Restitution Payment- J. Frank Best, Tax Controversy CPA/U.S. Tax Court Litigator

Restitution Payments

A recent Tax Court decision was reported dealing with Restitution Payments as Part of a Criminal Sentence.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients.

The Tax Court held that a taxpayer was not entitled to a miscellaneous itemized deduction for a $400,000 restitution payment made in 2014. The court concluded that (1) the taxpayer did not show that the restitution payment promoted or protected his trade or business of being an employee; (2) the taxpayer did not present any evidence that the primary purpose or motive for the payment was other than that he was required to make the payment as part of a criminal sentence; and (3) the taxpayer did not enter into the restitution transaction with the intention of making a profit. Washburn v. Comm’r, T.C. Memo. 2018-110.

Conclusion

The Tax Court held that Washburn could not deduct the restitution payments as a miscellaneous itemized deduction in 2014. The court began by noting that the restitution payments would be deductible as a miscellaneous itemized deduction if they constituted expenses attributable to the performance of services as an employee under Code Sec. 162(a), losses related to the performance of services as an employee under Code Sec. 165(c)(1), or losses incurred in a transaction entered into for profit under Code Sec. 165(c)(2).

“Serious IRS Problem Resolution”/J. Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator

Serious IRS Problem Resolutions

J. Frank Best is rated in the Top 5 Tax Controversy CPA Profiles/Linkedin and is a United States Tax Court Litigator licensed in all States and works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients.

Telephone 800.230.7090   Email: bestcpa@bestirscpa.com  Web: bestirscpa.com

Business Expenses-J. Frank Best, Tax Controversy CPA/U.S. Tax Court Litigator

A recent Tax Court decision was reported dealing with Business Expenses.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients. 

Couple Can’t Deduct Entire Grocery Bill for Household That Includes Foster Individuals: In Kho v. Comm’r, T.C. Summary 2018-32, the Tax Court denied a couple a deduction for total grocery expenses as business expense where they provided foster care for two men with developmental disabilities, one of which required a gluten-free diet. The court noted that any excess cost to the couple in providing gluten-free meals to their client had already been accounted for in the amount that the IRS allowed as a deductible expense for groceries and that the couple could not deduct their entire grocery bill as  business expenses because such costs were personal expenses.

The Tax Court also concluded that petitioners are liable for the penalty imposed under section 6662(a) with respect to the portions of the underpayments attributable to the adjustments that were sustained in this case.

IRS FRIVOLOUS ARGUMENT PENALTY-RALEIGH & WILMINGTON, NC NORTH MYRTLE BEACH & MYRTLE BEACH, SC

A recent Tax Court decision was reported dealing with Frivolous Arguments’ Penalty.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully Informed and prepared for our clients.

J. Frank Best, Tax Controversy CPA is rated in the top 5 Tax Controversy CPA/Profiles Linkedin https://www.linkedin.com/title/tax-controversy-cpa

EMAIL: bestcpa@bestirscpa.com

PHONE: 1-800-230-7090

IRS Frivolous Arguments’ Penalty/J. Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator

A recent Tax Court decision was reported dealing with Frivolous Arguments’ Penalty.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients. 

IRS Supervisor Approval Not Required for Tax Court to Assess Frivolous Arguments’ Penalty

The Tax Court held that its authority to impose a frivolous argument penalty under Code Sec. 6673 for making a frivolous argument before the Tax Court is not subject to the IRS supervisor approval requirement in Code Sec. 6751(b)(1). The Tax Court found that (1) Congress’s intent in enacting the supervisor approval requirement was to prevent IRS agents from threatening unjustified penalties to encourage taxpayers to settle, while Code Sec. 6673 is designed to deter bad behavior in the Tax Court and conserve judicial resources, and (2) Code Sec. 6751(b)(1) was clearly not intended as a mechanism to restrain the Tax Court. Williams v. Comm’r, 151 T.C. No. 1 (2018).

The Tax Court concluded that Code Sec. 6751(b)(1) was not intended as a broad restraint mechanism on the federal judiciary. In the court’s view, Congress did not intend for the statute to cover the imposition of penalties that could be imposed by courts because of misbehavior by a litigant during the course of a judicial proceeding.

Innocent Spouse Relief/J. Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator

A recent Tax Court decision was reported dealing with Innocent Spouse Relief.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients.  

No Innocent Spouse Relief for Widow Who Failed to Report Insurance Proceeds on Form 8857

The Tax Court held that a widow was not entitled to innocent spouse relief from tax liabilities that arose over several years in which she and her husband filed joint returns but did not pay taxes owed. The court cited the fact that, after her husband’s death, the widow invested the proceeds of life insurance policies purchased by her husband without her knowledge in several savings accounts opened in her parents’ names and did not report the proceeds to the IRS when she requested relief. Hale v. Comm’r, T.C. Memo. 2018-93.

Analysis

Spouses filing joint tax returns are generally jointly and severally liable for any taxes owed. However, Code Sec. 6015(f) allows a spouse to be relived from liability if it would be inequitable to hold the spouse liable.

Rev. Proc. 2013-34 lists seven factors to consider if certain threshold conditions do not apply. The factors are: (1) whether the couple is still married, (2) whether economic hardship would arise if relief is not granted, (3) whether the requesting spouse had reason to know that the taxes would not be paid, (4) whether either spouse had a legal obligation to pay the taxes, (5) whether the requesting spouse significantly benefitted from the unpaid taxes, (6) whether the requesting spouse made a good faith effort to comply with the income tax laws in subsequent years, and (7) whether the requesting spouse was in poor health at the time the returns were filed.

The Tax Court held that it would not be inequitable to deny relief to Mrs. Hale. The court explained that a simple toting up of the seven factors would support granting relief, because Mrs. Hale’s lack of knowledge and mental health weighed in her favor and strictly applied, no factor weighed against relief. However, the court noted that the factors are nonexclusive, the degree of importance of each factor varies depending on the facts and circumstances, and that the court was not bound by the IRS’s published guidelines.

 

Divorce Legal Fees/J. Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator

A recent Tax Court decision was reported dealing with IRS Divorce Legal Fees.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients.  

Legal Fees Relating to Status of Investment Fund Distributions in Divorce Were Not Deductible Business Expenses

The Tax Court held legal fees that a taxpayer incurred in a divorce proceeding to defend his ownership of investment fund distributions, which he received after his former wife had filed for divorce but before the date the divorce was granted, were not deductible as expenses related to a business or income producing activity. The Tax Court applied the “origin of the claim” test under U.S. v. Gilmore, 372 U.S. 39 (1963) and found that the fees were personal and nondeductible because the former wife’s claim to the distributions originated entirely from the marriage. Lucas v. Comm’r, T.C. Memo. 2018-80.

Tax Court’s Decision

The Tax Court held that Mr. Lucas’s legal and professional fees were nondeductible personal expenses. The court reasoned that but for the marriage, Ms. Lucas would have had no claim to Mr. Lucas’s interest in Vicis. The court further found that Hahn did not apply because, while the fees in that case were business connected, Mr. Lucas’s legal fees had no connection to Vicis’s investment advisory business. Rather, they were incurred defending his ownership and distributions from equitable distribution in the divorce.

Mr. Lucas failed to demonstrate that the expenses were otherwise deductible, in the Tax Court’s view. The court concluded that Mr. Lucas was neither pursuing alimony nor resisting an attempt to interfere with his ongoing business activities as in Liberty Vending. The court found that Mr. Lucas engaged in little trade or business activity in 2010 or 2011, as Vicis began liquidating in 2009 and thereafter he engaged in no business activity other than a limited management role with Vicis. Mr. Lucas did not, in the view of the Tax Court, establish that Ms. Lucas’s claim related to the winding down of Vicis, or that the fees incurred to defeat her claim were ordinary and necessary to his trade or business.

Offer in Compromise/J. Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator

A recent Tax Court decision was reported dealing with Offer-in-Compromise and IRS Abuse of Discretion.  J.  Frank Best, Tax Controversy CPA/U. S. Tax Court Litigator in Raleigh and Wilmington, NC  & North Myrtle Beach and Myrtle Beach, SC works to stay current on all IRS decisions concerning tax litigation to ensure we are fully informed and prepared for our clients.  

Lawyer’s Failure to Provide Required Info Precludes Offer-in-Compromise: In Solny v. Comm’r, T.C. Memo. 2018-71, the Tax Court sustained a proposed collection action by the IRS against a lawyer who had outstanding tax liabilities of almost $200,000. The court noted that at his collection due process hearing, the lawyer sought a collection alternative but did not supply any of the required forms or necessary financial information and thus it was not an abuse of discretion for the IRS to reject collection alternatives and sustain the collection action.

The Tax Court Concluded: Finding no abuse of discretion in any respect, the Tax Court will granted summary judgment for respondent and affirm the proposed collection action. The Court noted that petitioner is free to submit to the IRS at any time, for its consideration and possible acceptance, a collection alternative in the form of an offer-in compromise or Installment Agreement, supported by the necessary financial information.

Tax Controversy CPA/U.S. Tax Court Litigator

IRS Collection and Tax Litigation-Tax Controversy CPA/U.S. Tax Court Litigator: Raleigh and Wilmington, NC/North Myrtle Beach and Myrtle Beach, SC

TRADE OR BUSINESS, BUT FAILED TO SUBSTANTIATE EXPENSES-J. FRANK BEST, TAX CONTROVERSY CPA/U.S. TAX COURT LITIGATOR

Entertainment Company Was a Trade or Business, but Failed to Substantiate Expenses

The Tax Court held that an entertainment company that signed artists and produced, promoted and distributed their work was engaged in a trade or business for profit because, although the company never earned a profit during the years at issue, the owner had prior business successes in the music industry, ran the company in a businesslike manner, and devoted significant capital to make it a profitable business. However, the owner’s losses from the business were denied because the court found that the company’s bank statements, which were the only evidence of the expenses produced by the owner, were insufficient to establish the amounts and business purpose of the expenses. Barker v. Comm’r, T.C. Memo 2018-67.

Cecile Barker is an experienced aerospace engineer with a background in music. In the mid-1960s he formed the group Peaches & Herb, which achieved considerable commercial success, and in 1973 he co-produced a song by Gladys Knight & the Pips. Barker left the music business and formed an aerospace engineering company in the 1970s. In 2001, he sold that company and decided to reenter the music business.

Barker formed SoBe Entertainment International LLC in 2002. He contributed all of SoBe’s capital and owned 95 percent of its profits and losses. His son, Yannique, and daughter, Angelique, split the other five percent. SoBe is an independent entertainment company that signs artists and celebrities, produces music and videos, and promotes its artists and distributes their work. As SoBe’s chief executive officer (CEO) and managing member, Barker devoted 40 to 60 hours per week to the business. He consulted music industry professionals before forming SoBe, and hired several high profile producers to bolster SoBe’s chances of success. SoBe employed a marketing professional and, at one time, chief financial officer (CFO). In total, SoBe had eight employees and regularly hired independent contractors.

Yannique Barker was one of SoBe’s signed artists. SoBe had several artist contracts and renewed at least one. SoBe also contracted with producers and writers to work with its artists. SoBe also entered into a distribution agreement with Universal Music to distribute music digitally. SoBe advertised online and through its websites in addition to placing ads in print magazines. SoBe was also a member of the trade organization Record Industry Association of America.

Barker saw stars like Adele and Taylor Swift as examples of how one artist could make his company profitable. Although none of his artists had achieved such a level of success, they had each contributed to the catalog of songs that SoBe owned. SoBe’s catalog had value in March 2016 and it placed a song in a TV show on ABC.

SoBe was founded at a time of major change to the music industry, as online platforms made it possible to buy or sell music at low cost or share it for free. SoBe cut costs as a result of the effects of these platforms, reducing its employees from 17 to 8, and moving its recording studio to a less expensive location. SoBe had never earned a profit and its cumulative losses increased from year to year.

SoBe employed John McQuagge as its CFO and controller from 2006 through 2010. McQuagge used Quickbooks software to produce SoBe’s general ledger and journals. SoBe had two separate bank accounts, one used as a primary operating account and the other used for payroll. McQuagge balanced the accounts against monthly bank statements. While SoBe kept records of the checks it used to pay its expenses from 2006-2010, other expenses recorded in SoBe’s general ledger were paid by credit card or cash, for which no documentation existed other than bank statements.

SoBe had two outside accounting firms prepare its tax returns for 2003-2011. SoBe provided its accountants with all of its Quickbooks records. Accountant Stanley Foodman prepared SoBe’s returns for 2006-2009. Foodman also prepared Barker’s personal income tax returns for 2005-2011. Foodman calculated Barker’s net operating losses (NOLs) and total capital contributions to SoBe for 2002-2011 and listed each of his individual capital contributions to SoBe in 2006-2009. Foodman determined that Barker made over $45 million in capital contributions to SoBe from 2002-2011. This calculation was based on the Schedules K-1, Partner’s Share of Income, Deductions, Credits, etc. from SoBe, supplemented by SoBe’s general ledger and bank statements.

Barker reported income from sources other than SoBe, mostly capital gains, interest and dividends. His 2011 income came mostly from Mistral, a defense contractor Barker helped found. Foodman calculated Barker’s income or loss after taking into account Barker’s interest and dividend income, net capital gains and losses, and share of gain or loss reported on the Schedules K-1 from SoBe and other businesses in which he held an interest.

Barker was the victim of identity theft when someone filed a tax return for 2011 using his social security number. Barker eventually filed his 2011 Form 1040 in August 2016. His return showed a loss from SoBe of over $800,000 and an NOL carryover of $19.6 million for 2011. The IRS issued a notice of deficiency in June 2014, determining various adjustments to Barker’s income and deductions. The notice showed that Barker owed approximately $1.2 million in tax for 2011 and that a 25 percent addition to tax applied for Barker’s failure to file his return on time. Barker challenged the notice in the Tax Court.

The IRS asserted that SoBe did not incur any operating losses (and thus, no losses flowed through to Barker) because SoBe was a hobby rather than a trade or business. In the IRS’s view, Barker lacked the actual and honest objective of making a profit. The IRS also argued that Barker could not substantiate the expenses giving rise to SoBe’s operating losses. Barkley contended that SoBe was run as a business from its formation and that making a profit was always its primary objective. He also challenged the addition to tax by arguing that his late filing was due to the identity theft.

The Tax Court held that, under the facts and circumstances, Barker operated SoBe as a trade or business with the actual and honest objective of making a profit. The Tax Court found that Barker had prior business successes in the music industry and had run successful defense contracting businesses, having helped to turn one of them around after several years without a profit. In the court’s view, Barker leveraged his experience and contacts in the music industry as he prepared for SoBe’s formation. He also ran SoBe in a businesslike manner, working there full time and devoting significant capital to it.

Although SoBe had never been profitable, the court found that it had positioned itself to make a profit by amassing a catalog of songs that it had been able to monetize. The court also took into account the turmoil in the music industry and the difficulties faced by artists and producers during the years at issue. The fact that Barker’s son, Yannique, was a SoBe artist did not mean that SoBe was merely a vehicle to fund Yannique’s musical aspirations, according to the Tax Court, because SoBe had other artists and did not devote most of its resources to Yannique. Nor did the fact that Barker enjoyed the creative aspects of the music industry, and had income from other sources. prevent SoBe from being engaged in a trade or business, given the other factors indicating a profit motive.

Although SoBe was engaged in a trade or business for profit, the Tax Court found that Barker failed to provide evidence on which the Tax Court could determine or even estimate the amount of SoBe’s business expenses for all prior years of its operation. The court found that the only documentation to support SoBe’s business expense deductions for previous years were SoBe’s bank statements. Those statements, in the court’s view, did not document the amounts of SoBe’s expenses paid by cash or credit card, nor did they describe the business purpose of the expenditures. The court found that Barker had produced SoBe’s general ledger only for 2005-2009 and that his testimony was insufficient to fill in the gaps. The Tax Court reasoned that Barker had access to additional documentation, including SoBe’s general ledger for all years of its existence, but failed to produce it; therefore the court presumed that such documentation would be unfavorable to Barker.

The Tax Court also held that Barker failed to provide enough evidence for it to determine his NOL deduction for 2011. Barker failed to substantiate SoBe’s income and business expenses for all prior years and, in turn, the amount of losses for which he claimed a deduction for 2011. If the court could not estimate the amount of SoBe’s operating losses, it could not know how much flowed through to Barker. Moreover, even if Barker had substantiated SoBe’s expenses, the court could not determine how much of those losses were absorbed by Barker’s other income in the years before 2011, because Barker did not produce his returns for 2002-2004 and those that he produced for later years were missing crucial information.

The Tax Court also upheld the penalty assessment after rejecting Barker’s argument that his identity theft issue excused his failure to file his 2011 return on time. The court reasoned that Barker was a sophisticated businessman who should have known that he was required to file his return, and that his accountants and return preparers could have made inquiries.