My chronicle of how the IRS and Tax Court affect taxpayers' daily lives.

See below for important disclosures.

Friday, December 11, 2009

Drunk Driving & Casualty Losses

Decided and published yesterday, we have an amazing case (hat tip to Art Larson, E.A.) which deals with the difference between negligence and gross or willful negligence in regards to a casualty loss incurred - and caused - by the taxpayer.

Justin Rohrs, representing himself, petitioned the tax court to allow a $33,629 casualty loss for damage to his 3 month old Ford F-350. The deduction resulted in a $6,230 tax savings, which the IRS disallowed, and added a $1,246 accuracy related penalty.

Mr. Rohrs purchased the vehicle in August 2005. He attended a gathering at a friend’s house in October 2005, where he consumed alcohol. He had arranged for transportation to and from the party, but subsequent to returning home, he drove to his parents’ house. On the way, he skidded off of the road, rolling his truck over and damaging it severely. He was cited for DUI with a blood alcohol content of .09.

A casualty loss can be claimed for the "damage, destruction or loss of property resulting from an identifiable event that is sudden, unexpected or unusual." (Quickfinder 5-15). The deduction is limited to 10% of your adjusted gross income, less a $100 deductible, and is an itemized deduction. The loss must be reduced by any insurance claim. Nondeductible losses include accidental breakage or damage by a pet, disease or insect damage to plants, termite or moth damage, or car accident if caused by willful negligence or willful act.

The taxpayer did not dispute that he was negligent for driving while intoxicated. But the court notes, that there is no prohibition against taking a loss when the taxpayer is negligent, but only willfully negligent. People v. Olivas explains that "the state of mind of a person who acts with conscious indifferences to the consequences is simply 'I don't care what happens;." This is also called conscious indifference. The argued the differentiation between these two concepts.

The taxpayer showed due care by arranging for transportation to and from the party. Additionally, he argued that because he allowed time for his body to process the alcohol before leaving for his parents, he exercised some care. If he "willfully" negligent, he would not have gone to any of this trouble. Additionally, he argued that there was no way to note what the true cause of the accident was, as the weather conditions were very windy.

The court noted that, although contrary to public policy, the taxpayer's drunken driving does not automatically disqualify the taxpayer from claiming a casualty loss. The tax court is not "empowered to judge petitioner's action from a criminal perspective or to punish him for his actions." They can only interpret whether his actions were considered "willful."

The court agreed with the pro-se taxpayer's argument, and a decision was entered for the taxpayer.

Aaron's Take: I am very impressed with the argument made by this taxpayer. I also abhor his behavior. But, just like the judges in this case, it is not my place to make a judgment about the taxpayer's ethics or sense of personal responsibility. I am sure he has already been subject to the punishment allowed by criminal and civil courts. All clients deserve good quality representation and to be treated fairly and with due process. This is a taxpayer whose patience truly was rewarded. Hopefully his judgement has improved, and he now knows what his limitations are.

Wednesday, December 9, 2009

Ex-IRS Criminal Investigations employee turned Tax Preparer convicted!

John J. Poltonowicz was convicted on one count of consipiracy to defraud the United States, 12 counts of aiding, assisting, and counseling the filing of false tax returns, four counts of mail fraud, three counts of wire fraud, five counts of making fals statements on loan applications, and two counts of making false statements to the IRS. 

John started his career as an analyst for the CI division.  in 1992 he left the IRS and began preparing tax returns for other people.  In 2003, the IRS suspected fraud and sent undercover agents with recording devices.  John was recorded telling the undercover agent that he would include business expenses and other deductions for which no substantiation was shown in the agents return, even though the agent insisted she did not have a business.  As a part of the investigation, the agent then received an "audit notice" and brought it into John, to which he admitted to causing the problem, and was simply playing the odds that an audit would not occur.  John pleaded guilty to one count of filing false tax returns and his e-file authorization was revoked.

Soon after, he opened a new tax office in the name of his roomate and housekeeper.  He filed e-file paperwork listing her as the responsible party, and began preparing taxes once again.  At trial, several employees testified that they observed John preparing false returns and that they were instructed to claim nonexistent deductions. 

His fraud was not limited to preparing taxes for others, as he prepared false returns for his own use, overstating his income, and using them to procure loans for his home and an auto lease. 

The jury convicted him of all charges.  He was sentenced to 48 months of imprisonment, a $10,000 fine, $2,700 special assessment, and $400,000 in restitution. 

Aaron's Take:  Know who your practitioner is.  If he mentions things that you aren't comfortable with, than GET OUT or GET A SECOND OPINION.  You would do nothing less for your medical health.  Your financial health is no different!

Thursday, December 3, 2009

Recovering Attorney Fees for IRS Actions

James & Tiffany Manning, who prevailed in Tax Court, recently sued the IRS to recover the attorney fees necessary for their defense.  The mannings participated in an alleged abusive tax shelter, for which the IRS investigated and issued a deficiency notice (assessed tax) which included a significant accuracy related penalty.

Upon further review, the taxpayers did admit to mistakenly deducting $100,000 of commissions, but  prevailed with the most significant issues.  The prevailing party may be awarded reasonable costs if they establish:
  1. They have exhausted the administrative remidies available
  2. The party has substantially prevailed
  3. The party satisfies net worth requirements
  4. The party has not unreasonably protracted the proceedings
  5. The amount is reasonable
(The details of these requiremens can be found in §7430(b))

The IRS did admit that the taxpayer did prevail in the proceedings, but that damages should not be awarded because the IRS had reasonable positions and that their actions were substantially justified.  The court disagreed.  Additionally, they did not satisfy the net worth requirements, as they had enough wealth to spend over $250,000 in their own defense. 

The taxpayers also attempted recovery under §6673(a)(2) which allows the court to award attorney's fees if the Government has unduly and unreasonbly delayed the case.  The court judged that the Government did not, and therefore decided against the taxpayer.

Aaron's Take:  Most people don't know about this provision, which allows for the reimbursement of court costs.  This provision is part of the tax code to prevent punitive, irrational, or unjustified actions by the Internal Revenue Service.  Legitimate arguments, especially those which deal with complicated tax shelter transactions, must be legitimately defended.  THE BURDEN OF PROOF ALWAYS RESTS ON THE TAXPAYER.  If it costs you 250k to defend your position, that's life!  You must factor the potential for litigation with the risk that the position you are taking may be challeneged.

Wednesday, November 25, 2009

What are you thankful for?

Edward Maule, a Professor of Law at Villanova and author of the blog, "Mauled Again" put together a great blog post for today. His stuff is generally very interesting, so I highly recommend adding it to your reading. Here is an excerpt from today:

I am thankful for taxes. Taxes bring balance to what would otherwise be an unbalanced economic system. Without taxes, much of what gets taken for granted would not exist, or would command a higher price. It might be trite to claim that taxes represent what must be paid for a civilized society, but it’s true.

I am thankful that as bad as our federal, state, and local tax systems are, that I don’t live in a place that would subject me to the sort of tax systems found elsewhere in the world. Not that the existence of worse systems should give our tax systems a free pass, but it’s time to acknowledge that at some of the tax law writers get some of the provisions right some of the time.

I am thankful that I live in a country where a mistake on a tax return or tax assessment doesn’t bring an immediate transportation to prison, or worse.

I am thankful that I don’t live in the past, in societies that had no tax systems because they relied on serfdom, plunder, and confiscation by royals, nobles, and ecclesiastics, none of whom were selected by ballot or referendum.

I am thankful that I continue to be subjected to user fees that are imposed and collected with little or no inconvenience to me. I appreciate that I have the ability to drive through a toll booth without completing a 10-page form, and often can do so without stopping and fishing for coins or paper currency.

I am thankful that I can criticize the various tax systems in this nation without having my passport revoked, my goods seized, my property invaded, or my liberty constrained.

I am thankful that I can criticize Congress, state legislatures, and local government officials for their woeful record on tax policy and tax legislation. If they were doing the top-notch job that I prefer that they do, I’d have much less about which to write. There are only so many things one can say about chocolate.
Aaron's Take:  Agree wholeheartedly.  I am thankful for our tax system, which keeps getting changed in the name of "simplification" and ends up more complicated.  I am thankful for job security!

Tuesday, November 24, 2009

Innocent Spouse Relief Denied

Arianel Torres and Franz Hurtado entered into a state a marrital bliss in August 1996 which ended with their separation in August 2001 and eventual divorce in May 2003.  Filing status on an individual's tax return is determined on their marital status as of December 31 of the tax year.  Accordingly, Ms.Torres filed a joint tax return with Mr. Hurtado for the tax year 2001.  The joint return showed community income of nearly $72k with an unpaid tax liability of $6,243.  Though the couple did not live lavishly, they did use the money to purchase a vehicle, loan money to Ms. Torres' mother, and make payments on her condo in Mexico. 

Ms. Torres petitioned the court for Innocent Spouse Relief stating that she did not sign the tax return and was unaware of the tax due.  Additionally, she stated that did not know of the balance due and did not have the ability to pay the tax due because she didn't have access to her husband's bank account.  Her court testiony was inconsistent, and she recanted these statements, which were signed under penalties of perjury. 

The government is allowed to relieve a spouse of the responsibility to pay a portion or all tax that is due on a jointly filed tax return, if the circumstances allow.  Factors that the IRS examines include economic hardship, knowledge or reason to know, legal obligation of the other spouse (what a divorce decree may say), and benefit of the underpayment. 

Ms. Torres stated that she would suffer substantial economic hardship if she was kept liable for the tax.  She did not submit any documentation that would prove this hardship, and instead proved the IRS' case by showing she had assets that were able to be liquidated against the debt.  Though the court sided with her concerning her lack of knowledge of the liability as well as her current compliance history, the court felt that since the divorce decree was silent as to the outstanding liability, that Ms. Torres received significant benefit from failing to pay the tax, and her inability to prove a hardship outweighed the factors in her benefit.  She is considered jointly and severally liable for the tax due.

Aaron's Take:  Married couples in most of the western states fall under community property laws.  This means that when you file a joint tax return, you will be considered 100% liable for the tax, even if your ex-spouse should have paid half.  You should consider very carefully if you should file jointly if you think your spouse has less honesty genes than you would like him/her to.  The IRS will go after the easier target, and if you are easy to find, thats you!

Thursday, November 19, 2009

Expert Witness works against a Tax Preparer

Thomas Turner falsely represented himself to his customers, stating that he was formerly employed by the IRS, and implying that he understood tax laws and regulations because of his special relationship with the IRS.

During the trial, an actual IRS agent took the stand to educate the jury on the tax consequences of Mr. Turner's overstatements, but Mr. Turner objected, stating that the agent did not qualify as an expert.

Aside from filing bogus returns on behalf of his clients, Mr. Turner also was a non-filer of his own returns due to disagreements over his 1989 tax return. His statement that he wanted to "screw the IRS" made it into the record.

Mr. Turner's comments that "he hated the IRS and that the IRS wouldn't get a dime from him," weighed heavily against him, as he was unable to prove that he could separate this attitude from his personal dealings, instead of when he was preparing returns from others.

Aaron's Take:  If you are in the business of preparing returns, it is best not to share your opinion of the IRS, especially if that opinion is similar to those of tax protestors. Mr. Turner's desire to screw the IRS could easily have been extended to the returns that he prepared, making him liable for preparing false returns. Additionally, if you are going to market yourself as an "expert" because you are a former IRS employee, you cannot then turn around and state that the IRS Agent that is testifying against you is NOT an expert.  

USA v. Thomas A. Turner, USDC, W.D. Kentucky 2009-2 USTC

Tuesday, November 3, 2009

A break in the update series for financial news ....

I've previously mentioned Lee Eisenburg of Able Financial Group and how he sends me great e-mails which have interesting information "By The Number$."  Interesting facts today include:

TAX STATS - In 1980, the top 1% of US taxpayers earned at least $81,000 in adjusted gross income (AGI), accounted for 8% of all AGI nationwide and paid 19% of all federal income tax. In 2007 (the most recent year for which data is available), the top 1% of US taxpayers earned at least $410,000 in AGI, accounted for 23% of all AGI nationwide and paid 40% of all federal income tax (source: Internal Revenue Service).

OBAMA’S STOCK MARKET - Since Barack Obama was elected President of the United States on 11/04/08 (i.e., 1 year ago this upcoming Wednesday), the S&P 500 has been up +10.1% (total return) through the close of trading last Friday night. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the US stock market (source: BTN Research).

ONE DAY - The best 1-day performance for the S&P 500 since Barack Obama was elected President on 11/04/08 took place on Monday 3/23/09 when the stock index gained +7.1% (total return) in just 6 ½ hours of trading (source: BTN Research).

SEVEN, NOT EIGHT - The S&P 500’s streak of 7 consecutive up-months (on a total return basis) ended last Friday. The stock index lost 1.8% in October but has still gained +43.1% over the last 8 months (source: BTN Research).

FOR A NUMBER OF REASONS - 30% of Americans age 45-64 surveyed in late July 2009 have stopped contributing to a pre-tax retirement plan (source: AARP).

WAY UP - The average nationwide price of gasoline has increased $1.08 a gallon YTD to $2.70 as of last Friday while the price of oil has increased $32.89 a barrel YTD to $77.49 (source: AAA, NY Mercantile).

BIG BUCKS FOR THE SIXTH GRADER - The average cost for 1-year of college education at an in-state public college is $15,213 for the 2009-10 school year (including tuition, fees, room and board). The total 1-year cost has increased +6.5% per year over the last 30 years. If that same annual rate of inflation continues into the future, then a 6th grader today will ultimately pay $104,000 for his/her 4-years of education at an in-state public college during the years 2016-20 (source: College Board).

Thursday, October 29, 2009

Changes to Form 1040 - Part II - Good news for students

A continuing discussion of the tax law changes for the 2009 Form 1040 Individual Income Tax Return.  Students (or prospective students), make sure that you check out the details on the Hope credit below!

Tax - Line 44: The amount of taxable investment a child can hve without being subject to tax at the parent's rate has increased to $1,900.  Reminder - "Kiddie Tax" now applies to all child dependents, regardless of age. 

Alternative Minimum Tax - Line 45: For 2009, the AMT exemption amounts are increased to $70,950, $46,700 and $35,475 for MFJ, Single, and MFS respectively.  This does not mean AMT will necessarily apply to taxpayers earning more than these amounts, but you must file Form 6251 to determine if AMT applies. 

Education Credits - Line 49:  Hold on to your horses!  Lots of beneficial changes here! The American Opportunity Tax Credit increases the Hope credit from $1,500 to up to $2,500 of the cost of tuition and related expenses (now including books).  The Hope credit is applied to 100% of the first $2,000 of qualifying expenses, and 25% of the next $2,000 of qualifying expenses.  The credit is now available for the first for years of post-secondary education in a degree or certificate program, and is potentially refundable.  Wow!  What a deal!

Credits from Certain Forms - Line 52: Credits available in 2009 includ the Residential Energy Efficient Property Credit (first available in 2007, then not available in 2008, and back for 2009), and Qualified Adoption Expenses.

Wednesday, October 28, 2009

Changes to Form 1040 - Part I

This will be a series of posts concerning how changes in tax laws are affecting the 2009 Form 1040.  Currently 2 pages long, the number of lines is getting onerous and I do not know how much longer it will be until we have a 5 page Form 1040.  This is not a comprehensive list of law changes, but a paired down list of information that may be most interesting for you as the reader. 

Personal Exemptions - Divorced couples listen up!
A noncustodial parent claiming the exemption for a child can NO LONGER rely on a divorce decree or separation agreement.  You MUST fill out Form 8332 (Release/Revocation of Release of Claim to Exemption) if the decree was executed after 2008.  The noncustodial parent must attach the form, or similar statement signed by the custodial parent. 

Children Qualifying as Dependents
  • The Qualifying Child must be younger than the individual claiming the deduction, unless the child is totally disabled.
  • If the parents of a child can claim the child as a dependent, but nobody does so, no one else can claim the child (such as a grandparent) unless that person's adjusted gross income is higher than the AGI of either of the parents.
Unemployment Compensation - Line 19
For tax years beginning in 2009, up to $2,400 of unemployment compensation is considered tax-free.  This is to avoid the "kick 'em when they're down" mentality of taxing people's unemployment proceeds. 

Moving Expenses - Line 26
The mileage rate for moving expenses is now 24 cents per mile. 

IRA Deductions - Line 32
The IRA contribution limit is $5,000 ($6,000 if over 50 by 12/31/09).  For 2009, participants in employer plans are allowed to contribute so long as their AGI is less than $89,000 for single filers or $109,000 for joint filers. 

Standard Deduction - Line 40
The standard deduction is $5,700, $11,400 and $8,350 for single, joint, and head of household tax returns, respectively.  A taxpayer may be able to increase his standard deduction for the amount of sales tax paid on the purchase of a NEW motor vehicle or by paying real estate taxes.  The standard deduction is no longer so standard, as it may require the attachment of the new Schedule L - Standard Deduction for Certain Filers. 

Exemptions - Line 42
The personal exemption amount for 2009 will be $3,650.  There is a phase out if adjusted gross income exceeds $166,800 (single), $125,100 (MFS), $250,200 (MFJ), or $208,500 (HH).

More to come later about tax, tax credits, and items that occur below Line 42!

Tuesday, October 27, 2009

Business Expenses - Substantiation

Ivette Munson v. Commissioner., U.S. Tax Court, T.C. Summary Opinion 2009-164, (Oct. 26, 2009)

Here we have another business substantiation case.  Ms. Munson, in her freelance translating service, was not entitled to deductions because the substantiation for her amended income tax return was poor.  She claimed deductions for telephone, mileage, and home office even though she was unable to show business use.

Friday, October 23, 2009

Sale of rights to wrongful death proceeds non-taxable

In a series of twelve Private Letter Rulings (which cannot be cited as precident) the IRS has ruled that the sale of settlement rights received by the survivors and/or decedents estates will be considered non-taxable.

In the case, the estates of those killed sued and received a financial award for the wrongful death and intentional infliction of emotional distress.  The estates were granted summary judgement by the palintiffs and awarded an unstated aggregate recovery of compensatory damages, interest, and putnative damages. 

The defendent appealed the summary judgement, and while on appeal, the estates/beneficiaries sold the rights to the award to an investor for an immediate cash payment.  The estates/beneficiaries looked to the IRS for guidance concening the taxability of this transaction.

The IRS looked at §104(a)(2) and Regulation §1.104-1(c) which governs that awards received on account of personal physical injury or sickness are non-taxable.  Additionally, §1605 of the Small Business Job Protection Act of 1996 expands the definition to include those pertaining to the wrongful death and emotional distress attributable to a physical injury.

In general, if you are trading the rights to a future payment, the lump-sum payment will maintain the same tax characteristics as the future payment.  In the case of a lottery winner, the trade of annuity rights for a lump-sum causes ordinary income.  This has been taken through the courts, as many lottery winners attempted to modify the tax characteristics by claiming that it shoudl be a capital gain transaction. 

Citations: PLR200942007 (Jul. 06, 2009)

October 15th Deadline

Well, I got through the October 15th deadline, so its time to get back to blogging.  My goal is to have something posted 4 times a week, so we'll be working toward getting that consistently. 

Monday, October 12, 2009

Letter Ruling - Baby Formula is not elgible medical deduction

A private letter ruling is a request by an indvidual taxpayer to rule on a very specific tax issue before the taxpayer takes action.  The PLR is considered the IRS' official position, but is non-precidential.  In other words, unless your situation is exactly the same as that laid out within the private letter ruling, you may not use it to avoid penalties should you use the letter in determining your own tax liability. 

You may request a PLR by sending a letter stating all pertinent facts to:

Ruling Request Submission

Internal Revenue Service
P.O. Box 7604
Ben Franklin Station
Washington, DC 20044

PLR fees range from $75 to $50,000 depending on the circumstances

In today's case, a taxpayer who received a double mastectomy and therefore was unable to breastfeed her child had to purchase infant formula to meet the baby's nutritional needs.  IRC §213 governs medical deductions, and defines a deductible medical expense as one that "is paid for the diagnosis, cure, mitigation, treatment or prevention of disease."  More specifically, later regulations limit the deduction for those expenses which are paid to treat an acute medical condition, and disallow those expenses which are paid to improve general health. 

Taxpayers have previously attempted to deduct special diet food as a medical expense and have generally lost.  In one case, the Tax Court found that the taxpayer, who suffered from Crohn's disease, failed to establish that his diet was a treatment for a condition, instead of a substitute for a normal and healthy diet.  The food he consumed was merely a substitute for food normally consumed by a healthy person, and he was not entitled to a medical deduction. 

The PLR snotes "in the instant case, taxpayer's child is a healthy baby.  The formula satisfies the baby's normal nutritional needs.  Therefore, the infant formula is properly viewed as food that the infant would normally consume."  Accordingly, the PLR does not allow for the deduction.

Aaron's Take:  In accordance with how the law is written, I agree with the IRS' determination.  For similar reasons, a person's gym membership, diet food for obese people, and over the counter drugs are not generally deductible. 

How is this case potentially deductible?  If the baby had vitamin deficiencies and needed a specific type of fortified baby formula, this situation would be different.  Although the argument can be made that the formula is only necessary because of the mother's inability to produce milk, her milk would only have satisified the baby's minimum nutritional needs, and should the deduction be allowed, I'm sure some enterprising taxpayer would try to deduct the mother's food intake because "if the mother doesn't eat, than the baby won't get the right nutrition." 

Thursday, October 8, 2009

IRS Whistleblower Office Sees Jump in Reports of High-Dollar Tax Evasion

If you have knowledge about a tax evader, there are rewards for turning them in.  Under the Tax Relief and Health Care Act of 2006, you can receive between 15% and 30% of the tax, interest, and penalties recovered, if that amount exceeds $2,000,000.  Smaller cases are also subject to smaller rewards.

During the fiscal year 2008, the Whistleblower office received 476 referrals relating to nearly 1,500 taxpayers, with 64 alleging evasion of more than $100 million in tax. 

The identity of the whistleblower must be revealed to the IRS, but is kept completely confidential and is sealed in separate files.  The protection of the whistleblower is a priority for the IRS.

Aaron's Take:  Knowledge of tax evasion is a serious ethical dilemna for employees.  Additionally, a company employee may not have all of the information necessary to substantiate the claim of tax evasion (a very high bar).  The availability and protection of a whistleblower is necessary for the proper function of our voluntary tax system.  The term voluntary refers to the fact that we voluntarially file our tax returns, and it is important to direct our enforcement to those that refuse to participate in the process honestly.

Sunday, October 4, 2009

IRS's newest audit target? Employment taxes!

The IRS has announced that it will be using random audits uner the National Research Program to analyze the way businesses are paying and reporting their payroll taxes.  The IRS estimates that that $54 billion of the $345 billion tax gap (difference between what is paid, and what should be paid) is made up of the underreporting of payroll taxes. 

The IRS has indicated that the new study will begin in October, and that the study will be a multi-year project inspecting over 6,000 businesses in all industries.  CCH comments that "This NRP is focusing on four broad areas; worker classification, fringe benefits, non-filers, and officer compensation." 

Aaron's Take:  We have already experienced one audit that indicated the IRS is ramping up these audits.  Employment Tax Auditors are a small overall percentage of IRS staff, and these audits will require special training.  Our experience showed an auditor that needed hand holding throughout the process, and did not have the appropriate training or confidence to be able to handle this type of audit. 

Pertaining to the four areas of focus, here is what they are looking for in english:
  • Worker Classification - Employee (aka mandatory withholding) vs. Independent Contractor (most common tax evaders)
  • Fringe Benefits - Personal use of employer provided auto, travel expenses (non-qualified spouses & meals), non-cash benefits, boutique insurances
  • Non-filers - specifically small businesses, with huge potential for penalties.  Most bang for the buck!
  • Officer Compensation - the use of S-Corporations to create minimal salaries (and thereby minimal social security taxes) with high dividends. 

Friday, October 2, 2009

Taxpayer asserts he isn't a taxpayer - Court calls him "delusional"

Michigan resident, Brian Dimercurio, attempted to de-tax himself by submitting fraudulent statements to his employer, Compuware Corp.  Mr. Dimercurio notified his employer in February of 2000 claiming he was exempt from Federal income tax and submmitted a fraudulent W-4 which claimed sufficient allowances to prevent federal withholding. 

Mr, Dimercurio affirmatively began to de-tax himself by sending a letter to his employer to "hereby withdraw my authorization for Compuware to withhold tax from my personal earnings."  The requirement for an employer to withhold tax from employees is statutatory, and is not a voluntary initiative.  You may not elect out of Federal withholding unless your personal allowances are sufficient, and you can document them as such. 

HIs argument that he was not liable (instead, he claims his Social Security Trust was) was dismissed due to the lack of legal basis to support the argument that a trust existed and was the recipient of his wages.  He was fined $6,000 for the erronious argument.  Additionally, other actions before the Sixth Circut has received comment that "This argument, which is clearly fantastic and delusional, does not deserve extensive refutation." 

Nevertheless, Mr. Dimercurio continued restating his case and the court granted summary judgement in regard to the tax, resulting in the assessment of over $57,000 of income tax for years 2001-2004.  The taxpayer pentitioned the court for a reexamination of the failure to file penalty with an increased penalty for the fraudulent nature of his argument.  The penalty assessed equals 75% of the tax due, which would bring his total bill to over $100,000. 

The IRS was able to prove, by clear and convincing evidence, that Mr. Dimercurio's actions indicate fraud and the intent to evade taxes by concealing, misleading, or otherwise preventing the collection of taxes.  Though the court does allow for certain good-faith misunderstandings of the law, they determined the the college-educated taxpayer formulated his own conclusions, failed to consult with a professional, and took agressive steps to implement the failed plan. 

The Court sustained the IRS' position, and Mr. Dimercurio will owe taxes for many years to come!

Aaron's Take:  When a court, in a formal document, refers to your ideas as "fantastic and delusional," you know you're in trouble.  Representing himself pro-se (without counsel) before a district court only adds fire to the flames of Mr. Dimercurio's obvious inability to operate within the realms of reality.  Yesterday I blogged about a guy that researched, but wasn't able to provide any documentation to the court, and was then penalized.  Mr. Dimercurio did provide documentation, but it was clearly erronious and the court still assessed a significant penalty ... a very expensive lesson indeed.

Thursday, October 1, 2009

"I read it on the internet" is not an excuse!

A former employee who is studying for his masters degree sent me a great case that shows a taxpayer's attempt to escape accuracy related penalties for reasonable cause.  Thanks Ethan!

IRC§ 6662 imposes a 20% penalty for the underpayment of tax that is due to the negligence or disregard of rules and regulations.  Kenneth & Trudi Woodard represented themself before the US Tax Court concerning the applicability of these penalties for a $150,000 understatement of income resulting in $27,606 of additional taxes.  The IRS tacked on $5,521 of accuracy related penalties. 

Mr. Woodard believed that $100,000 of the income would be considered a rollover to a self-directed IRA when he withdrew the money and lent it to a mortgagee, who stole the money and eventually was convicted of fraud.  He asked the court to accept that his research on Google was substantial proof that he should not be considered negligent.  He was unable to specify any website or any articles that he read, nor did he present any evidence about his attempt to confirm the accuracy of information that he read on the intenet.

The Tax Court determined that, in light of the following information, that the taxpayer should have known better, and that his education with a Bachelor of Science in Accountancy, a M.B.A. and his lapsed license as a Certified Public Accountant should have given him a proper framework to determine what information could be relied upon as difinitive guidance.  Not only did he lose the $100,000 which was stolen from him, he now owes tax and penalty on the amount, and his wife left him!

Aaron's Take:  I am currently working on a case where the taxpayer prepared their own return, read the instructions, and has subsequently and substantially understated their income.  They attempted to prepare a tax return that was substantially more complicated than their education or experience would allow for.  We already understand that there will be a substantial amount of tax due, and that the accuracy related penalty will apply.  We will be fighting this same exact issue, and hopefully will come out more successful than Mr. Woodard.  The point?  Using a tax professional can have substantial value.  Had Mr. Woodard been able to prove that he consulted with someone with expertise, he would likely have been able to get out of the penalty.

Couple under criminal investigation fail to quash a subpoena because they didn't state a claim

A couple, Kenneth & Deborah Hibben were denied a motion to quash the IRS's attempt to examine information held by a third-party bookkeeper*.  When a subpoena is issued, the burden of proof falls on the recipient of the subpoena to prove to the court why the subpoena should not be honored. 

The taxpayers made two arguments:
  • That they were not persons that fall under the IRS's summons authority; and,
  • The IRS's authority is too broad and violates the taxpayer's 4th amendment rights against unlafwul search and siezure
Both of these arguments are elementary and unrealistic.  The Treasury Secretary (or his designees) are allowed by US Code “For the purpose of … determining the liability of any person for any internal revenue tax … the Secretary authorized … [t]o summon … any person having possession, custody, or care of books of account containing entries relating to the business of the person liable for the tax.”

Secondly, it is important, when debating matters of constutionality, to review Supreme Court cases that might be relevent.  After all, the Supreme Court is the SUPREME authority when it comes to constitutionality.  Donaldson v. United States, United States v. Miller, Fisher v. United States, and Hogan v. United States are all clear in their support of the IRS's ability to retrieve documentation that may assist them in determining a proper tax liability. 

in United States v. Bsiceglia, the court acknowledged that, given our tax system's reliance on self-reporting, some persons will try to outwit the system:

Thus, § 7601 gives the Internal Revenue Service a broad mandate to investigate and audit ‘persons who may be liable’ for taxes and § 7602 provides the power to ‘examine any books, papers, records or other data which may be relevant … and to summon … any person having possession … of books of account … relevant or material to such inquiry.’ Of necessity, the investigative authority so provided is not limited to such situations in which there is probable cause, in the traditional sense, to believe that a violation of the tax law exists. United States v. Powell, 379 U.S. 48, 57 (1964). The purpose of the statutes is not to accuse, but to inquire (Emphasis added). Although such investigations unquestionably involve some invasion of privacy, they are essential to our self-reporting system, and the alternatives could well involve far less agreeable invasions of house, business, and records.
Aaron's Take: While I greatly respect encourage the taxpayer's ability to protest what they deem to unfair rules and regulations, it is best to work with a professional to determine what arguments actually make sense, and what arguments are useless drivel.  Too many taxpayers go to tax court Pro Se, ill prepared, and do nothing but waste the time of the court.  If you have a genuine concern, find an Enrolled Agent or CPA that is certified to practice before the Tax Court (USTCP) or a tax lawyer that will do more for you than take a fee.

*(Kenneth A. Hibben and Deborah A. Hibben, Petitioners v. United States of America, Respondent., U.S. District Court, S.D. Ohio, 2009-2 U.S.T.C)

Wednesday, September 30, 2009

Expansion of First Time Homebuyer Credit & Allowing Losses on Primary Residence

On September 24, 2009 Representatives Childers and Kratovil introduced a bill which was referred to the Ways and Means Committee to make certain changes to the First Time Homebuyer credit.  Major changes introduced include:
  • Allowing the credit for anybody "who purchases a principal residence"
  • One year extension of the credit to December 1, 2010
  • Will be effective on the date signed by the President
Aaron's Take: While I could see that an extension could possibly (but I doubt will) pass, I don't think that this is the one that will succeed.  The dramatic expansion to all taxpayers who purchase a principal residence will simply cause a churning of the current home inventory.  Opening this up to all taxpayers will create as much inventory as it is clearing, as current homeowners look to sell their own houses to move up into better homes, or move out of their depressed communities.

Additionally, the bill includes a provision to allow for a limited deduction on the loss of a primary residence.  Currently, no lossess are allowed when selling anything that qualified under personal use.  This bill would allow a deduction for a loss on a principal residence that has been used for more than two years.  The loss would be limited to $6,000 ($12,000 joint) and no more than $2,000 could be claimed in each year. 

Aaron's Take: I don't see how this bill will pass in its current form.  While it seems nice, a $2,000 deduction on the loss of a home would make a maximum difference of $700 for the wealthies taxpayers, and a $300 difference for most middle clas taxpayers.  Besides for the fact that the cost of implementation and enforcement would far exceed the benefit, this bill is too little too late.  Most of the losess have already occurred. 

Tuesday, September 29, 2009

Vice President - Central Arizona Chapter of Enrolled Agents

I just thought that I'd share with you all (though I don't know who is out there yet anyway) that I was elected, by the board of directors, to the position of Vice President for the Central Arizona Chapter of Enrolled Agents.  Our president, Leslie Gustafson, E.A., has bee put into a difficult position, taking over for someone who was taking over for someone else, and the two of us are going to do our best to tame the bronco that keeps bucking off our executive leadership. 

This is a great opportunity to put our best foot forward as flagbearers for the practitioner community.  I look forward to the future!

DISCLAIMER:  This blog is not representative of the opinions of the Central Arizona Chapter, Arizona Society, or National Association of Enrolled Agents.  Nothing in this blog should ever be construed as an official statement, opinion, determination, or statement those organizations.  If you would like an official comment, please address it to the leadership via

Jack A. & Lettie G. Wheeler v. Commissioner., U.S. Tax Court, T.C. Summary Opinion 2009-151, (Sept. 28, 2009)

In this tax case, a salesman was denied deductions for his vehicle expenses for lack of adequate substantiation.  The taxpayer did not have a log or other contemporanious substantiation that would be required in order to allow for the reconstruction of his mileage log.

The IRS dictates that a taxpayer must substantiate the amount of expense, time and place of business use of the vehicle, and the business purpose of the travel.  This is the minimum allowable proof to show business purpose and use of a vehicle.  In this Tax Court case, the court admitted that:
the taxpayer has adequately explained and corroborated the business purposes of his calls on customers during 2005.  He has not, however, adequately substantiated th etime or date and number of trips taken.  His reconstruction is based on estimates and averages ..."
Two things could have been done to alleviate this taxpayer's situation.  First, he could have settled with appeals, using the same estimates and averages.  Appeals has a much stronger ability to settle on an issue than an initial auditor, or tax court.  Each of the latter must apply, strictly, the Internal Revenue Code to the taxpayer's situation.  Appeals, however, has added flexibility. 

Secondly, he could have kept a calendar.  Most recreations are allowed from keeping an appropriate, and timely, calendar.  This calendar would show where he went on which days.  So long as it was contemporaneous, there is a good chance the IRS our court would have been able to look to this as backup for the taxpayer's claims.

Aaron's Tip of the Day:  If you cannot bear to keep an appropriate mileage log, keep and maintain a calendar.  If your calendar is digital, be sure to keep a proper archive, or printout your activity and keep it in a safe place.  This printout is just as valuable as your bank statements and receipts. 

Wednesday, September 23, 2009

UBS Bows to IRS Pressure - Is your name on the list?

Probably not ... and if it is, you might not be a client of mine for much longer.  The Treasury Department requires taxpayers to file annual reports declaring their interest in foreign bank, investment, and trust accounts.  Failure to file these reports causes you to be exposed to a potential penalty of $10,000 to $100,000. 

If you have appropriately reported the income generated by these overseas funds, than you may be eligible for amnesty from these penalties.  If you didn't, you will be required to amend your tax returns (back to 2002), file, and pay the taxes, interest and penalties that arise from the amendments.  You can file the forms late, and may be eligible for amnesty. 

Why do I bring this up?  UBS has announced that it will be soon informing 4,450 account holders that it has released their information to the US Department of the Treasury.  Claiming privacy, UBS (who already turned the information over to the IRS) was refusing to notify its clients if they were included. Two accountholders sued in Swiss Court which sided with the accountholders. 

The IRS will likely see any failure to comply with this amnesty program as means to begin criminal tax evasion proceedings.  If you're in this situation, it would behoove you to find an attorney.

Tuesday, September 22, 2009

Don't Burn Bridges

There are many examples that I come across that indicate the importance of maintining quality professional relationships in life.  There are times when that relationship can be strained, and a client and our firm may separate from working with each other.  Many times this occurs because of a conflict in communication style or a misunderstanding of who is responsible for what. 

The important thing about ending a relationship is to do it professionally and introspectively.  I know that I cannot be the best accountant to every single person on the face of this earth.  There are going to be clients that I will not be able to satisfy, and I am ok with that.  As long as we walk away respecting each other, than you can be successful in the long run.  This allows for relationships to continue for years, even though money is not changing hands. 

A few examples:
  • I have a referral source who is a realtor.  He worked with my father over 20 years ago.  When we started meeting as part of our professional group, it was a funny coincidence.  He and Alan separated with respect, and that allows us to work together 20 years later.
  • A long time client separated from us about 5 years ago because of a fee issue.  He thought we ere billing too much.  He came back 2 years ago (when I rejoined the firm) because he realize that the work we do for him is actually worth it.  If we had not respected his concerns in the past, we would have lost him forever.
  • Finally, the story that spurred this post.  We volunteer for the Service Corps of Retired Executives (SCORE) providing QuickBooks training for their Phoenix chapter.  He mentioned that they are working on doing more social networking training, and I said "You should call my friend ..."  He had already spoken to her in the past, and she was an integral part of the project.  Someone always knows someone that knows you.  If you make them mad, your name will be smeared for those other generations. 

Monday, September 21, 2009

Taxpayer Advocay Panel Reports on IRS Customer Service

CCH Federal Tax Weekly (Issue 35) reported on the TAP 2008 Annual Report. The TAP is a group of 101 volunteer community members appointed by the Department of the Treasury and makes recommendations for improvements.

Major recommendations include:
  • Preparer registration: TAP endorsed the regulation of taxpayers, pointing to Oregon and California showing improvements in tax preparation.
  • Installment Agreements: Recommended rasing the cap on streamlined agreements to $30,000 from $25,000 and to 72 months from 60 months.  
  • Return Processing:  Recommended that the IRS move to automated screening (scanning?) and data entry technology for processing tax returns.  The IRS still keypunches every paper-filed tax return. 
I'm not sure that expanding the streamlined IA agreements is going to help.  The IRS reported this August that most IAs default somewhere between the 12th and 24th month.  They have new measures in place to allow for a missed payment without defaulting the agreements, but it will take time to see if it will be effective. 

Friday, September 18, 2009

Do Taxes Make You Sick?

It's been a rough week for me. I went home early on Wednesday and Thursday due to a feeling of exhaustion. The September 15th filing deadline sure took a lot out of me! I am, however, enjoying doing some tax blogging.

Not too much interesting stuff today, but there are some new buzz coming out about expanding, extending, or modifying the First Time Homebuyer Credit. The Congress is worried about individuals who have purchase contracts currently but may not close due to the long due dilligence process currently required by banks.

Many homebuyers are also involved in purchasing short sales, which require bank authorization prior to the acceptance of the purchase offer. This often takes two to three months, and is entirely out of the hands of the purchasor and seller. The Congress does not want to punish well-intentioned buyers for the lack of staffing and coordination of the banks.

Regardless of the potential for an extension or modification, the current law is clear that the deadline for purchasing a home (closing papers signed and purchase recorded) is November 30, 2009. I'll do my best to keep you informed if something changes.

Wednesday, September 16, 2009

Jon Stewart on the ACORN Tax Scandal

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White House Weighing New Homebuyer Tax Credit Extension

CCH News, a provider of news and research services for tax professionals, is reporting that the White House may extend the first-time homebuyer credit.  The information was proposed by the Council of Economic Advisers Chairperson in an interview at the White House on September 11th.  Currently, more than 20 House and Senate bills have been introduced to expand, extend, or modify the credit, which expires on November 30, 2009.

CCH comments that many taxpayers hoping to tax advantage of the credit are currently stuck in a due-dilligence cycle with their banks.  This could delay the closing of their house to past the November 30th deadline, at no fault of their own.  Congress is looking to relieve the pressure on these potential purchasors. 

FedEx in big trouble for classifing workers incorrectly

The IRS has a list of 20 factors in considering workers as employees or independent contractors.  Employers would rather classifiy workers as contractors because it relieves them from liability for workers compensation, unemployment tax, withholding and remitting employment taxes, as well as wage and hour laws, anti-discrimination laws, and OSHA regulations. 

Unfortunately, there are many situations when classifying a worker as an independent contractor is inappropriate.  Factors that the IRS considers include (list is not comprehensive)
  • Behavioral control - when and how to do work, what tools and equipment to use, what sequence to follow, training provided to the worker. 
  • Financial control - worker's out of pocket expenses, worker's investment in their own activities, extent to which the worker makes services available to others, method of payment (fixed vs. hourly)
  • Relationship of Parties - presence of written contracts, employee style fringe benefits, defined length of relationship, workers other sources of funds

Tuesday, September 15, 2009

Prostitution is not an a medical expense

A 77 year old man recently went to Tax Court in an attempt to deduct over $100k for prostitution and pornography as medical expenses. 

During 2004 and 2005 petitioner frequented prostitutes in New York. Petitioner did not visit these prostitutes as part of a course of therapy prescribed by his doctor, nor did petitioner ask his doctor to prescribe any sort of sex therapy. Petitioner kept track of these visits in a journal. ...

During 2004 and 2005 petitioner purchased pornography and books and magazines on sex therapy. Petitioner also recorded the dates and amounts of the purchases in his journal. ...

The $73,934 disallowed by respondent for 2004 included: (1) $2,368 for medical books, magazines, videos, and pornographic material; [and] (2) $65,934 for prostitutes ... The $47,024 disallowed for 2005 included: (1) $5,005 for books, magazines, videos, and pornographic materials; and (2) $42,152 for prostitutes. ...

The issue for decision is whether petitioner is entitled to deduct amounts paid to prostitutes and for medical texts and pornographic materials. Respondent argues that petitioner is not entitled to deduct amounts paid to prostitutes because such payments were illegal and petitioner has not provided substantiation as required by section 1.213-1(h), Income Tax Regs. Respondent argues that petitioner is not entitled to a deduction for amounts paid for books on sex therapy and pornographic material because those amounts were incurred for petitioner’s general welfare, not pursuant to a doctor’s prescription or for a specific medical condition. ...

We agree with respondent that petitioner is not entitled to deduct the amounts at issue. Patronizing a prostitute is illegal in the State of New York. ...

Petitioner is likewise not entitled to deductions for amounts paid for books and magazines on sex therapy and pornography. The purchases were not for the treatment of a medical condition but were instead personal items. ...

Petitioner did not have reasonable cause or a reasonable basis for claiming the deductions at issue. Petitioner has been an attorney for 40 years and specialized in tax law. Petitioner should have known that his visits to prostitutes in New York were illegal and that section 213, the regulations thereunder, and caselaw do not support his claimed deductions. Accordingly, petitioner is liable for the section 6662 penalty.

Sunday, September 13, 2009

Taxation of Celebrity and Presenter Gifts

My wife and I stayed up late tonight to watch MTV's Video Music Awards.  I got to thinking about some articles that I read a few years back about all the swag that tpresenters get for participating.  All of their swag is considered taxable, though it is difficult to gauge the value. (More after the cut).

Arizona Employee Pay Rules

I participate in a professional listserv and also a webboard where practitioners ask each other questions to questions they don't know.  Many times, the answer is common knowledge, but sometimes people will respond with actual IRS code or Arizona Revised Statutes. 

Last night, a practitioner posted about Arizona's employee pay rules.  I am familiar with the pay rules for employees that are fired (must be paid within 3 days after the firing), but this post had to do with the actual payment rules. 

According to ARS 23-351 (this summary does not apply to school district employees or union employees):
  • Employers must designate two pay periods per month not more than sixteen days apart as fixed paydays (Out of state employers may have a single payday per month)
  • Wages other than overtime for up to five days of labor may be withheld (allows for a one workweek delay in payment - pay period ending on Friday #1 paid on Friday #2)
  • Employers can satisfy their requirements by personally delivering the wages or mailing no later than 5 days from the end of the pay period, or, for employers that have payroll systems outside of Arizona,  Personally delivering the check no later than 10 days from the end of the pay period.
  • If the wages are direct deposited, the employer is required to deliver a statement of earnings and withholding. 
  • Violators of this provision are guilty of a petty offense. 
If you have any questions on this, please let us know.  You can e-mail for more information if you believe you or your employer is in voilation of this statute. 

Saturday, September 12, 2009

Press Releases result in Press!

While on the phone with the IRS this week dealing with a client's issues, I generated a press release that has gotten me into today's (Saturday 12, 2009) Arizona Republic business section.  Page D4 announces:

"Aaron Blau of Alan Blau & Associates in Tempe earned the Fellows designation from the National Association of Enrolled Agents for completing the National Tax Practice Institute."

Substantially shorter than what I wrote, but any free pub is good pub!  I also sent to Arizona Capital Times, Arizona Business Journal, Phoenix Jewish News, and a few others.  We'll see if those come through!

Friday, September 11, 2009

Wall Street Journal "Lion's Share"

A colleage recently shared some statistics provided by the Wall Street Journal which showed the percentage of federal income tax paid by the nation's top earners.  The graphic shows the top 1% of earners paying nearly 40% of all taxes, and the top 5% paying over 50% of the total tax.  While this is probably true, it can be slightly misleading.  The superwealthy (top .1%) and wealthy (top 1%) also have the lions share of national income as shown here:

Based on 2007 Data (Compiled by Tax Foundation):

Top .1% of Earners (About 140k people) earn 11.93% of nationwide income
Top 1% of Earners (About 1.4 million) earn 22.83% of income (the highest income since at least 1980)
Top 10% of Earners (About 14 million) earn 46.44% of income (the highest income since at least 1980).
The bottom 50% of Earners make 12.26% of nationwide income.

Interestingly, the top .1% have an average tax rate of 21.46% while the folks between the top .1% and 1% have an average rate of 23.54% (ten percent higher!).  From there, the average income tax rate drops to 12.66% with the top 50% averaging 14.03% and the bottom 50% paying only 2.99%. 

Thursday, September 10, 2009

Random Facts

Lee Eisenberg ( and Adam Brooks send me great e-mails with interesting financial facts every month.  As many of them are market related, so I can't repeat them without a license, but here are a few good ones that catch my eye:

A LOT OF MONEY - Outlays for the mandatory government programs of Social Security, Medicare and Medicaid during fiscal year 2009 (i.e., the 12 months that end 9/30/09 or later this month) are expected to total $1.36 trillion. A stack of $100 bills 923 miles high is equal to $1.36 trillion. The distance between Chicago and New Orleans is 923 miles (source: Office of Management and Budget).

BUNDLE OF JOY/DOLLARS - A family with before-tax income of at least $100,000 that had a newborn in 2008 will spend $367,000 (in 2008 dollars) to raise that child through age 17 (i.e., not including the cost of college). After factoring in the impact of inflation, the 17-year cost rises to $484,000 (source: Department of Agriculture).

GETTING BETTER - Nearly half of Americans surveyed (46%) believe the US economy is going to improve in the upcoming 12 months, double the percentage (22%) that believe the economy will get worse (source: Harris Poll).

Confessions of a Former Client

My office manager ran across a former client a few days ago.  We separated from the client because he has a belief that our fees were higher than they should be.  He expressed extreme regret for leaving, as his new firm has charged him substantially more than we did, took longer than we did, and didn't communicate as well as we did. 

Its nice to have positive feedback every once in a while. 

Lawyer and CPA Indcited

The Arizona Republic reports that Steven W. Allen, a lawyer, and Allen P. Goodmansen, CPA have been indicted for preparing foreign trusts for the sole purpose of avoiding Federal taxes.  Goodmanson prepared false tax returns attempting to indicate that the taxpayer did not live in the United States. 

This is reprehensible behavior by licensed individuals that put themselves out as "professionals."  Allen had a website which purported to have "Secrets of Wealth Preservation."  I guess one of the secrets is not to pay your taxes ....

Goodmansen is a principal of SPG Network Financial, a company that purports to find "creative" solutions to meet a client's objectives.  Apparently that objective must have been breaking the law.  Anyone working with SPG Network FInancial, or Goodmansen's associates Lonnie Hawkins or Michael McLaughlin might want to start asking some questions.
Aaron Blau, E.A. is the Vice President of the Central Arizona Chapter of Enrolled Agents and a member of the Government Relations Committee of the National Association of Enrolled Agents. The opinions and ideas expressed here are in no way representative of the official position of the National Association of Enrolled Agents, Arizona Society of Enrolled Agents or the Central Arizona Chapter of Enrolled Agents.

For official comments, please e-mail NAEA Director of Communications at or Arizona Society president

"To ensure compliance with the requirements imposed by the IRS, we inform you that, to the extent this communication (or any attachment) addresses any tax matter, it was not written to be (and may not be) relied upon to (i) avoid tax-related penalties imposed under the Internal Revenue Code, or (ii) promote, market or recommend to another party any transaction or matter addressed herein (or in any such attachment). In addition, nothing herein is intended to convey an expression of an opinion as to the likelihood a tax position would ultimately prevail if challenged by the IRS. This communication is intended solely for the person to whom it is addressed; no one else should rely on the tax advice provided herein. The person to whom this advice is addressed is under no obligation to keep the advice or matters related to the advice confidential."