

Part 5f Temporary income tax regulations under the Tax Equity And Fiscal Responsibility Act of 1982

§§ 5f .103-1 to5f .168(f)(8)-1

Part 6a Temporary regulations under title II of the Omnibus Reconciliation Act of 1980

§§ 6a .103a-1 to 6a .6652(g)-1

Part 7 Temporary income tax regulations under the Tax Reform Act of 1976

§§ 7 .48-1 to7 .6041-1

Part 8 Temporary income tax regulations under section 3 of the Act of October 26, 1974 (Pub . L . No . 93-483)

§ 8 .1

Part 9 Temporary income tax regulations under the Tax Reduction Act of 1975

§§ 9 .1 to9 .3

Part 11 Temporary income tax regulations under the Employee Retirement Income Security Act Of 1974 (ERISA)

§§ 11 .401(a)-11 to11 .412(c)-12

Part 12 Temporary income tax regulations under the Revenue Act of 1971 §§ 12 .3 to12 .9

Part 13 Temporary income tax regulations under the Tax Reform Act of 1969

§§ 13 .0-13 .3 to13 .11

Part 15 Temporary income tax regulations relating to exploration expenditures in the case of mining

§§ 15 .0-1 to15 .1-4

Part 15a Temporary income tax regulations under the Installment Sales Revision Act

§§ 15a .453-0 to15a .453-2

Part 16 Temporary regulations under the Revenue Act of 1962 §§ 16 .3-1 to16 .3-1

Part 16a Temporary income tax regulations relating to the partial exclusion for certain conservation cost-sharing payments

§§ 16a .126-0 to16a .1255-2

Part 18 Temporary income tax regulations under the Subchapter S Revision Act of 1982

§§ 18 .0 to18 .1379-2

Part 19 Temporary regulations under the Revenue Act of 1964 §§ 19 .3-1 to19 .3-1


616 ACCOUNTING

TheproposedregulationsrepublishinTreas.Reg.§1.453B-1(c)thegeneralruleinTreas.Reg.§1.453-9(c)(2)underwhichgainorlossisnotrec-ognizeduponcertaindispositions.

Inaddition,theproposedregulationsincorpo-rateandexpandtheholdingofRev.Rul.73-423,1973-2C.B.161,toprovidethatatransferorrec-ognizesgainorlossunderI.R.C.§453B(a)whenthetransferordisposesofaninstallmentobliga-tioninatransactionthatresultsinthesatisfactionoftheinstallmentobligation,includingwhenacorporation’sorpartnership’sinstallmentobli-gationiscontributedtothecorporationorpart-nershipinexchangeforanequityinterestinthecorporationorpartnership.

[REG-109187-11,2015-2I.R.B.277]

Agricultural Issues

Field Attorney Advice 2015-08-01FI.R.C.§§199and1388

■☞ A nonexempt agricultural cooperative did not make per unit retains paid in money (PURPIM) with respect to grain purchases by a related LLC from the taxpayer’s patrons for purposes of the domestic production activity deduction .

FactsThe taxpayerwas anonexempt agriculturalcooperativethatfiledForm1120-C,U.S.IncomeTaxReturnforCooperativeAssociations.Thetaxpayerwasformed“toengageinanycoopera-tiveactivityforthemutualbenefitofitscommonstockholdersandpatronsinconnectionwiththepurchasingordistributionoffarmsuppliesortheproduction,marketingorsellingofagriculturalproducts”and“topurchase,handle,store,dealin,marketandsellgrain,soybeansandotheragricul-turalcommodities.”Thetaxpayerwasorganizedwithcapitalstock,bothpreferredandcommon,andseveralclassesofpreferredstockwereissued.

RULINGS AND CASES This chapter contains a selection of court cases, Treasury regulations, revenue rulings, revenue procedures, IRS announcements and notices, letter rulings, and IRS chief counsel advice memoranda issued since the publication of the 2014 National Income Tax Workbook .

Theseitemshavebeeneditedandappear inacondensedform.Theyshouldnotbeusedassubstantialauthorityuntiltheentiretextoftheauthorityhasbeenread.

Accounting

REG-109187-11I.R.C.§453B

■☞ Proposed regulations provide that a transferor must recognize gain or loss on the disposition of an installment obligation if the obligation is trans-ferred to the issuer in return for an equity interest .

ProposedregulationsunderI.R.C.§453Bgen-erallyprovidethatgainoflossisnotrecognizedonthedispositionofaninstallmentobligationifsuchgainorlossisnotrecognizedunderanotherprovisionoftheInternalRevenueCode.Theproposedregulationsalsoprovidethatthisgen-eralruledoesnotapplytothesatisfactionofaninstallmentobligation,suchaswhentheholderofaninstallmentobligationtransferstheobligationtotheissuerforanequityinterestintheissuer.

I.R.C.§453B(a)providesthatgainorlossisrecognizedwhenaninstallmentobligationissatisfiedatotherthanitsfacevalueorwhentheobligationisdistributed,transmitted,sold,oroth-erwisedisposedof.

ExistingTreas.Reg.§1.453-9(c)(2)statesthatifgainorlossforcertaindispositionsisnotrec-ognizedundertheInternalRevenueCode,thenthegainorlossisnotrecognizedonthedispo-sitionofaninstallmentobligationthatqualifiesforthatexception.ExceptionsidentifiedinTreas.Reg.§1.453-9(c)(2)includecertaintransferstocorporationsunderI.R.C.§§351and361,con-tributionstopartnershipsunderI.R.C.§721,anddistributionsbypartnershipstopartnersunderI.R.C.§731(exceptasprovidedbyI.R.C.§§736and751).


Agricultural Issues 617

16

TheLLCmarketedtheproducts,andthepur-chaseagreementswerebetweentheLLCandthegrainproducers,someofwhomwerethetaxpay-er’spatrons.Anamountpaidtoapatronbasedonacontractbetweenthepatronandapersonotherthanacooperativedoesnotmeetthedefini-tionofaper unit retainbecausethecontractsignedbythepatronisnotanagreementwiththecoop-erative,asrequiredbyI.R.C.§1388(f).

TheLLCcharacterized thepayments forgrainaspurchases,andthetaxpayercouldnotrecharacterizetheLLCpurchasesfrompatronsasPURPIMforpurposesofcalculatingthetax-payer’sDPADandQPAI.

I.R.C.§199allowsadeductionequalto9%ofthelesserofQPAIortaxableincome,limitedto50%ofW-2wagesrelatedtotheproductionofqualifiedproductionproperty.QPAIincludesincomefromthesalebyagrainmerchantofagri-culturalitemsproducedintheUnitedStatesthatthemerchantpurchasedfromthefarmers,stored,dried,cleaned,andsoforthinfacilitieslocatedintheUnitedStates[Treas.Reg.§1.199-3(e)(5)].

AnLLC(taxableasapartnershipforfederalincometaxpurposes)engagedinthebusinessofbuying,storing,andsellinggrainhasDPGRfromitsgrainsalesifitsellsgraintoprocessorstobeprocessedintorefinedagriculturalproductsintheUnitedStates,thegrainwasoriginallypro-ducedintheUnitedStates,andthepartnership’sstorageandhandlingfacilitiesarelocatedintheUnitedStates.

ExceptforlossesanddeductionsdisallowedtoapartnerunderI.R.C.§465,469,or704(d),apartnerisrequiredtoincludeinhisorhercal-culationoftheallowabledeductionunderI.R.C.§199thepartner’sdistributiveshareofpartner-shipDPGRanditemsallocabletoDPGR(includ-ingcostofgoodssold)passedthroughtothepartnerfromthepartnershipinaccordancewithI.R.C.§§702and704.

UnderI.R.C.§199(d)(3)(C)thereisan“add-back”rule forcooperatives.ForpurposesofI.R.C.§199,thetaxableincomeofaspecifiedagriculturalorhorticulturalcooperativemustbecomputedwithoutregardtoanydeductionallow-ableunderI.R.C.§1382(b)or(c)(relatingtopatronagedividends,perunitretainallocations,andnonpatronagedistributions).

Afterpayinganydividendsoncapitalstockdeclaredbytheboardofdirectorsandafterset-tingasidereasonableandadequatereserves,thetaxpayerwasrequiredtodistributeitsremainingnetearningsonthebasisofpatronagetoitsmem-bersandotherpatronswhomettherequirementstoparticipateinpatronagedistributions.Thetax-payer’smemberswereitscommonstockholders.Otherproducersthatpatronizedthecooperativebutwhowerenotcommonstockholderswerealsoeligibletoreceivepatronagedistributionsiftheymetcertainrequirements.

Thetaxpayerjoinedwithtwoothercoopera-tivestoformalimitedliabilitycompanythatwasalicensedgraindealerthatfiledreturnsasapart-nershipforfederalincometaxpurposes.

InexchangeforaninterestintheLLC,thetaxpayeragreedtocontributeitsgrainmarketingandwarehousingbusinessestotheLLC,includ-ingland,grainfacilitiesandequipment,transpor-tationequipment,grainaccountingsoftware,andcertainintangibleassets;sellitsgraininventorytotheLLCatcurrentreplacementcost;surren-deritsgraindealer’slicense;signanagreementnottocompetewiththeLLC;andleasecertainemployeestotheLLCtomanagethebusiness,operatethegrainfacilities,marketthegrain,andkeepthebooks.

TheLLCissuedSchedulesK-1(Form1065),Partner’sShareofIncome,Deductions,Cred-its,etc.,tothetaxpayer,andpassedthroughthetaxpayer’sshareofdomesticproductiongrossreceipts(DPGR),costofgoodssold,andwagesrelated to thedomesticproductionactivitiesdeduction(DPAD).

Thetaxpayeraddedbackthevalueofthepur-chasesofgrainbytheLLCfromthetaxpayer’spatronsasPURPIM. ThetaxpayeralsoincludedactivitiesfromitsownoperationsintheDPAD.Thetaxpayer’sDPGR,costofgoodssold,anddeductionsandlossesallocabletoDPGRforitsownoperationsyieldedanegativequalifiedpro-ductionactivitiesincome(QPAI).

AnalysisI.R.C.§1388(f)definesaperunitretainallocationas“anyallocation,byanorganizationtowhichpartIofthissubchapterapplies,toapatronwithrespecttoproductsmarketedforhim,theamountofwhichisfixedwithoutreferencetothenetearn-ingsoftheorganizationpursuanttoanagreementbetweentheorganizationandthepatrons.”


618 BANKRUPTCY

HoldingThe courtheld that apenalty for failure tofileatimelyincometaxreturnwasdischargeableinbankruptcy if thebankruptcypetitionwasfiledmorethan3yearsafterthedatethetaxeswereinitially due, without regard for an automaticextension.

[In re Wilson,527B.R.635(Bankr.N.D.Calif.2015)]

In re Fahey11U.S.C.§523

■☞ Failure to timely file state income tax returns pre-vented the discharge of state taxes in bankruptcy .

FactsThecaseinvolvedfourtaxpayerswhoallfailedtotimelyfiletheirMassachusettsincometaxreturnsformultipleyearsinarow.Thetaxpay-ersalsofailedtopay(eithertimelyorotherwise)theirtaxestotheMassachusettsDepartmentofRevenue(theDepartment).Eventually,eachdebtorfiledalatetaxreturnbutstillfailedtopayalltaxes,interest,andpenaltiesthatweredue.Morethan2yearslater,theyfiledforchapter7bankruptcy.Thedebtorssoughtarulingthattheirobligationtopaythetaxestheyfailedtopaywasdischargeable.TheDepartmentcontendedthatnoreturnwastimelyfiledbyMassachusetts’sstatutorydeadline,andtheunpaidtaxesfitwithinanexceptiontodischarge.

Analysis11U.S.C.§523prohibitsthedischargeinbank-ruptcyofataxwithrespecttowhichareturn(1)wasnotfiled;or(2)wasfiledafterthedateonwhichsuchreturnwaslastdue,underappli-cablelaworunderanyextension,andafter2yearsbeforethedateofthefilingofthepetition.11U.S.C.§523(a),enactedin2005,statesthat“theterm‘return’meansareturnthatsatisfiestherequirementsofapplicablenonbankruptcylaw(includingapplicablefilingrequirements).SuchtermincludesareturnpreparedpursuanttoI.R.C.§6020(a),orsimilarstateorlocallaw,orawrittenstipulationtoajudgmentorafinalorderenteredbyanonbankruptcytribunal,butdoesnotincludeareturnmadepursuanttoI.R.C.§6020(b),orasimilarstateorlocallaw.”

RulingTheIRSruledthat thetaxpayercooperativecouldnottreattheLLC’sgrainpurchasesfromthetaxpayer’spatronsasitsownPURPIMforpurposesoftheDPAD.

[F.A.A.2015-08-01F(February27,2015)]

Bankruptcy

In re WilsonI.R.C.§6651

■☞ The penalty for failure to file a timely income tax return was dischargeable in bankruptcy, where the bankruptcy petition was filed more than 3 years after the date the taxes were initially due .

FactsOnJuly24,2012,thetaxpayerfiledforchapter7bankruptcy. The taxpayer had filed the 2008tax return in 2011 but did not pay the taxesowed.Thetaxpayerhadobtainedanautomaticextension for the 2008 return. The bankruptcytrusteepaidthetaxesowedfor2008butdidnotpay any penalties. The IRS assessed penaltiesunder I.R.C. § 6651(a)(1) for failure to file areturn.

AnalysisUnder 11 U.S.C. § 523(a)(7)(B), federal taxpenaltiesaredischargediftheyare“imposedwithrespect toa transactionorevent” thatoccurredmorethan3yearsbeforethebankruptcypetition.The taxpayer argued that the penalties wereimposedwithrespecttothe2008taxliabilityonApril15,2009,thedatethe2008returnwasdue,and thereforewere imposedmore than3yearsbefore the taxpayer filed for bankruptcy. TheIRSarguedthatthepenaltyforfailuretofilewasimposedonOctober15,2009,whenthetaxpayermissed the extended filing deadline, and wastherefore imposed less than 3 years before thebankruptcypetitionwasfiled.

ThecourtheldthatincometaxesaccrueonApril 15 of the year following the tax year inquestion; therefore, a penalty for failure to file2008taxeswasimposedonApril15,2009,adatethatwasmorethan3yearsbeforethetaxpayerfiledforbankruptcy.


Basis 619

16

beencommencedbeforethecommencementofthe[bankruptcy]case.”

ThecourtheldthatI.R.C.§§6320(pertain-ingtoliens)and6330(pertainingtolevies)wereenactedtoprovidespecifiedprotectionsfortax-payersintaxcollectionmatters.I.R.C.§6320providesthatthesecretaryoftheTreasuryshallfurnishapersondescribedinI.R.C.§6321withwrittennoticeofthefilingofanoticeoflienunderI.R.C.§6323.ThenoticerequiredbyI.R.C.§6320mustbeprovidednotmorethan5businessdaysafterthedayofthefilingofthenoticeoflien.I.R.C.§6320furtherprovidesthatthepersonmayrequestadministrativereviewofthematter(intheformofanAppealsOfficehear-ing)within30daysbeginningonthedayafterthe5-dayperiod.I.R.C.§6320(c)providesthattheAppealsOfficehearinggenerallyshallbecon-ductedconsistentwiththeproceduressetforthinI.R.C.§6330(c),(d),and(e).

TheissuebeforethecourtwaswhetherthepostbankruptcypetitionfilingoftheNoticeofDeterminationConcerningCollectionActionswasacontinuationofanadministrativeproceed-ingagainstthetaxpayer/debtor.Priortofilingthebankruptcypetition,thetaxpayerhadrequestedadministrativereviewofthenoticeoflienfiling,andthecourtheldthatthisadministrativereviewwasstayedunder11U.S.C.§362(a)(1)duringthebankruptcycase.ThecourtalsoheldthattheIRSfilingoftheNoticeofDeterminationCon-cerningCollectionActionswasacontinuationofthatadministrativereviewinviolationoftheautomaticstay.

HoldingThecourtheldthatfilingtheNoticeofDetermi-nationConcerningCollectionActionsafterthefilingofthebankruptcypetitionviolatedtheauto-maticstayandwasinvalid.

[Yuska v. Commissioner,T.C.Memo.2015-77]

Basis

Rev. Proc. 2015-37 I.R.C.§1014

■☞ The IRS has added a new area to the list of areas for which it will not issue private letter rulings .

ThecourtfoundthatunderMassachusettslawanincometaxreturnwasrequiredtobefiledbythefifteenthdayofthefourthmonthfollowingthecloseofthetaxyear.Thus,thecourtheldthat,underMassachusettslaw,anuntimelyreturnwasnotareturnforpurposesof11U.S.C.§523(a)becausethelatereturndidnotsatisfythe“appli-cablefilingrequirements.”Therefore,11U.S.C.§523(a)(1)(B)prohibitsthedischargeofanytaxesowedforthetaxyearsforwhichthetaxpayersfiledlatereturnswithin2yearsbeforethebank-ruptcyfiling.

HoldingThecourtheldthatthetaxpayerswerenotentitledtoadischargeofstateincometaxesowedforthetaxyearsforwhichthetaxpayersfileduntimelyreturnswithin2yearsoffilingforbankruptcy.

[In re Fahey,779F.3d1(1stCir.2015)]

Yuska v. CommissionerI.R.C.§§6320and6330

■☞ A postbankruptcy petition filing of a Notice of Determination Concerning Collection Actions violated the bankruptcy automatic stay .

FactsOnNovember19,2013,theIRSsentthetax-payeraNoticeofFederalTaxLienFilingandYourRighttoaHearingUnderI.R.C.6320withrespecttotaxyears2005and2006.OnDecem-ber3,2013,thetaxpayersubmittedtotheIRSatimelyrequestforadministrativereviewunderI.R.C.§6320,andonSeptember29,2014,thetaxpayerfiledforreliefunderchapter13oftheBankruptcyCode.OnOctober7,2014,theIRSissuedtothetaxpayer/debtoraNoticeofDeter-minationConcerningCollectionActionsforthetaxyears2005and2006.OnNovember12,2014,thetaxpayer/debtorfiledapetitioninthebank-ruptcycourtclaimingthattheIRSnoticewasinvalidbecauseitviolatedthebankruptcyauto-maticstay.

AnalysisTheautomaticstayunder11U.S.C.§362(a)(1)bars“thecommencementorcontinuation,includ-ingtheissuanceoremploymentofprocess,ofajudicial,administrative,orotheractionorpro-ceedingagainstthedebtorthatwasorcouldhave


620 BASIS

expendituresincurredbythedecedentunderI.R.C.§48withinthemeasuringperiodthataretreatedashavingbeenincurredbythetransfereedecreasethetransferee’sbasisforpurposesofthesubstantialrehabilitationtest.

Prop.Treas.Reg.§1.83-4(b)(1)providesthatifpropertytowhichI.R.C.§83appliesisacquiredbyanypersonwhilesuchpropertyissubstantiallynonvested,suchperson’sbasisinthepropertyreflectsanyadjustmentstobasispro-videdunderI.R.C.§1022,aswellasunderI.R.C.§§1015and1016.

Prop. Treas. Reg. §§ 1.179-4(c)(1)(iv),1.267(d)-1(a)(3),1.336-1(b)(5)(i)(A),and1.355-6(d)(1)(i)(A)(2)providethatpropertyacquiredfromadecedentinatransactioninwhichtherecipient’sbasis isdeterminedunderI.R.C.§1022isnotacquiredbypurchaseorexchangeforpurposesofI.R.C.§§179,267,336,and355(d).

Prop.Treas.Reg.§1.197-2(h)(5)(i)providesthattheantichurningrulesofTreas.Reg.§1.197-2(h)donotapplytotheacquisitionofanI.R.C.§197(f)(9)intangibleiftheacquiringtaxpayer’sbasisintheintangibleisdeterminedunderI.R.C.§1022.

Prop.Treas.Reg.§1.306-3(e)providesthatI.R.C.§306stockcontinuestobeclassifiedasI.R.C.§306stockifthebasisofsuchstockisdeter-minedbyreferencetothedecedent-stockholder’sbasisunderI.R.C.§1022.Inaddition,therevi-sionofthelastsentenceoftheexistingregulationclarifiesthereferenceto“theoptionalvaluationdateundersection1014”bychangingthelan-guagetoreferexpresslytotheelectiontousethealternatevaluationdateunderI.R.C.§2032.

Prop.Treas.Reg.§1.382-9providesthatforpurposesofTreas.Reg.§1.382-9(d)(5)(i),thedefi-nitionofqualified transferisexpandedtoincludesituationswhere the transferee’sbasis in theindebtednessisdeterminedunderI.R.C.§1022.

Prop.Treas.Reg.§1.421-2(c)(4)providesthatanoptiongrantedunderanemployeestockpurchaseplanacquiresabasis,determinedunderI.R.C.§1014(orI.R.C.§1022,ifapplicable),onlyifthetransferofthesharepursuanttotheexerciseofsuchoptionqualifiesforthespecialtaxtreatmentprovidedbyI.R.C.§421(a).

Prop.Treas.Reg.§1.423-2(k)(2)providesthatifthespecialrulesprovidedunderTreas.Reg.§1.423-2(k)areapplicabletoashareofstockuponthedeathofanemployee,thenthe

ThisrevenueprocedureamplifiesRev.Proc.2015-3,2015-1I.R.B.129,whichsetsforthareasoftheInternalRevenueCodeinwhichtheIRSwillnot issue letterrulingsordeterminationletters.

TheIRSwillnotissueaprivateletterrulingastowhethertheassetsinagrantortrustreceiveanI.R.C.§1014basisadjustmentatthedeathofthedeemedownerofthetrustforincometaxpurposeswhenthoseassetsarenotincludibleinthegrossestateofthatownerunderchapter11ofsubtitleBoftheInternalRevenueCode.

[Rev.Proc.2015-37,2015-26I.R.B.1196]

REG-107595-11I.R.C.§1022

■☞ Proposed regulations add references to I .R .C . § 1022 to various Treasury regulations involving basis rules .

I.R.C.§1022(a)(1)generallyprovidesthatprop-ertyacquiredfromadecedent[withinthemean-ingofI.R.C.§1022(e)]whodiedin2010istreatedashavingbeentransferredbygift.Ifthedece-dent’sadjustedbasiswaslessthanorequaltotheproperty’sFMVdeterminedasofthedecedent’sdateofdeath,therecipient’sbasisistheadjustedbasisofthedecedent.Ifthedecedent’sadjustedbasiswasgreaterthanthatFMV,therecipient’sbasisislimitedtothatFMV.

Ifthedecedent’sadjustedbasisintheprop-ertywaslessthantheproperty’sFMVonthedecedent’sdateofdeath,I.R.C.§1022(b)and(c)allowtheexecutorofadecedent’sestatetoallo-cateadditionalbasistocertainassetsthatwereownedbythedecedentatdeathandareacquiredfromthedecedent.However,theproperty’stotalbasismaynotexceedtheproperty’sFMVonthedateofdeath.

AlthoughI.R.C.§1022wasapplicableonlytodecedentsdyingincalendaryear2010,aprop-erty’sbasisdeterminedpursuanttothatsectionwillcontinuetoberelevantuntilalloftheprop-ertyforwhichbasiswasdeterminedunderthatsectionhasbeensoldorotherwisedisposedof.Therefore,theIRSdeterminedthattheexist-ingregulationsmustbeupdatedtoincorporateappropriatereferencestobasisdeterminedunderI.R.C.§1022.

Prop.Treas.Reg.§1.48-12(b)(2)(vii)(B)pro-videsthatifatransferee’sbasisisdeterminedunderI.R.C.§1022,anyqualifiedrehabilitation


Basis 621

16

byreasonofdeathofUStransferordecedentsdyingin2010.IftheexecutorofaUSdecedentdoesnotmakeanI.R.C.§1022election,thepro-posedregulationsconfirmthatthegeneralexcep-tiontogainrecognitionwillapply.IftheexecutorofaUSdecedentdoesmakeanI.R.C.§1022election,theproposedregulationsprovidethatthereisgainrecognition.AnybasisincreasethattheexecutorallocatesunderI.R.C.§1022willreducetheamountofgaininthatpropertyforpurposesofI.R.C.§684.

Prop.Treas.Reg.§1.742-1(a)providesthatthebasisofapartnershipinterestacquiredfromadecedentwhodiedin2010,andwhoseexecu-tormadeanI.R.C.§1022election,istheloweroftheadjustedbasisofthedecedentortheFMVoftheinterestatthedateofthedecedent’sdeath.ThebasisofpropertyacquiredfromadecedentmaybefurtherincreasedunderI.R.C.§1022(b)or1022(c),butnotabovetheFMVoftheinterestonthedateofthedecedent’sdeath.

Prop.Treas.Reg.§1.995-4(d)(2)providesthattheperiodduringwhichashareholderofstockinadomesticinternationalsalescorporation(DISC)hasheldstockincludestheperiodheorsheisconsideredtohavehelditbyreasonoftheappli-cationofI.R.C.§1223,andiftheshareholder’sbasisisdeterminedinwholeorinpartundertheprovisionsofI.R.C.§1022,theholdingperiodincludestheholdingperiodofthedecedent.

Prop.Treas.Reg.§1.1014-4(a)providesthatthebasisofpropertyacquiredfromadecedent,includingbasisdeterminedunderI.R.C.§1022,isuniforminthehandsofeverypersonhavingpossessionorenjoymentofthepropertyatanytime,whetherobtainedunderthewillorotherinstrument,orunderthelawsofdescentanddistribution.

Prop.Treas.Reg.§1.1014-5(b)providesthatindetermininggainorlossfromthesaleorotherdispositionofaterminterestinproperty,theadjustedbasisofwhichisdeterminedpursuanttoI.R.C.§1022,thatpartoftheadjusteduniformbasisassignableundertherulesofTreas.Reg.§1.1014-5(a)totheinterestsoldorotherwisedis-posedofisdisregardedtotheextentandinthemannerprovidedbyI.R.C.§1001(e).

Prop.Treas.Reg.§1.1223-1(b)providesthattheholdingperiodunderI.R.C.§1223oftherecipientofpropertyacquiredfromadecedentwhodiedin2010,andwhoseexecutormadean

basisoftheshareinthehandsoftheestateorthepersonreceivingthestockbybequestorinheri-tanceshallbedeterminedunderI.R.C.§1014(orI.R.C.§1022,ifapplicable).

Prop.Treas.Reg.§1.467-7(c)(2)providesthatI.R.C.§467recapturedoesnotapplytoadisposi-tionondeathofthetransferorifthebasisofthepropertyinthehandsofthetransfereeisdeter-minedunderI.R.C.§1022.However,I.R.C.§467recapturedoesapplytopropertythatconstitutesarighttoreceiveanitemofincomeinrespectofadecedent.Prop.Treas.Reg.§1.467-7(c)(4)pro-videsthat,ifthetransfereesubsequentlydisposesofthepropertyinatransactiontowhichTreas.Reg.§1.467-7(a)applies,thepriorunderstatedinclusioniscomputedbytakingintoaccounttheamountsattributabletotheperiodofthetrans-feror’sownershipofthepropertypriortothefirstdisposition.

Prop.Treas.Reg.§1.617-3(d)(5)(ii)(b)pro-videsthattheamountoftheadjustedexplorationexpendituresforminingpropertyinthehandsofthetransfereeimmediatelyafteradispositionofpropertythatissubjecttoI.R.C.§1022isequaltotheamountoftheadjustedexplorationexpen-dituresforminingpropertyinthehandsofthetransferorimmediatelybeforethedisposition,minustheamountofanygaintakenintoaccountunderI.R.C.§617(d).Inaddition,underTreas.Reg.§1.617-4(c)(1)(i),nogainisrecognizedonthegiftofminingproperty.Forpurposesofdeter-mininggainfromthedispositionofcertainmin-ingproperty,thetermgift isexpandedtoincludeadispositionofpropertywithabasisthatisdeter-minedunderI.R.C.§1022.

I.R.C.§684generallyrequiresgaintoberecognizedonanytransferofappreciatedprop-ertybyaUSpersontoaforeignnongrantortrustorforeignestate.Fordecedentsdyingin2010,I.R.C.§684alsoappliestocertaintransfersofpropertybyreasonofdeathtononresidentaliens.GainisdeterminedbyreferencetotheFMVofthepropertyovertheadjustedbasisofsuchprop-ertyinthehandsofthetransferor.Treas.Reg.§1.684-3(c)currentlyprovidesthat,inthecaseofatransferofpropertybyreasonofdeathofaUStransferortoaforeignnongrantortrust,nogainrecognitionisrequiredifthebasisoftheprop-ertyinthehandsofthetrustisdeterminedunderI.R.C.§1014(a).Prop.Treas.Reg.§1.684-3(c)providesthatthisruleismodifiedtoclarifytheapplicationofI.R.C.§684totransfersofproperty


622 BUSINESS ENTITIES

thedecedentimmediatelybeforehisorherdeathorthebasisthatwouldhavebeendeterminedunderI.R.C.§1014orI.R.C.§1022,asappli-cable,withoutregardtothisparagraph.

Prop.Treas.Reg.§1.1312-7(b)providesthatthetaxpayerwithrespecttowhomtheerroneoustreatmentoccurredmustbeataxpayerwhohadtitletothepropertyatthetimeoftheerroneouslytreatedtransactionandfromwhom,mediatelyorimmediately,thetaxpayerwithrespecttowhomthedeterminationismadederivedtitle,ifthebasisofthepropertyinthehandsofthetaxpayerwithrespecttowhomthedeterminationismadeisdeterminedunderI.R.C.§1022.

[REG-107595-11,2015-21I.R.B.986,80F.R.26873(May11,2015)]

Business Entities

Corporations

Bell v. CommissionerI.R.C.§351

■☞ Transfer of a sole proprietorship’s assets to a corporation was a capital contribution where taxpayers owned the proprietorship and the corporation .

FactsThetaxpayers,husbandandwife,eachworkedinrealestate.Thehusbandoperatedasolepro-prietorshipasarealestatebroker,andthewifeworkedas anappraiser.Due toan increaseinbusinessinforeclosuresales,thetaxpayersformedacorporationandsoldthesolepropri-etorshipassetstothecorporationinexchangefor$225,000tobepaidinmonthlyinstallmentpay-mentsof$10,000ormoreat10%interest.Theassetsconsistedprimarilyofrealestatecontractsandincluded“alltheworkinprocess,customerlists,contracts,licenses,franchiserights,tradenames,goodwill,andothertangibleandintan-gibleassets.”Priortothetransferthecorporationhadnoassets.Althoughapurchaseagreementwassigned,nopromissorynotewasissued,nocol-lateralsecuredtheagreement,andnoappraisaloftheassetswasperformed.Mostofthepurchasepricewasallocatedto40contractsbetweenthehusbandandvariouslenderswithforeclosure

I.R.C.§1022election,includestheperiodthatthepropertywasheldbythedecedent.

Prop.Treas.Reg.§§1.1245-2(c)(2)(ii)(d)and1.1245-3(a)(3)providethatifI.R.C.§1245prop-ertyisacquiredfromadecedentwhodiedin2010andwhoseexecutormadeanI.R.C.§1022election,theamountoftheadjustmentsreflectedintheadjustedbasisofthepropertyinthehandsofthetransfereeimmediatelyafterthetransferisequaltotheamountoftheadjustmentsreflectedintheadjustedbasisofthepropertyinthehandsofthetransferorimmediatelybeforethetransfer,minustheamountofanygaintakenintoaccountunderI.R.C.§1245(a)(1)bythetransferoruponthetransfer.Further,eventhoughpropertyisnotofacharactersubjecttotheallowancefordepre-ciationinthehandsofthetaxpayer,thepropertyissection1245propertyifthetaxpayer’sbasisinthepropertyisdeterminedunderI.R.C.§1022andthepropertywasofacharactersubjecttotheallowancefordepreciationinthehandsofthedecedent.

Prop. Treas. Reg. § 1.1245-4(a)(1) pro-videsthatnogainisrecognizedunderI.R.C.§1245(a)(1)uponatransferofI.R.C.§1245prop-ertyfromadecedentwhoseexecutormadetheI.R.C.§1022election.

Prop.Treas.Reg.§1.1250-4(c)(5)providesthattheholdingperiodunderI.R.C.§1250(e)fortherecipientofpropertyacquiredfromadece-dentwhodiedin2010,andwhoseexecutormadeanI.R.C.§1022election,includestheperiodthatthepropertywasheldbythedecedent.

Prop. Treas. Reg. § 1.1254-2(a)(1) pro-videsthatnogainisrecognizedunderI.R.C.§1254(a)(1)onatransferofnaturalresourcerecapturepropertyfromadecedentwhodiedin2010andwhoseexecutormadeanI.R.C.§1022election.

Prop.Treas.Reg.§§1.1254-3(b),1.1254-4(e)(4),and1.1254-5(c)(2)(iv)providethatforpur-posesofdeterminingtheamountofI.R.C.§1254costsfromthedispositionofnaturalresourcerecaptureproperty,thetermgiftisexpandedtoincludethetransferofpropertywithabasisthatisdeterminedunderI.R.C.§1022.

Prop.Treas.Reg.§1.1296-1(d)(4)providesthatthebasisofstockofapassiveforeigninvest-mentcompanyforwhichanI.R.C.§1296elec-tionwasineffectasofthedateofthedecedent’sdeaththatisacquiredfromadecedentistheloweroftheadjustedbasisofthestockinthehandsof


Business Entities 623

16

6.the thinly capitalized corporation wasunlikelytobeabletoobtainsuchcreditfromindependentlenders.

Thecourtheldthatthemajorityoffactorsindicatedthatthetransactionwasacontribu-tionofthesoleproprietorshipassetstothecor-poration.Thecourtcharacterizedtheinstallmentpaymentsasdistributionstothetaxpayers,andbecausetheearningsandprofitsofthecorpora-tionexceededthedistributions,thedistributionsweretreatedasdividends.

HoldingThetransferofataxpayer’ssoleproprietorshipassetstoawhollyownedcorporationwasacapi-talcontributionofthepropertytothecorporationandnotasale.

[Bell v. Commissioner and MBA Real Estate, Inc. v. Commissioner,T.C.Memo.2015-111]

Letter Ruling 2015-22-001I.R.C.§301

■☞ A corporation that was inadvertently terminated temporarily under state law for failure to file and pay tax was not terminated for federal tax purposes .

FactsThetaxpayercorporationwasadministrativelydissolvedbyitsstateofincorporationwhenthetaxpayerinadvertentlyfailedtofileareturnandpaystateexcisetaxes.Thetaxpayerwaslaterreincorporated.

AnalysisTheIRSstatedthatacorporationisliableforfed-eralcorporatetaxesbasedonitsstatusunderfed-erallaw;therefore,thetaxpayerremainedliableforcorporatetaxessolongasthetaxpayercontin-uedtooperateinacorporatemanner.

RulingTheIRSruledthatthetaxpayercorporationwasnotterminatedforfederalcorporatetaxpurposesafterbecomingadministrativelydissolvedunderstatelawforaninadvertentfailuretopaystatetaxes.

[Ltr.Rul.2015-22-001(January21,2015)]

properties.Weeksafterthepurchaseagreementwassigned,thecorporation’sdirectorsresolvedtoissue250sharestothehusbandand250sharestothewife,inexchangefor$500.

Thetaxpayersreportedgainfromthesaleofthesoleproprietorshipassetsaslong-termcapitalgainandreportedinterestincomeontheinstall-mentpayments.Thecorporationamortizedthepurchasepriceover5years.

TheIRScharacterizedthesaleasacontribu-tiontothecorporation,treatedtheinstallmentpaymentsasdividends,andarguedthattheassetstransferredtothecorporationcouldnotbedepre-ciatedoramortized.

AnalysisThecourtfoundthattheinseparablerelation-shipbetweenthecorporation’sorganizationandthetransferofthesoleproprietorship’sassetsweighedinfavorofafindingthatthetransferwasacapitalcontribution,particularlybecausetherewasnoevidenceofabusinessreasonfordividingthetransaction.

Thecourtappliedan11-factortesttodeter-minewhetherthetransferofassetswasasaleoracapitalcontribution.Thecourtfoundthattwoofthefactors,nochangeinownershipofthebusi-nessandlackofanysubordinationofthedebt,wereneutral.

Thefollowingfactorsindicatedthatthetrans-actionwasasale:(1)thewrittenagreementcon-tainedlanguagesimilartoapromissorynote,(2)thewrittenagreementprovidedforafixedpaymentdate,and(3)thetaxpayerstreatedthetransactionasasale.

Thefollowingfactorsindicatedthatthetrans-actionwasacontributiontothecorporation:

1.paymentbythecorporationwascontingentonthecorporation’searnings;

2.theagreementhadnocollateral,andthetax-payers’onlyrecoursefornonpaymentwouldbeagainsttheirowncompany;

3.the corporation had no capital prior tothetransaction;

4.thetaxpayersbecamethecorporation’ssoleshareholders;

5.the interest on the deferred installmentpaymentswaspaidbythecorporation’searn-ingsandprofits;and



thepartnertothepartnershipandincreasesthebasisofthepartner’sinterestinthepartnershipbytheamountassumed[I.R.C.§752(a);Treas.Reg.§1.752-1(b)].Apartnermayassumeapart-nership’sliabilitieswhenthepartnercontributespropertysubjecttoaliabilitytoapartnershipbutremainspersonallyliabletothecreditorandnoneoftheotherpartnersbearanyoftheeconomicriskoflossfortheliabilityunderstatelaworoth-erwise[Treas.Reg.§1.752-1(g),Example1].

Thecourtstatedthatanobligationtomakepaymentsunderanoperatingleaseisnotcharac-terizedasaliabilityunlessthetermsoftheleasegiverisetoaconditionalpurchase.Withrespecttothetransferofequipment,courtshavestatedthatfactorsindicatingthataconditionalpurchasemorelikelyexistsincludethefollowing:

1.Theleasetermextendsthroughouttheequip-ment’sentireusefullife.

2.Thesumoftherentalpaymentsapproxi-matelyequalsthecostoftheequipment.

3.Thelesseehasanoptionattheendoftheagreementtopurchasetheequipmentatanominalorbelow-marketprice.

Inthiscasethecourtfoundthattheleaseperiodextendedthroughtheentire5-yearusefullifeofthescanner,andthecorporationhadtheoptiontopurchasethescanneratlessthanmar-ketvalue;therefore,theleasewasaconditionalpurchasebythecorporation.

Inorderforaliabilitytobeconsideredapart-nershipliabilityunderI.R.C.§752,theunder-lyingpropertysubjecttotheliabilitymustbepartnershipproperty[Treas.Reg.§1.752-1(e)].Thus,becausethescannerwasnotcontributedtotheLLCandtheleasewasnotassignedtotheLLC,noliabilityconnectedtothescannerwastransferredtotheLLC,andthetaxpayer’sbasisintheLLCinterestwasnotincreasedbythetax-payer’sguaranteeofthelease.

HoldingThetaxpayerwasnotallowedtoclaimlossespassedthroughfromanLLCbecausethetaxpay-er’sbasisintheLLCinterestwasnotincreasedbythetaxpayer’spersonalguaranteeofaleasewheretheleasedpropertywasnotLLCproperty.

[Coastal Heart Medical Group, Inc. v. Commissioner,T.C.Memo.2015-84]

Partnerships

Coastal Heart Medical Group, Inc. v. CommissionerI.R.C.§§704and752

■☞ An LLC member could not increase basis in an LLC interest for a personal guarantee of an equip-ment lease where the rented equipment was not LLC property .

FactsThetaxpayerwasamedicaldoctorwhooperatedhismedicalpracticethroughawhollyownedCcorporation.Thecorporation leasedaCTscannerfor60monthsandsecuredtheleasewithalifeinsurancepolicyonthetaxpayer’slife.Theleaseprovidedanoptiontopurchasethescannerforlessthanmarketvalue.Theleaseprohibitedassignment.Thetaxpayerandtwootherindivid-ualsformedanLLC,taxedasapartnership,tomanagethescanner.TheLLCpassedlossesfromthescanneroperationsthroughtothetaxpayer.

Thecorporationtreatedtheleaseasaleaseandclaimeddeductionsfortheleasepayments.TheLLCtreatedtheleaseasapurchaseandclaimeddepreciationdeductionsforthescanner.

The taxpayerclaimed thathepersonallyguaranteedthelease/purchaseofthescannerandthattheguaranteeincreasedthetaxpayer’sbasisinthetaxpayer’sinterestintheLLC.In2004thetaxpayerclaimedanonpassivelossdeductionforhisshareofthelossesfromtheLLC.TheIRSdis-allowedthelossesbecausethetaxpayerdidnothaveenoughbasisinthetaxpayer’sLLCinterest.

AnalysisI.R.C.§704(d)limitsthedeductibilityofapart-ner’sdistributiveshareofpartnershiplossestotheadjustedbasisofapartner’sinterestinthepart-nership.Apartner’sadjustedbasisinthepartner-shipisessentiallythepartner’scontributiontothepartnershipincreasedbythepartner’sdistribu-tiveshareofpartnershipincomeanddecreasedbyallcashdistributionsandthepartner’sdistrib-utiveshareofpartnershiplosses[I.R.C.§705(a)].

Generally,whenapartnercontributesprop-ertysubjecttoaliabilitytoapartnership,thepart-nershipistreatedashavingassumedtheliability[Treas.Reg.§1.7521(e)].Whenapartnerassumesapartnership’sliabilities,theassumptionofsuchliabilitiesresultsinadeemedcontributionby



16

partnershipownsI.R.C.§751propertyimmedi-atelyafterthedistribution.

[REG-151416-06,2014-47I.R.B.870]


■☞ The I .R .C . § 83(b) election is effective if the tax-payer filed the election with the IRS within 30 days of the date of the transfer of property but failed to attach the election to the annual return .

FactsThetaxpayerreceivedseveralstockunitsinacompanyascompensationforservicesthatthetaxpayerprovidedtothecompany.ThetaxpayerexecutedanelectionpursuanttoI.R.C.§83(b).TheelectionmetthecontentrequirementsofTreas.Reg.§1.83-2(e)andwasfiledwiththeIRSwithin30daysofthedateofthetransferofthestockunits.However,thetaxpayerfailedtoattachacopyofthesection83(b)electiontotheannualreturn,asrequiredbyTreas.Reg.§1.83-2(c).

AnalysisI.R.C.§83(a)providesthat if, inconnectionwiththeperformanceofservices,propertyistransferredtoanypersonotherthanthepersonforwhomsuchservicesareperformed,thefairmarketvalue(FMV)oftheproperty(minustheamountpaidfortheproperty)shallbeincludedinthegrossincomeoftherecipientinthefirsttaxyearinwhichtherecipient’sinterestinthepropertyisnotsubjecttoasubstantialriskoffor-feiture.I.R.C.§83(b)(1)providesthatanypersonwhoperformsservicesinconnectionwithwhichpropertyistransferredmayelecttoincludeingrossincomeforthetaxyearofthetransfertheexcessoftheproperty’sFMVovertheamountpaidfortheproperty.I.R.C.§83(b)(2)providesthatanelectionmadepursuanttoI.R.C.§83(b)(1)shallbemadeinthemannerprescribedbythesecretaryoftheTreasuryandshallbemadenotlaterthan30daysafterthedateofthetransfer.

Treas.Reg.§1.83-2(c)providesthatasec-tion83(b)electionismadebyfilingonecopyofawrittenstatementwiththeIRSofficewherethetaxpayerfileshisorherreturn.Inaddition,thetaxpayermustfileonecopyofthestatementwithhisorherincometaxreturnfortheyearoftrans-fer.Treas.Reg.§1.83-2(d)providesthattheper-sonwhoperformedtheservicesmustalsosubmit

REG-151416-06I.R.C.§§704,732,736,and751

■☞ Proposed regulations prescribe the measurement of a partner’s interest in I .R .C . § 751 property (unrealized receivables and substantially appreci-ated inventory items) and describe the effect of distributions .

TheIRShasissuedproposedregulationsthat(1)prescribehowapartnershouldmeasureitsinterestinapartnership’sunrealizedreceivablesandinventoryitems,and(2)provideguidanceregardingthetaxconsequencesofadistribu-tionthatcausesareductioninthatinterest.Theproposedregulationstakeintoaccountstatutorychangesthatoccurredaftertheissuanceofexist-ingregulations.

I.R.C.§751(a)providesthattheamountofanymoney[orthefairmarketvalue(FMV)ofanyproperty]receivedbyatransferorpartnerinexchangeforallorpartofthatpartner’sinterestinthepartnership’sunrealizedreceivablesandinventoryitemsisconsideredanamountrealizedfromthesaleorexchangeofpropertyotherthanacapitalasset.

Further,I.R.C.§751(b)overridesthenonrec-ognitionprovisionsofI.R.C.§731whenapart-nerreceivesadistributionfromthepartnershipthatcausesashiftbetween(1)thepartner’sinter-estinthepartnership’sunrealizedreceivablesorsubstantiallyappreciatedinventoryitemsand(2)thepartner’sinterestinthepartnership’sotherproperty.

Theproposedregulationsadoptthehypothet-icalsaleapproachdescribedinNotice2006-14,2006-1C.B.498,forapplicationofI.R.C.§751.Thisrequiresapartnershiptocompare(1)theamountofordinaryincome(orordinaryloss)thateachpartnerwouldrecognizeifthepartnershipsolditspropertyforFMVimmediatelybeforethedistributionwith(2)theamountofordinaryincome(orordinaryloss)eachpartnerwouldrec-ognizeifthepartnershipsolditspropertyandthedistributeepartnersoldthedistributedassetsforFMVimmediatelyafterthedistribution.

TheproposedregulationsalsoreviseTreas.Reg.§1.704-1(b)(2)(iv)(f)regardingrevaluationsofpartnershippropertytomakeitsprovisionsmandatoryif(1)apartnershipdistributesmoneyorotherpropertytoapartnerasconsiderationforan interest in thepartnershipand(2) the



thetransferoftheproperty,andthetaxpayermustsubmitacopywithhisorhertaxreturn.

TheIRShasdiscoveredthattaxpayerswhoe-filecannotmaketheelectionbecausethetaxpreparationsoftwaredoesnotprovideameanstoincludeacopyofthepriorelectionwiththecur-rente-filedreturn.

The proposed regulations eliminate therequirementunderTreas.Reg.§1.83-2(c)thatthetaxpayersubmitacopyofthesection83(b)electionwiththeindividual’staxreturnfortheyearthepropertyistransferred.Underthepro-posedregulationstheelectionismadebyfilingawrittenstatementattheIRSofficewheretheserviceproviderfilesfederalincometaxreturns.

[REG-135524-14,80F.R.42439(July17,2015)]

Methvin v. CommissionerI.R.C.§1401

■☞ The taxpayer received self-employment (SE) income from interests in oil and gas ventures .

FactsInthe1970sthetaxpayeracquiredtwo2%to3%workinginterestsinseveraloilandgasventures.Theworkinginterestswerenotpartofabusi-nessorganizationthatwasregisteredunderthelawsofanystate.Thetaxpayer’sworkinginter-estsweregovernedbyapurchaseandoperationagreementthatthetaxpayerenteredintowithanunrelatedcorporationservingastheoperatoroftheinterests.

Undertheagreementthecorporationman-agedtheoperationsoftheventuresandallocatedtothetaxpayerincomeandexpensesfromhisworkinginterests.Thetaxpayerhadnorightofinvolvementinthemanagementoroperationoftheventures.Undertheagreementthepartieselected“tobeexcludedfromtheapplicationofsub-chapterK”oftheCode.Eachyearthecorpo-rationgavethetaxpayerayear-endaccountingindicatingtherevenuesandexpensesallocatedtothetaxpayer’sworkinginterests.

During2011thetaxpayer’sworkinginterestsundertheagreementsgenerated$10,797inrev-enues.Theoperatorincurredexpensestotaling$4,037thatwereallocabletothetaxpayer’swork-inginterests.For2011thecorporationidentifiedtherevenuesasnonemployeecompensationandissuedthetaxpayeraForm1099-MISC,Miscel-laneousIncome,relatingtohisworkinginterests.

acopyofthestatementtothepersonforwhomtheserviceswereperformed.

Treas.Reg.§1.83-2(e)providesthatthestate-mentmustbesignedbythepersonmakingtheelectionandmustindicatethatitisbeingmadeunderI.R.C.§83(b).Thestatementmustcontainthefollowinginformation:thename,address,andtaxpayeridentificationnumberofthetax-payer;adescriptionofeachpropertywithrespecttowhichtheelectionisbeingmade;thedateordatesonwhichthepropertywastransferredandthetaxyearforwhichtheelectionwasmade;thenatureoftherestrictionorrestrictionstowhichthepropertyissubject;theFMVatthetimeoftransferofeachpropertywithrespecttowhichtheelectionisbeingmade;theamount(ifany)paidforsuchproperty;and,withrespecttoelec-tionsmadeafterJuly21,1978,astatementtotheeffectthatcopieshavebeenfurnishedtootherpersonsasprovidedinTreas.Reg.§1.83-2(d).

RulingTheIRSruledthat thetaxpayer fulfilledtherequirementsforavalidelectionunderI.R.C.§83(b)whenthestatementwasmailedtotheIRSofficewithin30daysofthedateofthetransferofthestockunits.Thefailuretosubmitacopyofthestatementwiththetaxreturndidnotaffectthevalidityoftheelection.

[Ltr.Rul.2015-28-001(March24,2015)]

Prop. Treas. Reg. § 1.83-2I.R.C.§83

■☞ The IRS has issued proposed regulations allowing the I .R .C . § 83(b) election to be made by filing a written statement with IRS .

TheIRShasissuedproposedregulationsrelat-ingtopropertytransferredinconnectionwiththe performance of services. The proposedregulationsaffectcertaintaxpayerswhoreceiveproperty transferred in connectionwith theperformanceofservicesandmakeanelectiontoincludethevalueofsubstantiallynonvestedpropertyinincomeintheyearoftransfer.I.R.C.§83(b)andTreas.Reg.§1.83-2(a)permitaser-viceprovidertoelecttoincludeingrossincome,ascompensationforservices,theexcess(ifany)oftheFMVofthepropertyatthetimeoftransferovertheamount(ifany)paidfortheproperty.Theelectionmustbemadewithin30daysafter



16

thetaxpayer’sbehalfbyagentsoremployees.Thecourtalsoheldthattheagreementdidnotcontrolthecharacterofthetaxpayer’sbusinessunderotherareasoftheInternalRevenueCode.

HoldingThecourtheldthatthetaxpayer’sdistributionsfrominterestsinoilandgasventureswereSEincome.

[Methvin v. Commissioner,T.C.Memo.2015-81]

S Corporations

Eaglehawk Carbon, Inc. v. United StatesI.R.C.§6621

■☞ S corporations are entitled to interest on overpay-ments of taxes at the reduced interest rate for corporate tax overpayments exceeding $10,000 .

FactsThetaxpayersarefivecoalcompaniesformedasScorporations.Thetaxpayerswereentitledtoandreceivedrefundsofoverpaidtaxesplusinter-est.ThetaxpayersarguedthattheIRSshouldusetheinterestrateapplicabletoindividuals,andtheIRSclaimedthattheyshouldusetheinterestrateapplicabletocorporations.

AnalysisI.R.C.§6621(a)(1)providesforthepaymentofinterestonoverpaymentsoftaxesinanamountequaltothefederalshort-termrateplus2%inthecaseofacorporation.However,inthecaseofcorporateoverpaymentsinexcessof$10,000,theinterestrateistheshort-termrateplus0.5%.

ThetaxpayersarguedthatScorporationswerenotcorporationsforpurposesofI.R.C.§6621butweremorelikepartnershipsbecausetheyarepass-throughentities.

Thecourtrejectedthisargumentbecauseitwasnotsupportedbytheplainlanguageofthestatute,andScorporationsarecorporationsundertheInternalRevenueCode.

HoldingInterestonrefundsduetoScorporationswasthefederalshort-termrateplus0.5%.

[Eaglehawk Carbon, Inc. v. United States,122Fed.Cl.209(2015)]

ThetaxpayerdidnotreceiveaScheduleK-1(Form1065),Partner’sShareofIncome,Deduc-tions,Credits,etc.,fromthecorporation,andthecorporationdidnotfileaForm1065,U.S.ReturnofPartnershipIncome,relatingtoanyofthetax-payer’sworkinginterests.

Thetaxpayertimelyfiledhis2011taxreturnandreported$6,760ofnetincome($10,797inrevenuesminus$4,037inexpenses)fromhisworkinginterestsas“Otherincome”online21ofhisForm1040,U.S.IndividualIncomeTaxReturn.ThetaxpayerdidnotpayanySEtaxonhisnetincomefromtheoilandgasventure.TheIRSassessedadditionaltaxbasedonthedetermi-nationthatthetaxpayer’sincomefromhiswork-inginterestswasatradeorbusinesscarriedonbyapartnershipandwassubjecttoSEtax.

AnalysisNet earnings from self-employment is generallydefinedbyI.R.C.§1402(a)asthegrossincomederivedbyanindividualfromanytradeorbusi-nesscarriedonbytheindividual,minusalloweddeductionsattributabletosuchtradeorbusiness,plushisorherdistributableshareofincomeorlossfromanytradeorbusinesscarriedonbythepartnershipofwhichheorsheisamember.

Apartnershipisbroadlydefinedas“asyn-dicate,group,pool,jointventure,orotherunin-corporatedorganization,throughorbymeansofwhichanybusiness,financialoperation,orven-tureiscarriedon,andwhichisnot,withinthemeaningofthistitle,atrustorestateoracorpora-tion.”Thetermpartnerincludesamemberinsuchasyndicate,group,pool,jointventure,ororga-nization[I.R.C.§7701(a)(2);seealsoTreas.Reg.§1.1402(a)-2(f)].Thus,forfederaltaxpurposesthetermpartnershipisnotlimitedtothecommonlawmeaningofpartnershipbutisbroaderinscopeandincludesgroupsnotcommonlycalledpartnerships [Treas.Reg. §301.7701-1(a)(1)and(2)].

Thetaxpayerarguedthatthetaxpayer’ssmallinterestsintheoilandgasventuresandlackofactiveparticipationdemonstratedthatthetax-payerhadonlyaninvestmentintheventures.Inaddition,theoperationagreementprovidedthattheventureselectedtobeexcludedfromsub-chapterKandnottaxedasapartnership.

Thecourtheldthatthelackofday-to-dayinvolvementdidnotexcludetheexistenceofapartnershipwheretheventureiscarriedouton


628 BUSINESS ISSUES

Olive v. CommissionerI.R.C.§280E

■☞ A medical marijuana dispensary was not allowed to deduct business expenses from business income for federal tax purposes .

FactsThetaxpayeroperatedalegalmedicalmarijuanadispensaryinCalifornia.Inadditiontosellingmedicalmarijuanainvariousforms,theopera-tionwassetupmuchlikeacommunitycenter,withcouches,chairs,andtableslocatedthrough-outtheestablishment.Italsoprovidedgames,books,andartsuppliesforpatrons’generaluse,andofferedservicessuchasyoga,movies,andmassagetherapy.Customerscoulddrinkcom-plimentaryteaorwaterduringtheirvisits,ortheycouldeatcomplimentarysnacks,includingpizzaandsandwiches.Thetaxpayerofferedtheseactivitiesandamenitiesatnocharge.

ThetaxpayerfiledScheduleC(Form1040),ProfitorLossFromBusiness(SoleProprietor-ship),anddeductedfromgrossincometheordi-naryandnecessarybusinessexpensesincurredintheoperation.TheIRSdisallowedthebusinessexpensedeductionsunderI.R.C.§280Ebecausethebusinessinvolved“traffickingincontrolledsubstances.”

AnalysisI.R.C. § 280Eprovides an exception to thedeductibilityofordinaryandnecessaryexpensesofatradeorbusiness.Itexcludesamountspaidorincurredduringthetaxyearforthepurposeofcarryingonanytradeorbusinessthatconsistsoftraffickingincontrolledsubstances.Marijuanaisasubstancecontrolledunder21U.S.C.§812(c).

Thetaxpayerarguedthatthesaleofmedi-calmarijuanawasonlyincidentaltothebusinessofthe“communitycenter.”Therefore,thetax-payer’sbusinessdidnotconsistoftraffickinginmarijuana.

Thecourtfoundthatthesaleofmedicalmari-juanawasthetaxpayer’sonlyincome-producingactivityanditssolebusiness,whichissubjecttotherestrictionsofI.R.C.§280E.

Thecourtwasnotpersuadedbythetaxpay-er’sargumentthatI.R.C.§280Eshouldnotbeconstruedtoapplytomedicalmarijuanadispen-sariesbecausethosedispensariesdidnotexistwhenCongressenactedthatsection.

Business Issues

Deductions

McMillan v. CommissionerI.R.C.§162

■☞ A business deduction was allowed for 50% of legal fees from a suit involving the taxpayer’s resi-dence where 50% of the residence was used for the taxpayer’s business .

FactsThetaxpayertimelyfiledaScheduleC(Form1040),ProfitorLossFromBusiness(SolePro-prietorship),forthetaxpayer’sinformationtech-nologyanddatabasemanagementbusiness.TheScheduleC(Form1040)includedexpensesforlegalservicesandcostsrelatedtothe50%useof thetaxpayer’sresidenceasahomeoffice.Thelegalcostswereincurredinalawsuitfiledbythetaxpayeragainstherneighborsandthehomeownersassociationforthetaxpayer’scon-dominium.Thetaxpayerallegedconstructiondefectsthatcausedmold,noiseproblems,andbarkingandtrespassingdogs.Inconnectionwiththatlitigation,thetaxpayerwaschargedwithmisdemeanorcriminalcharges,andthetaxpayerdeductedthecostsofthecriminallitigationonScheduleC(Form1040).

TheIRSarguedthatthelegalexpenseswerenotrelatedtothetaxpayer’sbusinessandwerenondeductiblepersonalexpenses.

AnalysisOrdinaryandnecessarylegalexpensesaregener-allydeductibleunderI.R.C.§162whentheyarisefrom,orareproximatelyrelatedto,abusinessactivity.Becausethetaxpayerused50%ofherresidenceforherbusinessactivity,andthelawsuitinvolvednoiseandotherissuesthataffectedherbusinessuseoftheresidence,the50%ofthelegalfeesrelatingtoheruseoftheresidencecouldbeallocatedtothebusiness.

HoldingThecourtheldthatthetaxpayerwasallowedabusinessdeductionfor50%ofthelegalfeesrelat-ingtothetaxpayer’sresidence,ofwhich50%wasusedinthetaxpayer’sbusiness.

[McMillan v. Commissioner,T.C.Memo.2015-109]


Business Issues 629

16

localtaxesthatarepaidoraccruedyearincarry-ingonatradeorbusinessoranactivitydescribedinI.R.C.§212(relatingtoexpensesforproduc-tionofincome).Anytaxpaidoraccruedbythetaxpayerinconnectionwithanacquisitionordispositionofpropertyistreatedaspartofthecostoftheacquiredpropertyor,inthecaseofadisposition,asareductionintheamountrealizedonthedisposition.

ThelastsentenceofI.R.C.§164(a)wasaddedby§134(a)(2)oftheTaxReformActof1986,Pub.L.99-514,100Stat.2085,2116,tomakeitclearthatstate,local,orforeigntaxes[otherthanthetaxesenumeratedin§164(a)]thatareincurredinatradeorbusinessorinanincome-producingactivityandthatareconnectedwiththeacquisi-tionordispositionofpropertymustbecapital-ized[Sleiman v. Commissioner,187F.3d1352(11thCir.1999);Sandy Lake Rd. Ltd. P’ship v. Commis-sioner,T.C.Memo.1997-295].

ThestateofWashingtonmarijuanaexcisetaxisataxpaidoraccruedinconnectionwiththedispositionofpropertybyatradeorbusi-ness.Accordingly,pursuanttoI.R.C.§164(a),ataxpayerwhopaidthemarijuanaexcisetaxmusttreattheexpenditureasareductionintheamountrealizedonthesaleofthepropertyratherthanaseitherapartoftheinventoriablecostofthatpropertyoradeductionfromgrossincome.AlthoughI.R.C.§280Eprohibitsdeductionsandcreditsformarijuanabusinesses,theexcisetaxisneitheradeductionfromgrossincomenorataxcredit.Consequently,I.R.C.§280Edoesnotpre-cludeataxpayerfromaccountingfortheexcisetaxasareductionintheamountrealizedonthesaleoftheproperty.

RulingAmedicalmarijuanadispensarythatpaidthestateofWashingtonmarijuanaexcisetaxshouldtreattheexpenditureasareductionintheamountrealizedonthesaleoftheproperty.[C.C.A.2015-31-016(June9,2015)]

Chief Counsel Advice 2014-39-001I.R.C.§§263Aand471

■☞ Restaurants that are subject to the uniform capitalization rules should not be forced to use the simplified production method for allocating kitchen labor costs if they implement a reason-able facts and circumstances method instead .

HoldingThetaxpayerwasnotallowedtodeductbusinessexpensesforitsmedicalmarijuanabusiness.

[Olive v. Commissioner,792F.3d1146(9thCir.2015)]

Chief Counsel Advice 2015-31-016I.R.C.§§164(a)and280E

■☞ A medical marijuana dispensary was not allowed to deduct business expenses from business income for federal tax purposes .

FactsOnNovember6,2012,InitiativeMeasureNo.502wasapprovedinthestateofWashington.Thisinitiativeauthorizedthestateliquorcontrolboardtoregulateandtaxmarijuanaforpersons21yearsofageandolder.Certainactsperformedbyvalidlylicensedmarijuanaproducers,val-idlylicensedmarijuanaprocessors,andvalidlylicensedmarijuanaretailersdonotconstitutecriminalorciviloffensesunderWashingtonstatelaw.

AfterthepassageofInitiativeMeasureNo.502, the stateofWashingtonenacteda25%excisetaxonmarijuanaproducers,marijuanaprocessors,andmarijuanaretailers.

AnalysisI.R.C.§280Eprovides:

Nodeductionorcreditshallbeallowedforanyamountpaidorincurredduringthetaxableyearincarryingonanytradeorbusinessifsuchtradeorbusiness(ortheactivitieswhichcomprisesuchtradeorbusiness)consistsoftraffickingincon-trolledsubstances(withinthemeaningofscheduleIandIIoftheControlledSub-stancesAct)whichisprohibitedbyFed-erallaworthelawofanyStateinwhichsuchtradeorbusinessisconducted.

Forpurposesof§280E,marijuanaisaSched-uleIcontrolledsubstanceundertheControlledSubstancesAct[Olive v. Commissioner,792F.3d1146(9thCir.2015)].

I.R.C.§164(a)allowsadeductionforstateandlocalrealpropertytaxes,personalpropertytaxes,andincomeandexcessprofittaxes.Inaddition,thereisadeductionforotherstateand


630 BUSINESS ISSUES

andindirectcosts,butthesimplifiedproductionmethodisgenerallylessprecisethanafactsandcircumstancesmethod.IfkitchenlaborcostsaretreatedasadditionalI.R.C.§263Acostsunderthesimplifiedproductionmethod,asignificantamountofkitchenlaborcostswillbecapitalizedtotheendinginventory,eventhoughthosecoststypicallyrelatealmostentirelytotheproductionoffoodthatisnolongeronhand.

Alternatively,ifamoreprecisefactsandcir-cumstancesmethodisusedorifkitchenlaborcostsaretreatedasanI.R.C.§471costunderthesimplifiedproductionmethod,thesekitchenlaborcostswillbeallocatedtothecostoffoodthatisincludedinthecost-of-goods-solddeduction.

RulingTheadvicememorandumstatesthattheIRSOfficeofChiefCounselwillgenerallynotsup-porttheimpositionofthesimplifiedproductionmethodinexaminationorlitigationifataxpayeriswillingtodevelopandimplementareasonablefactsandcircumstancesmethodinstead.

ThememoalsoadvisedLB&IthatiftheIRSimposedthesimplifiedproductionmethod,therestaurantcouldrequestapprovalofachangeinitsmethodofaccountingto(1)treatkitchenlaborasanI.R.C.§471costor(2)useamoreprecisefactsandcircumstancesmethod,andthememostatedthatcounselgenerallywouldgrantsuchchanges.

The memo also concluded that counselwouldsupportallowingarestaurantthatusesthesimplifiedproductionmethodtotreatallofitsdirectproductioncosts(includingkitchenlabor)asI.R.C.§471costsunderthatmethodratherthanasadditionalI.R.C.§263Acosts.

[C.C.A.2014-39-001(July24,2014)]


■☞ A 52-53-week tax year is deemed to end on December 31, 2017, for purposes of the domes-tic production activities deduction .

I.R.C.§199(b)(2)providesthattheamountofthedomesticproductionactivitiesdeduction(DPAD)allowableforanytaxyearshallnotexceed50%oftheFormW-2,WageandTaxStatement,wagesthetaxpayerpaidwithrespecttoemploymentduringthecalendaryearendingduringthetaxyear.

IssueThe IRS’sLargeBusiness and International(LB&I)operatingdivisionfoundthatseveralrestaurantsunderexaminationwerenotinclud-inganylaborcostsintheirendinginventories.Instead,theendinginventoriesconsistedentirelyoralmostentirelyofrawmaterials:theingredi-entsthathadnotyetenteredtherestaurant’spro-ductionprocess.LB&IrequestedadvicefromtheIRSchiefcounselastowhetheritwasappropri-atetoimposethesimplifiedproductionmethodinthesecases.

Ingeneral,therestaurantstreatedkitchen-relatedcosts(back-of-the-house costs)ascapitaliz-ableproductioncostsunderI.R.C.§263Aandcostsrelatedtotheservingarea(front-of-the-house costs)asnoncapitalizablecosts.However,someoftherestaurantsdidnotcapitalizesomeback-of-the-housecoststheyincurredtoproducefood,includingkitchenlabor(thewagespaidtocooksandtofoodpreparationstaff).

Law and AnalysisI.R.C. § 263A(a) andTreas.Reg. § 1.263A-1(a)(3)(ii)provide,inpart,thattaxpayersthatproducerealortangiblepersonalpropertymustcapitalize

■■ alldirectcostsofproducingtheproperty,and

■■ theproperty’sproperlyallocableshareofindirectcosts.

Directcostsincludethecostsoflaborthatcanbeidentifiedorassociatedwithparticularunitsorgroupsofunitsofspecificpropertyproduced.Indirectcostsareallcostsotherthandirectcosts.Indirectcostsareproperlyallocabletopropertyproducedwhenthecostsdirectlybenefitorareincurredbyreasonoftheperformanceofproduc-tionactivities.TheI.R.C.§263Acoststhatareallocabletoitemsthatremainonhandattheendofthetaxyeargenerallymustbecapitalized.

Factsandcircumstancesmethodsthatmaybeusedtoallocatecostsincludeaspecificidentifica-tionmethod,astandardcostmethod,aburdenratemethod,andanyotherreasonableallocationmethoddefinedundertheprinciplesofTreas.Reg.§1.263A-1(f)(4).

Treas.Reg.§1.263A-1(f)(1)allowsproduc-ers touse thesimplifiedproductionmethod[seeTreas.Reg.§1.263A-2(b)]toallocatedirect


Business Issues 631

16

AnalysisI.R.C.§162(a)allowsadeductionfortheordi-naryandnecessaryexpensespaidorincurredduringthetaxyearincarryingonanytradeorbusiness.Treas.Reg.§1.162-1(a)providesthatdeductiblebusinessexpensesincludetheordi-naryandnecessaryexpendituresdirectlycon-nectedwithorpertainingtothetaxpayer’stradeorbusiness.UnderI.R.C.§162(f)nodeductionisallowedunderI.R.C.§162(a)foranyfineorsimilarpenaltypaidtoagovernmentforthevio-lationofanylaw.Treas.Reg.§1.162-21(b)(1)(iii)providesthat,forpurposesofI.R.C.§162,afineorsimilarpenaltyincludesanamountpaidinset-tlementofataxpayer’sactualorpotentialliabilityforafineorpenalty,whethercivilorcriminal.Treas.Reg.§1.162-21(b)(2)providesthatcom-pensatorydamagespaidtoagovernmentdonotconstituteafineorpenalty.

TheIRSdeterminedthattherestitutionpay-mentswerenotpartofthecriminalpenaltyinthatthepenaltieswereotherwiseprovided,thepenaltieswereseparatefromtherestitutionpay-ments,andtherestitutionwasnotmadeinlieuofforfeiture.TheIRSalsodeterminedthattheres-titutionpaymentsweremadeinconnectionwiththetaxpayer’stradeorbusinessbecausethecrim-inalactswereperformedaspartofthetaxpayer’snormalcourseofbusinessforthecompany,andtherestitutionpaymentswouldbeappropriateandhelpfultothebusiness.

RulingThetaxpayer’srestitutionpaymentsforcriminalactscommittedwhileperformingservicesforacompanyweredeductibleasordinaryandneces-sarybusinessexpenses.

[Ltr.Rul.2015-28-026(April13,2015)]

Employees

T.D. 9696I.R.C.§§162and262

■☞ Final regulations provide a safe harbor for treating local lodging expenses incurred for attendance at a business function as ordinary and necessary business expenses .

I.R.C.§441(f)(2)(A)providesthatwhentheeffectivedateoftheapplicabilityofanyprovi-sionoftheInternalRevenueCodeisexpressedintermsoftaxyearsbeginning,including,orend-ingwithreferencetoaspecifieddatethatisthefirstorlastdayofamonth,ataxyearshallbetreatedasbeginningwiththefirstdayofthecal-endarmonthbeginningnearesttothefirstdayofthetaxyear,orasendingwiththelastdayofthecalendarmonthendingnearesttothelastdayofthetaxyear.

Inthecaseatissue,thetaxpayercomputesitstaxableincomeonthebasisofa52-53-weektaxyearendingonthelastSaturdayinDecember.Thetaxpayer’s2015taxyearbeganDecember28,2014,andwillendonDecember26,2015.Thetaxpayer’s2016taxyearwillbeginDecem-ber27,2015,andendonDecember31,2016.Thetaxpayer’s2017taxyearwillbeginJanuary1,2017,andendonDecember30,2017.Thus,thetaxpayer’s2017taxyearliterallydoesnotincludeDecember31,andthereispotentiallynocalendaryearthatendsduringthe2017taxyear.

TheIRSruledthatthetaxpayer’s2017taxyearwillbedeemedtoendonDecember31,2017forpurposesofI.R.C.§199.

[Ltr.Rul.2014-47-027(August19,2014)]


■☞ The taxpayer’s restitution payments for criminal acts committed while performing services for a company were deductible as ordinary and neces-sary business expenses .

FactsThetaxpayerwasapartnerinacompanythatwasapartnershipfortaxpurposes.Thetaxpayerwasconvictedunderfederallawforactivitiesrelatedtothesaleofaproductnotnamedintheruling.Thetaxpayerwassentencedtoatermofincarcerationandatermofprobation,andwasorderedtopayafineandaspecialassessment.Thetaxpayeralsoagreedtopayrestitutiontothefederalgovernmentforthelossesincurredbythegovernmentasaresultofthetaxpayer’scriminalactions.Thefederalcourtdeterminedtheamountofrestitution,andthetaxpayerpaiditin1taxyear.Thecompanydeniedthatithadanyliabilitytocompensatethetaxpayerfortherestitutionpayment.


632 BUSINESS ISSUES

Deductions and Exclusions

■■ Qualifyinglocallodgingexpensesaredeductiblebytheindividualifincurreddirectlywithoutreimbursement.

■■ Ifthequalifyingexpensesareincurredbyanemployeronbehalfofanemployee,thevalueisexcludablefromtheemployee’sincomeasaworkingconditionfringebenefitunderI.R.C.§132.

■■ Iftheemployerreimbursestheemployeeforqualifyingexpenses,thereimburse-mentisexcludablefromtheemployee’sgrossincomeiftheexpenseallowancearrangementsatisfiestherequirementsofanaccountableplanunderI.R.C.§62(c)andtheapplicableregulations.

■■ Qualifyingexpensesthatarepaidorreim-bursedbytheemployerarealsodeductiblebytheemployerasordinaryandnecessarybusinessexpenses.

Thefinalregulationscontainseveralexam-plestoillustratethenewrules.

[T.D.9696,2014-43I.R.B.727]

Central Motorplex, Inc. v. CommissionerI.R.C.§§61and6050P

■☞ The officers of a corporation are statutory employees .

FactsACcorporationwasengagedinthebusinessofbuying,repairing,reconditioning,andresellingusedautomobiles.Thecorporation’spresident,whowasitssoleshareholder,managedthebusi-ness,includinghiringandfiringemployees.Thecorporation’ssecretary-treasurerwasinchargeofrepairandmaintenanceofthecarsinitsinven-tory.Anotherworkerwasinchargeofpickingupanddeliveringautomobiles,includingobtaininganddeliveringlicenseplatesandtitlecertificates.

Thetaxpayertreatedall threepersonsasindependentcontractors,althoughnoneoftheemployeeshademploymentcontractswiththetaxpayer.Thetaxpayerdidnotwithholdanyincome,FICA,orFUTAtaxes,nordiditissueFormsW-2,WageandTaxStatement.

BackgroundLocallodgingexpensesforanindividualaregen-erallypersonal,living,orfamilyexpensesthatarenotdeductible[I.R.C.§262(a)].However,locallodgingexpensesmaybedeductibleunderI.R.C.§162asordinaryandnecessarybusinessexpenses[Treas.Reg.§1.162-32].Whetherlocallodgingexpensesarepaidorincurredincarryingonataxpayer’stradeorbusinessisdeterminedunderallthefactsandcircumstances.

Forexample,aprofessionalsportsteammayrequireitscoachesandplayerstostayatalocalhotelthenightbeforeahomegametoconductlast-minutetrainingandensurethephysicalpre-parednessoftheplayers.Thefactsandcircum-stancestestismetbecausetheovernightstaysareabonafideconditionorrequirementofemploy-ment,theemployerhasanoncompensatorybusi-nesspurposeforpayingthelodgingexpenses,theemployerisnotpayingthelodgingexpensesprimarilytoprovideasocialorpersonalbenefittotheemployees,andthelodgingisnotlavishorextravagantunderthecircumstances.

Safe HarborInadditiontothefactsandcircumstancestest,thenewfinalregulationsprovideasafeharborforlocallodgingexpensestoqualifyasordinaryandnecessarybusinessexpenses.Anindividual’slocallodgingexpensesareordinaryandneces-sarybusinessexpensesifallfourofthefollowingcriteriaaremet:

1.Thelodgingisnecessaryfortheindividualtoparticipatefullyinorbeavailableforabonafidebusinessmeeting,conference,trainingactivity,orotherbusinessfunction.

2.Thelodging is foraperiodthatdoesnotexceed5calendardaysanddoesnotrecurmore frequently thanonceper calendarquarter.

3.Iftheindividualisanemployee,theindi-vidual’semployerrequirestheemployeetoremainattheactivityorfunctionovernight.

4.Thelodgingisnotlavishorextravagantunderthecircumstancesanddoesnotprovideanysignificantelementofpersonalpleasure,rec-reation,orbenefit.


Business Issues 633

16

Sickpayisanyamountpaidtoanemployeefor any period during which the employeeis temporarily absent fromworkbecauseofinjury,sickness,ordisability.Sickpaydoesnotincludedisabilityretirementpaymentsorpay-mentsformedicalandhospitalizationexpenses.Third-partysickpayissickpaythatispaidtoanemployeebysomeperson(thethirdparty)otherthantheemployerforwhomservicesarenor-mallyperformed.I.R.C.§§3121(a)and3306(b)providethatanythirdpartythatpayssickpaythatisincludedinwagesshallbetreatedastheemployer forpurposesof theFICAand theFUTAtaxeswithrespecttosuchwages,exceptasprovidedinregulations.Athird-partypayerofsickpaycanbeeitheranagentoftheemployerorathirdpartythatisnotanagentoftheemployer.

Form8922mustbeusedforfiling“third-partysickpayrecaps”toreconcilethereportingofsickpaypaidbyathirdpartyonbehalfofemployerstoemployeesinsituationsinwhichtheliabilityfortheFICAtaxesonthesickpayissplitbetweentheemployerandthethirdpartyunderapplica-bleregulations.Form8922mustbefiledinsteadoftheFormW-2,WageandTaxStatement,andFormW-3,TransmittalofWageandTaxState-ments,third-partysickpayrecaps,whichwerefiledwiththeSocialSecurityAdministration(SSA)forthird-partysickpaypaidbeforeJanu-ary1,2014.EmployersandthirdpartieswillfiletheForm8922withtheIRSratherthantheSSA,andwillnolongerfilethird-partysickpayrecapswiththeSSAforpaymentsmadeonorafterJanu-ary1,2014.Ifataxpayer(eitherathirdpartyoranemployer)wasformerlyobligatedtofilewiththeSSAthird-partysickpayrecapsonFormsW-2andW-3forsickpaypaidin2013andprioryears,andthesickpayispaidunderthesamefactualcircumstances,thatsametaxpayerinsteadwillberequiredtofileForm8922withtheIRSforsickpaypaidin2014andsubsequentyears.

[Notice2015-6,2015-5I.R.B.412]

Letter Ruling 2014-41-004I.R.C.§§104and3121

■☞ Disability payments under a county ordinance qualify as workers’ compensation payments that are excludable from gross income .

AnalysisAnofficerofacorporationwhoperformsmorethanminor servicesand receives remunera-tionforsuchservicesisastatutoryemployeeforemploymenttaxpurposes.Anofficercanescapestatutoryemployeestatusonlyifheorsheper-formsnoservices(oronlyminorservices)forthecorporationandneitherreceivesnorisentitledtoreceiveanyremuneration,directlyorindirectly,forservicesperformed[Treas.Reg.§§31.3121(d)-1(b),31.3306(i)-1(e),and31.3401(c)-1(f)].

Whetheranindividualisanemployeeoranindependentcontractorunderthecommonlawtestisaquestionoffact.TheTaxCourtconsid-eredthefollowingfactors:

■■ Thedegreeofcontroltheprincipalhadovertheworker

■■ Theworker’sopportunityforprofitorloss■■ Theworker’sinvestmentinfacilities■■ Thepermanenceoftherelationship■■ Theskillrequiredintheoperation

HoldingThepresidentandsecretary-treasurerbothper-formedmorethanminorservicesandwerestatu-toryemployeesforemploymenttaxpurposes.Thethirdworkerwasacommonlawemployeeinthat(1)thepresidentofthecorporationexercisedcontrolovertheworker’sactivities,(2)theworkerwasnotinapositiontoincreaseprofitsthroughhisownefforts,(3)theworkerdidnotemployhisowntools,(4)theworkerreceivedcompensationcategorizedaswageseverymonth,and(5)theworkperformedbytheworkerwasintegraltothecorporation’sregularbusiness.

[Central Motorplex, Inc. v. Commissioner,T.C.Memo.2014-207]

Notice 2015-6I.R.C.§§3402and6051

■☞ The IRS published a notice of procedures for reporting by employers of sick pay paid by third-party payers .

TheIRSannouncedthatForm8922,Third-PartySickPayRecap,mustbeusedbythirdpartiesandemployerstoreporttotalpaymentsofcertainsickpaypaidbythirdpartiesonorafterJanuary1,2014.


634 BUSINESS ISSUES

TheIRSarguedthatinthesixthyear,2009,the taxpayer did not have a going concernbecausethetaxpayer

1.didnotownorleaseahorsein2009,2.didnottrainanyhorsesin2009,3.didnotcompeteinanyhorseshows,and4.didnotbreedanyhorses.

Thetaxpayerclaimedtohavetrainedhorsesin2009butlostthetrainingrecordsinamove.

AnalysisI.R.C.§183(a)providesinpertinentpartthat,ifanactivity“isnotengagedinforprofit,nodeduc-tionattributabletosuchactivityshallbeallowed...exceptasprovidedinthissection.”I.R.C.§183(b)(1)providesthatthereshallbeallowed“thedeductionswhichwouldbeallowableunderthischapterforthetaxableyearwithoutregardtowhetherornotsuchactivityisengagedinforprofit.”Thetermactivity not engaged in for profit isdefinedbyI.R.C.§183(c)as“anyactivityotherthanonewithrespecttowhichdeductionsareallowableforthetaxableyearundersection162orunderparagraph(1)or(2)ofsection212.”

Treas.Reg.§1.183-2(b)givesninefactorstobeconsideredwhenascertainingataxpayer’sprofitintent:

1.Themannerinwhichthetaxpayercarriesontheactivity,

2.Theexpertiseofthetaxpayerorhisorheradvisers

3.Thetimeandeffortexpendedbythetax-payerincarryingontheactivity

4.Theexpectationthatassetsusedintheactiv-itymayappreciateinvalue

5.Thesuccessofthetaxpayerincarryingonothersimilarordissimilaractivities

6.Thetaxpayer’shistoryofincomeorlosseswithrespecttotheactivity

7.Theamountofoccasionalprofits, ifany,whichareearnedbythetaxpayer

8.Thefinancialstatusofthetaxpayer9.Elementsofpersonalpleasureorrecreation

ThecourtheldthattheIRShadtheburdenofproofonthesefactors.

Thecourtheldthatthelossesfromthetax-payer’shorse activitieswerenotdeductible

FactsAcountyordinanceprovidesdisabilityben-efitsforcountyemployeeswhosufferpersonalinjuryorsicknessinthelineofduty.Aneligibleemployee’sdisabilitybenefitsaredeterminedasapercentageoftheemployee’scompensationbeforetheemployeesufferedpersonalinjuryorsicknessinthelineofduty,definedasadisabil-ityordeathresulting(directlyorindirectly)fromanactoccurring,orathingdone,orarisktakenthatwasrequiredoftheemployeeintheperfor-manceofhisorherduty.Thecountycodethatwasamendedbytheordinancefurtherrequiresthecounty’sdisabilitybenefitstobereducedbytheamountsofsocialsecuritydisabilitybenefits,workers’compensationbenefits,andearnedincomeduringdisabilitythedisabledemployeereceives.

RulingTheprivateletterrulingconcludedthat

1.thecountycode,asamendedbytheordi-nance,isastatuteinthenatureofaworkers’compensationact;

2.thedisabilitybenefitsarenotconsideredtax-ableincometotheemployeeunderI.R.C.§104(a)(1);and

3.thedisabilitybenefitsareexcludedfromthe definition of “wages” under I.R.C.§3121(a)(2)(A).

[Ltr.Rul.2014-41-004(June10,2014)]

Hobby Losses

McMillan v. CommissionerI.R.C.§183

■☞ The taxpayer did not engage in horse breeding, training, and showing activities for profit .

FactsThetaxpayerwasengagedinthetraining,show-ing,andbreedingofdressagehorses.Inthe6taxyearsinvolved,thetaxpayerhadonly1yearofreceiptsof$588(butnonetincome)andover$154,000inexpenses.Duringthese6yearsthetaxpayerdidnotbreedanyhorses,andin2008and2009thetaxpayerdidnotownanyhorses.


Cancellation of Debt Income 635

16

The taxpayerargued that the loanwasanonrecourseloanbecausethetaxpayerwasnotpersonallyliableforrepayment;therefore,nodischargeofindebtednessoccurred.

AnalysisThetaxpayerpointedtotwoaspectsoftheagree-mentthatindicatedthatthetaxpayerwasnotpersonallyliableontheloan:thelackofanypromissorynoteandtherightofthehospitaltorequirecollateralfortheloan.Thecourtstatedthatapromissorynotewasnotneededbecausetherecruitingagreementgavethehospitaltherighttoenforcerepaymentoftheloan.Thecourtalsostatedthatifthehospitalhadrequiredcollat-eral,thatalonewouldnotprovethatthetaxpayerwasnotpersonallyliableontheloan.

HoldingThecourtheldthatthetaxpayerwaspersonallyliableforrepaymentoftheloansandreceivedtaxableincomewhentheloansweredischarged.

[Wyatt v. Commissioner,T.C.SummaryOpinion2015-31]

Chief Counsel Advice 2015-25-010I.R.C.§§704and752

■☞ Characterization of an LLC’s loan as recourse or nonrecourse was not determined under I .R .C . § 752 but was determined under I .R .C . § 1001 .

FactsThetaxpayerwasalimitedliabilitycompany(LLC)taxedasapartnership.TheLLCmem-bersweretwoindividualsandanScorporation.TheLLCwasformedandoperatedforthesolepurposeofconstructing,marketing,andsellinghomesonaparcelofrealproperty.Thetaxpayerobtainedtwoloans,aseniorloanfromabankandajuniorloanfromacorporation.Thejuniorloanwassecuredby

1.aseconddeedoftrustontheproperty,whichwassubordinatedonlytotheseniorloanfromthebank;

2.ageneralassignmentofthetaxpayer’srights,title,andinterestintheproperty;

3.a general assignment of the taxpayer’smembers’rights, title,andinterest in theproperty;

becausethetaxpayerdidnotoperatetheactiv-itywiththeintenttomakeaprofit.Therulingwasbasedonthesefactors:thetaxpayerspentverylittletimeontheactivityduringtheyearsinvolved;thetaxpayerhadinsufficientassetsinthehorseactivitytoexpectanyappreciationsuf-ficienttocoverthelosses;thetaxpayerdidnothaveothersuccessfulsimilarbusinessactivities,includingpasthorseactivities;thetaxpayerhadsubstantiallossesduringtheyearsinvolved;thetaxpayerhadnoyearsofprofit;thelossesoffsetincomefromotheractivities;andthetaxpayerreceivedpersonalpleasurefromridinghorses.

HoldingThecourtheldthatthetaxpayercouldnotdeductlossesfromahorsetraining,breeding,andshow-ingactivitybecausethetaxpayerdidnotoperatetheactivitieswiththeintenttomakeaprofit.

[McMillan v. Commissioner,T.C.Memo.2015-109]

Cancellation of Debt Income

Wyatt v. CommissionerI.R.C.§61

■☞ Forgiveness of loans in exchange for the tax-payer’s 3 years of medical practice was taxable cancellation of debt income because the taxpayer was personally liable for any repayment .

FactsThetaxpayerwasadoctorwhodecidedtoprac-ticeinaruralareainexchangeforadditionalcom-pensationfromalocalhospital.Theadditionalcompensationwasprovidedunderarecruitingagreementthatcharacterizedthepaymentstothetaxpayerasloans.Therecruitingagreementprovidedthatifthetaxpayerpracticedmedicineatthehospitalandcontinuedtopracticemedi-cinefor3yearsbeyonda“guaranteeperiod,”thehospitalwouldcanceltheentireprincipaloftheloansoverthose3years.Theagreementalsoincludedprovisionsforthetaxpayertorepaytheloansifthetaxpayerdidnotcompletethe3yearsatthehospital.Thetaxpayermetthe3-yearrequirement,andthehospitalforgavetheentireloan.Thetaxpayerdidnotincludetheloanpay-mentsintaxableincomeanddidnotincludethedischargedamountsintaxableincome.


636 CANCELLATION OF DEBT INCOME

RulingTheIRSruledthatcharacterizationofthetax-payer’sloanasrecourseornonrecoursewasnotdeterminedunderI.R.C.§752butwasdeter-minedunderI.R.C.§1001.

[C.C.A.2015-25-010(March6,2015)]

Domestic Production Activities Deduction

Large Business and International Directive I-04-0315-001I.R.C.§199

■☞ An IRS examiners’ directive lists products that are not manufactured, produced, grown, or extracted for purposes of the domestic produc-tion activities deduction (DPAD) .

TheIRSdirectiveprovidesdirectiontotheLargeBusiness&International(LB&I)examinersonwhatactivitiesmeetthedefinitionofmanufactured, produced, grown, or extractedunderTreas.Reg.§1.199-3(e)fortheDPADunderI.R.C.§199.

Authority of Directives

IRS directives to examiners are not an official pro-nouncement of law and cannot be used, cited, or relied on as such .

I.R.C.§199providesadeductionforcer-tainincomeattributabletodomesticproductionactivities.Tobeeligibleforthededuction,amongotherrequirements,ataxpayermusthavemanu-factured,produced,grown,orextracted(MPGE)thequalifiedpropertyinwholeorinsignificantpartwithintheUnitedStates.

Taxpayers may not claim I.R.C. § 199deductionswhentheiractivitiesfalloutsidethedefinitionofMPGEprovidedinTreas.Reg.§1.199-3(e).

ExamplesofactivitiesthataregenerallynotMPGEincludethefollowingactivitiesperformedataretaillevel:

1.Cutt ing blank keys to a customer’sspecification

2.Mixingbasepaintandapaintcoloringagent

4.pledges of the LLC membership inter-ests;and

5.unlimited,unconditional,andirrevocableguaranteesbyeachmemberoftheLLC.

Thebankforeclosedtheseniorloan,andtheLLCtransferredthelastunsoldportionofthepropertytothebankinfullsatisfactionoftheseniorloan.Thejuniorloanwascanceledforlackofanypropertytorecover.TheLLCrecognizedcancellationofdebt(COD)incomeandpassedtheincomethroughtothemembers.

AnIRSexaminingagentraisedtheissueofwhethertheCODincomeshouldbereclassifiedasincomefromthesaleordispositionofprop-ertyunderI.R.C.§61(a)(3).Thetaxpayerarguedthatthenatureoftheloanasrecourseornonre-coursewasdeterminedunderI.R.C.§752anditsregulations.

AnalysisInthelettertheIRSstatedthatI.R.C.§752anditsregulationspertainedonlytothedetermina-tionofamember’sbasisinthemember’sinterestintheLLCbasedontherecourseornonrecoursenatureofaloanguaranteedbythepartner.TheIRSfurtherstatedthatI.R.C.§752didnotaffectthecharacterizationoftheloanforpurposesofdetermininggainorlossonthesaleunderI.R.C.§1001attheLLClevel.

I.R.C.§1.1001-2(a)(1)and(4)(i)providethatifdebtthatisdischargedinconnectionwiththesaleorotherdispositionofpropertyisnonrecoursetotheborrower,thefullamountofthedischargeddebtisincludedintheamountrealized,andthusthetransactionresultsingainorloss.

OneresultofthisreclassificationasgainsfromdealingsinpropertyattheLLClevelisthattheLLC’smemberscannotexcludepartoftheincomeunderI.R.C.§108atthememberlevel.

TheIRSnotedthatthetaxpayer’sliabilityontheseniorloanwaslimitedtothepropertyownedbythetaxpayer;thus,thetaxpayerhadnopersonalliabilitybeyonditsassets.However,theIRSstatedthatsufficientfactsremainedastothelimitsonthetaxpayer’sliability;therefore,norulingcouldbemadeatthispointastowhethertheseniorloanwasrecourseornonrecoursetothetaxpayer.


Estate and Gift Taxes 637

16

Executorsofestatesthatarenototherwiserequiredtofileanestatetaxreturndonothavetoreportthevalueofpropertyqualifyingforthemaritalorcharitabledeductionsifspecifiedconditionsaremet.Inordertomakeuseofthisspecialrule,theexecutormustestimatethetotalvalueofthegrossestate,roundeduptothenear-est$250,000basedonadeterminationmadeingoodfaithandwithduediligence[Treas.Reg.§20.2010-2(a)(7)].Theexecutormustreportontheestatetaxreturn,underpenaltiesofperjury,theamountcorrespondingtotheparticularrangewithinwhichfallstheexecutor’sbestestimateofthetotalgrossestate,inaccordancewiththeinstructionsforForm706,UnitedStatesEstate(andGeneration-SkippingTransfer)TaxReturn.

Thisspecialruledoesnotapply,however,tomaritaldeductionpropertyorcharitablededuc-tionpropertyif(1)thevalueofthepropertyrelatesto,affects,orisneededtodeterminethevaluespassingfromthedecedenttoanotherrecipient;or(2)thevalueofthepropertyisneededtodeter-minetheestate’seligibilityfortheprovisionsofI.R.C.§§2032(alternatevaluation),2032A(spe-cialusevaluation),6166(installmentpaymentoffederalestatetax),oranotherprovisionoftheInternalRevenueCode[Treas.Reg.§20.2010-2(a)(7)(ii)].

TheexecutormustincludeacomputationoftheDSUEamountontheestatetaxreturnsothatthesurvivingspousecantakeintoaccountthe decedent’s DSUE amount [Treas. Reg.§20.2010-2(b)].

TheDSUEamountofadecedentisthelesserof(1)thebasicexclusionamountineffectfortheyearofdeathofthedecedent,or(2)theexcessofthedecedent’sapplicableexclusionamountoverthesumoftheamountofthetaxableestateandtheamountoftheadjustedtaxablegiftsofthedecedent.

Solelyforthepurposeofcomputingthedece-dent’sDSUEamount,theamountofadjustedtax-ablegiftsisreducedbytheamount,ifany,ofthegifttaxespaidforthecalendaryearofthegifts[Treas.Reg.§20.2010-2(c)].

Forpropertypassingforthebenefitofasurviv-ingspouseinaqualifieddomestictrust(QDOT),theDSUEamountofthedecedentmustberede-terminedonafinaldistributionorotherterminat-ingevent[Treas.Reg.§20.2010-2(c)].

TheDSUEamountofadecedentisincludedindeterminingasurvivingspouse’sapplicable

3.Applyinggarnishmentstocakethatisnotbakedwheresold

4.Applying gas to agricultural products tosloworexpeditefruitripening

5.Storing agricultural products in a con-trolledenvironmenttoextendshelflife

6.Maintainingplantsandseedlings

Othersimilaractivitiesmaybenon-MPGEactivities,dependingonthespecificfactsandcir-cumstancesofthetaxpayer‘sactivities,processesthroughwhichtheactivitiesareperformed,andthetaxpayer’sindustry.

[LB&I-04-0315-001(March16,2015)]

Estate and Gift Taxes

T.D. 9725I.R.C.§2010

■☞ Final regulations provide guidance under I .R .C . §§ 2010 and 2505 on the estate and gift tax appli-cable exclusion amount, the requirements for electing portability of a deceased spousal unused exclusion (DSUE) amount, and the rules for the surviving spouse’s use of the DSUE amount .

I.R.C.§2010(c)allowstheestateofadecedentwhoissurvivedbyaspousetomakeaportabil-ityelection,whichgenerallyallowsthesurvivingspousetoapplythedecedent’sdeceasedspousalunusedexclusion(DSUE)amounttothesurviv-ingspouse’sowntransfersduringlifeandatdeath.

The final regulations require an execu-torelectingportabilitytomaketheelectiononatimelyfiledfederalestatetaxreturn,within9monthsafterthedateofthedecedent’sdeathorthelastdayoftheperiodcoveredbyanextension[Treas.Reg.§20.2010-2(a)].

Anexecutormaysupersedeapreviouslyfiledportabilityelectiononasubsequenttimelyfiledestatetaxreturn[Treas.Reg.§20.2010-2(a)(3)(i)].Theportabilityelectionisirrevocableaftertheduedateoftheestatetaxreturn,includingexten-sionsactuallygranted[Treas.Reg.§20.2010-2(a)(4)].

Iftheexecutordoesnotwishtomaketheportabilityelection,theexecutormustmakeanaffirmativestatementontheestatetaxreturnsig-nifyingthedecisiontonothavetheportabilityelectionapply[Treas.Reg.§20.2010-2(a)(3)].


638 ESTATE AND GIFT TAXES

proportionsastheindependenttrustee,inthetrustee’sdiscretion,determinestobedesirablefortheirrespectivewelfareandbestinterests.Anyincomenotsopaidorusedisaddedtotrustprincipal.

Inthesametaxyear,thehusbandcreatedandfundedtwograntorretainedannuitytrusts(GRATs)(trust1andtrust2)forthebenefitofthehusbandduringtheannuityperiods.Whentheannuitytermsended,theremainingprincipalofthetrustsbecamepayabletothefamilytrust.Theendoftheannuitytermsrepresentedthecloseoftheestatetaxinclusionperiod(ETIP)forpurposesofchapter13oftheInternalRevenueCode.

Thehusbandandwifeeachfiledayear1Form709,UnitedStatesGift(andGeneration-SkippingTransfer)TaxReturn.Oneachformthehusbandandwifesignifiedtheirconsenttotreattheyear1giftstothefamilytrust,trust1,andtrust2ashavingbeenmadeone-halfbyeachspouseunderI.R.C.§2513.Eachtaxpayerattachedastatementtohisorheryear1Form709electingoutoftheautomaticallocationrulesofI.R.C.§2632(c)withrespecttothetransfertothefamilytrust.

Intaxyear2thehusbandfiledaForm709and,inanattachment,reportedthetransferofpropertyfromtrust1tothefamilytrust.

Intaxyear3thehusbandcreatedandfundedtrusts3and4,alsoGRATs,forthebenefitofthehusbandduringtheannuityperiods.Whentheannuitytermsended,theremainingprincipaloftrusts3and4becamepayabletothefamilytrust.Thetaxpayerseachfiledayear3Form709,andthehusbandandwifesignifiedtheirconsenttotreattheyear3giftstotrust3andtrust4ashavingbeenmadeone-halfbyeachspouseunderI.R.C.§2513.

ThetaxpayershadnotfiledaForm709fortaxyear4toreportthetransferfromtrust3tothefamilytrustorthetransferfromtrust4tothefamilytrust.

AllyearsatissuearesubsequenttoAugust5,1997,andDecember31,2000.Theperiodoflim-itationsunder§6501hasexpiredwithrespecttotheyear1and2Forms709.Theperiodoflimita-tionshasnotexpiredwithrespecttotheyear3and4Forms709.

exclusionamountifthedecedentisthelast deceased spouseofthesurvivingspouseonthedateofdeathofthesurvivingspouse,andtheexecutorofthedecedent’sestate(ofthefirstspousetodie)electedportability[Treas.Reg.§20.2010-3(a)].

Theidentityofthelastdeceasedspouseisnotaffectedbyasubsequentmarriageordivorceif the surviving spouse isorwasmarried toanotherindividualwhoisliving.Ifasurvivingspousemarriesagain,andthatmarriageendsindivorceorannulment,thesubsequentdeathofthedivorcedspousedoesnotendthestatusofthepriordeceasedspouseasthelastdeceasedspouseofthesurvivingspouse.Inthatcasethedivorcedspouseisnotthelastdeceasedspousebecausetheywerenotmarriedatthetimeofthedeathofthesurvivingspouse[Treas.Reg.§20.2010-3(a)].

ThefinalregulationswereeffectiveJune12,2015[Treas.Reg.§20.2010-3(f)].

[T.D.9725,2015-26I.R.B.1122,80F.R.34279(June16,2015)]

DSUE

See pages 244–249 in this book for a discussion of the effect of the DSUE election on basis .


■☞ An election to split gifts by a husband and wife was irrevocable where the time for determining whether split gift treatment was effective had expired .

FactsIntaxyear1thetaxpayerhusbandcreatedafamilytrustforthebenefitofhiswifeandtheirdescendants.Thetrustinstrumentprovidesthatthetrusteemaypaytooruseforthebenefitofanyoneormoreofthehusband’sdescendantsandthespousesofhisdescendantssomuchoralloftheincomeandprincipalofthetrustinsuchpro-portionsasthetrustee,inthetrustee’sdiscretion,determinestoberequiredfortheirrespectivesupport,health,andeducation.Theindependenttrusteecanpaytooruseforthebenefitofanyoneormoreofthewife,thehusband’sdescen-dants,andhisdescendant’sspousessomuchoralloftheincomeandprincipalofthetrustinsuch


Estate and Gift Taxes 639

16

fromtrusts1and2tothefamilytrustwasalsoirrevocable.

Theyear3electiontosplitthegiftswasinef-fectiveunderTreas.Reg.§25.2513-1(b)(4),andtheassessmentlimitationsperiodhadnotexpired;therefore,thetaxpayerscouldstillrevoketheirelection.

[Ltr.Rul.2015-23-003(January28,2015)]

Frequently Asked Questions on Estate TaxesI.R.C.§2010

■☞ The IRS will no longer issue estate tax closing let-ters unless requested by the estate .

TheIRShasannouncedonitswebsitethatitwillissueestatetaxclosinglettersonlyonrequestforestatetaxreturns[Form706,UnitedStatesEstate(andGeneration-SkippingTransfer)TaxReturn]filedonorafterJune1,2015.TheIRSindicatedthatanestateshouldwaitatleast4monthsafterfilingthereturntomaketherequest.ForestatetaxreturnsfiledbeforeJune1,2015,theIRSwillgenerallycontinueitspracticeofissuingclos-ingletters.Theletterwillbeissuedwithin4to6monthsafterthereturnisfiled,providedthereturnisacceptedasfiledandhasnoothererrorsorspecialcircumstances.Ifareturnisselectedforauditorisreviewedforstatisticalpurposes,itwilltakemoretimetoissuetheclosingletter.

InsomecasestheIRSwillnotissueaclosingletterforareturnfiledafterJanuary1,2015,andbeforeJune1,2015.Figure 16.6liststhosecases.

Torequestaclosingletter,orforquestionsaboutestatetaxclosingletterrequests,contacttheIRSat866.699.4083.

[“Frequently Asked Questions on EstateTaxes,” www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Frequently

-Asked-Questions-on-Estate-Taxes#1]

AnalysisTreas.Reg.§25.2504-2(b)providesthatifthetimehasexpiredunderI.R.C.§6501withinwhichagifttaxmaybeassessedunderchapter12onthetransferofpropertybygiftmadeduringapreced-ingcalendarperiod,andthegiftwasmadeafterAugust5,1997,theamountofthetaxablegiftortheamountoftheincreaseintaxablegifts,forpurposesofdeterminingthecorrectamountoftaxablegiftsfortheprecedingcalendarperiods,istheamountthatisfinallydeterminedforgifttaxpurposes,andsuchamountmaynotbethereaf-teradjusted.Theruleinthisparagraphappliestoadjustmentsinvolvingallissuesrelatingtothegiftincludingvaluationissuesandlegalissuesinvolv-ingtheinterpretationofthegifttaxlaw.

UnderRev.Rul.56-439,1956-2C.B.605,ifagiftismadetoatrust,andpursuanttothetermsofthetrust,thetrusteehasdiscretiontodistributeincomeamongthedonor’sspouseanddescen-dants,thevalueofthespouse’srighttoreceivetheincomeorprincipalcannotbedetermined.Ifthevalueofthespouse’srighttoincomeandprin-cipalcannotbedetermined,thespouse’sinterestisnotseverablefromtheinterestsoftheotherbeneficiaries,andthegiftcannotbeconsideredtohavebeenmadeone-halfbythespouse.

Treas.Reg.§25.2513-1(b)(4)providesthattheconsenttosplitgiftsiseffectiveonlyifbothspousessignifytheirconsenttotreatallgiftsmadetothirdpartiesduringthatcalendarperiodbybothspouseswhilemarriedtoeachotherashavingbeenmadeone-halfbyeachspouse.Suchconsent,ifsignifiedwithrespecttoanycalendarperiod,iseffectivewithrespecttoallgiftsmadetothirdpartiesduringsuchcalendarperiodexceptifonespousetransferredpropertyinparttohisorherspouseandinparttothirdparties,inwhichcasetheconsentiseffectivewithrespecttotheinteresttransferredtothirdpartiesonlyinsofarassuchinterestisascertainableatthetimeofthegiftandseverablefromtheinteresttransferredtothespouse.

RulingTheIRSruledthattheelectiontosplitthegiftsinyear1wasirrevocablebecausethelimita-tionsperiodontheelectionhadexpiredunderI.R.C.§§2504(c)and6501.Theelectiontosplitthegiftsrelatingtothetransfersinyears2and3


640 FOREIGN TAX ISSUES

countryifitisattributabletoservicesperformedbyanindividualinaforeigncountryorcountries.Theplaceofreceiptofearnedincomeisimma-terialindeterminingwhetherearnedincomeisattributabletoservicesperformedinaforeigncountryorcountries.

Treas.Reg.§1.911-2(h)definesthetermfor-eign countryasanyterritoryunderthesovereigntyofagovernmentotherthanthatoftheUnitedStates,including,amongotherthings,theterrito-rialwatersoftheforeigncountryandtheairspaceovertheforeigncountry.

HoldingThe court held that the taxpayer could notexcludefromtaxableincomewagesearnedwhileflyingoverUSterritorialwatersorlandorwhileflyinginUSairspace.

[Rogers v. Commissioner,783F.3d320(D.C.Cir.2015)]

Health Care

Letter Ruling 2015-28-004I.R.C.§§106,3121,3306,and3401

■☞ Employer contributions made to a retiree health reimbursement arrangement (HRA) on behalf of eligible retirees, spouses, and eligible dependents for eligible medical expenses are excludable from the gross income of eligible retirees, and such contributions are not wages and are not subject to FICA taxes, FUTA taxes, or withholding .

Foreign Tax Issues

Rogers v. CommissionerI.R.C.§911

■☞ A flight attendant who worked on interna-tional flights to and from the United States was required to report as taxable income all income earned while working on flights in international or US airspace .

FactsThetaxpayerwasaUScitizenlivinginHongKongandwasemployedasaflightattendantoninternationalflightstoandfromtheUnitedStates.Thetaxpayerexcludedallofherincomefrom taxable income.The IRSasserted thatincomeearnedininternationalandUSairspace,andwhileonthegroundintheUnitedStates,wastaxableincome.

Althoughtheairlineprovidedthetaxpayerwithanapportionmentofherestimateddutytimebetweenminutesspentinoroverforeigncountries,inorovertheUnitedStates,andoverinternationalwaters,thetaxpayerarguedthattheincomewasallsourcedfromherresidenceinHongKongandwasthereforeexcludableforeignincome.

AnalysisI.R.C.§911definesforeign earned incomeasearnedincomefromsourceswithinaforeigncountryorcountries.Treas.Reg.§1.911-3(a)providesthatearnedincomeisfromsourceswithinaforeign

FIGURE 16.6 Returns for Which No Closing Letter Will Be Issued

For estate tax returns filed after January 1, 2015, and before June 1, 2015

If And Then

The filing threshold was met

■■ No portability election was made, or■■ the portability election not denied, or■■ the portability election was denied due to a late filing

A closing letter will be issued

The filing threshold was not met

■■ No portability election was made, or■■ the portability election was not denied

A closing letter will be issued

■■ The portability election was denied due to a late filing No closing letter will be issued

The return was filed pursuant to Rev . Proc . 2014-18

■■ The portability election was not denied A closing letter will be issued

■■ The portability election was denied due to failure to meet the requirements

No closing letter will be issued


16

Foreign Tax Issues 641

expensesareforfeited.Iftheeligibleretireediesandhasnodependents,thesickleaveamountsareforfeited.Thereisnooptiontoreceivethevalueoftheunusedsickleaveinanyformotherthanasreimbursementofmedicalexpenses.

AnalysisUnderTreas.Reg.§1.61-21(a)(3)afringebenefitprovidedinconnectionwiththeperformanceofservicesisconsideredtohavebeenprovidedascompensationforsuchservices.Ifafringeben-efitisfurnishedtosomeoneotherthantheser-viceprovider,suchbenefitistreatedasifitwasfurnishedtotheserviceprovider,andingeneral,ataxablefringebenefitisincludedintheincomeofthepersonperformingtheservicesforwhichthefringebenefitisfurnished[Treas.Reg.§1.61-21(a)(4)].

Treas.Reg.§1.61-21(b)(1)providesthatanemployeemustincludethefairmarketvalue(FMV)ofthefringebenefitingrossincome.

I.R.C.§106(a)providesthatthegrossincomeofanemployeedoesnotincludeemployer-pro-videdcoverageunderanaccidentorhealthplan.Treas.Reg.§1.106-1statesthatthegrossincomeofanemployeedoesnotincludecontributionsthathisorheremployermakestoanaccidentorhealthplanforcompensation(throughinsur-anceorotherwise)totheemployeeforpersonalinjuriesorsicknessincurredbytheemployee,theemployee’sspouse,ortheemployee’sdepen-dentsasdefinedinI.R.C.§152.Theemployermaycontributetoanaccidentorhealthplaneitherbypayingthepremiumonapolicyofacci-dentorhealthinsurancecoveringoneormoreoftheemployees,orbycontributingtoaseparatetrustorfundthatprovidesaccidentorhealthben-efitsdirectlyorthroughinsurancetooneormoreemployees.However,iftheinsurancepolicy,trust,orfundprovidesotherbenefitsinadditiontoaccidentorhealth,I.R.C.§106appliesonlytotheportionofthecontributionsallocabletoacci-dentorhealthbenefits.

I.R.C.§§3121(a)(2)and3306(b)(2)providethatthetermwagesdoesnotincludeanypaymentmadetooronbehalfofanemployee,oranyofhisorherdependents,formedicalorhospitalizationexpenses.I.R.C.§3401(a)providesthatforpur-posesoffederalincometaxwithholding,wagesmeansallremunerationforservicesperformedbyanemployeeforhisorheremployer,includ-ingthecashvalueofanybenefits.However,

FactsThetaxpayerprovidedhealthcoveragetoeligibleretirees,theirspouses,theirregistereddomesticpartners,andtheirdependentsthroughachoiceofhealthplans.Uponretirement,eligibleretireesgenerallypaidpremiumsforthehealthcoveragewiththeirownafter-taxfunds.Someretireeswerealsoeligibletohaveaportionoftheiraccumu-latedunusedsickleaveatretirementconvertedtoacontributionfromtheemployertopayforthehealthinsurancepremiums.Contributionswereuniformandbasedonhoursofsickleaveavailableforconversionandtheclassofretireecoverage(e.g.,retiree-onlycoverage,retiree-plus-dependent,retiree-plus-family).

ThetaxpayerestablishedanHRAforthebenefitofeligibleretirees,theirspouses,theirregistereddomesticpartners,andtheirdepen-dents.Eligibleemployeeshiredbeforeacertaindatecouldmakeanelectionatretirementtopar-ticipateineither(1)theexistinghealthplanswithpremiumsfunded,inpart,bymandatorysickleaveconversion,or(2)aretireeHRAfundedbymandatoryconversionofaccumulatedunusedsickleaveatretirement.RetireeHRAamountsareuniformandbasedonhoursofsickleaveavailableforconversion,classofretireecoverage,andMedicareeligibility.Theelectiontowaivecoverageundertheexistinghealthplansgener-allymaynotbechanged.Noothercontributions,otherthanthesickleaveconversion,aremadetotheretireeHRA.

ThetaxpayerrepresentedthattheamountsintheretireeHRAmaybeusedonlytoreimbursehealthinsurancepremiumsandmedicalexpensesasdefinedinI.R.C.§213.TheretireeHRAwillnotpayclaimsforaregistereddomesticpart-ner’smedicalexpenses,norwilltheretireeHRAreimburseaspouse’sgrouphealthinsurancethatwaspaidwithpretaxdollars.Thetaxpayerrep-resentedthatundernocircumstancemaytheeligibleretireeoranybeneficiaryreceiveanycon-versionamountsatanytimeincashorotherben-efits.Followingaretiree’sdeath,unusedamountscontinueforthebenefitoftheretiree’sspouse,registereddomesticpartner,andeligibledepen-dents(childrenunder26).Thebenefitscontinueuntilalleligiblesickleavehasbeenconverted;thedeathofthesurvivingspouse,registereddomes-ticpartner,andeligibledependents;oranelec-tiontonotcontinuetheprogram,atwhichtimeanyamountsnotappliedtoreimbursemedical


642 INDIVIDUAL ISSUES

capitalizedintotheproperty’sbasis.Thetax-payerswereunabletodevelopthepropertyandusedaportionofthemedicalbuildingfortheirbusinessactivities.Beforethepropertycouldbedeveloped,thetaxpayerssoldthepropertytoanunrelatedthirdparty.

Thetaxpayersclaimedthegainfromthesaleascapitalgain,buttheIRScontendedthatthesaleproducedordinaryincome.

AnalysisUnderI.R.C.§1221(a)(1)propertyisnotacapi-talassetifitisheldbythetaxpayerprimarilyforsaletocustomersintheordinarycourseofhisorhertradeorbusiness.I.R.C.§1221(a)(2)providesthatacapitalassetdoesnotincluderealpropertyusedinthetaxpayer’stradeorbusiness.

TheTaxCourtlistedseveralfactorstodeter-minewhetherataxpayerheldpropertyprimar-ilyforsaletocustomersintheordinarycourseofbusiness,includingthefollowing:

1.Thepurposeforwhichthepropertywasini-tiallyacquired

2.Thepurposeforwhichthepropertywassub-sequentlyheld

3.Theextenttowhichimprovements,ifany,weremadetothepropertybythetaxpayer

4.The frequency, number, and continuityofsales

5.Theextentandnatureofthetransactionsinvolved

6.Theordinarybusinessofthetaxpayer7.Theextentofadvertising,promotion,or

otheractiveeffortsusedinsolicitingbuyersforthesaleoftheproperty

8.Thelistingofpropertywithbrokers9.Thepurposeforwhichthepropertywasheld

atthetimeofsale

TheTaxCourtdeterminedthatthetaxpayersheldthepropertyprimarilyforsaletocustom-ersintheordinarycourseofbusinessbasedonthefindingsthatthesaleofthepropertyoccurredinthenormalcourseofthetaxpayers’business,thetaxpayersheldthepropertyfordevelop-mentpurposesbasedontheirsubstantialinvest-mentindevelopmentcosts,thetaxpayersdidnotimprovethepropertybeforethesale,thetaxpayersexpectedtoreceivedevelopmentprof-its,andthetaxpayershadmadesubstantialand

Rev.Rul.56-632,1956-2C.B.101,holdsthatwhenpremiumspaidbyanemployerunderpoli-ciesprovidinghospitalandsurgicalservicesareexcludablefromemployees’grossincomeunderI.R.C.§106,theamountspaidbytheemployerarenotsubjecttofederalincometaxwithholding.

RulingTheIRSruledthatthetaxpayercontributionstotheretireeHRAonbehalfofeligibleretirees,spouses,andeligibledependents,whichareusedexclusivelytopayforeligiblemedicalexpenses,areexcludablefromthegrossincomeofeligibleretireesunderI.R.C.§106.Thetaxpayercon-tributionsmadetotheretireeHRAonbehalfofeligibleretirees,spouses,andeligibledependentsarenotwagesandarenotsubjecttoFICAtaxesunderI.R.C.§3121(a),FUTAtaxesunderI.R.C.§3306(b),orincometaxwithholdingunderI.R.C.§3401(a).ThetaxpayercontributionsmadetotheretireeHRAthatareusedtoprovidemedi-calcoverageforregistereddomesticpartnersofeligibleretirees(e.g.,healthinsurancepremiums)areincludedinthegrossincomeofeligibleretir-eesunderI.R.C.§61.

[Ltr.Rul.2015-28-004(April6,2015)]

Individual Issues

Capital Gains

Fargo v. CommissionerI.R.C.§1221

■☞ The gain from the sale of commercial property from one of the taxpayers’ entities to their other entity produced ordinary gain because the tax-payers held the property for sale in the ordinary course of business .

FactsThetaxpayers,husbandandwife,ownedseveralentitiesthatoperatedarealestatebusiness.Oneofthetaxpayers’corporationsacquiredalease-holdonabusinesspropertythatwaseventuallypurchasedbythetaxpayers’limitedpartnership.Thepropertyinitiallycontainedonlyamedicalbuilding,buttheleaseholdrequiredthetaxpayerstodevelopthepropertyforresidentialuse.Thetaxpayersincurreddevelopmentcoststhatwere


Individual Issues 643

16

removedthetaxpayerfromdesignationasaben-eficiaryoftheestate.

HoldingTheUSdistrictcourtrejectedthecharacteriza-tionofthesetoftransactionsasatransfertoanonbeneficiaryoftheestate.Itheldthatthesub-stanceofthetransactionswasatransferofapor-tionofthedecedent’sestatefromtheexecutortothetaxpayerwhowasabeneficiaryoftheestate.Therefore,thecourtheldthatthecreditwasprop-erlydisallowed.[Menges v. Commissioner,114A.F.T.R.2d(RIA)2014-6514(M.D.Penn.2014)]

Saenz v. Commissioner I.R.C.§§24,32,and152

■☞ The taxpayer’s adult child and minor grandchild were the taxpayer’s dependents .

FactsOnthe taxpayer’s2011return, the taxpayerclaimedanadultchildandthechild’sminordaughterasdependents,claimed theearnedincometaxcreditbasedonthedependencyoftheadultchildandgranddaughter,andclaimedtheadditional child tax creditbasedon thedependencyofthegranddaughter.ThechildandgranddaughterlivedwithandweresupportedbythetaxpayerfromJanuary2011throughAugust2011.Fortheremainderof2011,theadultchildandgranddaughter livedwithsomeonewhoclaimedtobeacommonlawspouseoftheadultchild.ThethirdpartytestifiedthathehadagreedtobemarriedtotheadultchildinApril2012whentheysignedtheirjointreturnfiledfor2011.

AnalysisOneissueinthecasewaswhethertheadultchildandthethirdpartyweremarriedin2011.UnderI.R.C.§152(c)(1)(E),adependentmustbeaqual-ifyingchildofthetaxpayer,andthedependentcannothavefiledajointreturnwiththedepen-dent’sspouseunderI.R.C.§ 6013forthesametaxyearforwhichthetaxpayerisclaimingthedependentasaqualifyingchild.Thus,iftheadultchildwasmarriedduringanypartof2011,theadultchildwasnotaqualifyingchildofthetax-payer,andthetaxpayercouldnotclaimtheadultchildasadependent,claimtheearnedincome

continuouseffortstodevelopthepropertyuptothetimeofsale.

HoldingThecourtheldthatthegainfromthesaleofcom-mercialpropertywasordinaryincomebecausethetaxpayersheldthepropertyforsaleandsoldthepropertyintheordinarycourseofbusiness.

[Fargo v. Commissioner,T.C.Memo.2015-96]

Credits

Estate of Menges v. CommissionerI.R.C.§36

■☞ The beneficiary of an estate could not claim the first-time homebuyer credit after disclaiming her interest and then acquiring the inherited home from the other beneficiaries .

FactsThetaxpayerwasabeneficiaryofhergrand-mother’sestatethatincludedaninterestinthegrandmother’sresidence.Thetaxpayer’sfatherwastheexecutoroftheestate.Priortoaccept-ingtheinheritance,thetaxpayerdisclaimedherinterestintheresidence,causingtheinterestsinthehometopasstoonlyherfatherandhertwobrothers.

Herbrothersandfatherthenexecuteddeedstotransferthehometothetaxpayerinexchangeforliensonthepropertytosecureloanstothetaxpayer.However,thetaxpayerdidnotactuallyborrowanymoney.

Sheclaimedthefirst-timehomebuyercreditforthe“purchase”ofthehome.Shesubsequentlydied,andtheIRSassessedherestateforincometaxesresultingfromdisallowanceofthecredit.

AnalysisForpurposesofthefirst-timehomebuyercredit,I.R.C.§36(c)(3)(A)definedthetermpurchaseas“anyacquisition,butonlyif...thepropertyisnotacquiredfromapersonrelatedtothepersonacquiringsuchproperty.”Thedefinitionofrelated personsincludesanexecutorofanestateandabeneficiaryofsuchestateexceptinthecaseofasaleorexchangeinsatisfactionofapecuniarybequest[I.R.C.§§36(c)(5)and267(b)(13)].

Theestatearguedthatthetaxpayer’sdis-claimingtheinterestinhergrandmother’shome



Deductions: Charitable

Kunkel v. CommissionerI.R.C.§170A

■☞ Charitable deductions for noncash donations were disallowed for failure to substantiate the tax basis, description, and value of the donated property .

Facts Thetaxpayers,husbandandwife,claimed$42,455incharitabledeductions.Ofthatamount,$5,140wasincashcontributionsandtherestwerenon-cashcontributions.TheIRSdisallowedtheentiredeductionforthenoncashcontributionsforlackofsubstantiation.

The allegednoncash contributionswerevariousitemsofpersonalpropertydonatedtochurches,Goodwill,andtwoveteransupportorganizations.Thetaxpayersdidnotpresentanyreceiptsfromtheorganizationsitemizingthedonations,valuingtheitemsdonated,orstatingthatthetaxpayersdidnotreceiveanythinginconsiderationforthecontributions.Althoughthetaxpayersmaintainedlistsoftheitemsdonated,thevaluesassignedtotheitemsweredeterminedbythetaxpayersbutdidnotcontainanyinforma-tionastotheincometaxbasisofeachitem.

Analysis Forallcontributionsof$250ormore,thetax-payergenerallymustobtainacontemporaneouswrittenacknowledgmentfromthedonee[I.R.C.§170(f)(8)].Separatecontributionsoflessthan$250arenotsubjecttotherequirementsofI.R.C.§170(f)(8),regardlessofwhetherthesumofthecontributionsmadebyataxpayertoadoneeorganizationduringataxableyearequals$250ormore[Treas.Reg.§1.170A-13(f)(1)].

Additional substantiation requirementsare imposed for contributions of propertywithaclaimedvalueexceeding$500[I.R.C.§170(f)(11)(B)].Stillmorerigoroussubstan-tiationrequirements,includingtheneedforaqualifiedappraisal,areimposedoncontribu-tionsofpropertywithaclaimedvalueexceeding$5,000[I.R.C.§170(f)(11)(C)].“Similaritemsofproperty”donatedtooneormoredoneesmustbeaggregated indeterminingwhether giftsexceedthe$500and$5,000thresholds[I.R.C.§170(f)(11)(F)].Thetermsimilar items of property

taxcreditfortheadultchild,orclaimtheaddi-tionalchildtaxcreditforthegranddaughter.

Thesecondissuewaswhetherthegrand-daughterwasaqualifyingchildofthetaxpayerortheadultchild,thegranddaughter’smother.UnderI.R.C.§152(c)(1),thegranddaughterwasaqualifyingchildofthetaxpayerandtheadultchildbecause

1.thegranddaughterlivedwiththetaxpayerandtheadultchildformorethanone-halfofthetaxyear,

2.the granddaughter was the child of theadultchildandthelinealdescendantofthetaxpayer,

3.thegranddaughterwasaminorduring2011,4.shedidnotprovidemorethanone-halfofher

ownsupportin2011,and5.shewasnotmarriedanddidnotfileajoint

returnfor2011.

The t i e -b reaker ru le under I .R .C .§152(c)(4)(A)providesthatifanindividualmaybeclaimedasaqualifyingchildbytwoormoretaxpayersforataxyear,suchindividualshallbetreatedasthequalifyingchildofthetaxpayerwhoistheparentoftheindividual.However,I.R.C.§152(b)(1)providesthatifanindividualisadependentofataxpayerforanytaxyear,thatindividualshallbetreatedashavingnodepen-dentsforthatyear.Thus,theadultchildwasbarredfromclaimingthegranddaughterasadependentbecausetheadultchildwasadepen-dentofthetaxpayer.

HoldingThecourtheldthatthechildandgranddaughterwereeligibledependentsofthetaxpayerbecause

1.theadultchildandcommonlawspousedidnotbecomemarrieduntil2012,whenthetaxreturnwassigned;and

2.theadultchildcouldnotclaimthegrand-daughterasadependentbecausetheadultchildwasclaimedasadependentonthetax-payer’sreturn.

[Saenz v. Commissioner,T.C.SummaryOpinion2015-6]



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didnotknowthatthepropertywouldnotsupport25residencesduetowaterpercolationissues.

ThecountyrefusedtosignForm8283,Non-cashCharitableContributions,becausethetax-payersdidnotsubmitan opinionofaqualifiedtaxprofessionaladdressing“theabilitytotakeacharitablecontributiondeductionundersection170(h).”Thecountyalsorequiredaqualifiedappraisalandconfirmationthatifthegrantoftheeasementdidnotaffecttheproperty’svalue,nocharitabledeductionwouldbeallowed.

Thetaxpayersfiledatimely2006returnonOctober15,2007,andincludedanunsignedForm8283.Theyclaimedacharitabledeductionfor$5.54million.

InMarch2008theappraiserpreparedanaddendumtotheoriginalappraisalthatstatedthatthepostgrantvalueofthepropertywas$5.54millionminusthe$2.56millionreceivedfromthesaleofthedevelopmentrights.ThecountysignedForm8283inMarch2008afterreceivingthetaxprofessionalopinionandtheamendedappraisal.ThetaxpayerthenfiledanamendedreturnwiththeForm8283andamendedappraisal.

TheIRSdisallowedthetaxpayers’charitabledeductionbecause

1.theappraisalwasnota“qualifiedappraisal,”2.theForm8283accompanyingthepetitioners’

returnwasnotavalid“appraisalsummary,”and

3.thetaxpayerslackeddonativeintentbecausetheeasementtheygrantedtothecountywaspartofaquidproquoexchange.

Analysis

Issue 1Acharitabledeductionisallowedforaquali-fiedconservationeasementcontribution[I.R.C.§170(f)(3)(A)].Wherethevalueofcontributedpropertyexceeds$500,000,nodeduction isallowedunlessthetaxpayerobtainsa“qualifiedappraisal”andattachesittohisorherreturn[I.R.C.§170(f)(11)(D)].AqualifiedappraisalisanappraisalthatisconductedbyaqualifiedappraiserinaccordancewithgenerallyacceptedappraisalstandardsandanyregulationsorotherguidanceprescribedbythesecretaryoftheTrea-sury[I.R.C.§170(f)(11)(E)(i)(II)].

isdefinedaspropertyofthesamegenericcate-goryortype,suchasclothing,jewelry,furniture,electronicequipment,householdappliances,orkitchenware[Treas.Reg.§1.170A-13(c)(7)(iii)].

Thecourtaggregatedmanyoftheitemsthetaxpayersclaimedtobedonatedintogroupssuchasjewelry,toys,andhouseholditems.Eachgrouphadatotalvalueexceeding$500.Somegroups,suchasclothing,books,andhouseholdfurniture,hadanaggregatevalueexceeding$5,000.Thecourtfoundthatthetaxpayershadnotmetanyofthesubstantiationrequirementsbecausethetaxpayershadnorecordofthecostofeachitem,howeachitemwasacquired,adescriptionoftheitems,thefairmarketvalue(FMV)oftheprop-ertywhendonated,andthevaluationmethodusedtodetermineFMV.

Holding Thetaxpayerscouldnotclaimacharitablededuc-tionfornoncashdonationsofusedpersonalitemswherethetaxpayersfailedtomaintainsufficientrecordsofthedonatedproperty.

[Kunkel v. Commissioner,T.C.Memo.2015-71]

Costello v. CommissionerI.R.C.§170

■☞ A charitable deduction was disallowed for a grant of a conservation easement for failure to submit a qualified appraisal of the easement .

FactsThetaxpayers,husbandandwife,purchaseda74-acrefarminMarylandandmadeimprove-mentstothehomeandbuildings.Underlocalzoninglawsthetaxpayerswereabletograntaconservationeasementonthepropertyandsellthedevelopmentrightstoathirdpartyforuseonotherproperty.Thetaxpayers’farmpropertyhaddevelopmentrightsthatallowedupto25residencestobebuiltontheproperty.In2006thetaxpayersfoundathirdpartytopurchasethedevelopmentrightsandthengrantedthecon-servationeasementtothecounty.Thetaxpayersobtainedanappraisalofthepropertytodeter-mineitsvaluebeforeandafterthegrantoftheconservationeasement;however,theappraiserdidnotknowabouttheeasementgrant,didnotknowthattheeasementgrantwasaconditionforthetaxpayers’saleofthedevelopmentrights,and



totransferalldevelopmentrightsdirectlytothecountybydonationorsale.

Thetaxpayersarguedthatthetwotransac-tionsshouldbecollapsedintoasingledonationoftheeasementandsaleofthedevelopmentrightstothecounty.Thecourtrejectedthisinterpreta-tionofthetransactionsbecausethetaxpayershadotherwaystostructurethetransactions,andtheychosetheeasementandsaleoption.

Holding

Issue 1Thecourtheldthattheappraisalwasnota“quali-fiedappraisal”becauseitfailedtocontainenoughinformationaboutthepropertyfortheIRStomakeadeterminationastothequalificationoftheeasementforacharitablededuction.

Issue 2Thecourtheldthatthe“appraisalsummary”onForm8283submittedwiththeincometaxreturnwasincompleteandnotsignedordatedbythedonee.

Issue 3Thecourtheldthatthetaxpayerwasnotallowedacharitabledeductionbecause the taxpayerreceivedconsiderationaspartofthegrantoftheeasement.

[Costello v. Commissioner,T.C.Memo.2015-87]

Mitchell v. CommissionerI.R.C.§170A

■☞ An easement was not a qualified conservation contribution because a deed of trust was not subordinate to the easement .

FactsIn1998thetaxpayers,husbandandwife,pur-chased456acresofranchland.Adeedoftrustsecuredaninstallmentagreementforthepur-chase.Thetaxpayersbuiltahomeontheland.In2002thetaxpayersformedafamilylimitedliabil-itylimitedpartnership(FLLLP)andtransferredtheentirepropertytoit,subjecttothedeedoftrust.In2003theFLLLPgrantedaconservationeasementon180acresofthepropertytoachari-tableorganization.Theeasementrestrictedthepropertyforuseasanopenspace;forwildlife;

TheIRSarguedthattheappraisalwasnotqualifiedbecauseitfailedtoincludethreeoftherequiredelements:

1.An accurate description of the propertycontributed

2.Thedateofthecontribution3.Thesalienttermsoftheagreementsamong

thecounty,thetaxpayer,andthepurchaserofthedevelopmentrights

Thecourtheldthattheamendedincometaxreturnappraisalandformscouldnotbecon-sideredbecausetheywerenotfileduntilmorethan5monthsaftertheextendedduedateoftheoriginalreturn.Thus,thecourtlookedonlyattheappraisalsubmittedwiththeoriginalincometaxreturn.

Onthefirstelementthecourtheldthattheappraisalfailedtodescribetheconservationease-mentorevenmentionaneasement;therefore,theappraisaldidnotprovideanaccuratedescrip-tionofthepropertyappraisedordonated.Onthesecondelementthecourtheldthattheappraisalmadenomentionofthecontributiondate.Onthethirdelementthecourtheldthattheappraisalmadenomentionofthesaleofthedevelopmentrightsorthegrantoftheeasementtothecounty.

Issue 2Anytaxpayerclaimingadeductionforacon-tributionofpropertywithavaluethatexceeds$5,000mustalsoattachtohisorherreturnafullycompletedappraisalsummary[Treas.Reg.§1.170A-13(c)(2)].AnappraisalsummaryonForm8283must(amongotherthings)besignedanddatedbythedonee,andmustsetforthspeci-fiedinformation,includingastatementexplain-ingtheamountofanyconsiderationreceivedfromthedoneeforthecontribution.

ThecourtfoundthattheoriginaltaxreturndidnotincludeForm8283signedanddatedbythedonee,anditdidnotincludeastatementidentifyinganyamountreceivedbythetaxpayerinconsiderationforthegrantoftheeasement.

Issue 3Underthecounty’srulesataxpayerwhomakesagrantofaconservationeasementmaysellthedevelopmentrightstoanotherpartyforuseonlandnotsubjecttoaconservationeasement.Thesamerulesalsoallowedthetaxpayertochoose



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deduction;therefore,thecharitabledeductionwasproperlydenied.

[Mitchell v. Commissioner,775F.3d1243(10thCir.2015)]

Bosque Canyon Ranch, L.P. v. CommissionerI.R.C.§170A

■☞ An easement was not a qualified conserva-tion contribution granted in perpetuity because the easement allowed the grantors the right to change the boundaries of the easement .

FactsThetaxpayersweretworelatedlimitedpartner-shipsthateachowned50%ofa3,744-acreranch.Eachtaxpayergrantedaconservationeasementoverits50%of theproperty.Eacheasementprovidedthatthegrantorretainedvariousrightsrelatingtotheproperty,includingrightstoraiselivestock;hunt;fish;trap;cutdowntrees;andconstructbuildings,recreationalfacilities,skeetshootingstations,deerhuntingstands,wildlifeviewingtowers,fences,ponds,roads,trails,andwells.Theeasementsalsoprovidedthatthelotownersandgranteecouldagreetomodifytheboundariesofthepropertynotsubjecttotheeasementsolongasthetotalamountofpropertysubjecttotheeasementwasnotdecreased.

TheIRSclaimedthatthegrantswerenoteffectiveinperpetuitybecausethelandsubjecttotheeasementcouldchangeovertime,andtheIRSdeniedadeductionforthevalueofthecon-servationeasements.

AnalysisAtaxpayermaydeductthevalueofacontributionofapartialinterestinpropertyifthecontributionconstitutesaqualifiedconservationcontribution[I.R.C.§170(f)(3)(B)(iii)].Ingeneral,aquali-fiedconservationcontributionisacontributionofaqualifiedrealpropertyinteresttoanI.R.C.§501(c)(3)organizationexclusivelyforconser-vationpurposes[I.R.C.§170(h)(1),(3)(B)].Aqualifiedrealpropertyinterestincludesarestric-tion(grantedinperpetuity)ontheusethatmaybemadeoftherealproperty[I.R.C.§170(h)(2)(C)].Sucharestrictionmayincludeaneasementrelatingtorealproperty[Treas.Reg.§1.170A-14(b)(2)].

andforagriculturalpurposes,includingagricul-turalbusinesses.Atthetimeofthegrantoftheeasementin2003,the180acresweresubjecttothedeedoftrust.Thedeedoftrustholderdidnotsignasubordinationagreementuntil2005.TheIRSdeniedacharitabledeductionfortheease-mentfor2003,arguingthattheeasementwasnotgrantedinperpetuityatthetimeofthegrantbecausethesubordinationagreementwasnotsignedbythedeedoftrustholderin2003,theyearofthegrantoftheeasement.

AnalysisInordertoqualifyforacharitablededuction,aqualifiedconservationeasementcontributionmustbemadeexclusivelyforconservationpur-poses.I.R.C.§170(h)(5)(A)statesthatacontribu-tionisnotexclusivelyforconservationpurposesunlesstheconservationpurposeisprotectedinperpetuity.Treas.Reg.§1.170A-14(g)(2)providesthatadeductionisnotpermittedforaninterestthatissubjecttoamortgageunlessthemortgageesubordinatesitsrightstotherightofthequalifiedorganizationtoenforcetheconservationpur-posesinperpetuity.Treas.Reg.§1.170A-14(g)(3)allowsacharitabledeductionifthepossibil-itythatacharitableinterestwillbedefeatedissoremoteastobenegligible.Theregulationincludesanexampleofastate’sstatutoryrequire-mentthatuserestrictionsmustbererecordedevery30yearstoremainenforceable.

TheIRSarguedthattheeasementwasnotaqualifiedconservationcontributionbecausethetaxpayersdidnotsatisfythesubordinationrequirementatthetimetheeasementwasgranted.Thetaxpayersarguedthat theprobabilityofdefaultonthepromissorynotewassoremoteastobenegligibleandshouldbedisregardedindeterminingwhethertheconservationeasementwasenforceableinperpetuityatthetimeitwasgranted.TheTaxCourtheldthattherequire-mentsofthesubordinationregulationarestrictrequirementsthatmaynotbeavoidedbyuseofthe“soremoteastobenegligible”standard.

HoldingTheTenthCircuitCourtofAppealsaffirmedtheTaxCourtholdingthatthetaxpayersmustsatisfybothrequirementsofTreas.Reg.§1.170A-14(g)(2) and (3) in order for the easement to begrantedinperpetuityandeligibleforacharitable



thepenaltyisincreasedto40%oftheunderpay-ment[I.R.C.§6662(h)].Ifanyvalueisclaimedonareturnofpropertywithacorrectvalueofzero,themisstatementisconsideredtobe400%ormoreofthecorrectamount,andtheapplicablepenaltyis40%[Treas.Reg.§1.6662-5(g)].

I.R.C.§6664(c)providesrelieffromthepen-altyifthetaxpayercanshowthattherewasarea-sonablecausefortheunderpaymentoftaxandthatthetaxpayeractedingoodfaith.Thepen-altyalsodoesnotapplyiftheclaimedvalueofthepropertywasbasedonaqualifiedappraisalmadebyaqualifiedappraiser,andinadditiontoobtainingsuchappraisal,thetaxpayermadeagoodfaithinvestigationofthevalueofthecon-tributedproperty.

TheTaxCourtheldthatthe40%penaltyappliedbecause,althoughthetaxpayershadobtainedaqualifiedappraisalmadebyaqualifiedappraiser,thetaxpayersfailedtomakeagoodfaithinvestigationofthevalueoftheeasement.

TheTaxCourtfoundthatthedoneetoldthetaxpayersthatthegrantoftheeasementwouldhavenoeffectonthevalueoftheirresidence.Thetaxpayersdidnotinvestigatetheinconsistencybetweentheappraisalandthenewinformation,andthecourtheldthatthetaxpayersdidnotmakeagoodfaithinvestigationofthetruevalueoftheeasement.

TheappellatecourtaffirmedtheTaxCourt’sruling.

HoldingTheimpositionofapenaltyof40%oftheunder-paidtaxwasproperwherethetaxpayersdidnotmakeagoodfaithinvestigationastothevalueofadonatedeasement.

[Kaufman v. Commissioner,784F.3d56(1stCir.2015)]

Deductions: Home Mortgage Interest

Copeland v. CommissionerI.R.C.§163

■☞ Accrued interest that is added to a mortgage loan’s principal is not currently deductible .

Cashbasistaxpayerspurchasedaresidencein1991withamortgageloan.In2010theloanwasmodified,andunpaidbutdueinterestonthe

Thetaxpayersarguedthattheeasementsdidnotviolatetheperpetuityrequirementbecauseanymodificationstotheboundariesoftheparcelsweresubjecttothereasonablejudgmentofthecharitableorganization,theexteriorboundariesofthepropertysubjecttotheeasementscouldnotbemodified,andtheoverallamountofpropertysubjecttotheeasementscouldnotbedecreased.

Thecourtdisagreed,notingthatthepropertyinvolvedintheeasementwasnotfixedbecausetheboundariesofthepropertiessubjecttotheeasementcouldbechanged.Thepropertysub-jecttotheeasementononedaycouldbenotsub-jecttotheeasementonanotherday.

HoldingThecourtheldthatthegrantsoftheeasementswiththeretainedrighttochangetheboundariesofthelandsubjecttotheeasementswerenoteli-gibleforacharitabledeductionbecausetheease-mentswerenotgrantedinperpetuity.[Bosque Canyon Ranch, L.P. v. Commissioner,T.C.Memo.2015-130]

Kaufman v. Commissioner I.R.C.§6664

■☞ Underpayment of tax from disallowance of a charitable deduction gave rise to a 40% penalty where the taxpayer failed to make a good faith investigation into the true value of the easement donated .

FactsThetaxpayers,husbandandwife,claimedacharitabledeductionforthegrantofahistoricpreservationfacadeeasementontheirresidence.TheTaxCourtdeniedthecharitabledeductionbecausethecourtfoundthatthevalueoftheease-mentwaszero.Thecourtimposeda40%accu-racy-relatedpenaltyformakingagrossvaluationmisstatement.

AnalysisI.R.C.§6662imposesapenaltyequalto20%ofanyunderpaymentofincometaxdueto,amongotherthings,negligenceordisregardofrulesorregulations,anysubstantialunderstatementofincometax,oranysubstantialvaluationmisstate-ment.Inthecaseofagross valuation misstatement,definedasa400%ormoreoverstatementofthevalueofanypropertyclaimedonataxreturn,



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entitledtoclaimthemortgageinterestdeduc-tiontotheextentofthemortgageinterestpaidbyeithertaxpayer.Ifthemortgageinterestispaidfromseparatefunds,eachtaxpayermayclaimthemortgageinterestdeductionpaidfromeachone’sseparatefunds.Ifthemortgageinterestispaidfromajointbankaccountinwhicheachhasanequalinterest,Rev.Rul.59-66,1959-1C.B.60,providesthateachtaxpayerispresumedtohavepaidanequalamountabsentevidencetothecontrary,andeachisentitledtoadeductionforone-halfoftheinterest.

Inthethirdscenariovariouscombinationsoftworelativesco-ownahouse,withoneorbothliableonamortgage.AbankmayissueaForm1098underthenameofoneorbothoftheco-owners.TheIRSruledthataco-ownermaydeductashareoftheinterestpaymentseventhoughtheco-ownerwasnotdirectlyliableonthemortgage[Treas.Reg.§1.163-1(b)].

[C.C.A.2014-51-027(October1,2014)]

Voss v. CommissionerI.R.C.§163

■☞ Unmarried co-owners can each deduct interest on up to $1,000,000 of home acquisition debt and $100,000 of home equity debt .

FactsForthe2006and2007taxyears,twounmar-riedco-ownersofrealpropertyeachclaimedahomemortgageinterestdeductionunderI.R.C.§163(h)(3),whichallowstaxpayerstodeductinterestonupto$1,000,000ofhomeacquisitiondebtand$100,000ofhomeequitydebt.Afteranaudit,theIRSdeterminedthatthetaxpayerswerejointlysubjecttotheI.R.C.§163(h)(3)$1,000,000and$100,000debtlimitsandthusdisallowedasubstantialportionoftheirclaimeddeductions.ThetaxpayerschallengedtheIRS’sassessmentinTaxCourt,arguingthatthestatute’sdebtlimitsapplypertaxpayer,andthattheywereentitledtodeductinterestonupto$1,100,000ofhomedebteach.

AnalysisI.R.C.§163governsthedeductibilityofinterestonataxpayer’sindebtedness.I.R.C.§163(h)(3)providesthatinterestonaqualifiedresidenceisnotpersonalinterestand,accordingly,maybedeductedbytaxpayerswhoarenotcorporations.

originalloanwasaddedtotheprincipalofthenewloan.Thetaxpayersclaimedtheunpaidbutdueinterestaspartoftheirtotaldeductionforqualifiedmortgageinterest,buttheIRSdeniedthedeductionfortheinterestaddedtotheloanprincipal.

TheTaxCourtheldthattheaccruedinter-estwasnoteligibleforthedeductionbecausethetaxpayersdidnotactuallypaythatinterest.Thecourtnotedthattheinterestwillbedeductiblewhenthemortgageloanispaidoff.Thecourtalsodiscussedtherulethatiftheinteresthadbeenpaidbythetaxpayersafterobtainingaloanfromathirdparty,theinterestwouldbedeductible,butbecausetheinterestinthiscasewasaddedtothesameloan,itwasnotcurrentlydeductible.

[Copeland v. Commissioner,T.C.Memo.2014-226]

Chief Counsel Advice 2014-51-027I.R.C.§163

■☞ Co-owners of a residence and a joint bank account may deduct equal shares of the mort-gage interest payments made from the joint account if they file separately .

Achiefcounseladviceletterdiscussesthreesce-nariosinvolvingthedeductibilityofmortgageinterest.

Inthefirstscenariothetaxpayerswereamarriedcouplewhowerejointlyandseverallyliableonamortgage.Onespousediedduringthetaxyear,andthebankissuedaForm1098,MortgageInterestStatement,underthedeceasedspouse’ssocialsecuritynumber.Federaltaxlawdirectsthatifthesurvivingspousefiledasepa-ratereturnfortheyearofdeath,thedecedent’sreturnshouldincludeincomeanddeductionstothetimeofdeath.IRScounseladvisedthatifthedecedentpaidthemortgageinterestfromajointaccountbeforedeath,thedecedent’sreturnshouldreflectone-halfoftheinterestpaidfromthejointaccountbeforethetimeofdeathintheabsenceofevidencethatthepaymentwasmadewiththedecedent’sseparatefunds.

Inthesecondscenariothetaxpayerswereanunmarriedcouplewhowerejointlyandsev-erallyliableonamortgage.ThebankissuedaForm1098undereitheronlyonesocialsecuritynumberorboth.Oneorbothtaxpayersclaimthemortgageinterestdeductionontheirindividualreturns.IRScounseladvisedthatbecausebothtaxpayersareliableonthemortgage,bothare



co-owntheirhomesandarejointlyandsever-allyliableonanymortgagedebt.HadCongresswantedtodrafttheparentheticalsinper-residenceterms,doingsowouldnothavebeenparticularlydifficult.YetCongressdidnotdraftthestatuteinthatway.Theper-taxpayerwordingoftheparen-theticals,consideredinlightoftheparentheticals’useofthephrase“inthecaseof,”thussuggeststhatthewordingofthemainclause—inparticular,thephrase“aggregateamounttreated”—shouldlikewisebeunderstoodinaper-taxpayermanner.

Second,theparentheticalsdon’tjustspeakinper-taxpayerterms;theyoperateinaper-taxpayermanner.Theparentheticalsgiveeachseparatelyfilingspouseaseparatedebtlimitof$550,000sothat,together,thetwospousesareeffectivelyentitledtoa$1,100,000debtlimit(thenormallimitforsingletaxpayers).Theydonotsubjectbothspousesjointlytothe$550,000debtlimitspecifiedinthestatute.Weretheparentheti-calstoworkinthatway,theresultwouldbequiteanomalous.Ratherthanensuringthatamarriedcouplefilingseparatereturnsistreatedthesameasacouplefilingajointreturn,theparentheticals,underaper-residencereading,wouldresultindisparatetreatmentofmarriedcouplesfilingsep-aratereturns.Theseparatelyfilingcouplewouldhavea$550,000debtlimit,whereasthejointlyfil-ingcouple,andeventhesingleindividual,wouldhavea$1,100,000debtlimit.

Thisissurelynotwhatthestatuteintended,andwhattheTaxCourtortheIRSaresaying.Quitetothecontrary,bothacknowledgethattheparentheticals’lowerlimitsapplyperspouse—whichisjustanotherwayofsayingpertaxpayer.Andifthedebtlimitsforspousesfilingseparatelyapplyperspouse,thereisnoreasoninthestat-utewhythedebtlimitsforunmarriedindividualsshouldnotapplyperunmarriedindividual.Theper-taxpayeroperationofthedebtlimitsformar-riedindividualsfilingseparatelythussuggeststhatthegeneraldebtlimitsalsooperatepertaxpayer.

Third,andfinally,theveryinclusionoftheparentheticalssuggeststhatthedebtlimitsapplypertaxpayer.Itisawell-establishedruleofstatu-toryconstructionthatcourtsshouldnotinterpretstatutesinawaythatrendersaprovisionsuperflu-ous.Ifthe$1,100,000debtlimittrulyappliedperresidence,astheTaxCourthelditdoes,thepar-entheticalswouldbesuperfluous,astherewouldbenoneedtoprovidethattwospousesfilingsep-aratelyget$550,000each.Ifthe$1,100,000debt

TheCodedefinesqualified residenceasthetaxpay-er’sprincipalresidenceandoneotherresidenceofthetaxpayerthatisselectedbythetaxpayerforpurposesoftheinterestdeduction.Thus,I.R.C.§163allowsataxpayertodeducttheinterestpaidonamortgageorhomeequitylineofcreditforaprincipalresidenceandasecondhome.

Fortaxpayersotherthanmarriedindividualsfilingaseparatereturn,thedeductionislimitedtointerestpaidon$1,000,000ofmortgagedebtand$100,000ofhomeequitydebt.Ifthetaxpayer’shomeindebtednessexceeds$1,100,000,thenheorsheisentitledtodeductaportionoftheinter-est,determinedbytheratioofthestatutorydebtlimitdividedbythetotalactualdebt.Ifthetax-payerismarriedfilingaseparatereturn,thedebtlimitis$550,000.

Althoughthestatuteisspecificwithrespecttoamarriedtaxpayerfilingaseparatereturn,theCodedoesnotspecifywhether,inthecaseofco-ownerswhoarenotmarried,thedebtlimitsapplyperresidenceorpertaxpayer.Thatis,isthe$1,100,000debtlimitthelimitonthequalifiedresidence,irrespectiveofthenumberofowners,orisitthelimitonthedebtthatcanbeclaimedbyanyindividualtaxpayer?

Thehalf-sizeddebtlimitsapply“inthecaseofamarriedindividualfilingaseparatereturn.”Congress’suseofthephrase“inthecaseof”isimportant.Itsuggests,first,thattheparentheticalscontainanexceptiontothegeneraldebtlimitsetoutinthemainclause,notanillustrationofhowthatgeneraldebtlimitshouldbeapplied.Atthesametime,thephrase“inthecaseof”alsosug-gestsacertainparallelismbetweentheparenthet-icalandthemainclauseofeachprovision:otherthanthedebtlimitamount,whichdiffers,wecanexpectthatinallrespectsthecaseofamar-riedindividualfilingaseparatereturnshouldbetreatedlikeanyothercase.Itisthusappropriatetolooktotheparentheticalswheninterpretingthemainclauses’generaldebtlimitprovisions.Theseparentheticalsofferusatleastthreeusefulinsights.

First,theparentheticalsclearlyspeakinper-taxpayerterms:thelimitonacquisitionindebt-edness is“$500,000 in thecaseofamarriedindividualfilingaseparatereturn,”andthelimitonhomeequityindebtednessis“$50,000inthecaseofaseparatereturnbyamarriedindividual,”andtheyspeakinsuchtermseventhoughmar-riedindividualscommonly(andperhapsusually)



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thecourtfoundthatthetaxpayerhadanagree-mentwiththefamilymembersthatthetaxpayer’spaymentsofthemortgage,propertytaxes,andinsurancegavethetaxpayeranequitableinterestinthehome.

HoldingThetaxpayerwaseligibleforthehomemortgageinterestdeduction.

[Phan v. Commissioner,T.C.SummaryOpinion2015-1]

Deductions: Vacation Home

Redisch v. CommissionerI.R.C.§165

■☞ The taxpayers could not claim deductions related to their condominium because they did not make a bona fide attempt to rent or sell the condominium .

FactsThetaxpayers,husbandandwife,purchasedavacationhomecondominiuminaprivateocean-frontcommunityin2004.In2008thetaxpayersdecidedtorentthepropertyinsteadofusingitthemselves.Thetaxpayerslistedthepropertyforrentwitharealestatecompanythatwasdevel-opingpropertiesinthecommunity.Afterunsuc-cessfullytryingtorentthepropertyfor1year,thetaxpayersplacedthepropertyforsalein2009withadifferentbroker.Theysoldthepropertyin2010.

Ontheir2009and2010jointreturns,thetax-payersfiledScheduleE(Form1040),Supplemen-talIncomeandLoss,andincludeddeductionsforexpensesrelatingtotheproperty.Thetaxpayersreportedthelosstheyrealizedonsaleoftheprop-ertyasordinary.TheIRSassertedthattheprop-ertywasnotheldfortheproductionofincome,theScheduleE(Form1040)deductionswerenotallowed,andthesaleshouldhavebeenreportedasacapitalloss.

AnalysisAtaxpayercandeductallordinaryandneces-saryexpensespaidorincurredduringthetax-ableyear“forthemanagement,conservation,ormaintenanceofpropertyheldfortheproductionofincome”[I.R.C.§212(2)].

limitappliespertaxpayer,bycontrast,thepar-entheticalsactuallydosomething:theygiveeachseparatelyfilingspousehalfthedebtlimitsothattheseparatelyfilingcoupleis,asaunit,subjecttothesamedebtlimitasajointlyfilingcouple.

HoldingThecourtheldthattheI.R.C.§163(h)(3)debtlimitprovisionsapplyonaper-taxpayerbasistounmarriedco-ownersofaqualifiedresidence.Unmarriedco-ownersfilingseparatereturnsareentitledtodeductinterestonupto$1,100,000ofhomedebteach.[Voss v. Commissioner,796F.3d1051(9thCir.2015)]

Phan v. Commissioner I.R.C.§163

■☞ A taxpayer without legal title to the residence could claim a residential mortgage interest deduction .

FactsIn2010thetaxpayerlivedinahouseownedbythetaxpayer’sparentsandbrother.Themortgageloanonthehousewasinthenameoftheparentsonly,andthetitletothehousewasinthenamesoftheparentsandthebrother.During2010,onlythetaxpayerandmotherlivedinthehouse,andthetaxpayerpaidallofthemortgagepaymentsunderanoralagreementwiththetaxpayer’smotherandsiblingsthatthepaymentswouldbecountedtowardthetaxpayer’sequityinthehome.In2013thetaxpayer’snamewasaddedtothetitleforthehome.Thetaxpayerclaimedthemortgageinterestdeductionfor2010,buttheIRSdeniedthededuction.

AnalysisUnder I.R.C. § 163(h)(3)(A), a deduction isallowedforqualifiedresidenceinterest.Treas.Reg.§1.163-1(b)providesthatevenifataxpayerisnotdirectlyliableonabondornotesecuredbyamortgage,thetaxpayermayneverthelessdeductthemortgageinterestpaidifthetaxpayeristhelegalorequitableownerofthepropertysubjecttothemortgage.ThehousewaslocatedinCalifornia,underwhoselawataxpayermayhaveanequitableinterestinrealestateifthereisanagreementwiththetitleownersthatgrantsthetaxpayeraninterestintheproperty.Inthiscase



FactsThetaxpayersownedavacationcondominiumthattheyoccupiedfor81daysin2008,59daysin2009,and45daysin2010.Thetaxpayerssaidtheyusedthecondominiumforpersonalpurposesfor14daysineachoftheyears2008and2010andfor15daysin2009.Thehusband’sbrotherrentedthecondominiumfor7daysin2008,andthetaxpayersalsorentedthecondo-miniumtovacationersthrougharentalmanage-mentcompany.Theaveragerentalperiodofthecondominiumwasapproximately10daysin2008,8daysin2009,and7daysin2010.

Thetaxpayersmaintainedlogbooksdetailingthepersonalandbusinessuseofthecondomin-iumandthedaysspentperformingworkonthecondominium.Thehusbandmadeseveraltripstothecondominiumtomakerepairs,purchasefurniture,andperformmaintenance.

Thetaxpayersclaimedlossesfromthecon-dominiumforall3years.

AnalysisI.R.C. §280A(a) generallyprovides thatnodeductionisallowedforcostsassociatedwithapersonalresidence.UnderI.R.C.§280A(d)(1),adwellingunitistreatedasapersonalresidenceifthetaxpayerusesthedwellingforpersonalpurposesforthegreaterof14daysor10%ofthenumberofdaysduringtheyearforwhichtheunitisrentedatafairrentalvalue.Theissuewaswhetherthebrother’srentalofthecondominiumwasincludedinthetaxpayers’use.

RulingTheTaxCourtheldthatthebrother’suseofthecondominiumwasattributabletothetaxpayersbecausethetaxpayersfailedtoprovethatthebrotherpaidfullmarketrentalvalueandthe7-dayrentaldidnotmakethecondothebrother’smainhome.Inaddition,thecourtaddedseveraldaysaspersonalusedayswherethehusbandhadmorepersonaluseofthecondominiumthantimespentworkingonitduringvisits.Therefore,thelosseswerenotallowedunderI.R.C.§280A.

[Van Malssen v. Commissioner, T.C. Memo.2014-236]

I.R.C.§165allowsadeductionforanylosssustainedduringthetaxyearthatisnotother-wisecompensatedifthelosswasincurredinatradeorbusiness,wasincurredinanytransactionenteredintoforprofit,orarosefromacasualtyortheft.AnindividualcanclaimalossunderI.R.C.§165(a)onpropertypurchasedorconstructedasaprimaryresidenceif,beforeitssale,itis“rentedorotherwiseappropriatedtoincome-producingpurposesandisusedforsuchpurposesuptothetimeofitssale”[Treas.Reg.§1.165-9(b)].

Thecourtlookedatfivefactorstodeterminewhetherataxpayerintendedtoconvertapersonalresidencetoanincome-producingproperty:

1.Thelengthoftimethehousewasoccupiedbytheindividualashisorherresidencebeforeplacingitonthemarketforsale

2.Whethertheindividualpermanentlyaban-donedallfurtherpersonaluseofthehouse

3.Thecharacteroftheproperty(recreationalorotherwise)

4.Thetaxpayer’sofferstorent5.Thetaxpayer’sofferstosell

Thecourtfoundthatthetaxpayershadnotmadeabonafideattempttorentoutthepropertybecausetheyfailedtoprovidefulldocumenta-tionoftheireffortstorentouttheproperty.Thelackofanyleasesorofferstoleasesupportedthecourt’sfindingthatthetaxpayersexpendedmini-malefforttorenttheproperty.

HoldingThetaxpayerswerenotentitledtodeductionsforexpensesrelatedtothecondominiumoranordi-narylossdeductiononthesaleofthecondomin-iumbecausethetaxpayersfailedtoprovethattheyhadconvertedthepropertyintoanincome-producingproperty.

[Redisch v. Commissioner,T.C.Memo.2015-95]

Van Malssen v. CommissionerI.R.C.§280A

■☞ Losses from renting a vacation condominium were not deductible because personal use of the property exceeded 14 days per year .



16

3.in thecaseofan individual legallysepa-ratedfromhisorherspouseunderadecreeofdivorceorofseparatemaintenance,thepayeespouseandthepayerspousearenotmembersofthesamehouseholdatthetimesuchpaymentismade;and

4.thereisnoliabilitytomakeanysuchpaymentforanyperiodafterthedeathofthepayeespouse,andthereisnoliabilitytomakeanypayment(incashorproperty)asasubstituteforsuchpaymentsafterthedeathofthepayeespouse.

Inthiscasethetermsoftheoriginaldivorcedecreeweresupersededandmodifiedbythecourtjudgmentobtainedbytheformerspouseforpay-mentofspousalsupportpaymentsinarrears,andtheTaxCourtlookedatwhetherthepaymentofthejudgmentcouldbedeductedasalimony.TheTaxCourtruledthatifthecourtdecreedidnotcontainaprovisionconcerningtheeffectofthedeathoftheformerspouse,thecourtwouldlooktostate(Colorado)lawtodeterminewhetherthetaxpayerwasliableforthepaymentsonthejudg-mentafterthedeathoftheformerspouse.

The2008statecourtjudgmentdidnotcontainanyprovisiongoverningpaymentofthespousalsupportarrearspaymentsafterthedeathoftheformerspouse.TheTaxCourtruledthatbecausethe judgmentwas issuedtoassist the formerspouseincollectingpastduebutunpaidspousalsupport,itistreatedasafinalmoneyjudgmentagainstthepetitionerhusband.TheTaxCourtfoundthat,underColoradolaw,liabilityforpay-mentofafinalmoneyjudgmentisnotaffectedbythedeathofeitherthepayerorthepayee.

HoldingThecourtheldthatthespousalpaymentswerenoteligibleforthedeductionasalimonybecausethepaymentsweremadeunderafinalcourtorderthatwouldnotexpireiftheformerspousedied.

[Iglicki v. Commissioner,T.C.Memo.2015-80]

Cutler v. CommissionerI.R.C.§§62and164

■☞ Nonresident state income taxes were deductible by a partner in an LLC on Schedule A (Forn 1040) .

Deductions: Other

Iglicki v. CommissionerI.R.C.§170A

■☞ Payment of a judgment enforcing spousal sup-port arrears payments was not eligible for an ali-mony deduction .

FactsThetaxpayerwasdivorced,andthedivorcedecreerequired the taxpayer topay$735 inmonthlychildsupporttotheformerspouse.Thedivorcedecreealsoprovidedthatifthetaxpayerfailedtopaythechildsupport,thetaxpayerwasliableformonthlyspousalsupportpaymentsof$1,000.The taxpayer’sobligation topaythemonthly$1,000inspousalsupportwouldthencontinueuntil(1)theformerspousedied,(2)thetaxpayerdied,or(3)thetaxpayermade36monthlyspousalsupportpayments.Thetax-payerdefaultedonthechildsupportpaymentsandbecameobligated tomake themonthly$1,000spousalsupportpayments.Thetaxpayerthenfailedtomakethechildsupportpaymentsandthemonthlyspousalsupportpayments,andin2008theformerspouseobtainedacourtjudg-mentforthechildsupportandspousalsupportinarrears.InApril2009thetaxpayermadethechildsupportpaymentsinarrearsunderawagegarnishment.In2010thetaxpayermade$39,350inarrearspaymentstotheformerspouseforspousalsupportand$11,256inchildsupportpay-ments.Onthe2010returnthetaxpayerdeductedthe$39,350paymentstotheformerspouseasali-mony,buttheIRSdisallowedthededuction.

AnalysisUnderI.R.C.§215(a),adeductionisallowedforamountspaidforalimonyduringthetaxyear.I.R.C.§71(b)(1)definesalimonytoincludepay-mentstoaformerspouseif

1.suchpaymentisreceivedby(oronbehalfof)aspouseunderadivorceorseparationinstrument;

2.thedivorceorseparationinstrumentdoesnotdesignatesuchpaymentasapaymentthatisnotincludableingrossincomeunderI.R.C.§71andnotallowableasadeductionunderI.R.C.§215;



andnottheLLC.Therefore,thestatenonresidentincometaxesweredeductiblebythetaxpayeronlyonScheduleA(Form1040).

[Cutler v. Commissioner,T.C.Memo.2015-73]

Filing Status

Obergefell v. HodgesI.R.C.§§7701and7703

■☞ The right of same-sex couples to marry is pro-tected by the Fourteenth Amendment to the US Constitution, and the states may not prohibit such marriages .

FactsThepetitionerswere14same-sexcoupleswhowerepreventedfrommarryingunderstatelawinMichigan,Kentucky,Ohio,andTennessee.Laws in thosestatesdefinedmarriageas theunionbetweenonemanandonewoman.Thepetitionersfiledsuitagainstofficialsinthosestatesclaimingthattheofficialsdeniedthepetitionerstherighttomarryortherighttohavemarriagesperformedinotherstatesrecognized.

AnalysisThecourt found that the fundamental liber-tiesprotectedbytheFourteenthAmendment’sDueProcessClauseextendtocertainpersonalchoicesthatdefinepersonalidentityandbeliefs.Thecourtreasonedthattheprinciplesandtra-ditionsthatmakemarriageafundamentalrightundertheConstitutionapplyequallytosame-sexcouples.ThecourtfurtherfoundthattheFour-teenthAmendment’sEqualProtectionClausegivessame-sexcouplestherighttomarry.

HoldingTheUSSupremeCourtheldthattheFourteenthAmendment to theUSConstitutionrequiresthestatestoissueamarriagelicensetosame-sexcouplesandtorecognizemarriageslicensedandperformedinotherstates.

Income Tax Law

See pages 165–172 of the 2013 National Income Tax Workbookfor a discussion of federal income tax law for same-sex couples .

FactsThetaxpayerwasamemberofaMichiganpro-fessionallimitedliabilitycompanythatelectedtobetaxedasapartnershipforfederalincometaxpurposes.TheLLChadofficesinMichigan,Missouri,andVirginia,andthetaxpayerworkedsolelyintheMissourioffice.Inthetaxyearsinvolvedinthiscase,theLLCearnedincomeinMissouri,Michigan,Virginia,Illinois,andOre-gon.Thetaxpayerpaidnonresidentincometaxinallfivestates,eventhoughthetaxpayerdidnotperformservicesorserviceclientsinMichi-gan,Illinois,Oregon,andVirginia.ThetaxpayerreportedhisshareofLLCincomefromSched-uleK-1(Form1065),Partner’sShareofIncome,Deductions,Credits,etc.,onScheduleE(Form1040), Supplemental IncomeandLoss, andclaimedadeductiononScheduleE(Form1040)forthestatenonresidentincometaxespaidasunreimbursedpartnershipexpenses.Thetax-payerarguedthatthestatenonresidentincometaxeswereconstructivelyoractuallyimposedontheLLCbecausethetaxpayerdidnotperformservices inthosestates.TheIRSarguedthatthenonresidenttaxesweredeductibleonlyonScheduleA(Form1040),ItemizedDeductions,becausetheywereassessedonthetaxpayer’sshareofgrossincomefromeachstate.DeductingthetaxesonScheduleA(Form1040)resultedinincreasesinself-employmenttaxandalternativeminimumtax.

AnalysisThe court looked at Virginia’s nonresidentincometaxandfoundthattheVirginiataxwasassessedon the individual’s shareof thenetincomefromVirginia.ThecourtalsofoundthattheVirginiataxwasnotassessedagainsttheLLCbutonlyrequiredtheLLCtowithholdanamountsufficienttocoverthenonresidenttaxonapart-ner’sshareofthenetVirginiaincome.Thus,thecourtheldthatthenonresidenttaxesinMichi-gan,Illinois,Oregon,andVirginiawerepersonaltothetaxpayerandwerebasedonthetaxpayer’snetnonresidentstateincome.

HoldingThecourtheldthatthetaxpayer,asamanagingpartner,hadasufficientnexuswitheachstateforthestatetoimposethenonresidentincometaxesandthatthetaxeswereimposedonthetaxpayer



16

TheappellatecourtheldthatRev.Rul.83-183wascontrary to theplain languageofI.R.C.§6013(b)(2)inthatamarriedpersoncannotfileunderHoHasaseparatereturnapartfromthespouse;therefore,thestatutecannotapplytoamarriedpersonlivingwiththespouseunlessthemarriedpersonfilesundertheMFSstatus.

HoldingTheappellatecourtreversedtheTaxCourtrul-ing,holdingthattheseparatereturnprohibitionappliedonlytothestatusofMFS;therefore,thetaxpayerwasentitledtofileanamendedreturnusingtheMFJstatusafterthetaxpayerfiledapeti-tionappealinganoticeofdeficiency.

[Ibrahim v. Commissioner,788F.3d834(8thCir.2015)]

Income

Elbaz v. CommissionerI.R.C.§§111and164

■☞ State tax refunds were taxable income where the taxpayers’ pass-through entities claimed state taxes as a deduction .

FactsTheStateofNewYorkprovidedaQualifiedEmpireZoneEnterprise(QEZE)creditforbusi-nessesthatqualifyasaQEZEfortaxespaidonrealpropertyinanEmpireZone[N.Y.TaxLaw§15(2015)].Abusinessmaybecomeeligibletoclaimvarioustargetedtaxcreditsifitsapplica-tionisaccepted,itoperateswithinadesignatedarea,anditmeetscertainannualemploymentrequirements.

Thetaxpayersowned50%ofanScorpora-tionandtwolimitedliabilitycompanies(LLCs)taxedaspartnerships,allofwhichqualifiedasQEZEs.AllthreeentitiespaidNewYorkrealpropertytaxesin2007andclaimeddeductionsforthetaxesontheir2007federalreturns.Thedeductionsdecreasedthetaxableincomefromeachentitypassedthroughtothetaxpayers,asreportedonScheduleK-1(Form1065),Partner’sShareofIncome,Deductions,Credits,etc.,andScheduleK-1(Form1120S),Shareholder’sShareofIncome,Deductions,Credits,etc.,for2007.

On the taxpayers’ 2007 state incometax return, the taxpayersclaimeda$63,608

[Obergefell v. Hodges,135S.Ct.2071(2015)]

Ibrahim v. CommissionerI.R.C.§6013

■☞ A married taxpayer who mistakenly filed under head of household status may file an amended return using married filing jointly status .

FactsThetaxpayers,husbandandwife,wereSomaliimmigrants.Thewifehadfourchildrenbyapriormarriagetothedeceasedhalf-brotherofthehus-band.Thetaxpayersfiledtheir2011returnusingataxreturnservicethathademployeeswhospokeSomali.Thehusbandusedthefilingstatusofheadofhousehold(HoH),declaringtwoofthechildrenasdependents,andthewifeusedthesta-tusofsingle,declaringtheothertwochildrenasdependents.TheIRSsentanoticeofdeficiencytothehusbandthatdisallowedtheuseoftheHoHfilingstatusbecausethetaxpayerwasmarriedandlivingwithhiswife.ThetaxpayerfiledapetitionwiththeTaxCourttochallengethedeficiency.Beforereceiptofthenoticeofdeficiencyandthefilingofpetitioner’spetition,petitionerhadnotmadetheelectiontofileanamendedMFJreturnwithhiswifefortaxyear2011.

The taxpayer argued that he should beallowedtochangethefilingstatustoMFJaspartoftheappealofthenoticeofdeficiency.TheIRSarguedthatthetaxpayercouldfileusingonlytheMFSstatus;thus,thedeficiencywastobedeter-minedunderthatfilingstatus.

AnalysisI.R.C.§6013(b)(2)barsaMFJreturnforamar-riedtaxpayerwhoinitiallyfiledaseparatereturnifeitherspousereceivesanoticeofdeficiencyandfilesapetitionwiththeTaxCourt.TheTaxCourthadheldthatI.R.C.§6013(b)(2)(B)barredthehusbandfromfilinganamendedreturnusingtheMFJstatusbecausethehusbandoriginallyfileda“separatereturn”usingtheHoHstatus.

Theappellatecourtlookedatthevarioususesofthetermseparate returnthroughouttheCodeandfoundthatthetermreferredonlytothefilingofareturnusingtheMFSstatus.

TheIRSarguedthatRev.Rul.83-183,1983-2C.B.220,supportsitsargumentinthattherul-ingincludesallnon-MFJreturnsinitsdefini-tionofseparatereturnunderI.R.C.§6013(b)(2).



Chief Counsel Advice Is Not Authority

The taxpayers attempted to cite C .C .A . 2008-42-002 (October 17, 2008) as authority for their posi-tion, but the court held that chief counsel advice letters are IRS “written determinations” that can-not be cited as precedent .

Thecourtappliedthetaxbenefitruletothestatetaxdeductionsreceivedbythethreepass-throughentities, holding that the taxpayersreceivedataxbenefitfromthestatetaxdeduc-tionsthatdecreasedtheentities’taxableincomethatwaspassedthroughtothetaxpayers.Becausethetaxpayersreceivedataxbenefitfromthestatetaxdeductionsclaimedbytheentitiesin2007,theresultingstatetaxrefundreceivedin2008wastaxableincometothetaxpayers.

HoldingStatetaxrefundsreceivedbymembersofpass-throughentitieswere taxable income to thememberswheretherefundswereattributabletostatetaxdeductionsclaimedbythepass-throughentities.

Maines v. Commissioner

The Tax Court reached the same conclusion in Maines v. Commissioner, 144 T .C . No . 8 (2015), dis-cussed in the next item .

[Elbaz v. Commissioner,T.C.Memo.2015-49]

Maines v. CommissionerI.R.C.§§111and164

■☞ State tax refunds were taxable income where the taxpayers’ pass-through entities claimed state taxes as a deduction .

FactsThetaxpayers,husbandandwife,ownedtwopass-throughentities,anScorporationandalimitedliabilitycompany(LLC)taxedasapart-nership.BothentitiesqualifiedfortheNewYorkEmpireZonesProgram(EZProgram),whichprovidestaxcreditincentivestostimulateprivateinvestmentandbusinessdevelopment,andtries

overpaymentoftaxes.Thisamountwasthedif-ferencebetween

1.thetaxpaymentstotaling$155,684,whichconsistedofa. thetaxpayers’proratashareoftheirQEZE

refundedcredits,b.theirNewYorkStatewithholdingtax,andc. theirestimatedpayments;and

2.thetaxpayers’NewYorkStatetaxowed,totaling$92,076.

Ontheir2007statetaxreturn,thetaxpayersappliedthisoverpaymenttotheir2008stateesti-matedtax.

Onthetaxpayers’2008federalincometaxreturn,thetaxpayersclaimedthe$63,608over-paymentofstatetaxesasadeductiononSched-uleA(Form1040),ItemizedDeductions.ThestateissuedaForm1099-G,CertainGovernmentPayments,listing$9,101asthestateincometaxrefund,whichthetaxpayerslistedastaxableincome.Thetaxpayersdidnotreporttheremain-ing$54,507astaxableincome.

AnalysisUnderI.R.C.§164,staterealpropertytaxesaredeductibleonScheduleA(Form1040)aspartofitemizeddeductions.Ifataxpayerreceivesastatetaxrefund,therefundisnottaxableincomeunlessthetaxpayerclaimedadeductionforstatetaxesonaprior-yearfederalreturn.

Under the taxbenefit rule, if a taxpayerdeductedastatetaxonaprioryear’sreturnthatresultedinataxbenefit,thetaxpayer’ssubsequentrecoveryofthetaxisincludedingrossincomefortheyearinwhichthetaxpayerreceivesit.

Thetaxpayersarguedthat,inthiscase,theydidnotclaimanydeductionforstatetaxesontheir2007individualreturns;therefore,theydidnothavetoincludeanystatetaxrefundin2008.Becausethe2007realpropertytaxesweredeductedbythethreeentities, thetaxpayersarguedthatthetaxpayersdidnotreceiveanyfed-eraltaxbenefitfromthestatetaxdeduction.



16

income to themembers to theextentof therefunds.Thecourtalsoheldthatstatetaxcreditsforrealpropertytaxespaidbytwopass-throughentitiesthatresultedinrefundstothemembersoftheentitiesweretaxableincometothememberstotheextentoftherealpropertytaxdeductionsclaimedbytheentitiesinpriortaxyears.

[Maines v. Commissioner,144T.C.No.8(2015)]

Sewards v. Commissioner I.R.C.§104

■☞ Retirement benefits were taxable to the extent the amount was determined by the taxpayer’s length of service .

FactsThe taxpayer sufferedwork-related injurieswhileworkingforacountysheriff’sdepartmentandelectedtoretirewithregularserviceretire-mentpaymentsthatwerebasedsolelyonthetaxpayer’slengthofservice.Duringretirementthetaxpayerwasdeclaredpermanentlydisabled,andthetaxpayerappliedforadisabilitypensionthatwasgreaterthantheretirementpayments.Thedisabilityretirementpaymentswerebasedonaseparatecalculationbutprovidedthatiftheserviceretirementpaymentwasgreaterthanthedisabilityretirementpayment,thetaxpayercouldelecttousethehigheramount.Thetax-payerchosetheserviceretirementpaymentsbecausetheyexceededthedisabilityretirementpayments.Thus,thetaxpayerclaimedthatthedisabilityretirementpaymentswereequaltotheoriginalregularserviceretirementpayments,andthetaxpayerexcludedallofthepaymentsfromtaxableincomeasdisabilitypayments.TheIRSarguedthattheportionoftheretirementpay-mentsthatexceededtheamountofthedisabilitypaymentswastaxable.

AnalysisI.R.C.§104(a)(1)excludesfromgrossincomeamounts that are received by an employeeunderaworkers’compensationactorsimilarstatutethatprovidescompensationtoemploy-eesforpersonalinjuriesorsicknessincurredinthecourseofemployment.However, I.R.C.§104(a)(1)doesnotapplytoaretirementpensionorannuitytotheextentthatitisdeterminedbyreferencetotheemployee’sageorlengthofser-vice,ortheemployee’spriorcontributions,even

tocreatejobsinimpoverishedareasinNewYorkState.TheEZProgramcreditswereclaimedontheentities’statetaxreturnsandpassedthroughtothetaxpayersonNewYorkScheduleK-1.Thetaxpayersthenreportedthecreditsontheirpersonalstateincometaxreturnsandreceivedstateincometaxrefundstotheextentthecreditsexceededtheirstateincometaxes.

Theentitiespassedthroughtothetaxpay-ersthreeEZProgramcredits,arealpropertytaxcredit,awagetaxcredit,andaninvestmenttaxcredit.Thecreditsreducedthetaxpayers’stateincometaxestozeroin3taxyearsandpro-ducedrefundsoftheexcesscredits.Theissuewaswhethertherefundsweretaxableincometothetaxpayers.

Thetaxpayerstooknodeductionontheirfederalincometaxreturnsfortheyearsatissueforstateincometaxpaidintheprecedingyear.ThetaxpayersarguedthattheircreditsundertheEZProgramarejustlikeexcessstateincometaxwithholding,pointingoutthatthecreditsaredefinedbyNewYorklawtobe“overpayments”ofstateincometax.ThecourtheldthatthenamegiventhecreditsbyNewYorkdoesnotnecessar-ilycontrolthefederaltaxdefinitionofthecredits.

AnalysisThecourtnotedadifferenceinthethreecred-itsinthatonlytherealpropertytaxcreditwasarefundofrealpropertytaxespaidbytheentities;theothertwocreditsweregivenindependentofthetaxespaidbytheentitiesortaxpayersandwererefundable.

Becausethetworefundablecreditsresultedinpaymentstothetaxpayersaftertheoffsetofstatetaxes,therefundableportionoftheEZPro-gramcreditswastaxableincometothetaxpayersas“accessionstowealth”underI.R.C.§61(a).

Thetaxpayerswerealsoliableforfederaltaxontherealpropertytaxcredittotheextenttheentitiesclaimedrealpropertytaxdeductionsineachpriortaxyear.Althoughthetaxpayersdidnotclaimapersonaldeductionfortherealprop-ertytaxesinprioryears,thetaxpayersrealizedataxbenefitfromtheentities’deductionsoftherealpropertytaxesinthoseyears.

HoldingThecourtheldthatstatetaxcreditsacquiredbytwopass-throughentitiesthatresultedinrefundsto themembersof theentitieswere taxable



entireretirementpaymentunderI.R.C.§104(a),buttheIRSallowedtheexclusionofonlythedisability-relatedportion,theone-halfofthefinalsalaryamount.

AnalysisI.R.C.§104(a)(1)excludesfromgrossincomeworkers’compensationactbenefitsorothercom-pensationpaidtoemployeesforpersonalinjuriesorsicknessincurredinthecourseofemployment.I.R.C.§104(a)(1)doesnotapplytotheextentthatcompensationisdeterminedbyreferencetotheemployee’sageorlengthofservice,ortheemployee’spriorcontributions[Treas.Reg.§1.104-1(b)].

HoldingThecourtheld that theregulationwasvalidandrequiredthetaxpayerstoincludeintaxableincometheportionoftheretirementpaymentsbasedsolelyonlengthofservice,theportionaboveone-halfofthetaxpayers’finalsalary.Cit-ingSewards v. Commissioner,discussedearlier,theappellatecourtaffirmedinadecisiondesignatedasnotforpublication.[Campbell v. United States,13-55607Fed.Appx.697442(9thCir.2015)]

Speer v. CommissionerI.R.C.§§651and104

■☞ Payments for unused vacation and sick leave received by a retired police officer upon retire-ment were not excludable from income as work-ers’ compensation benefits .

FactsIn2009thetaxpayerretiredasaLosAngelespoliceofficer.UnderMemorandumofUnder-standingNo.24(MOU24)betweenthecityandtheLosAngelesPoliceProtectiveLeague,thetaxpayerreceivedcompensationforunusedsickleaveandvacationdays.Someoftheunusedsickleaveandvacationdayswereaccruedduringperiodswhenthetaxpayerwasgranteddisabilityleaveonaccountofduty-relatedinjuriesorsick-ness.Thetaxpayerexcludedfromtaxableincometheretirementpaymentsfortheunusedsickleaveandvacationdaysaspaidunderaworkers’com-pensationlaw.

thoughtheemployee’sretirementisoccasionedbyanoccupationalinjuryorsickness[Treas.Reg.§1.104-1(b)].

TheIRSagreedthatthepaymentsattribut-abletothedisabilityretirementpaymentswereexcludedunderI.R.C.§104(a)(1)butarguedthattheremainingportionattributabletotheserviceretirementpaymentswasbasedonthetaxpay-er’slengthofserviceandwastaxable.Thecourtnotedover40yearsofrulingsbytheIRSthatwereconsistentwiththeIRSpositionandfoundthattheIRSrulingsweresupportedbythestatuteandregulations.

HoldingThecourtheldthattheretirementpaymentswereincludedintaxableincometotheextenttheyweredeterminedbythetaxpayer’slengthofservice;therefore,theamountequaltothedis-abilityretirementpaymentwasnottaxable,andtheremainderwasincludedintaxableincomeasretirementbenefits.

[Sewards v. Commissioner,785F.3d1331(9thCir.2015)]

Campbell v. United States

The Ninth Circuit Court of Appeals reached the same conclusion in Campbell v. United States, which is discussed in the next item .

Campbell v. United StatesI.R.C.§104

■☞ Retirement benefits were taxable to the extent the amount was determined by the taxpayer’s length of service .

FactsThetaxpayerswereretiredfirefighterswhohadservice-connecteddisabilities.Theretirementpayforadisabilityretirementwasequaltoone-halfofthetaxpayers’finalsalary.However,iftheretireeswerealsoentitledtoaserviceretirementpensionandtheserviceretirementpaymentwashigherthanthedisabilityretirementpayment,thetaxpayersreceivedthehigheramount.Theserviceretirementpaymentwasbasedonyearsofservice.Thetaxpayerssoughttoexcludethe



16

taxpayerstodetermineawageringgainorlossfromcertaingamblingslotmachineplay.

Gains from wagering transactions areincludedingrossincomeunderI.R.C.§61.Nei-therthestatutenortheregulationsdefinethetermtransactions.I.R.C.§165(d)providesthatlossesfromwageringtransactionsareallowedonlytotheextentofthegainsfromsuchtransactions.Gross incomefromaslotmachinewageringtransactionisdeterminedonasessionbasis.[SeeShollenberger v. Commissioner,T.C.Memo.2009-306;andLaPlante v. Commissioner,T.C.Memo.2009-226].

Theproposedrevenueprocedurewouldpro-videanoptionalsafeharbormethodfordeter-miningwhatconstitutesa“sessionofplay”forpurposesofcalculatingwageringgainsorlossesfromelectronicallytrackedslotmachineplayunderI.R.C.§61.Useofthesafeharbormethodwillnotrelievetaxpayersoftherequirementtomaintainrecords that substantiateany itemsreportedontheirincometaxreturns.SeeI.R.C.§6001;Rev.Proc.77-29,1977-2C.B.538.

Tousethisrevenueprocedure,ataxpayermustwrite“RevenueProcedure2015-X”online21oftheForm1040,U.S.IndividualTaxReturn.Anonresidentalienwhoisanonprofessionalgamblermustwrite“RevenueProcedure2015-X”online10,ifaresidentofCanada,oronline11,ifnotaresidentofCanada,onScheduleNECoftheForm1040NR,U.S.NonresidentAlienIncomeTaxReturn.Anonresidentalienwhoisaprofessionalgamblerandusesthisrevenuepro-ceduremustwrite“RevenueProcedure2015-X”online21oftheForm1040NR.[Notice2015-21,2015-12I.R.B.765]

Notice 2015-21

See pages 227–229 in this book for a detailed dis-cussion of Notice 2015-21 .


■☞ Accidental disability benefits paid to former spouses of state employees pursuant to a domes-tic relations order were taxable income to the for-mer spouses .

AnalysisI.R.C.§104(a)(1)providesthatgrossincomedoesnotincludeamountsreceivedunderworkers’compensationactsascompensationforpersonalinjuriesorsickness.

Thetaxpayerarguedthatatleastthesickdaysandvacationdaysaccruedduringthedisabilityperiodswererelatedtoworkers’compensationbenefits.TheIRSarguedthatthepaymentswerenotmadepursuanttoaworkers’compensationlawor,inthealternative,thetaxpayerfailedtosubstantiatewhichunusedsickleaveandvaca-tiondayswereaccruedduringthetaxpayer’swork-relateddisabilityperiods.

ThecourtlookedatCaliforniaandLosAnge-leslawsthatgovernedpaymentofworkers’com-pensationandfoundthatbothlawswereworkers’compensationlaws.However,thepaymentofunusedsickleaveandvacationdaysuponretire-mentwasmadeunderMOU24,andthecourtfoundthatMOU24wasnotaworkers’compen-sationlawbutacollectivebargainingagreement.Thecourtnotedthat,althoughneitherthestateorcitylawspreventedtheaccrualofemploymentbenefitsduringadisabilityforwhichworkers’compensationbenefitswerereceived,neitherlawprovidedforpaymentforunusedsickleaveandvacationdaysuponretirement.SuchpaymentswereprovidedonlyunderMOU24.

ThecourtalsoagreedwiththeIRSthatthetaxpayerfailedtoprovideanyevidencethatthetaxpayeraccruedunusedsickleaveandvacationdaysduringthetaxpayer’swork-relateddisabilityperiods.

HoldingThecourtheldthatthepaymentsforunusedsickleaveandvacationdaysreceivedafterthetax-payerretiredwerenotexcludablefromincomeasworkers’compensationbenefits.

[Speer v. Commissioner,144T.C.No.14(2015)]

Notice 2015-21I.R.C.§61

■☞ A proposed revenue procedure provides a safe harbor method for reporting wagering gains and losses .

Theproposedrevenueprocedurewouldprovideanoptionalsafeharbormethodforindividual



FactsThetaxpayeradministersdeath,disability,andretirementbenefitsthatareprovidedtoeligiblestateemployeesbystatelawunderretirementplansthataretax-qualifiedpensionplans.Thestatelawprovidesaccidentaldisabilityretirementbenefitstoeligibleparticipants.

Thetaxpayerpreviouslyreceivedaprivateletterruling(PLR)onthetaxtreatmentofacci-dentaldisabilityretirementbenefitspaidundertheplanstoparticipantswhoincurawork-relatedinjuryorsickness.ThePLRconcludedthattheaccidentaldisability retirementbenefits areexcludableunderI.R.C.§104(a)(1)totheextentthebenefitsdonotexceedaspecifiedpercent-ageoftheparticipant’saveragefinalcompensa-tion.ThePLRalsoheldthataccidentaldisabilityretirementbenefitspaidtoaparticipant’ssurvivoraretaxabletothesameextentasthebenefitspaidtotheparticipant.ThePLRdidnotaddresshowformerspousesshouldbetaxedwithrespecttoaccidentaldisabilityretirementbenefitsreceivedpursuanttoadomesticrelationsorder.

Thestateregulationswererecentlyamendedtoprovidethat,pursuanttoaneligibledomes-ticrelationsorder,allpaymentstothealternatepayeeareincludableinthetaxableincomeofandtaxabletothealternatepayeeinthesamepro-portionaspaymentstotheparticipantareinclud-ableinthetaxableincomeofandtaxabletotheparticipant.

AnalysisI.R.C.§104(a)(1)isstrictlyconstruedtoconformwithI.R.C.§61,whichstatesthatallincomeistaxableunlessexplicitlyexcluded.Theaccidentaldisabilityretirementbenefitsarespecificallypaidtostateemployeesfortheirwork-relatedinjuryorsickness,andnotthework-relatedinjuryorsick-nessoftheformerspouses.Treas.Reg.§1.104-1explicitlylimitstheexclusionfromincometoemployeesandtheirsurvivors.NeithertheCodenortheregulationsprovideanexclusionfromincomeforamountspaidtoformerspousespur-suanttoadomesticrelationsorder.

RulingTheIRSruledthataccidentaldisabilityretire-mentbenefitspaidundertheplanstoformerspousesofstateemployeespursuanttoeligibledomesticrelationsordersarenotexcludedunder

I.R.C.§104(a)(1)fromthetaxableincomeoftheformerspouses.Theentireamountpaidtotheformerspousesisincludedintaxableincome.

[Ltr.Rul.2015-21-009(February9,2015)]

Prop. Treas. Reg. § 1.529-1 et seq.I.R.C.§529A

■☞ Proposed regulations were issued to implement new Achieving a Better Life Experience (ABLE) accounts .

TheIRShasissuedproposedregulationsimple-mentingtheAchievingaBetterLifeExperienceActof2014(ABLEAct),divisionBofPub.LNo.113-295,whichauthorizesstatestoofferspeciallydesignedtax-favoredAchievingaBetterLifeExperience(ABLE)accountstopeoplewithdis-abilitieswhobecamedisabledbeforeage26.ThenewlawauthorizesanystatetoofferitsresidentstheoptiontosetupanABLEaccount.Alterna-tively,astatemaycontractwithanotherstatethatofferssuchaccounts.Theaccountowneranddes-ignatedbeneficiaryoftheaccountisthedisabledindividual.Ingeneral,adesignatedbeneficiarycanhaveonlyoneABLEaccountatatime,andmusthavebeendisabledbeforehisorhertwenty-sixthbirthday.

Contributionsinatotalamountuptotheannual gift tax exclusion amount, currently$14,000,canbemadetoanABLEaccountonanannualbasis,anddistributionsaretaxfreeifusedtopayqualifieddisabilityexpenses.Theseareexpensesthatrelatetothedesignatedbenefi-ciary’sblindnessordisabilityandhelpthatper-sonmaintainorimprovehealth,independence,andqualityoflife.Forexample,theycanincludehousing,education,transportation,health,pre-ventionandwellness,employmenttrainingandsupport,assistivetechnologyandpersonalsup-portservices,andotherexpenses.

Ingeneral,anABLEaccountisnotcountedindeterminingthedesignatedbeneficiary’seligi-bilityforanyfederalmeans-testedprograms,orindeterminingtheamountofanybenefitorassis-tanceprovidedunderthoseprograms,althoughspecialrulesandlimitsapplyforsupplementalsecurityincomepurposes.

Theproposedregulationsprovideguidancetostateprograms,designatedbeneficiaries,andotherinterestedpartiesonanumberofissues.Forexample,theproposedregulationsexplaintheflexibilitytheprogramshaveinensuringan



16

2.Inthecaseofadebtinstrumentwithatermover3yearsbutnotover9years,thefederalmidtermrate

3.Inthecaseofadebtinstrumentwithatermover9years,thefederallong-termrate

I.R.C.§§1274(d)(2)and(3)providespecialrulesforselectingtheappropriateAFRinspecifiedcircumstances.I.R.C.§1274(d)(2)providesthat,inthecaseofasaleorexchange,theAFRshallbethelowestAFRineffectforanymonthinthe3-calendar-monthperiodendingwiththefirstcalendarmonthinwhichthereisabindingcon-tractinwritingforthesaleorexchange.I.R.C.§1274(d)(3)requiresthatoptionstoreneworextendbetakenintoaccountindeterminingthetermofadebtinstrument.DuringeachmonththeTreasuryDepartmentdeterminestheAFRsthatwillapplyduringthefollowingcalendarmonthbasedontheaveragemarketyieldofoutstandingmarketableobligationsoftheUnitedStateswithappropriatematurities.SeeTreas.Reg.§1.1274-4(b).TheIRSpublishestheAFRsandadjustedAFRsforeachmonthintheInternalRevenueBulletin.

Applicable Federal Rates

The “Tax Rates and Useful Tables” chapter in this book reports the AFRs for October 2014–October 2015 .

Application of AFRs to Tax-Exempt ObligationsI.R.C.§1288(b)(1)providesthat,inapplyingI.R.C.§483or1274toatax-exemptobligation,underregulationsprescribedbythesecretary,appropriateadjustmentsshallbemadetotheAFRtotakeintoaccountthetaxexemptionforinterestontheobligation.

Net Operating Loss CarryforwardsInthecaseofacorporationthathasundergoneanownershipchangedescribedinI.R.C.§382(g),I.R.C.§382placesanannuallimit(theI.R.C.§382limitation)ontheamountofthecorpora-tion’staxableincomethatmaybeoffsetbycer-tainnetoperatinglosscarryforwardsandbuilt-inlosses,andI.R.C.§383placesalimit,determined

individual’seligibilityforanABLEaccount.TheIRSdevelopedtwonewformsthatABLEaccountprogramswillusetoreportrelevantaccountinformationannuallytodesignatedbeneficia-ries,Form1099-QA,DistributionsfromABLEAccounts,andForm5498-QA,ABLEAccountContributionInformation.

[REG-102837-15,2015-27I.R.B.43,80F.R.35602(June22,2015)]

ABLE Accounts

For more information on ABLE accounts, see the “New Legislation” chapter in this book .

REG-136018-13I.R.C.§§382,383,483,1273,and1288

■☞ Proposed regulations provide methods for adjust-ing applicable federal interest rates for tax-exempt obligations .

TheIRShasissuedproposedregulationsthatprovidethemethodtobeusedtoadjusttheappli-cablefederalrates(AFRs)underI.R.C.§1288fortax-exemptobligations,andthemethodtobeusedtodeterminethelong-termtax-exemptrateandtheadjustedfederallong-termrateunderI.R.C.§382.

Fortax-exemptobligationstheproposedreg-ulationsaffectthedeterminationoforiginalissuediscountunderI.R.C.§1273andoftotalunstatedinterestunderI.R.C.§483.

Inaddition,theproposedregulationsaffectthedeterminationofthelimitationsunderI.R.C.§§382and383ontheuseofcertainoperatinglosscarryforwards,taxcredits,andotherattributesofcorporationsfollowingownershipchanges.

Applicable Federal RatesI.R.C.§1274(d)directstheTreasurysecretarytodeterminetheAFRsthatareusedfordetermin-ingtheimputedprincipalamountofdebtinstru-mentstowhichI.R.C.§1274applies,computingtotalunstatedinterestonpayments towhichI.R.C.§483applies,andotherpurposes.UnderI.R.C.§1274(d)(1),theAFRisthefollowing:

1.Inthecaseofadebtinstrumentwithatermnotover3years,thefederalshort-termrate



Farming,andshouldbeincludedinthetaxpay-er’snetearningsfromself-employment.

ThetaxpayerarguedthattheCRPpaymentswerenotself-employment(SE)incomebecausehedidnotderivetheCRPpaymentsfromtheoperationofatradeorbusiness.Alternatively,heclaimedtheCRPpaymentswerenotSEincomeundertherentalsfromrealestateexclusioninI.R.C.§1402(a)(1).

Tax Court AnalysisIntheTaxCourthearing,thetaxpayercontendedthathisworkcomplyingwiththeCRPcontractrequirementswasdeminimisanddidnotcon-stitutefarming.Hesaidallphysicallaborneces-sarytoplant,seed,weed,mow,andmaintainthepropertyinaccordancewiththeCRPcontractswasperformedbyaworkerhehiredandshouldnotbeattributedtohim.

TheTaxCourtruledthatwhethertheprop-ertymaintenanceactivitieswerecarriedoutbysomeoneelsewasimmaterial,becauseataxpayermayconducthistradeorbusinesspersonallyorthroughanagent.TheTaxCourtheldfur-therthatthetaxpayerwasanactiveparticipantbecausethetaxpayerregularlyandcontinuouslymaintainedhisstatusasaCRPparticipant,main-tainedtheeligibilitystatusofhisproperties,madedecisionsregardinghisobligationsundertheCRPcontracts,andengagedintheactivitiesforprofit.Furthermore,becausetheCRPpaymentsdependedoncontinuedmaintenanceofthelandinaccordancewiththeCRPcontracts,thetax-payer’sparticipationintheCRPwasnotmerelyapassiveinvestment.

TheTaxCourtalsosaiditdidnotmatterwhether the taxpayer’sactivitiesconstitutedfarmingorsimplycontinuousandregularpar-ticipationinanactivityforprofit;thetaxpayerwasengagedinatradeorbusinessasdefinedbyI.R.C.§162.

Rentalpaymentsconstituteconsiderationpaidfortheuseoroccupancyofproperty.TheTaxCourtsaidthatalthoughtheCRPrestrictedthetaxpayer’suseofhispropertiesandtheCRPrepeatedlyreferredtothepaymentsasrentals,thepaymentsdidnotqualifyforthe“rentalsfromrealestate”exclusionbecausethegovern-mentdidnottakepossessionofthepropertiesoracquiretherighttousethepropertiesforitsownpurposes.

byreferencetotheI.R.C.§382limitation,ontheamountofthecorporation’sincometaxliabilitythatmaybeoffsetbycertaintaxcreditsandothertaxattributes.UnderI.R.C.§382(b)(1),theI.R.C.§382limitationgenerallyequalstheproductofthevalueofthestockofthecorporationimmedi-atelypriortotheownershipchangemultipliedbythelong-termtax-exemptrate.I.R.C.§382(f)(1)definesthelong-termtax-exemptrateasthehigh-estoftheadjustedfederallong-termratesineffectforanymonthinthe3-calendar-monthperiodendingwiththecalendarmonthinwhichtheownershipchangeoccurs.I.R.C.§382(f)(2)pro-videsthatthetermadjustedfederallong-termratemeansthefederal long-term ratedeterminedunderI.R.C.§1274(d),exceptthatI.R.C.§1274(d)(2)and(3)shallnotapply,andsuchrateshallbeproperlyadjustedfordifferencesbetweenratesonlong-termtaxableandtax-exemptobligations.

[REG-136018-13,2015-11,I.R.B.759;80F.R.11141(March2,2015)]

Self-Employment Tax

Morehouse v. CommissionerI.R.C.§§1401and1402

■☞ The Eighth Circuit Court of Appeals ruled that conservation reserve program payments are not self-employment income .

FactsThetaxpayerinheritedfarmlandin1994andrentedthetillableportionsofthelandtoindivid-ualswhofarmedtheirrentedportions.In1997thetaxpayerenrolledthetillablelandsinthefederalConservationReserveProgram(CRP),andhehiredalocalfarmertocarryouttheCRPcontractobligations.Theseobligationsgenerallyrequiredthetaxpayertoestablishandmaintainspecifictypesofgrassandlegumeorperennialvegetativecoveronthepropertiesandtoperiodi-callyengageinweedandpestcontrol.Thetax-payerperformedsomemanagementduties,suchasorderingseedandrequestingemergencyhay-ingandgrazingrightsontheCRPacres.

For2006and2007thetaxpayerreportedhisCRPpaymentsasfarmrentalincomeonScheduleE(Form1040),SupplementalIncomeandLoss.TheIRSissuednoticesofdeficiency,statingthattheCRPpaymentsshouldhavebeenreportedonScheduleF(Form1040),ProfitorLossFrom


IRS 663

16

TheIRShasissuedguidancefordeterminingthefilingdateforfederalreturnsandestimatedpay-mentsfortaxpayersinMassachusetts.TheDis-trictofColumbiaobservesEmancipationDayonFriday,April15,whenApril16isaSaturday.ThiswouldmakeMonday,April18,2016,theordinaryduedateforfiling2015incometaxreturns.However,Monday,April18,2016,isthethirdMondayinApril,thedatethatMassachu-settsandMaineobservePatriots’Day.BecauseresidentsofMassachusettsandMainemayelecttohand-carrytheirincometaxreturnstotheirlocalIRSoffices,thosetaxpayershaveuntilthenextsucceedingdaythatisnotaSaturday,Sun-day,orlegalholidaytofileincometaxreturns.Thus,MassachusettsandMainetaxpayershaveuntilTuesday,April19,2016,tofiletheirincometaxreturns.

Massachusetts taxpayers are required tomakeinstallmentpaymentsofestimatedincometaxtoadepositoryinHartford,Connecticut,astateinwhichthethirdMondayinAprilisnotastatewidelegalholiday.Accordingly,aMassa-chusettstaxpayersmustmakethefirstinstallmentpaymentofestimatedtaxonorbeforetheordi-naryduedateforincometaxreturnsforthefilingtobetimely.ThefactthatataxpayerisaresidentofMassachusetts,astateinwhichthethirdMon-dayinAprilisastatewidelegalholiday,hasnoeffectonaMassachusettstaxpayer’sduedateforpaymentofthefirstinstallmentofestimatedtax.Thus,MassachusettstaxpayersmustpaytheirfirstinstallmentofestimatedincometaxonorbeforeApril18,2016.

[Rev.Rul.2015-13,2015-22I.R.B.1011]

Notice 2015-57I.R.C.§6035

■☞ Due dates for I .R .C . § 6035 statements of value that are required to be filed with the IRS or fur-nished to beneficiaries are delayed until February 29, 2016 .

UnderI.R.C.§1014(f),thebasisofcertainprop-ertyacquiredfromadecedentmaynotexceedthevalueofthatpropertyasfinallydeterminedforfederalestatetaxpurposes,orifnotfinallydetermined,thevalueofthatpropertyasreportedonastatementmadeunderI.R.C.§6035.

I.R.C.§6035imposesnewreportingrequire-ments with regard to the value of propertyincludedinadecedent’sgrossestateforfederal

Appellate Court AnalysisOnappealtheEightCircuitCourtofAppealsreversedtheTaxCourtandheldthatRev.Rul.60-32,1960-1C.B.23,andRev.Rul.65-149,1965-1C.B.434,controlledasthelong-stand-ingrulethatlandconservationpaymentsmadetononfarmerswererentalpayments.ThecourtnotedthattheCRPcontractsprovidearightfortheUSDAtophysicallyinspecttheacresenrolledintheprogramandtocontroltheusesoftheland,providingarightofphysicalpossessionsimilartolandlords.

Thecourtsaidit“embrace[d]theagency’slongstandingpositionthat landconservationpaymentsmadetonon-farmersconstituterent-alsfromrealestateandareexcludedfromtheself-employmenttax.”Itnotedthat“whileCRPcontractsmayrequirefarmerstoconductasmallsubsetofactivitiessimilartothoseusedinapor-tionoftheirgeneralfarmingoperations,...thesamecannotbesaidfornon-farmers,”anditexplainedthat“theonlyreason[nonfarmers]evenindirectlyengageinorarrangeforany‘till-ing,seeding,fertilizing,andweedcontrol’activi-tiesontheirCRPlandisbecausetheagreementwiththegovernmentrequiresthemtodoso.”

HoldingThetaxpayerwasnotliableforSEtaxontheCRPpayments.

[Morehouse v. Commissioner,769F.3d616(8thCir.2014)]

IRS Non-Acquiescence

In Action on Decision 2015-02 (October 13, 2015) the IRS non-acquiesced to the Morehouse case .

IRS

Due Dates

Revenue Ruling 2015-13I.R.C.§7503

■☞ The IRS has provided the dates for filing 2015 tax returns, with special dates for Massachusetts and Maine taxpayers .


664 IRS

Form1099-C,CancellationofDebt,mustbefiledoccursattheendofa36-monthnonpaymenttest-ingperiod.

CurrentTreas.Reg.§1.6050P-1(b)(2)listseightidentifiableeventsthattriggerinformationreportingobligationsonthepartofanapplicablefinancialentity:

1.AdischargeofindebtednessundertheBank-ruptcyCode

2.A cancellation or extinguishment of anindebtedness thatrenders thedebtunen-forceableinareceivership,foreclosure,orsimilarproceedinginafederalorstatecourt,asdescribedinI.R.C.§368(a)(3)(A)(ii),otherthanadischargeundertheBankruptcyCode

3.A cancellation or extinguishment of anindebtednessupontheexpirationofthestat-uteoflimitationsforcollection(butonlyif,andonlywhen,thedebtor’sstatute-of-limi-tationsaffirmativedefensehasbeenupheldinafinaljudgmentordecisioninajudicialproceeding,andtheperiodforappealingithasexpired)orupontheexpirationofastatu-toryperiodforfilingaclaimorcommencingadeficiencyjudgmentproceeding

4.A cancellation or extinguishment of anindebtednesspursuanttoanelectionoffore-closureremediesbyacreditorthatstatutorilyextinguishesorbarsthecreditor’srighttopursuecollectionoftheindebtedness

5.Acancellationorextinguishmentofanindebt-ednessthatrendersadebtunenforceablepur-suanttoaprobateorsimilarproceeding

6.Adischargeofindebtednesspursuanttoanagreementbetweenanapplicableentityandadebtortodischargeindebtednessatlessthanfullconsideration

7.Adischargeofindebtednesspursuanttoadecisionbythecreditor,ortheapplicationofadefinedpolicyofthecreditor,todiscon-tinuecollectionactivityanddischargedebt

8.Theexpirationofa36-monthnonpaymenttestingperiod

Whenfinalized,theproposedregulationswillcompletelyremovethetestingperiodsothattheexpirationofthe36-monthnonpaymentperiodwillnolongertriggerthereportingrequirements.

[REG-136676-13,2014-45I.R.B.814]

estatetaxpurposes.Theexecutorofanestatethatisrequiredtofileanestatetaxreturnmustfurnish,bothtotheIRSandthepersonacquir-inganyinterestinpropertyincludedinthedece-dent’sgrossestateforfederalestatetaxpurposes,astatementidentifyingthevalueofeachinterestinthepropertyasreportedonthereturn.

I.R.C.§6035(a)(3)(A)requirestheexecutortofurnishthestatementnotlaterthantheearlierof

1.30daysaftertheestatetaxreturnwasdue(includingextensions,ifany)or

2.30daysafterthedatethereturnwasfiled.

3.I.R.C.§6081(a)allowstheSecretarytograntareasonableextensionoftimeforfilinganyreturn,declaration,statement,orotherdocu-mentrequiredbytheInternalRevenueCodeorTreasuryregulations.Exceptinthecaseoftaxpayerswhoareabroad,noextensioncanbeformorethan6months.

For statements required under I.R.C.§6035(a)tobefiledwiththeIRSorfurnishedtoabeneficiarybeforeFebruary29,2016,theduedateunderI.R.C.§6035(a)(3)isdelayedtoFeb-ruary29,2016.ThisdelayistoallowtheTreasuryDepartmentandtheIRStoissueguidanceimple-mentingthereportingrequirementsofI.R.C.§6035.ExecutorsandotherpersonsrequiredtofileorfurnishastatementunderI.R.C.§6035(a)(1)or(a)(2)shouldnotdosountiltheTreasuryDepartmentandtheIRSissueformsorfurtherguidanceaddressingtherequirementsofI.R.C.§6035.

ThisnoticeiseffectiveonAugust21,2015.[Notice 2015-57, 2015-36 I.R.B.]

Statement of Value

See the “New Legislation” chapter in this book for an explanation of the new requirement to fur-nish statements of value .

REG-136676-13I.R.C.§§61and6050P

■☞ Proposed regulations remove the 36-month test-ing period for information reporting of discharge-of-indebtedness income .

Proposedregulationswillremovearulethatadeemeddischargeofindebtednessforwhicha


IRS 665

16

paymentsmaybeattributabletootheritems(e.g.,interest,compensationforservicesotherthanhaulingfreight,referralbonuses,sign-onbonuses,etc.),thenthefreightexceptionmaynotapply,andaninformationreturnmayberequired.

Inaddition,theIRSconcludedthatthetax-payerwasnotabrokerasdefinedinI.R.C.§6045.TherearenoprovisionsorexamplesintheI.R.C.§6045regulationswhereapersonwhoactsasamiddlemanbetweenaserviceproviderandaservicerecipientisabroker.Theregulationspro-videthatthetermsalemeansanydispositionofsecurities,commodities,regulatedfuturescon-tracts,orforwardcontracts,butdoesnotincludeenteringintoacontractthatrequiresdeliveryofpersonalpropertyoraninteresttherein[Treas.Reg.§1.6045-1(a)(9)].TheexistenceofI.R.C.§6041A,whichrequiresinformationreturnswithrespecttoservicerecipients,indicatesthatabro-kerdoesnotincludeapersonwhomerelyfacili-tatesservices.

[F.A.A.2015-10-002F]

Penalties


■☞ The IRS chief counsel ruled on four scenarios involving amended returns and the tax return pre-parer penalty for understatement of tax liability .

FactsScenario 1.The tax return preparer madeamendedreturnsfor3consecutiveyearsthatcontainedanunderstatementofliabilityduetowillfulorrecklessconduct.Thetaxpayerfiledthefirst-yearamendedreturnbutnotthesubse-quent-yearamendedreturns,waitingtoseeifthefirstamendedreturnwasaccepted.Therefundclaimedonthefirst-yearamendedreturnwasnotallowed.TheIRSreceivedamendedreturnsforall3yearsfromthetaxpayer.Eachreturnhadthereturnpreparer’ssignatureonthem.TheIRSalsohadcopiesoftheamendedreturnsforall3yearsfromthereturnpreparerthatdonothavehissignatureonthembuthaveawatermarkstat-ing“PreparerCopy.”

Scenario 2.Thetaxreturnpreparermadeanamendedreturnthatcontainedanunderstate-mentofliabilityduetowillfulorrecklessconduct.

FormsField Attorney Advice 2015-10-02FI.R.C.§§6402and6404

■☞ A motor freight carrier company that paid inde-pendent operators to haul freight on the com-pany’s trailers was not required to file information returns under I .R .C . § 6041 and was not a broker as defined in I .R .C . § 6045 .

FactsThetaxpayertruckingcompanycontractedwithalarge,nationalretailertohaultheretailer’sgoodsfromwarehousestotheretailer’sstoresforafeepertrailerload.Theretailerloadeditsgoodsontothetaxpayer’strailers.Thetaxpayeralsocontractedwithanindependentoperatororowner/operatortopickupatrailerandtransportittooneoftheretailer’sstores.Theindependentoperatorhauledtheretailer’sgoods,ontheinde-pendentoperator’strailer,totheretailer’sretailstoreandearnedapercentageofthefeetheinde-pendentoperatorchargedtheretailer.Theinde-pendentoperatorpaidanytollsandcertainotherexpensesoftheindependentoperatoroutoftheamountitretained.Affiliate,acompanyrelatedtotheindependentoperator,leasedtractorunits(trucks)toindependentoperators.Independentoperatorswhoownatractorunit(owner/opera-tors)maycontractwiththeindependentoperatorwithoutleasingatractorfromtheaffiliate.Theaffiliatepaidasign-onbonuswhenanindepen-dentoperatorleasedatractorunit.

Thetaxpayerhas,inthepast,issuedForms1099toindependentoperatorsbutnolongerdoesso.InaNovember9,2011,“StateLawsNewslet-ter,”theAmericanTruckingAssociationadviseditsmembersthat, in itsopinion,Forms1099generallyarenotrequiredfor“freightservices.”ThetaxpayerinterpretedthelawasnotrequiringForms1099forthefreighthaulingactivities.

ConclusionTheIRSdeterminedthatthetaxpayerisnotrequiredtofileinformationreturnsunderI.R.C.§6041totheextentthepaymentsatissueareforfreighthaulingservices.Paymentsfortransport-inggoods,whetherincidentalorintegraltoataxpayer’sbusiness,areexceptedfrominforma-tionreporting.Thefactthatthepaymentsmaybemadetoanindependentoperatordoesnotchangethisexception.However,totheextentthe


666 IRS

RulingsScenario 1.TheI.R.C.§6694(b)returnpreparerpenaltyforunderstatementofliabilityduetowillfulorrecklessconductmaybeassessedforall3yearsbecausethereturnpreparermadeanamendedreturnthathesignedthatcontainedanunderstatementduetowillfulorrecklessconduct.

Scenario 2.TheI.R.C.§6694(b)returnpreparerpenaltyforunderstatementduetowillfulorreck-lessconductmaybeassessedbecausethereturnpreparermadeanamendedreturnthatcontainedanunderstatementofliabilityduetowillfulorrecklessconduct,andthereturnwasfiled.

Scenario 3.TheI.R.C.§6694(b)returnpre-parerpenaltyforunderstatementduetowillfulorrecklessconductshouldnotbeassessedbecausealthoughthereturnpreparermadeanamendedreturnthathesignedthatcontainedanunder-statementduetowillfulorrecklessconduct,theamendedreturnwasnotfiled,andthereisnoevi-dencethereturnpreparersignedtheamendedreturn.

Scenario 4. ThepenaltiesunderI.R.C.§6694(a)(2),6694(b),or6701 shouldnotbeassessedmerelybecausethereturnpreparermadeandfiledanamendedreturnaftertheperiodoflimi-tationsforrefundshadexpired.

[C.C.A.2015-19-029(March25,2015)]


■☞ The IRS chief counsel ruled that the IRS may abate penalties and interest where the taxpayer has shown on an amended return that the taxpayer owed less taxes than on the original return .

FactsThe IRSassessed taxpenalties and interestbasedonthetaxpayer’soriginalreturn.Thetax-payermademonthlypaymentsofthepenaltiesandinterest.Morethan3yearsaftertheorigi-nalreturnwasfiledandthetaxeswerepaid,thetaxpayerfiledanamendedreturnthatcorrectlyshowedlesstaxowedthantheoriginalreturn.Thelowertaxwouldhaveresultedinlesspenal-tiesandinterest.

AnalysisI.R.C.§6404(a)(1)authorizestheIRStoabatetheunpaidportionofanassessmentthatisexcessive

TherefundclaimedontheamendedreturnwasdisallowedbytheIRS,andtheIRShadonlyacopyoftheamendedreturnfromthereturnpre-parerthatwasnotsignedbyhim.

Scenario 3.Thetaxreturnpreparermadeanamendedreturnthatcontainedanunderstate-mentofliabilityduetowillfulorrecklessconduct.Theamendedreturnwasnotfiled,andtheIRShadonlycopiesofanunsignedcopyfromthereturnpreparer.

Scenario 4.Thetaxreturnpreparermadeanamendedreturnaftertheperiodoflimitationsforrefundshadexpiredandtheamendedreturnwasfiled.

AnalysisI.R.C.§6694(a)(1)providesthatifataxreturnpre-parer(1)preparesanyreturnorclaimofrefundwithrespecttowhichanypartofanunderstate-mentofliabilityisduetoanunreasonableposi-tion,and(2)knew(orreasonablyshouldhaveknown)oftheposition,suchtaxreturnpreparershallpayapenaltywithrespecttoeachsuchreturnorclaiminanamountequaltothegreaterof$1,000or50%oftheincomederived(ortobederived)bythetaxreturnpreparerwithrespecttothereturnorclaim.

ThepenaltymaybeincreasedunderI.R.C.§6694(b)ifanypartoftheunderstatementisduetoawillfulattemptinanymannertounder-statetheliabilityfortaxonthereturnorclaim,orarecklessorintentionaldisregardofrulesorregulations.

Treas.Reg.§1.6694-1(a)(2)providesthatforpurposesofthepenaltiesunderI.R.C.§6694,areturnorclaimforrefundisdeemedpreparedonthedateitissignedbythetaxreturnpreparer.IfasigningtaxreturnpreparerwithinthemeaningofTreas.Reg.§301.7701-15(b)(1)failstosignthereturn,thereturnorclaimforrefundisdeemedpreparedonthedatethereturnorclaimisfiled.

Thechiefcounselstatedthatifanamendedreturnmadebyareturnpreparercontainedanunderstatementofliabilityduetowillfulorreck-lessconduct,thepenaltyunderI.R.C.§6694(b)couldtechnicallyapplyiftheamendedreturniseithersignedbythereturnpreparer,orifitisnotsignedbythereturnpreparer,iftheamendedreturnisfiled.


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thefailuretodepositelectronicallywasduetoreasonablecauseandnotduetowillfulneglect.

I.R.M.§20.1.4.26providesthatpenaltyreliefdeterminationsforthefailure-to-depositpenaltymustbemadeonacase-by-casebasisandthattheIRSwillnotimposeorwillabatethefailure-to-depositpenaltywhenthetaxpayerestablishesthatduetospecificpenaltyreliefprovisions,theassessedpenaltyshouldnotbeimposedorshouldbeabatedaftertakingintoaccountdocumenta-tionsupportingthetaxpayer’sposition.

Forunbankedtaxpayerswhoaretimelyinmeetingtheirtaxdepositobligations,theIRSwillnotimposeorwillabatethefailure-to-depositpenaltyifataxpayercanshowheorshemadereasonableeffortsbutwasunabletogetabankaccountduringtheperiodatissue.Torequestpenaltyreliefunderthisguidance,theunbankedtaxpayermustincludeasignedstatementthatexplainsthetaxpayer’sattempttogetabankaccountandmust includeanycorroboratingdocumentation(deniedaccountapplications,correspondencefrombanks,etc.).Thesignedstatementdoesnothavetobeinaparticularformat.

[SBSE-04-0615-0045(June9,2015)]

Musa v. CommissionerI.R.C.§6663

■☞ A civil fraud penalty was imposed for failing to maintain accurate sales and wage records, filing false tax forms, and underreporting income on 5 years of income tax returns .

FactsThetaxpayerownedandoperatedarestaurantthatemployedmanyofthetaxpayer’sfamilymembers.Althoughthetaxpayerhiredpayrollcompanies tohandlepaymentofwagesandpayrolltaxes,thetaxpayeroftenfailedtoreportaccurateinformationbyunderreportingthecashsales.Thetaxpayeralsousedacomputer-basedpoint-of-salessystemtorecordordersandsales,butdidnotretainrecordsofthecashsalesnotenteredintothissystem.

Thetaxpayerhiredanaccountanttopreparesalesandincometaxreturns;however,thetax-payeralsofailedtoprovidetheaccountantwithaccuratesalesrecords,andtheaccountantusedthetaxpayer’ssalestaxpaymentsasthemethodofdeterminingincome.

inamount.Whilethestatutespecifiesunpaid assessments, thechief counsel’sview is thatI.R.C.§6404(a)(1)ispermissiveandthattheIRSisnotprohibitedfromabatingthepaidportionofassessments.

ThetimingofaclaimforcreditorrefundhasnoeffectontheIRS’sauthoritytoabateanassessment.Thus,althoughtherefundoftaxreportedontheamendedreturnwastime-barredunderI.R.C.§6511(theamendedreturnwasnotfiledwithin3yearsfromthefilingoftheoriginalreturnandthetaxpayer’spaymentofthetaxes),theIRSmaystillabatethepenaltiesandinter-estthatexceedthetrueamountofpenaltiesandinterestthetaxpayerowes.Asaresultofthepay-mentsofpenaltiesandinterestthatthetaxpayerhasbeenmakingeachmonth,thetaxpayerover-paidthepenaltiesandinterest.Theamendedreturnshouldbetreatedasaclaimforarefundofthepenaltiesandinterestpaidinthe2yearspriortothedatetheamendedreturnwasfiled,totheextentthoseamountsexceedwhatthetaxpayeractuallyowed.

RulingTheIRShastheauthorityandshouldabatethepenaltiesandinterestbasedontheoriginalreturntoreflectthecorrectamountonthetaxpayer’samendedreturn.

[C.C.A.2015-20-010(April23,2015)]

SBSE-04-0615-0045I.R.C.§§6302and6656

■☞ Taxpayers who cannot obtain a bank account due to reasonable cause will not be assessed the failure-to-deposit penalty for not making tax pay-ments electronically .

SinceJanuary1,2011,almostallbusinesseshavebeenrequiredtomaketheirdepositsbyelec-tronicfundstransferusingtheElectronicFederalTaxPaymentSystem(EFTPS).IthascometotheIRS’sattentionthattherearetaxpayerswho,afterundertakingreasonableeffortstoobtainabankaccount,areunabletodoso,andareunabletomakeotherarrangementsfordepositingtheirtaxesthroughtheEFTPS.Thepenaltyfornotdepositingelectronically throughtheEFTPSis10%oftheamountdeposited(thefailure-to-deposit penalty).Thisfailure-to-depositpenaltyisnotapplicableifthetaxpayerdemonstratesthat


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4. thetaxpayerconcealedassetsbydeposit-ingcashinseparatebankaccountsandnotinformingtheaccountantabouttheaccounts;

5. thetaxpayerdidnotcooperatewiththeIRSagentsauditingthetaxpayer’sreturns;

6. thetaxpayerfailedtofileFormsW-2,WageandTaxStatement,orForms1099-MISC,MiscellaneousIncome,forallemployees,especiallyfamilymemberemployees;

7. thetaxpayerfiledfalseincometaxreturnsandprovidedfalseinformationtotheaccountant;

8. thetaxpayerfailedtotimelypayestimatedtaxes;and

9. thetaxpayerdealtextensivelyincashanddepositedonlyaminimalamountinbankaccountstoavoidcreatingarecordofdeposits.

HoldingThetaxpayerwasproperlyassessedtheI.R.C.§6663civilfraudpenaltyforfailingtomaintainaccuratesalesandwagerecords,filingfalsetaxforms,andunderreportingincomeon5yearsofincometaxreturns.

[Musa v. Commissioner,T.C.Memo.2015-58]

Notice 2014-58I.R.C.§§6662and7701

■☞ Transaction and similar rule of law are defined for purposes of the economic substance doctrine .

I.R.C.§7701(o)providesthat,inthecaseofanytransactiontowhichtheeconomicsubstancedoc-trineisrelevant,thetransactionshallbetreatedashavingeconomicsubstanceonlyif

1.thetransactionchangesinameaningfulway(apartfromfederalincometaxeffects)thetaxpayer’seconomicposition,and

2.thetaxpayerhasasubstantialpurpose(apartfromfederalincometaxeffects)forenteringintothetransaction.

I.R.C.§7701(o)(5)(A)statesthatthetermeco-nomic substance doctrinemeansthecommonlawdoctrineunderwhichincometaxbenefitswithrespecttoatransactionarenotallowableifthetransactiondoesnothaveeconomicsubstanceorlacksabusinesspurpose.

I.R.C.§7701(o)(5)(C)statesthatthedetermi-nationofwhethertheeconomicsubstancedoc-trineisrelevanttoatransactionshallbemade

Thetaxpayeradmittedtheunderreportingofincomeandunderpaymentoftaxforseveraltaxyears,andtheIRSassessedacivilfraudpen-altyunderI.R.C.§6663.Thetaxpayerclaimedthattheunderreportingoftaxresultedfromtheactionsof theaccountantand the taxpayer’scarelessness.

AnalysisI.R.C.§6663(a)imposesapenaltyequalto75%oftheportionofanytaxunderpaymentthatisattributabletofraud.I.R.C.§6663(b)providesthatoncetheIRSestablishesthatanyportionoftheunderpaymentisduetofraud,theentireunderpaymentistobetreatedasattributabletofraudexceptwithrespecttoanyportionthatthetaxpayerestablishes,byapreponderanceoftheevidence,isnotattributabletofraud.

Thecourtrecognizedthatthebadgesoffraudinclude

1.understatementofincome;2.inadequatemaintenanceofrecords;3.implausibleor inconsistent explanations

ofbehavior;4.concealmentofassetsorincome;5.failuretocooperatewithtaxauthorities;6.engaginginillegalactivities;7.anintenttomisleadthatmaybeinferredfrom

apatternofconduct;8.lackofcredibilityofthetaxpayer’stestimony;9.failuretofiletaxreturns;

10.filingfalsedocuments;11.failuretomakeestimatedtaxpayments,12.dealingincash;and13.theintelligence,education,andtaxexpertise

ofthetaxpayer.Thecourtfoundthat

1. thetaxpayeradmittedtotheunderreportingofincome;

2. the taxpayer failed tomaintain accuraterecordsinthatthetaxpayerdestroyedthecashsalesreceipts;

3. thetaxpayermadeinconsistentstatementsastothereasonsforfailingtomaintainallrecords;


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(apartfromfederalincometaxeffects)forenter-ingintothetransaction.

[Notice2014-58,2014-44I.R.B.746,amplifyingNotice2010-62,2010-40C.B.411]

Power of Attorney


■☞ Form 2848 for an LLC should be signed by an officer of a parent corporation where the sub-sidiary of a parent corporation is the manager-partner of the LLC .

FactsACcorporationwasanindirectsubsidiaryofaparentcorporationandincludedintheconsoli-datedgroupreturn.TheCcorporationwasalsothemember-managerofanLLCpartnershipthathadoneotherpartner,alsoaCcorporation.TheLLCpartnershipwasanon-TEFRAentity(anentitythatisnotsubjecttotheunifiedpartnershipauditproceduresenactedundertheTaxEquityandFiscalResponsibilityActof1982,Pub.L.No.97-248).TheCcorporationsubsidiarywasidenti-fiedasthemember-manageroftheLLContheSchedulesK-1(Form1065),Partner’sShareofIncome,Deductions,Credits,etc.,attachedtotheLLC’sreturn,andthemember-managerCcor-porationwasalsodesignatedasthetaxmatterspartnerontheLLC’sForm1065,U.S.ReturnofPartnershipIncome.

AnalysisApowerofattorneyisrequiredfortherepresen-tationoftaxpayersbeforetheIRS.AtaxpayerusesForm2848,PowerofAttorneyandDeclara-tionofRepresentative,toauthorizeanindividualwhoisauthorizedtopracticebeforetheIRStorepresentthetaxpayerbeforetheIRS.Theindi-vidualwhomustexecuteaForm2848dependsonthetypeoftaxpayerinvolved[Treas.Reg.§601.503(c)].

Inthecaseofanaffiliatedgroupofcorpora-tionsthatfileaconsolidatedreturn,apowerofattorneyshouldbesignedbythegroup’sagentfortheconsolidatedreturnyeartowhichtherep-resentationapplies.Ingeneral,thecommonpar-entfortheconsolidatedreturnyearisthegroup’sagentforthatyear.

inthesamemannerasifI.R.C.§7701(o)hadneverbeenenacted.Withrespecttoindividu-als,however,I.R.C.§7701(o)(5)(B)statesthatthetwo-prongedanalysisinI.R.C.§7701(o)(1)shallapplyonlytoatransactionenteredintoinconnectionwithatradeorbusinessoranactivityengagedinfortheproductionofincome.

Inaddition,I.R.C.§7701(o)(5)(D)statesthattheterm transactionasusedinI.R.C.§7701(o)includesaseriesoftransactions.

I.R.C.§7701(o)(2)(A)providesthatatrans-action’spotentialforprofitshallbetakenintoaccountindeterminingwhethertherequirementsofI.R.C.§7701(o)(1)aremetonlyifthepresentvalueofthereasonablyexpectedpretaxprofitissubstantialinrelationtothepresentvalueoftheclaimednettaxbenefits.

I.R.C.§6662(b)(6)providesthattheaccuracy-relatedpenaltyimposedunderI.R.C.§6662(a)appliestoanyunderpaymentattributabletoanydisallowanceofaclaimedtaxbenefitbecauseofatransactionlackingeconomicsubstanceorfailingtomeetanysimilarruleoflaw[collectively,anI.R.C.§6662(b)(6)transaction].

I.R.C. § 6662(i) increases the accuracy-relatedpenaltyfrom20%to40%foranyportionofanunderpaymentattributabletooneormoreI.R.C.§6662(b)(6)transactionswithrespecttowhichtherelevantfactsaffectingthetaxtreat-mentarenotadequatelydisclosedinthereturnorinastatementattachedtothereturn.I.R.C.§ 6662(i)(3) provides that certain amendedreturnsoranysupplementtoareturnshallnotbetakenintoconsiderationforpurposesofI.R.C.§6662(i).

Forpurposesofdeterminingwhetherthecodifiedeconomicsubstancedoctrineapplies,transaction generallyincludesallthefactualele-mentsrelevanttotheexpectedtaxtreatmentofanyinvestment,entity,plan,orarrangement,andanyorallofthestepsthatarecarriedoutaspartofaplan.Factsandcircumstancesdeterminewhetheraplan’sstepsareaggregatedordisaggre-gatedwhendefiningatransaction.

ForpurposesofI.R.C.§6662(b)(6),similar rule of lawmeansaruleordoctrinethatdisal-lowsincometaxbenefitsrelatedtoatransactionbecausethetransactiondoesnotchangeatax-payer’seconomicpositioninameaningfulway(apartfromfederalincometaxeffects),orbecausethetaxpayerdidnothaveasubstantialpurpose


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Signing Authority

See also Field Attorney Advice 2015-23-01F, which states that an officer of a successor corporation could extend the statute of limitations on assess-ments as to a corporation that was merged into the successor corporation; and Legal Advice Issued by Associate Chief Counsel 2015-004, which gives guidance on who is authorized to sign a power of attorney appointing a representative for a part-nership or LLC in various situations .

[C.C.A.2015-22-005(February18,2015)]

Procedure

Notice 2015-38I.R.C.§7502

■☞ The IRS has updated the list of designated private delivery services for delivery of tax returns .

TheIRShasupdatedthelistofdesignatedprivatedeliveryservices(designatedPDSs)originallysetforthinNotice2004-83,2004-2C.B.1030,forpurposesoftheruleofI.R.C.§7502fortreatingatimelymailedreturnorpaymentastimelyfiledortimelypaid.ThedesignatedPDSsareFedExFirst Overnight, FedEx Priority Overnight,FedExStandardOvernight,FedEx2Day,FedExInternationalNextFlightOut,FedExInterna-tionalPriority,FedExInternationalFirst,FedExInternationalEconomy,UPSNextDayAirEarlyA.M.,UPSNextDayAir,UPSNextDayAirSaver,UPS2ndDayAir,UPS2ndDayAirA.M.,UPSWorldwideExpressPlus,andUPSWorld-wideExpress.

Thenoticealsoprovidesrulesfordetermin-ingthepostmarkdatefortheseservicesandpro-videsanewaddressforsubmittingdocumentstotheIRSwithrespecttoanapplicationfordesig-nationasadesignatedPDS.ThechangeswereeffectiveMay6,2015.

[Notice2015-38,2015-21I.R.B.984]

UnderTreas.Reg.§1.1502-77(a),thecom-monparentisthesoleagentforeachmemberofthegroupforallmattersrelatingtotheincometaxliabilityfortheconsolidatedreturnyear,unlessitisamatterreservedtoasubsidiaryunderTreas.Reg.§1.1502-77(a)(3).

Inthecaseofacorporation,apowerofattor-neymustbesignedbyanofficerofthecorpo-rationwhohastheauthoritytolegallybindthecorporation;thisofficermustcertifythatheorshehasthatauthority[Treas.Reg.§601.503(c)(3)].

Inthecaseofapartnership,allofthepart-nersmustexecute thepowerofattorney,orifexecutedinthenameofthepartnership,thepartnerorpartnersdulyauthorizedtoactforthepartnershipmustsignandcertifythattheyhaveauthoritytoact.Apartnerisauthorizedtoactinthenameofapartnershipif,understatelaw,thepartnerhasauthoritytobindthepartnership[seeTreas.Reg.§601.503(c)(5),andInstructionsforForm2848(Rev.July2014)].

ThetaxpayerbeingrepresentedontheForm2848wasanLLCtaxedasapartnership,andthemember-manageroftheLLCwasaCcorpora-tion.Ordinarily,Form2848wouldbesignedbyacorporateofficerofthemember-managercorporation.Thecorporation,however,isalsoamemberofaconsolidatedgroup,andunderTreas.Reg.§1.1502-77(a),thecommonparentisthesoleagentforeachmemberofthegroupforallmattersrelatingtotheincometaxliabil-ityfortheconsolidatedreturnyear,unlessitisamatterreservedtoasubsidiaryunderTreas.Reg.§1.1502-77(a)(3).

RulingTheIRSruledthatanofficerofthecommonpar-entofthemember-managercorporationmustsignForm2848.Thecommonparentshouldbedescribedas“[JohnDoe],[CorporateOfficeTitle],Parent[EIN],asthecommonparentandagent forParentandSubsidiaries, includingMember1,asMemberManagerofLLCPartner-ship.SeeI.R.M.Exhibit4.31.2-7,‘FormatsforTMPSignaturesWhenSigningExtensions.’”


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Thus,theburdenisonthetaxpayertopro-videtheIRSwithcurrentaddressinformation.Thetaxpayerargued,however,thatwhentheIRSreceivedthefirstnoticebackundeliveredandwithoutaforwardingaddress,theIRSwasrequiredtofindthetaxpayer’scurrentaddress.ThecourtdisagreedandheldthattheIRSwasrequiredonlytolooktothemostrecenttaxreturnortonotificationsfromthetaxpayer.ThecourtfoundthatthetaxpayerdidnotproperlyinformtheIRSofsubsequentaddresschangesuntil2009.

HoldingTheTaxCourtheldthattheIRSnoticeoftaxlienwasvalidbecausethenoticeofdeficiencywasmailedtothetaxpayer’saddressonthetaxpay-er’slastfiledtaxreturn,andthetaxpayerfailedtofileachangeofaddressnoticewiththeIRS.Theappellatecourtaffirmedinadecisiondesignatedasnotforpublication.

[Gyorgy v. Commissioner,779F.3d466(7thCir.2015)]

Heckman v. CommissionerI.R.C.§6501

■☞ The 6-year statute of limitations applied for a notice of deficiency where the taxpayer omitted taxable income on a return .

FactsThetaxpayerfiledthe2003taxreturninAugust2004.Thereturndidnotincludeincomeresult-ingfromthedistributionfromastockownershipplan(ESOP)establishedbyacompanythetax-payerowned.TheESOPhadacquireda100%interestinanLLCanddistributedtheinteresttothetaxpayer’sIRA.Thetaxpayeragreedthatthedistributionwastaxableincome.

TheIRSlearnedaboutthedistributionduringanauditofanotheryear’staxreturnthatoccurredmorethan3yearsandlessthan6yearsafterthefilingofthe2003return.TheIRSthenissuedanoticeofdeficiencyforthe2003taxyear.

Thetaxpayerarguedthatthenoticeofdefi-ciencywasbarredbythe3-yearstatuteoflimi-tationsofI.R.C.§6501(a).TheIRSarguedthatthenoticewastimelybecausethe6-yearstatuteoflimitationsofI.R.C.§6501(e)(1)(A)applied.

Gyorgy v. CommissionerI.R.C.§6212

■☞ An IRS notice of deficiency was valid where it was mailed to the taxpayer’s last known address that appeared on the taxpayer’s last filed tax return, and the taxpayer did not file a change of address with the IRS .

FactsThetaxpayerdidnotfilereturnsfor2001–2007.TheIRSpreparedsubstitutereturnsfor2001–2003basedonFormsW-2and1099andotherinformationfiledbythirdparties.InMarch2004theIRSsentanoticeofthedeficienciesforthe3yearstotheaddressshownonthetaxpayer’s2000taxreturn,butthetaxpayerhadmovedtoanotheraddressanddidnotreceivethenotice.Afterthefirstnoticewasreturnedundelivered,theIRSlearnedofotheraddressesfromsubse-quentFormsW-2and1099andsentan“R-U-There”lettertooneoftheaddresseswithoutsuccess.

ThetaxpayerdidnotfileachangeofaddressformwiththeIRS,althoughthetaxpayerclaimedtohavephonedandwrittentotheIRStogivenoticeofthechangeofaddress.

In2009theIRSfiledanoticeoffederaltaxlienonthetaxpayer’sresidenceinIllinoisandsentthenoticetotheIllinoisresidence.Thetax-payerreceivedthatnoticeandappealedthefilingofthelien.

ThetaxpayerarguedthatthenoticeofthelienwasinvalidbecausetheIRSfailedtofollowprocedurestolocatethetaxpayer.

AnalysisI.R.C.§6212(a)requirestheIRStosendanoticeofadeficiencytothetaxpayer.Thecourtstatedthatthisprovisiondidnotrequireactualnotice,but, under I.R.C. § 6212(b)(1), the IRSwasrequiredonlytomailthenoticetothetaxpayerathisorherlastknownaddress.

Treas.Reg.§301.6212-2providesthatthetaxpayer’slastknownaddressistheonethatappearsonthemostrecentlyfiledandprocessedfederaltaxreturn,unlesstheIRSisgivenclearandconcisenotificationofadifferentaddress.AddressinformationprovidedbythetaxpayertoathirdpartyoranothergovernmentagencydoesnotconstitutenotificationofanewaddresstotheIRS.


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andtreatedthetaxpayerasanemployee.TheIRSagreedwiththestatedeterminationandnoti-fiedthetaxpayerthatamendedreturnsshouldbefiledbecausethechangeinstatuscouldresultinlowertaxliabilitiesforprioryears.

Thetaxpayerfiledanamendedreturnfor2008,treatingtheincomeaswagesandclaimingarefund.TheIRSacceptedtheamendedreturnandabatedtheincometaxesowedbytheamountofthereductioninemploymenttaxes.Thetax-payeralsosoughttooffsetthe2008incometaxliabilityby theoverpaymentofemploymenttaxesfor2002through2007,buttheIRSdeniedtheclaim.

AnalysisThetaxpayerinitiallyarguedthatthetaxpayerwasnotliablefortheemployer’sportionoftheemploymenttaxes.Thecourtheldthat,althoughtheemployerwasrequiredtowithholdandpayemploymenttaxesforthetaxpayer,thetaxpayerremainedliableforsuchtaxesifnotwithheldandpaidbytheemployer.TheIRScouldcollecttheunpaidtaxesfromtheemployerortheemployee.

Thetaxpayeralsoarguedthatthedoctrineofequitablerecoupmentallowedthecourttoordertheoffsetof theoverpaidemploymenttaxesagainstthetaxpayer’sincometaxes.Thecourtstatedthatthedoctrineofequitablerecoup-mentisajudiciallycreateddoctrinethat,undercertaincircumstances,allowsalitiganttoavoidthebarofanexpiredstatutorylimitationperiod. Thedoctrinepreventsaninequitablewindfalltoataxpayerortothegovernmentthatwouldoth-erwiseresultfromtheinconsistenttaxtreatmentofasingletransaction,item,oreventaffectingthesametaxpayerorasufficientlyrelatedtaxpayer.

Inordertoestablishthatequitablerecoup-mentapplies,apartymustprovethefollowingelements:

1.Theoverpaymentordeficiencyforwhichrecoupment is soughtbywayofoffset isbarredbyanexpiredperiodoflimitation.

2.Thetime-barredoverpaymentordeficiencyaroseoutofthesametransaction,item,ortax-ableeventastheoverpaymentordeficiencybeforethecourt.

3.Thetransaction,item,ortaxableeventhasbeeninconsistentlysubjectedtotwotaxes.

4.If the transaction, item,or taxableeventinvolves twoormore taxpayers, there is

AnalysisUnderI.R.C.§6501(a),theIRSmustassessataxdeficiencywithin3yearsaftertherelevanttaxreturnwasfiled.I.R.C.§6501(e)(1)(A)extendsthelimitationsperiodto6yearsifthetaxpayeromitsfromgrossincomeanamountinexcessof25%ofthegrossincomestatedonthereturn.Thepartiesstipulatedthattheplandistributionexceeded25%ofthetaxpayer’sgrossincomefor2003.Anamountisnotconsideredomittedfromgrossincome,however,ifitisdisclosedinthereturn,orinastatementattachedtothereturn,inamanneradequatetoapprisethesecretaryofthenatureandamountofsuchitem[I.R.C.§6501(e)(1)(A)(ii)].

ThetaxpayerarguedthattheIRSlearnedaboutthe2003distributionduringtheauditandthatsuchknowledgewassufficienttohavethe3-yearlimitationsperiodapply.Thecourtheldthatthelimitationsperiodappliedtothedateofthefilingofthereturn,notthedatethattheIRSlearnedabouttheomission.

ThetaxpayeralsoarguedthattheomissionwasdisclosedintheLLCpartnershipreturn.Thecourtalsorejectedthisargument,holdingthattheLLCreturndidnotdisclosethetaxpayer’srela-tionshiptotheESOPorthedistributionitself.

HoldingThe6-yearlimitationsperiodappliedtoanoticeofdeficiencywherethetaxpayerdidnotincludeanitemoftaxableincomeinthetaxreturn.

[Heckman v. Commissioner,788F.3d845(8thCir.2015)]

Karagozian v. CommissionerI.R.C.§§6214and6521

■☞ An employee may not apply the doctrine of equi-table recoupment to use overpaid employment taxes from prior years to offset income tax in a later year .

FactsThetaxpayerwasemployedasacomputertech-nicianfrom2002to2008,andwastreatedbytheemployerasanindependentcontractor.Thetaxpayerfiledreturnsandpaidself-employmenttaxes.Afteranauditbythestatedepartmentofrevenue,thetaxpayerlearnedthattheemployershouldhavewithheldandpaidemploymenttaxes


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submittedMFJfederalincometaxreturnsfor2007and2008,claimingon their2007MFJreturnanoverpaymentof$3,335attributabletowithholdingfromthewife’s2007wages.TheIRSstipulatedthatpetitionershadanoverpaymentof$3,335forthe2007taxyear.

TheIRSdenied the refund,arguing thatthetimelimitationsofI.R.C.§§6511and6512precludearefundofanyportionofthe2007overpayment.

AnalysisI.R.C.§6512(b)(3)circumscribestheamountofataxpayer’screditorrefundtotheportionoftheoverpayment,ifany,paid“(A)afterthemailingofthenoticeofdeficiency,(B)withintheperiodwhichwouldbeapplicableundersection6511(b)(2),(c),or(d),ifonthedateofthemailingofthenoticeofdeficiencyaclaimhadbeenfiled(whetherornotfiled)statingthegroundsuponwhichtheTaxCourtfindsthatthereisanover-payment,or(C)withintheperiodwhichwouldbeapplicableundersection6511(b)(2),(c),or(d),inrespectofanyclaimforrefundfiledwithintheapplicableperiodspecifiedinsection6511andbeforethedateofthemailingofthenoticeofdeficiency.”

I.R.C.§6511(b)(2)providesfortwoalterna-tivelookbackperiods:a3-yearperiodanda2year-period.Todecidewhichoftheselookbackperiodstoapply,thecourtmustconsultthefilingprovisionsofI.R.C.§511(a)andaskwhethertheclaimdescribedbyI.R.C.§6512(b)(3)(B)(aclaimalreadyfiledonthedateofthemailingofthenoticeofdeficiency)wouldbefiledwithin3yearsfromthetimethereturnwasfiled.Ifaclaimfiledonthedateofthemailingofthenoticeofdefi-ciencywouldbefiledwithinthat3-yearperiod,thenthelookbackperiodisalso3years,andtheTaxCourthasjurisdictiontoawardarefundofanytaxespaidwithin3yearspriortothedateofthemailingofthenoticeofdeficiency.Iftheclaimwouldnotbefiledwithinthat3-yearperiod,thentheperiodforawardingarefundisonly2years[I.R.C.§§6511(b)(2)(B)and6512(b)(3)(B)].

Thecourtfoundthatthe2007taxeswerewithheldfromthewife’swagesandweredeemedpaidonApril15,2008.

Ahypothetical refundclaimwouldhavebeenfiledoneitherJune13,2011(thedateonwhichtheIRSmailedanoticeofdeficiencytothehusband)orOctober16,2012(thedateon

sufficientidentityofinterestbetweenthetax-payerssubjecttothetwotaxesthatthetax-payersshouldbetreatedasone.

Thecourtdeclinedtoapplythedoctrineofequitablerecoupmentinthiscasebecausethetaxesdidnotarisefromasingletransaction,item,ortaxableevent;therewasnoinconsistenttreat-mentofthesametaxes;andtherewasnonewproceedingthataroseoutofthesametransactioninvolvedinanearlierproceeding.

HoldingTheTaxCourtheldthataformeremployeewhowasincorrectlytreatedasanindependentcontrac-torcouldnotoffsettheemployee’soverpaymentofemploymenttaxesagainstpostemploymentincometaxes.Theappellatecourtaffirmedinadecisiondesignatedasnotforpublication.

[Karagozian v. Commissioner,595Fed.Appx.87(2dCir.2015)]

Refunds

Butts v. CommissionerI.R.C.§§6511and6512

■☞ The taxpayers were not allowed a refund of 2007 taxes where the taxes were due more than 2 years before the notices of tax deficiency were filed and their 2007 return was not filed until after the notices of deficiency were filed .

FactsThetaxpayers,husbandandwife,didnottimelyfiletheir2007and2008incometaxreturns.OnMay31,2011,theIRSissuedanoticeofdefi-ciencytothewifeforher2008taxyear.OnJune13,2011,theIRSissuednoticesofdeficiencytothehusbandforhis2007and2008taxyears.OnSeptember7,2011,thepetitionerstimelyfiledajointpetitionintheTaxCourtseekingredeter-minationofthedeficienciesandadditionstotaxdeterminedinthesethreenotices.OnOctober16,2012,theIRSissuedanoticeofdeficiencytothewifeforher2007taxyear.AsofOctober16,2012,neitherpetitionerhadfiledanincometaxreturnfor2007.OnJanuary22,2013,thewifefiledapetitionintheTaxCourtseekingrede-terminationofthedeficiencyandadditionstotaxdeterminedinthefourthandlatestnoticeofdeficiency.OnFebruary4,2013,thepetitioners


674 IRS

claimforrefundofanoverpaymentofindividualincometaxesmustbefiledonaForm1040Xatthelocationspecifiedintheinstructionsprovidedfortheform.

Iffilinginstructionsarenototherwisepro-vided,aclaimforcreditorrefundmustbefiledwiththeservicecenterwherethetaxpayerwouldberequiredtofileacurrenttaxreturnforthetypeoftaxtowhichtheclaimrelates.Thefinalregu-lationsreviseTreas.Reg.§301.6402-2(a)(2)toclarifythatclaimsshouldnotbefiledatadiffer-entlocationbaseduponwherethetaxeitherwaspaidorwasrequiredtohavebeenpaid.Itisnotrelevantifthetaxwasproperlypaidatadifferentlocationinaprioryearbecausethetaxpayerhadachangeinresidence.

Proper Form for Filing a Claim for Credit or RefundAnindividualtaxpayermustuseForm1040Xtofileaclaimforarefundofincometax.ThefinalregulationsreviseTreas.Reg.§301.6402-2(c)toprovidethattaxpayersmustusetheformpre-scribedforfilingaparticularclaimforcreditorrefund.Whenthereisnoalternativeformpre-scribed,aclaimforcreditorrefundmustbefiledonForm843,ClaimforRefundandRequestforAbatement.

Claims for Employment TaxesThe final regulations revise Treas. Reg.§301.6402-2(d)toprovidethatwhenfilingaclaimforemploymenttaxes,aseparateclaimmustbemadeforeachtaxperiod.Forexample,ifanemployeroverpaidsocialsecuritytaxesonForms941filedforthethirdandfourthquartersin2010,thentheemployermustfileaseparateForm941-X,AdjustedEmployer’sQUARTERLYFederalTaxReturnorClaimforRefund,foreachquarter.

[T.D.9727,2015-32I.R.B.154,80F.R.43949(July24,2015)]

Like-Kind Exchanges

North Central Rental & Leasing, LLC v. United StatesI.R.C.§1031

whichtheIRSmailedanoticeofdeficiencytothewife).BecausebothofthesedatesprecededthedateonwhichthetaxpayerssubmittedtheirMFJ2007taxreturn,theirhypotheticalrefundclaimwouldnothavebeenfiledwithin3yearsafterthedateonwhichtheyfiledtheirtaxreturn.Thus,the2-yearlookbackperiodappliesandismeasuredfromthedateofmailingofthenoticeofdeficiency.

Becausethe2007overpaymentwaspaid,initsentirety,onApril15,2008,wellbeforethedateofeithernoticeofdeficiency,theTaxCourtheldthatitlackedjurisdictiontoorderarefundofanyportionoftheoverpayment.

HoldingThetaxpayerscouldnotrecoverarefundof2007taxeswherethetaxesweredeemedpaidmorethan2yearsbeforethenoticeoftaxdeficiencywasissuedandthe2007taxreturnwasnotfileduntilafterthedeficiencynoticewasissued.

[Butts v. Commissioner,T.C.Memo.2015-74]

T.D. 9727I.R.C.§6402

■☞ The IRS has adopted final regulations amending the regulations governing the filing of refund claims .

TheIRShasadoptedfinalregulationsthatamendtheregulationsforfilingaclaimforcreditorrefund.Theregulationsprovideguidancetotax-payersgenerallyastotheproperplacetofileaclaimforcreditorrefund.Theexistingregulationsareupdatedtoreflectchangesmadebytheenact-mentoftheTaxReformActof1976,theInternalRevenueServiceRestructuringandReformActof1998,andtheCommunityRenewalTaxReliefActof2000.

Proper Place to File a Claim for Credit or RefundIfataxpayerisrequiredtofileaclaimforacreditorrefundonaparticularform,thentheclaimmustbefiledinamannerconsistentwiththatformandtherelatedinstructions.Forexample,tocorrectanamountreportedonaForm1040,U.S.IndividualIncomeTaxReturn,Treas.Reg.§301.6402-3(a)(2)requires that the taxpayerfiletheclaimonaForm1040X,AmendedU.S.IndividualIncomeTaxReturn.Accordingly,a


Net Operating Losses 675

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intheexchangeswasunnecessarybecausethetaxpayercouldhavepurchasedthenewequip-mentdirectlyfromthemanufacturerasdidtheparentcorporation.

Inaddition,thecourtfoundthattheinterme-diarywasunnecessarybecausethetaxpayerandparentcorporationcouldhavecompletedthetransactionswithouttheintermediary.However,exchangesbetweentheparentcorporationandthetaxpayerwouldnothavebeeneligibleforlike-kindexchangetreatmentbecausethetwoentitieswererelatedthroughcommonownership.

HoldingThecourtheldthatthetaxpayer’ssaleofusedequipmenttoanintermediaryandpurchaseofreplacementequipmentfromaparentcorpo-rationwasnotentitledtolike-kindexchangetreatment.

[North Central Rental & Leasing, LLC v. United States,779F.3d738(8thCir.2015)]

Net Operating Losses

Marvel Enterprises, Inc. v. CommissionerI.R.C.§108

■☞ Cancellation of debt income of members of a consolidated group must be first used to reduce the consolidated NOL of the group .

FactsThetaxpayerwasanaffiliatedgroupthatfiledconsolidatedreturns.In1998thegroupmembersrealizedcancellationofdebt(COD)incomeinbankruptcyproceedings.Eachmemberreduceditsindividualnetoperatingloss(NOL),andthetaxpayerreducedeachmember’sshareoftheconsolidatednetoperatingloss(CNOL)bythesameamount.TheIRSarguedthatCODincomeinthebankruptcyproceedingsreducedonlytheCNOL.

AnalysisUnderUnited Dominion Indus., Inc. v. United States,532U.S.822(2001),aconsolidatedgroupmembercannothaveaseparateNOLforacon-solidatedreturnyearunlessaspecificconsoli-datedreturnTreasuryregulationallocatesand

■☞ Sale of used equipment and purchase of replace-ment equipment was not entitled to like-kind exchange treatment .

FactsThetaxpayerwasanLLCformedbyafamily-ownedcorporationtoconductequipmentleasingoperations.Thecorporationowned99%ofthetaxpayer,andtheremaining1%wasownedbyafamilymemberownerofthecorporation.

Thetaxpayerenteredintoaseriesof398like-kindexchangesofleasedequipment.Thetaxpayersoldtheusedequipmentthroughanintermediarytoanunrelatedparty.Theinter-mediarytransferredtheproceedstotheparentcorporation.Ataboutthesametime,thecorpo-rationsoldnewequipmenttothetaxpayeratthecorporation’scost.Anydifferencebetweenthesalepriceoftheusedequipmentandthecostofthenewequipmentbecameanobligationofthetaxpayertotheparentcorporation.Thetaxpayerdeferredrecognitionofgainonthesale.Thepar-entcorporationprofitedfromthisformoftrans-actionbecauseitspurchaseofthenewequipmentdidnotrequirepaymentfor6months,thusallow-ingtheparenttokeepandusetheproceedsofthesaleoftheusedequipmentfor6months.

AnalysisI.R.C.§1031allowsdeferredrecognitionoftaxforexchangesof“propertyheldforproductiveuseinatradeorbusinessorforinvestmentifsuchpropertyisexchangedsolelyforpropertyoflikekindwhichistobeheldeitherforproductiveuseinatradeorbusinessorforinvestment.”

However,I.R.C.§1031(f)(1)generallypro-hibitsnonrecognitiontreatmentforexchangesinwhichataxpayerexchangeslike-kindpropertywitha“relatedperson,”andeitherpartythendis-posesoftheexchangedpropertywithin2yearsoftheexchange. I.R.C.§1031(f)(4)broadlyprohib-itsnonrecognitiontreatmentforanyexchangethatispartofatransaction(oraseriesoftransac-tions)structuredtoavoidthepurposesofI.R.C.§1031(f).

Thecourtcitedcaselawthatheldthattrans-actionsarestructuredtoavoidthepurposesofI.R.C.§1031whenunnecessarypartiespartici-patedinthetransactionsandwhenarelatedpartyendedupreceivingcashproceeds.Thecourtfoundthattheparentcorporation’sinvolvement


676 PASSIVE ACTIVITIES

ScheduleE(Form1040),SupplementalIncomeandLoss.

AnalysisUndertheself-rental rule,Treas.Reg.§1.469-2(f)(6)generallyrecharacterizesasnonpassivethenetrentalactivityincomefrompropertythatisrentedforuseinatradeorbusinessactivityinwhichthepropertyownermateriallyparticipates.

Thetaxpayersarguedthattheself-rentalruledidnotapplyinthiscasefortworeasons.First,thetaxpayersarguedthattheI.R.C.§469pas-siveincomerulesdidnotapplytoScorporations.AlthoughthecourtagreedthatI.R.C.§469doesnotspecificallymentionScorporationsastax-payers,thecourtheldthatthecaselawwaswellsettledthatI.R.C.§469passivelossrulesapplytopass-throughentityincome.

Thetaxpayersalsoarguedthattheself-rentalrulewasinapplicablebecausetheScorporation,asthelessor,didnotparticipateinthetradeorbusinessoftheCcorporation(thelessee).Thecourtheldthat theapplicationof therule tothetaxpayerswasvalidbecausethetaxpayersreceivedtheincomefromtherentalactivityandtheapplicationoftheruleaffectedthecharacterofthatincome.

HoldingThecourtheldthatpass-throughincomefromtherentalofrealpropertyownedbythetaxpay-ers’whollyownedScorporationtothetaxpayers’whollyownedCcorporationforuseinabusinessinwhichonetaxpayermateriallyparticipatedwasproperlyrecharacterizedasnonpassiveincome.

[Williams v. Commissioner,T.C.Memo.2015-76]

Lamas v. CommissionerI.R.C.§469

■☞ Income from two family corporations was not passive where the shareholder performed signifi-cant services for over 500 hours per year .

FactsThetaxpayerownedaninterestintwofamily-ownedcorporations,bothofwhichwereinvolvedincommercialandresidentialrealestatedevel-opment.Thetaxpayer’sdutiesincludedman-agementoftheday-to-dayoperations,obtainingfinancing,findinginvestors,andpromotingthe

apportionspartoftheCNOLtothatmember.In1998,whenthegroupmembersexcludedCODincome,nosuchregulationexisted.

Hybrid Approach to Attribute Reduction

For COD income discharged after March 21, 2005, Treas . Reg . § 1 .1502-28(a) prescribes a hybrid approach that first reduces the tax attributes of the member entity, then applies a look-through rule to reduce attributes of the member entity’s subsidiaries, and lastly reduces attributes of the consolidated group .

HoldingThecourtheldthatbeforetheadoptionofthetemporaryregulationsonMarch15,2004,CODincomeincurredbymembersofaconsolidatedgroupthatwasexcludedfromincomeunderI.R.C.§108mustbeusedtoreduceCNOLofthegroupandnottheindividualmembers’NOL.

[Marvel Enterprises, Inc. v. Commissioner,145T.C.No.2(2015)]

Passive Activities

Williams v. CommissionerI.R.C.§469

■☞ Passive income from the rental of property by the taxpayers’ S corporation to the taxpayers’ C corporation was recharacterized as nonpassive income under the “self-rental” rule .

FactsThetaxpayers,husbandandwife,ownedanScorporationthatownedandoperatedarealestatecompanyandaCcorporationthatownedandoperatedamedicalclinic.Thehusbandworkedfull-timeforthemedicalclinicandmate-riallyparticipatedinitsoperation.Neithertax-payermateriallyparticipatedintherealestateactivity,andthetaxpayerswerenotengagedina“realpropertytradeorbusiness”asdescribedinI.R.C.§469(c)(7)(B)and(C).

Therealestatecompanyleasedrealprop-erty to theCcorporation,andthetaxpayersreportedtherentalincomeaspassiveincomeon


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Thecourt found that the taxpayer’s twobusinessessatisfiedallfivefactorsandthatthebusinessescouldbecombinedforpurposesofdeterminingwhetherthetaxpayermateriallypar-ticipatedintheactivities.

Taxpayersmaynotincludeinmaterialpar-ticipationanyhoursoftimespentonanactivityasaninvestor,unlessthetaxpayerwasinvolvedintheday-to-dayoperationsofthebusinesses[Temp.Treas.Reg.§1.469-5T(f)(2)(ii)].Thecourtfoundthattheinvestorexceptiondidnotapplybecausethetaxpayerparticipatedintheday-to-dayoperationofthebusinesses,andthetaxpay-er’sinvestmentactivityqualifiedasparticipation.

Thecourtheardtestimonyofothermembersofthetwobusinessesandfoundthatthetaxpayerperformedatleast691hoursinthebusinesses.Thecourtalsofoundthattheworkperformedbythetaxpayerqualifiedassignificantparticipationactivities.

HoldingThecourtheldthatthetaxpayercouldtreattheactivitiesofthetwocorporationsasoneactivitybecausethecorporationssharedmembersandbusinessactivities.ThecourtalsoheldthatthelossesfromtheactivitieswerenotpassiveactivitylossesunderI.R.C.§469becausethetaxpayerworkedmorethan500hoursonthecombinedbusiness activities, including theday-to-dayoperations.

[Lamas v. Commissioner,T.C.Memo.2015-59]

Records

Sabolic v. CommissionerI.R.C.§61

■☞ A bartender’s detailed contemporaneous records of tip income were sufficient to be more accurate than the IRS method of computing tip income .

FactsIn2009through2011thetaxpayerwasemployedasabartenderinacasino.Theemployermain-tainedcomputerrecordsofthetipsmadebycreditcardpurchasesorbyroomcharges.Thetaxpayerkeptdailyrecordsof thecash tips,reportingthemtotheemployerandmaintainingseparaterecordshimself.Alltheserecordswere

twobusinesses.Thecourtfoundthatthetaxpayerworkedatleast691hoursperyearforoneorbothofthecorporationsandmateriallyparticipatedinthecorporations’businessesformorethan500hoursperyear.

AnalysisUnderI.R.C.§469,lossesfrompassiveactivitiescannotbeusedtooffsetincomefromnonpassiveactivities.Apassiveactivityisanytradeorbusi-nessinwhichthetaxpayerdoesnotmateriallyparticipate.Theregulationsprovideseventeststodeterminewhetherataxpayermateriallypar-ticipated,andataxpayermustsatisfyonlyoneofthosetests[Temp.Treas.Reg.§1.469-5T(a)].Underoneofthosetests,taxpayerscansatisfythematerialparticipationrequirementiftheypar-ticipateinthetradeorbusinessactivityformorethan500hoursduringthetaxableyear[Temp.Treas.Reg.§1.469-5T(a)(1)].Underanothertesttaxpayerscansatisfythematerialparticipationrequirementiftheactivityisasignificantpartici-pationactivityforthetaxableyear,andthetax-payer’saggregateparticipationinallsignificantparticipationactivitiesduringsuchyearexceeds500hours[Temp.Treas.Reg.§1.469-5T(a)(4)]. Asignificantparticipationactivityisatradeorbusinessactivitythatthetaxpayerparticipatesinformorethan100hoursduringthetaxyear,andanactivitythatthetaxpayerwouldotherwisenotbetreatedasmateriallyparticipatinginundertheothertests[Temp.Treas.Reg.§1.469-5T(a)(4)].Tosatisfythismaterialparticipationtest,taxpay-ersmustaggregatealltheirsignificantparticipa-tionactivitiestogetherforthetaxyear,andthetotalmustexceed500hours.

Ataxpayermayaggregatethehoursspentonmorethanoneactivityiftheactivitiesmeetoneormoreofthefollowingfivefactorslistedintheregulationsthataregiventhegreatestweightindeterminingwhetheractivitiesconstituteanappropriateeconomicunitforthemeasurementofgainorlossforpurposesofsection469:

1.Similaritiesanddifferencesintypesoftradesorbusinesses

2.Theextentofcommoncontrol3.Theextentofcommonownership4.Geographicallocation5.Interdependenciesbetweenoramongthe

activities


678 RETIREMENT

Retirement

Ellis v. CommissionerI.R.C.§§408and4975

■☞ Payment of compensation to the taxpayer by an LLC owned by the taxpayer’s self-directed IRA was a prohibited transaction .

FactsThetaxpayerhada401(k)retirementplanwithhisformeremployer.Thetaxpayerreceiveddis-tributionsfromthe401(k)planthatwerecontrib-utedtoaself-directedIRA.Thetaxpayerdirectedtheself-directedIRAcustodiantopurchasea98%interestinanLLC(taxedasacorporation)thatthetaxpayerhadformed.Afterthepurchaseofthe98%interestbytheIRA,theremaining2%interestwassoldtoathirdparty,andthetaxpayerdidnotholdanyownershipinterestintheLLC.ThetaxpayerwasthegeneralmanageroftheLLC,whichoperatedausedcarbusiness,andthetaxpayerreceivedwagesfromtheLLC’sincome.

TheIRSarguedthattheIRAlostitsstatusasanindividualretirementaccountanditsentireFMVwastreatedastaxableincomebecausethetaxpayerengagedinaprohibitedtransactionunderI.R.C.§4975(c).Specifically,thetaxpayer(1)directedhisIRAtoacquireamembershipinterestintheLLCwiththeexpectationthatthecompanywouldemployhim,and(2)receivedwagesfromtheLLC.

AnalysisI.R.C.§4975limitstheallowabletransactionsforcertainretirementplans,includingindivid-ualretirementaccountsunderI.R.C.§408(a).Itimposesanexcisetaxonenumeratedprohibitedtransactionsbetweenaplanandadisqualifiedperson[I.R.C.§4975(a)].Prohibited transactions includeanydirectorindirecttransferto,orusebyorforthebenefitof,adisqualifiedpersonoftheincomeorassetsofaplan;oranactbyadis-qualifiedpersonwhoisafiduciarywherebyheorshedealswiththeincomeorassetsofaplaninhisorherowninterestorforhisorherownaccount[I.R.C.§4975(c)(1)(D),(E)].

Ifadisqualifiedpersonengagesinaprohib-itedtransactionwithanIRA,theplanlosesitsstatusasanIRAunderI.R.C.§408(a),andits

presentedasevidencetotheIRSandcourt.Therecordsweremaintainedinwholenumbers,andthetaxpayerexplainedthatanyleftoverchangewastippedouttootherworkers.Thetaxpayeralsosharedsomeofthetipswithcoworkers.

TheIRScalculatedanestimatedtipincomeamountusingthetippercentagefromthecreditcardtips,modifyingtheresultwitha“stiff”ratefornontippedsalesand10%forthetipssharedwithotherworkers.Usingthismethod,theIRSdeterminedthatthetaxpayerdidnotreportalltipincome.

AnalysisTaxpayerswhoreceivetipsintheirworkarerequiredtomaintainanaccurateandcontempo-raneousrecordofsuchincomesufficientfortheIRStodeterminetheircorrecttaxliability[Treas.Reg.§§1.60011(a),31.6053-4].

Whenataxpayerfailstokeeprecords,ormaintainsonlyincompleteorinadequaterecordsofincome,orwhenataxpayer’srecordsarenolongeravailable,theIRSmayrecomputetipsinanymannerthatclearlyreflectsincome.

TheIRSarguedthatthetaxpayer’srecordscontainedseveralerrorsandinconsistenciesthatmadethemunreliable.TheIRSpointedtotheuseofwholenumbersonlyinthecashtiprecords,theomissionofseveralworkperiods,andthelackofarecordofthetipssharedwithotheremployees.

Thecourtfoundthatthetaxpayerreasonablyexplainedtheseinconsistenciesinthatthechangewasgiventootherworkers,thecasinorecordswereoftenfaulty,andeventheIRSmethodofcomputingthesharedtipswassimilartothetax-payer’sestimate.

HoldingThecourtheldthatthetaxpayerkeptsufficientdailyrecordsofthecashtipsandsharedtipstoprovideamoreaccuratedeterminationoftheamountofcashtipsreceivedeachtaxyearthantheIRSmethodofcalculatingthetipsbasedonthetiprateforchargedpurchases.

[Sabolic v. Commissioner,T.C.Memo.2015-32]


Retirement 679

16

differentIRAthatneithermadenorreceivedthe2014distribution.TheBobrowaggregationrule,whichtakesintoaccountalldistributionsandrolloversamonganindividual’sIRAs,appliestodistributionsfromdifferentIRAsonlyifeachofthedistributionsoccursafter2014.Arolloverdis-tributionfrom2014to2015isnota2015rollover.

ArolloverfromatraditionalIRAtoaRothIRA(aconversion)isnotsubjecttotheone-roll-over-per-yearlimitation,andsucharolloverisdisregardedinapplyingtheone-rollover-per-yearlimitationtootherrollovers.However,arolloverbetweenanindividual’sRothIRAswouldpre-cludeaseparaterolloverwithinthe1-yearperiodbetweentheindividual’straditionalIRAs,andviceversa.

SimilarrulesapplytoasimplifiedemployeepensiondescribedinI.R.C.§408(k)andaSIM-PLEIRAdescribedinI.R.C.§408(p).

Theone-rollover-per-year limitationalsodoesnotapplytoarollovertoorfromaqualifiedplan(andsucharolloverisdisregardedinapply-ingtheone-rollover-per-yearlimitationtootherrollovers),nordoesitapplytotrustee-to-trusteetransfers.

IRAtrusteesareencouragedtoofferIRAownerswhorequestadistributionforrollovertheoptionofatrustee-to-trusteetransferfromoneIRAtoanotherIRA.IRAtrusteescanaccom-plishatrustee-to-trusteetransferbytransferringamountsdirectlyfromoneIRAtoanotherorbyprovidingtheIRAownerwithacheckmadepay-abletothereceivingIRAtrustee.[Announcement2014-32,2014-48I.R.B.907]

Bobrow Discussion

See Chapter 1, “Retirement,” in the 2014 National Income Tax Workbook for more discussion of Bobrow v. Commissioner and related topics .


■☞ Distributions from a marital trust could be rolled over to the trustee’s IRA without income tax .

FactsAtthetimeofhisdeath,thedecedentwasretiredandaparticipantinthe401(k)planofdecedent’s

FMVasofthefirstdayofthetaxyearisdeemeddistributedandincludedinthedisqualifiedper-son’sgrossincome[I.R.C.§408(e)(2)].ThecourtfoundthatthetaxpayerwasadisqualifiedpersonunderI.R.C.§4975(e)(2)(A)becausehewasafiduciaryofhisIRA.I.R.C.§4975(e)(3)definesafiduciary asonewhoexercisesanydiscretion-aryauthorityordiscretionarycontrolrespectingthemanagementoftheplanorthemanagementordispositionofitsassets.ThecourtalsofoundthattheLLCwasadisqualified personbecausethetaxpayerwasabeneficialindirectowneroftheIRA’smembershipinthecompany.I.R.C.§4975(e)(2)(G)(i)includesasadisqualifiedpersonacorporationinwhich50%ormoreofthecom-binedvotingpowerofallclassesofstockentitledtovote,orofthetotalvalueofsharesofallclassesofstockofsuchcorporation,isownedbyafidu-ciary.I.R.C.§4975(e)(4)statesthatownershipincludesindirectownership.

HoldingThecourtheldthatthetaxpayerengagedinaprohibitedtransactionwhentheLLCthatwasownedbythetaxpayer’sself-directedIRA(ofwhichthetaxpayerwasafiduciary)paidcom-pensationtothetaxpayer.Becausethetaxpayerengagedinaprohibitedtransaction,theentiredistributionfromthepensionplanwasincludedinthetaxpayer’sincomeandwassubjecttothe10%additionaltaxforearlydistributions.

[Ellis v. Commissioner,787F.3d1213(8thCir.2015)]

Announcement 2014-32I.R.C.§408

■☞ IRA rollover distributions from 2014 to 2015 do not count as 2015 rollovers for the one-rollover-per-year rule .

TheIRShasannouncedfurtherguidanceunderBobrow v. Commissioner,T.C.Memo.2014-21,whichconcludedthatanindividualreceivinganIRAdistributioncannotrolloveranyportionofthedistributioniftheindividualhasreceivedandrolledoveradistributionfromanyIRAinthepreceding1-yearperiod.

Asatransitionrulefordistributionsin2015,adistributionoccurringin2014thatwasrolledoverisdisregardedforpurposesofdeterminingwhethera2015distributioncanberolledover,providedthatthe2015distributionisfroma


680 RETIREMENT

thesixtiethdayfollowingthedayonwhichthedistributeereceivedthepropertydistributed.I.R.C.§402(c)(4)definesaneligible rollover distri-butionasanydistributiontoanemployeeofalloranyportionofthebalancetothecreditofanemployeeinaqualifiedtrustexceptthefollowingdistributions:

1.Anydistributionthatisoneofaseriesofsub-stantiallyequalperiodicpayments(notlessfrequentlythanannually)madea. for the life (or life expectancy)of the

employeeorthejointlives(orjointlifeexpectancies)oftheemployeeandtheemployee’sdesignatedbeneficiary,or

b.foraspecifiedperiodof10yearsormore

2.Anydistributiontotheextentthedistributionisrequiredundersection401(a)(9)

3.Anydistributionthatismadeuponthehard-shipoftheemployee

I.R.C.§402(c)(8)(B)definesaneligible retire-ment planas

1.anindividualretirementaccountdescribedinI.R.C.§408(a),

2.anindividualretirementannuitydescribedinI.R.C.§408(b)(otherthananendowmentcontract),

3.an employees’ trust described in I.R.C.§401(a)thatisexemptfromtaxunderI.R.C.§501(a),

4.anannuityplandescribedinI.R.C.§403(a),5.an eligible deferred compensation plan

describedinI.R.C.§457(b)that ismain-tainedbyaneligibleemployerdescribedinI.R.C.§457(e)(1)(A),and

6.an annuity contract described in I.R.C.§403(b).

I.R.C.§402(c)(9)providesthatifanydis-tributionattributabletoanemployeeispaidtothespouseoftheemployeeaftertheemployee’sdeath,I.R.C.§402(c)shallapplytosuchdistribu-tioninthesamemannerasifthespouseweretheemployee.

Astrustee,thesurvivingspousehasthepowertodistributetoherself,foranypurpose,anypor-tionorallofthepropertyofthemaritaltrust.Thesurvivingspousedistributedtheproceedsoftheplantothetrustandallocatedtheproceedstothemaritaltrust.Thesurvivingspousethen

formeremployer.Theplanmetthequalifica-tionrequirementsofI.R.C.§401(a).Thedece-dentwastakingminimumrequireddistributionsunderI.R.C.§401(a)(9).Thedecedent’snamedbeneficiariesundertheplanwerethedecedent’ssurvivingspouse(50%)andatrust(50%).Thetrustwasajointlivingtrustwiththedecedentandthesurvivingspouseastrustorsandtrustees.Thetrustprovidedthat,uponthedeathofthedece-dent,thesurvivingspousebecamesoletrusteeandsoletrustor.

Thetrustprovidedthatuponthedeathofeithertrustor,thesurvivingtrusteewilldividethetrustestateintotwoseparatetrusts,amaritaltrustandaresiduarytrust.Thetrustfurtherprovidedthatthesurvivingtrustee,inmakingallocationsordistributions,didnothavetoconsiderthebasisofthevariousassetsthatarebeingdistributed,andthesurvivingspousedidnothavetoattempttoequalizetheaggregatebasisofassetsdistributedtothevariousdistributees.

Thetrustfurtherprovidedthatthesurvivingtrusteewillpayallofthenetincomeofthemari-taltrustinmonthlyinstallmentstothesurvivingtrustorduringhisorherlifetime.Thetrustfur-therprovidedthatthesurvivingtrustorwillhavetherighttodirectthetrusteeinwritingtopaytheprincipalofthemaritaltrustforthesurvivor’sbenefit.

Thesurvivingspouserepresentedthatshe,asthesoletrusteeofthetrust,willdirectthatthetrust’s50%interestinthe401(k)planbedistrib-utedtothetrustandallocatedtothemaritaltrust.Thesurvivingspouse,assurvivingtrustor,willdirectthetrusteetodistributetoherselfasbenefi-ciaryofthemaritaltrusttheproceedsoftheplan.ThesurvivingspousewillthenarrangearollovercontributiontoanIRAestablishedinhername.Suchrolloverwillnotincludeanyrequiredmini-mumdistributionsunderI.R.C.§401(a)(9).

AnalysisI.R.C.§402(c)(1)provides,generally,thatifanyportionofaneligiblerolloverdistributionfromanI.R.C.§401(a)qualifiedretirementplanistransferredtoaneligibleretirementplan,thepor-tionofthedistributionsotransferredshallnotbeincludedingrossincomeinthetaxyearinwhichitispaid.I.R.C.§402(c)(3)(A)provides,gener-ally,that,exceptasprovidedinsubparagraph(B)(hardshipexception),I.R.C.§402(c)(1)shallnotapplytoanytransferofadistributionmadeafter


Tax Practice 681

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portionofthedistributionthatisincludedingrossincome.I.R.C.§72(t)(2)(A)(iv)providesthatI.R.C.§72(t)(1)shallnotapplytodistribu-tionsthatarepartofaseriesofsubstantiallyequalperiodicpayments(notlessfrequentlythanannu-ally)madeforthelife(orlifeexpectancy)oftheemployeeorthejointlives(orjointlifeexpectan-cies)ofsuchemployeeandhisorherdesignatedbeneficiary.

RulingTheIRSruledthattheextradistributionswerenotamodificationoftheperiodicpaymentsandwerenotsubjecttothe10%additionaltaxonearlydistributionsunderI.R.C.§72(t)(1).

[Ltr.Rul.2015-10-060(December9,2014)]

Tax Practice

Specht v. United StatesI.R.C.§6651

■☞ The executor of an estate failed to show reason-able cause for failing to timely file an estate tax return .

FactsThedecedentdiedinDecember2008,andthetaxpayerwasappointedasexecutoroftheestate.Thetaxpayerhiredanattorneytoassistwithadministrationoftheestate,buttheattorneyfailedtotellthetaxpayerthattheattorneywassufferingfrombraincanceratthetime.AlthoughthetaxpayerknewthatanestatetaxreturnwasduebySeptember30,2009,thereturnwasnotfiled,andnotaxeswerepaiduntilJanuary2011.TheIRSassessedalate-filingpenaltyunderI.R.C.§6651(a)(1)andapenaltyforlatepaymentofthetaxesunderI.R.C.§6651(a)(2).Thetaxpayerpre-sentedevidencethatthetaxpayerdidnotknowabouttheattorney’sdisablingmedicalconditionandthattheattorneywasdisbarredforfailingtoproperlyadvisethetaxpayerandtimelycarryouttheattorney’sduties.Thetaxpayerarguedthattheuseoftheattorneyconstitutedreason-ablecauseandlackofwillfulneglectinfailingtofileandpaythetaxesontime.Thus,thetaxpayerarguedthatthefailuretomeetthetaxfilingandpaymentdeadlinesresultedfromcircumstanceslargelybeyondthetaxpayer’scontrol.

distributedtheproceedsoftheplanfromthemar-italtrusttoherselfasbeneficiaryofthemaritaltrust,afterwhichsherolledoverthedistributiontoanIRAmaintainedinherownname.

Becausethedistributionwillbepaidtothesurvivingspouse,whoistheemployee’sspousewithrespecttothedecedent’sbenefitintheplan,I.R.C.§402(c)(9)applies,and the survivingspousewillbetreatedasifshewastheemployee.Accordingly,thesurvivingspousemaycontrib-utetheproceedsdistributedfromtheplanintoanIRAsetupandmaintainedinthesurvivingspouse’sname,providedthatthecontributiontotheIRAoccursnolaterthanthesixtiethdayafterthedatetheamountwasreceivedbythetrustfromtheplan.

RulingTheIRSruledthatthesurvivingspousecouldrolloverthedistributionsfromthemaritaltrusttothesurvivingspouse’sIRAwithoutsubjectingthedistributiontoincometax.

[Ltr.Rul.2015-23-020(March4,2015)]

Letter Ruling 2015-10-060I.R.C.§§408and4975

■☞ Extra distributions made erroneously by an IRA trustee were not a modification of periodic payments .

FactsThetaxpayerownedanIRAandwasreceiv-ingsubstantiallyequalmonthlypaymentsfromtheIRA.TheentitythatwastheIRAcustodianwasacquiredbyanothercompanyandtrans-ferredthetaxpayer’sIRAtotwonewaccounts.DuringthetransferthenewcompanyfailedtostopthedistributionsfromtheoldIRAaccountbeforebeginningdistributionsfromthenewIRAaccount,resultingintwodistributionsinexcessoftherequiredmonthlyamount.TheerrorwasnotdiscovereduntilthetaxpayerreceivedaForm1099-R,DistributionsFromPensions,Annuities,RetirementorProfit-SharingPlans,IRAs,Insur-anceContracts,etc.,forthetaxyear.

AnalysisI.R.C.§72(t)(1)imposesanadditional10%taxonearlydistributionsfromqualifiedplans,includ-ingIRAs.Theadditionaltaxisimposedonthat


682 TRADE OR BUSINESS

thecontinuingeducation(CE)requirementsforregisteredtaxreturnpreparers(RTRPs).Any-onewhopassedtheRTRPtestofferedbetweenNovember2011andJanuary2013needstomeetonlyhisorheroriginal15-hourCErequirementeachyeartoobtainanAFSPrecordofcomple-tion.ThosewhopassedtheRTRPtestandcer-tainotherrecognizednationalandstatetestsareexemptfromthe6-hourfederaltaxlawrefreshercourseandtest.

Anotherquestionaddressedistherepresen-tationrightsofAFSPparticipants.TheIRSstatedthatattorneys,CPAs,andenrolledagents(EAs)willcontinuetobetheonlytaxprofessionalswithunlimitedrepresentationrights,whichmeanstheycanrepresenttheirclientsonanymattersincludingaudits,payment/collectionissues,andappeals.

SuccessfulAFSPparticipantswillhavelim-itedrepresentationrights,whichmeanstheycanrepresentclientswhosereturnstheypreparedandsignedbutonlybeforerevenueagents,customerservicerepresentatives,andsimilarIRSemploy-ees,includingtheTaxpayerAdvocateService.

PTINholderswithoutanAFSPrecordofcompletionorotherprofessionalcredentialwillbepermittedtopreparetaxreturnsbutwillnotbeallowedtorepresentclientsbeforetheIRS.

[www.irs.gov/Tax-Professionals/Annual-Filing -Season-Program]

Trade or Business

Boneparte v. Commissioner I.R.C.§§165and183

■☞ A gambler was not entitled to deduct gambling-related expenses because the taxpayer was not a professional gambler .

FactsThetaxpayerwasemployedfull-timeinagovern-mentjobfrom2p.m.to10p.m.,working4dayson,2daysoff,4dayson,2daysoff,5dayson,2daysoff.Thetaxpayerdidnothaveapermanentresidenceandstayedeachnightatacasinohotelwherehewouldgamble.Thetaxpayeralsogam-bledonhorseracesandatothercasinosinseveralstates.

AnalysisAtaxpayermayavoidthepenaltiesofI.R.C.§6651(a)ifthetaxpayercanestablishthatafail-uretofiletimelyreturnsorpaymentsis“duetoreasonablecauseandnotduetowillfulneglect.”UnderTreas.Reg.§301.6651(c)(1),theestateorexecutorcanshowreasonablecausebydemon-stratingthatithasexercised“ordinarybusinesscareandprudence.”Thecourtfoundthatreli-anceonanattorneyforlegalquestionsmetthestandardofcaretoavoidthepenalties.However,thecourtheldthattheexecutorinthiscasedidnotrelyontheattorneytodeterminewhetherthereweretaxreturnfilingandpaymentdead-linesbecausetheexecutorwasfullyawareoftheneedtofileandpaytaxesbyasetdate.Thecourtheldthatitwasnotreasonablefortheexecutortorelyontheattorneytofilethereturnandmakethepaymentoftaxes.

Thecourtdefinedwillfulneglectasacon-scious,intentionalfailureorrecklessindifference.However,thecourtalsoheldthatmerecareless-nessisenoughforanexecutortobesubjecttothelate-filingandtaxpaymentpenalties.

Theevidenceshowedthatthetaxpayerhadreceivedseveralnoticesfromthestateandfed-eralagenciesthatthetaxreturnsandotherpro-batefilingswereoverdue,noticesfromfamilymembersabouttheattorney’sincompetence,andwarningsfromotherlegalcounseloftheneedtofindnewrepresentation.Thus,thecourtheldthatthetaxpayerwaswellawareofthedeadlinesforreturnfilingsandtaxpayment,andthefailuretoactonthosedeadlinesconstitutedwillfulneglectandsubjectedtheestatetotheassessedpenalties.

HoldingTheestatewasheldliableforthelate-filingandlate-payingpenalties.

[Specht v. United States,115A.F.T.R.2d(RIA)2015-357(S.D.Ohio2015)]

Annual Filing Season ProgramI.R.C.§7701(a)(36)

■☞ The IRS posted information on the Annual Filing Season Program on its website .

Informationaboutthenew,voluntaryAnnualFilingSeasonProgram(AFSP)fortaxreturnpre-parersisaccessibleinquestion-and-answerformontheIRSwebsite.Onequestionaddressedis


Trusts and Estates 683

16

Trusts and Estates

Program Manager Technical Assistance Letter 2014-18I.R.C.§§6501and6038

■☞ The limitations period on assessments is extended by I .R .C . § 6501(c)(8) if the executor fails to include information about foreign assets held by a decedent on the decedent’s final Form 1040 or the estate’s Form 1041 or 706 .

FactsThedecedent,whowasaUSperson,ownedinterestsinforeignfinancialassetswithinthemeaningofI.R.C.§6038D.Thedecedent’sestateincludedgrossassetssufficienttorequireittofileForm706,UnitedStatesEstate(andGeneration-SkippingTransfer)TaxReturn.Theexecutorfiledthedecedent’sForm1040,U.S.IndividualIncomeTaxReturn,butdidnotfurnishtheinfor-mationrequiredtobeattachedtothatreturnunderI.R.C.§6038D.Theexecutoralsofiledtheestate’sForm1041,U.S.IncomeTaxReturnforEstatesandTrusts,andForm706,asrequired.TheexecutorfailedtoincludetheforeignassetsontheForm706asapartofthegrossestate.Theexecutoralsoomittedincomefromtheforeignassetsonthetaxpayer’sfinalForm1040andtheestate’sForm1041.Theordinary3-yearassess-mentperiodhadclosedoneachofthesereturns.

AnalysisUnderI.R.C.§6501(c)(8),inthecaseofanyinfor-mationthatisrequiredtobereportedtotheIRSpursuanttoanelectionunderI.R.C.§6038D,thetimeforassessmentoftaxwithrespecttoanytaxreturn,event,orperiodtowhichsuchinforma-tionrelatesshallnotexpirebeforethedatethatis3yearsafterthedateonwhichthetaxpayerfur-nishestheinformationrequiredtobereported.

UnderI.R.C.§6501(c)(8),ifthefailuretofur-nishtherequiredinformationisduetoreason-ablecause,andnottowillfulneglect,thentheextensionoftheperiodoflimitationsisrestrictedtotaxesresultingfromadjustmentstotheitem(s)towhichtheinformationrelates.

Thetaxpayerdidnotmaintainwrittenrecordsofthegamblingwinningsandlosses.Onthetax-payer’soriginal2010return,thetaxpayerdidnotlistanygamblinglossesorwinnings.Afterthereturnwasselectedforaudit,thetaxpayerfiledanamendedreturnthatlisted$25,000ingam-blinglossesandgambling-relatedexpensesasdeductionsonScheduleA(Form1040),ItemizedDeductions,and$25,000ingamblingincomeonScheduleC(Form1040),ProfitorLossFromBusiness(SoleProprietorship).Thetaxpayercon-tendedthathewasaprofessionalgambler.

AnalysisI.R.C.§183(a),(b),and(c)providethatapro-fessionalgamblermustbeengagedingamblingwiththeintenttomakeaprofit.Thetaxpayer’sintentisdeterminedusingtheninefactorslistedinTreas.Reg.§1.183-2(b).Thecourtfoundthatthefollowingfivefactorsdeterminedthatthetax-payerdidnotgamblewiththeintenttomakeaprofit:

1.Thetaxpayerdidnotcarryonthegamblinginabusinesslikemannerbecausethetaxpayerdidnotkeepcompleteandaccuratewrittenrecordsofthegamblingactivity,andthetax-payerdidnotusesuchrecordstoadjusttheactivitytomakeitprofitable.

2.Thetaxpayerdidnothaveanyexpertiseatgambling,andthetaxpayerdidnotconsultwithexpertstoimprovethetaxpayer’sefforts.

3.Thetaxpayerhadnohistoryofsuccessinothersimilarbusinessactivities.

4.Thetaxpayerprovidednoevidenceofahis-toryofprofitsorlossesfromthegamblingactivity.

5.Gamblinglosseswereusedtooffsetincomefromothersources.

6.The taxpayerreceivedpersonalpleasurefromthegamblingactivity.

HoldingThetaxpayerwasnotalloweddeductionsforgambling-relatedexpensesbecausethetaxpayerwasnotaprofessionalgambler.

[Boneparte v. Commissioner,T.C.Memo.2015-128]


684 TRUSTS AND ESTATES

RulingTheIRSruledthat thelimitationsperiodonassessmentsisextendedbyI.R.C.§6501(c)(8)iftheexecutorfailstoincludeinformationaboutforeignassetsheldbyadecedentonthedece-dent’sfinalForm1040ortheestate’sForm1041or706.

[P.M.T.A.2014-18(March18,2015)]


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