Jason Freeman | TaxConnections

22 Feb 2023

Reporting Disability Income And Lifetime Learning Credit Reduction

Trice v. Comm’r, T.C. Memo. 2023-15| February 13, 2023 | Gustafson, J. | Dkt. No. 20398-19

Summary: The IRS issued a Notice of Deficiency (“NOD”) Tanisha Trice for the taxable year 2017. The IRS took issue with her report of income in the form of disability benefits she received from the Social Security Administration (“SSA”). The SSA reported on Form SSA–1099, “Social Security Benefit Statement”, that Trice was awarded disability benefits totaling a gross and untaxed amount of $17,164. Ultimately, the SSA reported having paid, and Trice indicated receipt of $13,866. Trice also showed repayment of certain amounts to the SSA in the same tax year. But, the records did not clearly indicate the calculation after taking into amounts reduced by the SSA or the repaid by Trice. On her tax return, Trice did not report the Social Security benefits, and she left that response blank. She reported wages of $52,713; adjusted gross income (“AGI”) of $50,450; an education credit of $2,000; and a “total tax” of $3,758. The IRS received the SSA’s report and compared that report to Trice’s 2017 return and noted her non-reporting of the disability benefits. The IRS increased her taxable income by $13,290 (i.e., 85% of Trice’s “net benefits” of $15,635) and, because of the resulting increase in her AGI, reduced the amount of education credit to which she was entitled (i.e., from $2,000 down to $452). The IRS issued an NOD to Trice. She sought review by the Tax Court.

Key Issues: Whether the IRS showed, as a matter of law, (1) that under I.R.C. § 86(a)(2)(B), 85% of Trice’s “net benefits” of $15,635 (i.e., $13,290) was taxable income and, as a result, and (2) that Trice’s education credit should be reduced because of the increase in her income from the SSA benefit determination?

Primary Holdings: The disability benefits that Trice received must be included in income. But, the reported disability benefits that consisted of SSA “deductions” were not explained, and as to them, the IRS was not entitled to summary judgment. Trice’s Lifetime Learning credit must be reduced to the extent that the disability benefits cause her modified adjusted gross income to trigger reductions under I.R.C. § 25A(d). But, until the dispute about the SSA “deductions” has been resolved, the amount of reduction to this credit cannot be discerned.
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Written by Jason Freeman | Posted in Reporting Disability Income

21 Feb 2023

Tax Court Addresses An Addition To Tax For Failure To Pay

Kemegue v. Comm’r, T.C. Summary Opin. 2023-5| February 13, 2023 | Carluzzo, J. | Dkt. No. 8987-20S

Summary: In this non-precedential opinion (see section 7463(b)), the Tax Court addresses an addition to tax for failure to pay pursuant to section 6651(a)(1) and (2). During 2017 Kemegue lost his job and experienced multiple personal and professional setbacks. In April 2018, Kemegue timely requested an extension for filing his 2017 tax return until October 2018. He did not, however, file a tax return for 2017. The IRS prepared a substitute for return for Kemegue for 2017 on the basis of third-party reporting. See 26 U.S.C. § 6020(b). Kemegue did not pay the 2017 income tax liability shown on the substitute for return.

Key Issues: Whether Kemegue was liable for the additions to tax assessed for failure to pay pursuant to section 6651(a)(1) and (2)?

Primary Holdings: Yes. Kemegue did not offer any explanation or evidence of any specific incapacity or illness during the time for filing his return. Rather, he testified to his efforts to seek other employment, including traveling to other states and trying to start his own business. Kemegue did not show reasonable cause for his failure to file his 2017 return and is liable for the addition to tax pursuant to section 6651(a)(1) for the year in issue.

Key Points of Law:

Additions to Tax, Section 6651. Section 6651(a)(1) provides for an addition to tax in the event a taxpayer fails to file a timely return, determined with regard to any extension of time for filing, unless it is shown that such failure is due to reasonable cause and not due to willful neglect. Section 6651(a)(2) provides for an addition to tax for failure to timely pay the amount of tax shown on a return, unless it is shown that such failure is due to reasonable cause and not due to willful neglect.

Burdens. Under section 7491(c), the IRS bears the burden of production with respect to additions to tax. If the IRS meets the burden, the taxpayer has the burden of providing that failure to timely file or pay was due to reasonable cause and not willful neglect. See 26 U.S.C. § 6651(a)(1), (2); Higbee v. Commissioner, 116 T.C. 438, 447 (2001). Whether “reasonable cause” and lack of “willful neglect” exist is a question of fact, and the burden of establishing these facts is on the taxpayer. United States v. Boyle, 469 U.S. 241, 245 (1985).
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Written by Jason Freeman | Posted in IRS Tax Court Cases

17 Feb 2023

Accuracy-Related Penalty And No Reasonable-Cause Excuse

Mulu v. Comm’r, T.C. Summary Opinion 2023-2| January 25, 2023 | Leyden, J. | Dkt. No. 12975-21S

Summary: In this non-precedential opinion (see section 7463(b)), the Tax Court addresses whether or not to uphold an accuracy-related penalty assessed to taxpayer, Ashenafi Getachew Mulu (Mulu). Mulu hired David Clerie—self-coined, “Dave, Tax Doctor”—to prepare Mulu’s federal income tax return as Clerie had done for at least four years. Mr. Clerie did not have a preparer tax identification number (PTIN), and the federal income tax return in issue (2018) was electronically submitted as though it had been self-prepared by Mulu. In 2017 Mulu purchased a house. Clerie advised Mulu to renovate the house for the purpose of renting certain floors. Mulu began renting out those floors during 2018. Clerie visited Mulu’s workplace in February 2019 to gather information to prepare the 2018 tax return. Mulu’s return prepared by Clerie claimed deductions and reported expenses related to the purchase of the house and costs incurred with respect to the rental. Mulu claimed passive activity losses on Form 8582, Passive Activity Loss Limitations, and deductions on Schedule E, Supplemental Income and Loss, related to the purchase of the house. Mulu substantiated only a portion of the repairs expense. Mulu claimed deductions for car and truck expenses on Schedule C, Profit or Loss From Business, and reported his principal business or profession as a “driver.” Mulu actually worked as a pharmacist, but the return listed Mulu’s occupation as “Laborer.” Soon before April 15, 2019, Mulu learned, from Clerie’s brother, that Clerie died on March 8, 2019. The brother told Mulu that the brother was handling Clerie’s tax return preparation business. No qualifications were given. Mulu did not review the tax return before it was e-filed by the brother. The IRS examined the 2018 tax return. The IRS later sent a Form 4549, Report of Income Tax Examination Changes, and a Civil Penalty Lead Sheet and Civil Penalty Approval Form was signed by a review agent supervisor, personally approving of an accuracy-related penalty. Mulu petitioned the Tax Court. After concessions, the sole issue related to the accuracy-related penalty assessed by the IRS.

Key Issues: Whether for 2018 Mulu is liable for a section 6662(a) accuracy-related penalty of $1,212.20?
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Written by Jason Freeman | Posted in Accuracy-Related Penalty • Reasonable-Cause Excuse

15 Feb 2023

A Case About Tax Law Partnership Tax (Subchapter K) And U.S. Taxation Of International Transactions (Subchapter N)

Rawat v. Comm’r, T.C. Memo. 2023-14| February 7, 2023 | Gustafson, J. | Dkt. No. 15340-16

Summary: This case arises at the confluence of two areas of tax law—partnership taxation (subchapter K of the Code) and U.S. taxation of international transactions (Subchapter N of the Code).

Ms. Rawat was a nonresident alien individual for federal income tax purposes during 2008 and 2009. She did not file returns for the 2008 and 2009 tax years. Innovation Ventures, LLC (“IV LLC”), is a U.S. business that manufactures and sells popular consumer products including 5-hour Energy drinks. IV LLC was treated as a partnership for federal income tax purposes. Ms. Rawat owned a 30% interest in IV LLC. In January 2008, Ms. Rawat executed a note for the sale of her interest in IV LLC to Manoj Bhargava for $438 million. The note provided for interest-only payments until 2028, when the note would mature. At the time the note was executed, IV LLC had inventory items with a basis of $6.4 million, which it held for future sale in the U.S. IV LLC later sold those inventory items for a profit of $22.4 million, and Ms. Rawat’s share of income “attributable to the inventory” was $6.5 million. Of the $438 million sale price, $6.5 million was allocable to inventory held in the U.S. for sale therein (“Inventory Gain”).

The IRS conducted an examination of IV LLC for the 2007 and 2008 tax years. The IRS issued Form 5701, “Notice of Proposed Adjustment”, to IV LLC and to Ms. Rawat, proposing to include in Ms. Rawat’s income for 2008 $6.5 million arising from the Inventory Gain issue. Ms. Rawat and the IRS signed an IRS Form 870–LT, “Agreement for Partnership Items and Partnership Level Determinations as to Penalties, Additions to Tax, and Additional Amounts and Agreement for Affected Items”. The Form 870-LT included a “Schedule of Adjustments” that included, under “Other income (loss)”, an adjustment of $6,523,176, with the explanation that “[o]ther income relates to unrealized receivables as defined under Section 751.”

In February 2012 the IRS issued to Ms. Rawat a Notice of Computational Adjustment for her 2008 tax year, based in part on the Form 870-LT. The notice included Form 4549–A, “Income Tax Discrepancy Adjustments”, that listed a $6.5 million increase in income and a tax liability of $2.3 million. Additionally, the IRS determined nearly $1 million in additions to tax under section 6651(a)(1) and (2) and section 6654. The IRS assessed these amounts and issued a Notice of Deficiency (“NOD”). The NOD reflected the previously determined income for 2008 (from the Inventory Gain issue, as stated in the Notice of Computational Adjustment) and further determined additional taxes owed under section 453A(c)(2)(B) as interest on the deferred tax liability attributable to the installment obligation (“Non-Inventory Gain”). The NOD indicated a $3.8 million deficiency in tax for 2008 and a $2.6 million deficiency in tax for 2009. In June 2016 Ms. Rawat paid $2.9 million in tax, interest, and additions to tax attributable to the initial assessments for the 2008 tax year (i.e., arising from the computational adjustments for the Inventory Gain issue). Ms. Rawat filed her petition with the Tax Court in order to challenge the items in the NOD and to invoke the Court’s overpayment jurisdiction under section 6512(b) with respect to her $2.9 million payment for the computational adjustment.

Key Issues: Whether the inventory exception in section 741 of the Code calls for distinct treatment of the inventory-related portion of sale proceeds when the selling partner is a nonresident alien individual?
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Written by Jason Freeman | Posted in Subchapter K • Subchapter N

03 Feb 2023

Deficiency For Disallowed Mortgage Interest Deduction; Qualified Residence Interest

Shilgevorkyan v. Comm’r, T.C. Memo. 2023-12| January 23, 2023 | Ashford, J. | Dkt. No. 9247-15

Summary: This is a deficiency case involving taxpayer Hrach Shilgevorkyan (Petitioner) and the IRS’s disallowance of a mortgage interest deduction for tax year 2012. In 2005 Edvard, Petitioner’s brother, purchased the property in issue in Paradise Valley, Arizona for $1,525,000, making a $392,896 down-payment and obtaining a $1,143,750 bank loan from Wells Fargo. Edvard and his wife, Lusine, were the borrowers. Edvard, Lusine, and Artur (Petitioner’s other brother) took out a $1,200,000 construction loan. Both loans were secured by the Paradise Valley property. The construction loan funds were used to construct a house and a separate guest house on the property. In 2006 and again in 2008, Edvard, Lusine, and Artur refinanced with Wells Fargo. The disclosures and deed of trust contained representations and prohibitions of transfers made without Wells Fargo’s consent, and the deed of trust further stated that the Paradise Valley property would be the borrower’s principal residence for at least one year unless the lender agreed. Artur executed a quitclaim deed in 2010, which conveyed all his interest in the property to Petitioner. No request was made to Wells Fargo to approve the conveyance. Petitioner did not pay Artur in exchange for the quitclaim deed. During 2012 Petitioner made no payments to Wells Fargo related to the loan secured by the property. Wells Fargo did not issue Petitioner a Form 1098, Mortgage Interest Statement, for 2012. With limited exceptions, Petitioner did not reference the Paradise Valley property as being his place of residence or address, even though he lived in the guest house for a time. On his 2012 federal income tax return Petitioner deducted $66,354 for mortgage interest paid related to the Paradise Valley property. This deduction was for one-half the total mortgage interest paid in 2012 on the Paradise Valley loan as reported by Wells Fargo on the Form 1098 that was issued to Edvard and Lusine.

Key Issues: Whether the IRS’s disallowance of the mortgage interest deduction was appropriate?

Primary Holdings: Yes. Petitioner did not prove that the indebtedness on the Paradise Valley property was his obligation (even though the Tax Court made an assumption that it was), (2) Petitioner did not show ownership (legal or equitable) in the property, and the quitclaim deed did not, under state law, convey title to Petitioner, and (3) the residence is the taxpayer’s qualified residence, and (3) Petitioner failed to show that the property was his “qualified residence.”

Key Points of Law:

Burden of Proof. In general, the IRS’s determinations set forth in a notice of deficiency are presumed correct, and the taxpayer bears the burden of proving otherwise. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). If the taxpayer produces credible evidence with respect to any factual issue relevant to ascertaining his federal income tax liability and meets certain other requirements, the burden of proof shifts from the taxpayer to the IRS as to that factual issue. § 7491(a)(1) and (2). That burden-shifting mechanism is not applicable in this case.
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Written by Jason Freeman | Posted in Freeman Law • Mortgage Interest Deduction

24 Jan 2023

Deficiency For Early 401(k) Distribution; 10% Additional Tax; “Unable To Engage In Substantial Gainful Activity” Exclusion

Tax Court in Brief | Lucas v. Comm’r

Deficiency for Early 401(k) Distribution; 10% Additional Tax; Exclusion for “Unable to Engage in Any Substantial Gainful Activity

Lucas v. Comm’r, T.C. Memo. 2023-9| January 17, 2023 | Urda, J. | Dkt. No. 2808-20

Summary: In 2017, Robert Lucas worked as a software developer, but he lost his job in that year. To make ends meet, he obtained a distribution of $19,365 from a section 401(k) plan. He had not reached 59 1/2 years old at the time. The administrator reported the amount as an early distribution with no known exception on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. Lucas reported the distribution on his 2017 return but did not include it as taxable income. His return reflected his understanding that the distribution did not constitute income because of his diabetic medical condition. The IRS issued a notice of deficiency for his 2017 tax year, determining a deficiency of $4,899 based on the inclusion of the retirement plan distribution in Lucas’s 2017 gross income and a ten-percent additional tax imposed by section 72(t).

Key Issues: Whether Lucas’s 401(k) plan account distribution is taxable and subject to the ten-percent additional tax imposed by 26 U.S.C. section 72(t)(1)?

Written by Jason Freeman | Posted in 401K Plans

18 Jan 2023

Exclusion Of Value Of Lodging Provided By Employer

Tax Court In Brief: Freeman Law

Smith v. Comm’r, T.C. Memo. 2023-06| January 12, 2023 |Toro, J. | Dkt. No. 5191-20

Summary: This is a deficiency case and a continuation of the Tax Court’s opinion in Smith v. Commissioner, No. 5191- 20, 159 T.C. (Aug. 25, 2022), which is blogged right here on the ol’ Tax Court in Brief. See https://freemanlaw.com/tax-court-in-brief-smith-v-commr-closing-agreement-and-malfeasance-of-fact/ (addressing the issue of whether a closing agreement could be avoided if there is malfeasance or misrepresentation of a material fact). In this more recent opinion, the Court addresses, basically, one issue: Whether, under 26 U.S.C. § 119, Smith may exclude from gross income the value of lodging his employer provided during the relevant years (2016-2018).

Smith was employed by Raytheon Company, a private defense contractor, to work as an engineer in Pine Gap, Alice Springs, Northern Territory, Australia (Pine Gap). Raytheon used an Australian operations handbook, which informed Smith that he was eligible for housing in Alice Springs but was responsible for IRS taxable income on the rental value of furnished housing and the associated utilities. The Raytheon handbook stated that income tax on the value of housing and the associated utilities is the responsibility of the employee, and the taxable value of housing provided was reported via a Form 1099 issued by the U.S. Air Force.

Written by Jason Freeman | Posted in Employer Lodging

17 Jan 2023

Deficiency For Disallowed American Opportunity Credit

Vassiliades v. Comm’r, T.C. Memo. 2023-1 | January 9, 2023 | Panuthos, J. | Dkt. No. 12283-20S.

Summary: This case involves whether taxpayers are allowed to claim the American Opportunity Credit (AOC) on their federal income tax return. In 2018, the IRS disallowed the AOC claimed by John M. Vassiliades and Eliza Ortizluis Vassiliades (Vassiliades) on their 2018 federal income tax return. Mr. Vassiliades has a daughter (AM) from a prior relationship, who lived in London and was enrolled in postsecondary education at the University College London (UCL). Mr. Vassiliades made several wire transfers to his daughter in an account in the UK to pay for school tuition, fees, and other expenses. Vassiliades claimed AM as a dependent in their 2018 tax return. Additionally, under Form 8863 Education Credits they claimed the AOC, consisting of a refundable education credit and a refundable credit regarding qualified education expenses paid during AM’s enrollment at UCL for 2018. However, Vassiliades did not receive a Form 1098-T, Tuition Statement, from the University for such year.

Written by Jason Freeman | Posted in American Opportunity Credit

10 Jan 2023

Tax Court In Brief: A Premium Tax Credit Case

Henry v. Comm’r T.C. Memo. 2023-2| January 5, 2023|
Ashford, J. | Dkt. No. 18832-18

Summary: From early 2015 and through 2016 Marie Henry (“Henry”) was unemployed and in a terrible financial, physical, and mental state. To get by, she made early withdrawals from a retirement plan. She was enrolled in health insurance coverage provided by Blue Cross Blue Shield (Blue) for the first 11 months of 2016 through the Health Insurance Marketplace (Marketplace). The Marketplace determined that Henry was eligible for premium tax credit and the Advanced Premium Tax Credit for her coverage, so she received the benefit of monthly APTC payments, totaling $7,205. The Marketplace sent to the IRS and to petitioner a 2016 Form 1095−A, Health Insurance Marketplace Statement, which reflected Henry’s coverage information under Blue.

The letter directed her to file a tax return if the form showed she received the benefit of the APTC and complete and attach to the return Form 8962, Premium Tax Credit (PTC), which is used to figure the amount of PTC and reconcile it with the APTC. Henry filed a 2016 Form 1040, U.S. Individual Income Tax Return, reporting or claiming: head of household, one exemption for herself and one dependency exemption for her son, total income (and adjusted gross income (AGI)) of $91,274 (consisting of taxable pensions and annuities of $68,750 and taxable Social Security benefits of about $26,524), itemized deductions, income tax withholding from the pensions, and claimed refund of $5,846.
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Written by Jason Freeman | Posted in Advanced Premium Tax Credit • TaxConnections

03 Jan 2023

Substantiation For Schedule C Deductions (Lodging, Vehicle, Entertainment, Gifts, Dry Cleaning, etc.)

Ayria v Commissioner, T.C. Memo. 2022-123 | December 19, 2022 | Lauber, J.| Dkt. No. 13745-20

Short Summary: This case involves the disallowance of taxpayer’s business expenses reported on Schedule C, Profit or Loss from Business for not meeting substantiation requirements and the assessment of an accuracy-related penalty. In the 2017 tax return, Ayria reported wages income received as an employee of Honda. Additionally, he included in his tax return a Schedule C where he described his sole proprietorship as “consulting”, where he reported gross receipts and claimed several deductions. All the expenses reported were incurred in connection with his work as manager of Honda. The expenses incurred were vehicle expenses, meals, and entertainment, gifts, telephone and Internet Charges, and Dry Cleaning. The IRS disallowed all the deductions claimed under Schedule C. The Tax Court determined that expenses shall be “ordinary and necessary” business expenses to be deductible under Section 26 U.S.C. § 162. The tax Court disallowed all the deductions made by Ayria under Schedule C, for the following reasons: (1) Lodging expenses – Ayria incurred hotel expenses that were not essential to carry out his business, but merely a substitution of his daily commuting from his home to his job. (2) Vehicle expenses – Ayria did not maintain any odometer readings to keep track of his mileage nor records for his business travel related. (3)

Written by Jason Freeman | Posted in Entertainment Expenses • Schedule C Deductions

20 Dec 2022

Tax Court in Brief | Recordkeeping And Constructive Dividends

Tax Court in Brief | Palmarini Inc. v. Commissioner, Palmarini v. Commissioner | Recordkeeping and Constructive Dividends

Palmarini Inc. v. Comm’r, Palmarini v. Comm’r, T.C. Memo. 2022-119 | December 7, 2022 | Gustafson, J. | Dkt. Nos. 1719-17, 1723-17

Opinion

Short Summary: During tax years 2013 and 2014 (the “Tax Years”), petitioners husband and wife filed joint Forms 1040, U.S. Individual Income Tax Returns. Petitioner wife worked as a procurement analyst for the U.S. Department of Defense. Petitioner husband worked as a cement contractor for petitioner corporation.

Petitioner husband owned an approximately 33% interest in petitioner corporation, with the remaining interests being owned by his brothers. Petitioner husband also was the sole member of a limited liability company (“LLC”) that was engaged in the business of affiliated online marketing. Petitioner husband viewed all accounts of petitioner corporation and LLC as his own and used them for both business and personal purposes. Petitioner husband also owned various residential properties and hired professional real estate management companies to manage the renting of the properties to tenants.

Written by Jason Freeman | Posted in Constructive Dividends • Recordkeeping

10 Dec 2022

Passport Revocation Notice For “Seriously Delinquent Tax Debt”; Limitations On Tax Liens

Mattson v. Comm’r, T.C. Memo. 2022-118 | December 6, 2022 |Copeland, J. |Docket No. 16982-18P

Summary: Eric Mattson did not file income tax returns for tax years 2001, 2002, and 2005 through 2008. The IRS prepared substitutes for returns using third-party information return documents. In six separate notices of deficiency the IRS determined various deficiencies and additions to tax for each year in issue. Mattson contested none of them. So, the IRS assessed the deficiencies, additions to tax, and applicable interest. To collect Mr. Mattson’s outstanding tax liabilities for the years in issue, the IRS mailed Mr. Mattson a Notice CP508C, Notice of certification of your seriously delinquent federal tax debt to the State Department (certification notice) that (1) notified Mr. Mattson that his tax debt was $61,933.71 and (2) certified to the State Department that his tax debt is seriously delinquent such that the State Department was prohibited from issuing or renewing a passport to Mr. Mattson. Mr. Mattson filed a Petition with the Tax Court pursuant to section 7345(e)(1), and both the IRS and Mr. Mattson moved for summary judgment on the certification notice issue.

Key Issues:

Written by Jason Freeman | Posted in TaxConnections