MauledAgain

This recent story about tax evasion is a candidate for the tax-believe-it-or-not hall of fame. More details appeared in another version of the story.

A man in India showed up at a hospital complaining of abdominal pain. Physicians determined there was some sort of blockage, cut into the fellow, and discovered 12 33-gram gold bars in his stomach. The first story was tagged, “An India man's apparent attempt to evade taxes by swallowing gold did not have a glittering end” and commented that the man is now “under investigation for tax evasion.” The second story explained that he apparently smuggled the bars into the country to evade import duty. I suppose import duty can be considered a tax, at least for purposes of describing the swallowing of gold bars as a foolish way to evade taxes. What’s even worse is that it didn’t work, and the medical bills probably exceed the taxes the fellow was trying to circumvent.

That the guy doesn’t qualify for a rocket scientist award is further demonstrated by what he told the doctors. He claimed to have swallowed the cap from a plastic bottle. What did he think was going to happen? That the surgeons would operate and remove a plastic bottle cap?

And the gold bars? They’re now in the hands of the customs agency.

I think I know what the fellow was expecting to happen. Unfortunately, that didn’t come to pass.

I last discussed the saga of Philadelphia’s Board of Revision of Taxes in Philadelphia’s BRT Encounters a Provision That Bars Solving the Problem that the Provision Created. It’s a story I’ve been addressing from time to time for almost seven years, beginning with An Unconstitutional Tax Assessment System, and continuing with Property Tax Assessments: Really That Difficult?, Real Property Tax Assessment System: Broken and Begging for Repair, Philadelphia Real Property Taxes: Pay Up or Lose It, How to Fix a Broken Tax System: Speed It Up? , Revising the Board of Revision of Taxes, How Can Asking Questions Improve Tax and Spending Policies?, This Just Taxes My Brain, Tax Bureaucrats Lose Work, Keep Pay, Testing Tax Bureaucrats Just Part of the Solution, A Citizen Vote on Taxes, Freezing Real Property Tax Reassessments: A Nice Idea, The Tax Price of a Flawed Tax System, Can Bad Tax Administration Doom the Tax?, Taxes and Priorities, R.I.P., BRT, A Tax Agency Rises from the Dead, Tax Law as Subterfuge: Best Use Valuation v. Current Market Valuation, How to Kill a Bad Tax System That Will Not Die?, The Bad Tax System That Will Not Die Might Get Another Lease on Life , Robbing Peter to Pay Paul, Tax Style, Don’t Rob Peter to Pay Paul: Collect Unpaid Taxes, The Philadelphia Real Property Tax: Eternal Circles , A Tax Problem, A Solution, So Why No Repair?, Can the Philadelphia Real Property Tax System Be Saved?, Alarm Bells Ringing for Philadelphia Property Tax Reform, A New Chapter in the Philadelphia Property Tax Story, Is a Tax Appeal Delayed a Tax Appeal Denied?, Sometimes, They Cannot Win, and momentarily ending with Philadelphia’s BRT Encounters a Provision That Bars Solving the Problem that the Provision Created.

The latest chapter of the story involves the attempt to adjust the pay of those serving on the BRT. Some thought that the huge backlog in appeals filed with the Board was a result of pay discrepancies among the members. An attempt to lower the board members’ pay was precluded with respect to several members because of a state constitution provision prohibiting the reduction of a sitting member’s pay. That meant that some board members were making $70,000 per year, and others were being paid at a rate equivalent to roughly $38,000 per year. Some board members weren’t putting in forty hours a week, perhaps because they figured that if they were being paid roughly half what other members were earning, they should do half the work. So City Council voted to pay each board member $70,000 per year. Then came an observation that the increase violates the same provision because it would increase the pay of sitting members. While the matter is being bounced about, apparently the paychecks have been equalized, because now comes news that with the bill having been passed by City Council, the rate of appeals being resolved by the BRT has ramped up. Previously the Board had been deciding about 150 cases each week, and now it’s resolving roughly 600 cases each week. With a backlog of almost 24,000 appeals, it still will take some time before the docket is emptied. And if the City Council legislation is overturned by a court, it seems that the wheels of tax justice in Philadelphia will slow considerably.

I wonder how effective this approach to increasing one's pay would work in the private sector. Perhaps politicians should be paid the minimum wage. That might solve all sorts of problems.

It seems appropriate to repeat what I noted in my last post on the subject, Philadelphia’s BRT Encounters a Provision That Bars Solving the Problem that the Provision Created: ”There are two solutions. One is to clean house and appoint an entirely new board. Politics surely gets in the way of that solution. The other is to abolish the board, which is what the city tried to do, but the courts blocked that move. Finding a solution is going to require putting the well-being of the city and its residents over the interests of politics and politicians. The chances of that happening are low enough that I can again predict with confidence that the story will continue.”

Eight years ago, in A New Book on Taxation of Residence Sales: Don't Leave Home Without It I reviewed Julian Block’s book, “THE HOME SELLER’S GUIDE TO TAX SAVINGS: Simple Ways For Any Seller To Lower Taxes To The Legal Minimum." Now he has a new edition, with a different subtitle, “The Home Seller’s Guide to Tax Savings: A Tax Guide for Buyers, Sellers, Foreclosures, Short Sales and More.” As he has done with his many other tax books, Julian has put together a plain-English description of the tax law as it applies to typical taxpayers engaging in typical residence transactions.

Julian begins with a summary overview of section 121, which permits taxpayers to exclude from gross income up to $250,000, or $500,000 for married couples filing joint returns, of the gain from selling the principal residence. Although seasoned tax practitioners understand what gain means, Julian assists the non-expert taxpayer in understanding that the gross sales price is not the gain. He is careful to explain the dual-prong ownership and use tests that must be satisfied, and the once-every-two-years-use-of-exclusion limitation. He also explains how a partial exclusion is available if the taxpayer does not meet those tests or falls within that limitation. He also explains the recent change that prevents the exclusion from applying to gain attributable to periods of nonqualified use. He provides guidance on what to do and what not to do when trying to meet the ownership and use tests. Julian discusses recent rulings that address whether a situation satisfies the unforeseen circumstances exception that permits qualification for a reduced exclusion even though the ownership and use tests have not been met. In connection with these tests, he provides an extensive discussion of what constitutes a principal residence.

The book contains helpful sections that address particular situations. Julian describes the issues facing widows and widowers, divorced individuals, and unmarried couples who cohabit. He also explains the impact on computing the exclusion of using a portion of the residence as a qualified home office. He describes the treatment of life estates in the residence, the complications caused when vacant land adjacent to the principal residence is sold, the disappointing consequences of selling rent control rights in a rent-controlled dwelling (spoiler: the exclusion doesn’t apply), and the much better consequences of selling condominium units and cooperative apartments. Julian also explains the consequences of short sales, foreclosures, insolvency, and debt forgiveness, all of which have become far more common than they were ten or twenty years ago.

When the gain from selling a residence must be taxed, because the exclusion is insufficient to cover the entire gain, the taxpayer faces a possible need to make estimated tax payments, the complexity of computing the tax on capital gains, and the application of the Medicare surtax on investment income. Julian takes the reader through an explanation of what these issues involve and how to deal with them.

The computation of gain depends in part on the selling price and in part on the taxpayer’s adjusted basis in the property. In most instances, the computation of basis begins with cost, though for gifts it begins with the donor’s basis, and for inherited property it begins with fair market value. Adjusted basis is then computed by taking into account closing costs, and improvements. Julian explains how these rules work and gives tips on how to maximize adjusted basis, including the need to keep records, and points out how condominium and cooperative apartment owners need to pay attention to the information provided by the condominium or cooperative association. In connection with the determination of basis, Julian provides an explanation of the new regulations issued by the Treasury to distinguish repairs from improvements. Although improvements usually are not deductible, they can be if they qualify as medical expenses, and Julian devotes a few pages to explaining how this works.

Though generally losses on the sale of a principal residence are not deductible, there are exceptions, and Julian digs into these. He describes the tax consequences of selling a former principal residence that has been converted into a rental property. He explains the casualty loss deduction, and though he discusses some cases and rulings involving thefts not related to home ownership, the stories generating the tax issues in these situations are well worth the cost of the book (small spoiler: thieving roommates, fortune tellers, adultery cover-ups, disgruntled dance studio customers, the crushing of cars parked in no-parking zones, friends wrecking cars before insurance was purchased, and children abducted by former spouses).

Julian also explains deductions connected with residences, including mortgage interest, mortgage loan points, and real estate taxes. He also discusses the deductions arising from the use of a portion of a residence as a qualified home office.

The book closes with several questions, presumably from readers of earlier editions, and Julian’s answers. It is interesting to see the variety of situations people encounter, although unfortunately too many of them involve casualties to the home.

As has been the case with his other books I’ve had a chance to review, I recommend this one. It is something that anyone owning a home, renting out a home, thinking about buying a home, or selling a home will find very useful.

A recent Tax Court case, Henson v. Comr., T.C. Summ. Op. 2014-36, demonstrates how unwise it is to say one thing and then to say something inconsistent at a later point in time. The taxpayer in question, during a Tax Court trial involving other issues, decided to assert that the alimony income she reported on the tax return at issue was not gross income. The Tax Court would have none of it.

When the taxpayer divorced, she and her husband entered into an agreement that he would pay her property settlement payments totaling $200,000, plus maintenance payments of $5,000 per month for 60 months followed by $2,500 per month for 48 months. The maintenance payments would terminate if the taxpayer died, cohabited, or remarried. The agreement made no mention of tax consequences of the payments. After making ten maintenance payments, the taxpayer’s husband failed to pay the amounts due for the remaining two months of the year, causing the taxpayer to bring an action in state court against her former husband. The taxpayer reported the $50,000 as alimony gross income.

During the Tax Court trial, the taxpayer argued that the $50,000 was not gross income, claiming that “her divorce decree ‘even states that it’s not alimony, it’s just separating marital property, and * * * [my husband’s and my] money.’ ” The Tax Court explained that the ten payments totaling $50,000 were alimony gross income under section 71(b) of the Internal Revenue Code because they were in cash, were received by the taxpayer under a separation instrument, were not the subject of a provision characterizing them as not alimony, were not made between spouses occupying the same household, were not due for any period after the death of the taxpayer, and were not replaced by payments required to be made after her death. The Tax Court noted that the taxpayer reported these payments as alimony on her income tax return. It also pointed out that she brought a state court action against her former husband for the two unpaid payments, making it possible to infer that he made the other ten maintenance payments, consistent with what the taxpayer reported on her return.

Though the taxpayer was subjected to a section 6662 accuracy-related penalty, that penalty did not apply with respect to the alimony because she had correctly reported the alimony. The taxpayer was fortunate. No penalty was asserted against her for trying to back out of a correct return position by arguing that what clearly constituted gross income was not gross income. A taxpayer does not earn points with a court by taking this sort of stance, which is quite different from bringing up a deduction accidentally omitted from a return under audit or claiming and demonstrating that a gross income item was mistakenly computed. Reading the opinion gave me the sense that the taxpayer, anticipating losing on most or all of the other issues, brought up the “it’s not alimony” claim in the hope that removing it from the return would offset the increased taxable income generated by the adjustments being made by the IRS with respect to the other issues. The taxpayer represented herself in Tax Court, so she was bereft of the advice that competent counsel would have provided, namely, “Nothing can be gained from making that argument.”

A recent Reuters report discloses that, according to tax return preparers, at least some wealthy clients “have been surprised” to learn that their taxes have increased. One tax professional claimed that “people are caught off guard.” There are stories of taxpayers who have underpaid their estimated taxes, and who have not adjusted their withholding, and now are having to write significant checks to pay the amount by which they have failed to maintain tax payments.

The changes, effective for 2013, were enacted more than a year ago. They were enacted amid a flurry of objections, arguments, lobbying, negotiations, press coverage, social media complaints, and an assortment of other discourse. It is a good guess that most, if not all or nearly all, of the taxpayers facing these issues have tax advisors. What sort of advice were they getting? Were they not listening? Were they not listening to their advisors? Were they not reading the news? Were they not paying attention?

The report describes the situation as one in which these taxpayers “have been surprised to learn the Internal Revenue Service was taking a larger bite.” Nonsense. It’s the CONGRESS of the United States that decided to amend the tax laws. The Congress. I suppose paying attention in civics courses, where they still exist, also has not been on the agenda.

A recent Tax Court decision, Johnson v. Comr., T.C. Memo 2014-67, indicates why it’s important to screen one’s tax return preparer. Although the taxpayer came out on the losing side in terms of the substantive tax issue, by relying on a tax return preparer, the taxpayer avoided the section 6662 accuracy-related penalty.

The taxpayer divorced his wife in 2006. The divorce decree required him to pay spousal maintenance of $6,068 each month. In addition, he was required to pay her 40 percent of his gross bonus. Both the monthly payments and the bonus percentage payments terminated on the earliest of any of three events. They terminated when the youngest child graduated from high school. They terminated when the taxpayer’s ex-wife remarried. They terminated when the taxpayer or his ex-wife died. The decree stated that the payments were deductible by the taxpayer and includible in the ex-wife’s gross income. The decree also required the taxpayer to pay $500 per month, adjusted for inflation, in child support until they graduated from high school or certain other events occurred. In 2008 the state court reduced the fixed amounts to $4,000 and $200 per month, respectively.

On his 2008 federal income tax return, the taxpayer deducted $54,788 as alimony. A certified public accountant prepared the return. The IRS disallowed the deduction and issued a notice of deficiency, including an accuracy-related penalty. After the taxpayer filed a petition in the Tax Court, the CPA amended the return, increasing the deduction to $70,848, to reflect the bonus percentage payments not claimed as a deduction on the original return.

The Tax Court held that the payments were not deductible as alimony because they were subject to a contingency involving a child, specifically, graduation. The provision in the divorce decree for child support payments did not prevent classifying the other payments as child support payments because of the contingency.

The Tax Court also held that the taxpayer was not subject to the accuracy-related penalty because he had reasonable cause and acted in good faith. The taxpayer gave his preparer complete and accurate information, the preparer was at fault in preparing an erroneous return, and the taxpayer believed in good faith that he was relying on a competent return preparer. The court noted that the record did not indicate whether the CPA was incompetent or inexperienced, and that the taxpayer was not required to second-guess the preparer’s advice.

The opinion does not discuss whether the preparer reimbursed or planned to reimburse the taxpayer for the costs of going to Tax Court to resolve the issues, or for the interest that accrued on the tax deficiency. Even if reimbursement is made, the aggravation and inconvenience of dealing with the audit and the judicial proceedings is something most taxpayers would prefer to avoid. One way of increasing the chances of avoiding these sorts of problems is to check out one’s tax return preparer before engaging the preparer to prepare returns. Until and unless there is some central clearing house that rates and reports on tax return preparers, taxpayers must rely on recommendations from reliable friends and relatives to identify competent and experienced tax return preparers.

Six years ago, in What’s in a Tax Label?, I noted that calling a tax increase a “loophole closer” doesn’t change the reality that a tax increase is in the works. The following year, in Please, It’s Not a Tax, I argued that calling a parking fine a “curb tax” was nothing more than an attempt to use anti-tax sentiments to fight proposed increases in parking fines. Last year, in The “Rain Tax”?, I made the same point with respect to a storm water management fee. It seems that rather than sticking to a standard definition of tax, people who oppose something call it a tax because it’s easier to find allies to oppose it, and people who are trying to raise revenue find names other than tax in order to avoid scaring off people who don’t like taxes.

Now comes a story about “tax policy adjustments” in Governor Chris Christie’s proposed budget for New Jersey. His administration claims that the adjustments are not new taxes or tax increases. The nomenclature mess is taking a back seat to the claim that Christie previously accused political opponents of doing what he now proposes to do.

Christie wants out-of-state sellers to collect use tax on online sales to New Jersey residents. In fairness to Christie, the use tax already exists but, as is the case in many states, enforcement is lax. The sellers who would be required to collect the tax would not be paying it, because their customers would be charged for the tax. The customers would be paying a tax that they owe under current law.

Christie also wants to extend the tax on tobacco products to e-cigarettes. No matter what policy arguments can be made to support the proposal, a tax on e-cigarettes would be a new tax, because e-cigarettes are not tobacco products.

Another idea from Christie is to repeal the sales tax exemption for Urban Enterprise Zone businesses for certain purchases. The repeal of a tax exemption is a tax increase. Calling it a “tax policy adjustment” is a ploy designed to preserve a claim of not having raised taxes.

Grover Norquist thinks all of the proposals are new taxes or tax increases. I agree with him on two of the three. Taking steps to collect a tax that already exists is not the enactment of a new tax and it’s not a tax increase. Calling it a tax increase is deceptive, and it’s worse because it’s done for political purposes.

As the April 15 deadline approaches, it seems appropriate to take a look at one of the more “interesting” attempts at a tax deduction to have come to my attention. In a series of 13 Crazy Tax Deductions, one described the attempt of an 85-year-old taxpayer to claim dependency exemption deductions for her parents. According to the tax return preparer, who declined to include the parents on the tax return as dependents, the taxpayer showed him a copy of “the instructions,” and claimed that all the tests had been met, namely, the parents had no income, were related to her, did not file a tax return, and were not claimed as dependents by anyone else.

The story does not disclose when this happened. But although the definition of dependent has changed, under both the old and the current definitions, one of the requirements is that the taxpayer provide over half of the person’s support. That’s found in section 152(a) before the amendment, and in section 152(d)(1)(C) of the current statute. Support for a person who is dead is zero. The amount of support provided to the dead person is zero. Zero is not more than one-half of zero.

This is not to say that a person who is dead cannot be a dependent. If a dependent dies during the taxable year, the exemption is available for that year because the dependent was alive during part of the year.

The position taken by the taxpayer was at best, clever and creative, but like most clever and creative things, it went nowhere. The tax return preparer’s decision to refuse to claim the deceased parents as dependents is consistent with a ruling that no dependency exemption is available for a stillborn child, and a case holding that no exemption is allowed for a child not born by the end of the year. In contrast, the IRS has ruled that a child who lives momentarily after birth qualifies as a dependent if the other requirements are satisfied.

On Wednesday, in The Colors of Making and Taking, I noted the correlation between states that pay in fewer federal tax dollars than they take out in federal expenditures and the tax policy philosophy of those states as indicated by their political color, and the correlation between states that pay in more federal tax dollars than they take out in federal expenditures and the tax policy philosophy of those states as indicated by their political color. Those who are anti-tax seem quite happy to be among the takers even though their mantra in being anti-tax rests principally on a distaste for takers among whom, of course, they don’t count themselves.

The other day, Gallup releases a poll measuring the extent to which people “gripe” about their state tax burden. With only a few exceptions, taxpayers who thought that their state taxes were too high lived in the states that pay in more federal tax dollars than they take out in federal expenditures, and taxpayers who were the “least negative” about their state taxes lived in the states that pay in fewer federal tax dollars than they take out in federal expenditures. That makes sense. To the extent that taxpayers in one group of states are financing those in another group of states, taxpayers in the first group need to pay more state taxes in order to make up the shortfall caused by the shifting of federal tax dollars from the first group to the second group. And of course the taxpayers who are footing the bill for the expenditures of states that refuse to carry their own financial weight are going to gripe. Unfortunately, unlike the wealthy who can buy votes throughout the country no matter where they live, the taxpayers who live in the maker states are unable to cast votes in the taker states to put an end to this travesty.

It’s easy for politicians in taker states to lower state taxes and assume the role of an anti-tax hero their state is being financed by the taxpayers of another state. How much more evidence needs to be put forth before Americans recognize that no matter what state they live in, they are being taken for a ride?

A column several days ago in the Philadelphia Inquirer, Where’s the money go? Often, to other states, caused me to think a bit about the great divide that many of those on the right claim exists in this country. To them, the divide isn’t between the one percent and the 99 percent, but between “makers” and “takers.” They view this divide as unjustified, with “takers” riding on the backs of the “makers.”

The column in question pointed out several realities that deserved attention. All are interrelated.

First, though the government collects revenue, it also puts money back into the economy. In other words, it’s not a matter of tax revenue falling into a black hole and exiting the economic arena.

Second, funds flowing into the government don’t flow back in a balanced manner. For some states, the amount of federal expenditures that inure to the state’s benefit is less, sometimes much less, than the revenues going to the federal government. For the other states, tax payments turn out to be a good investment, with the state taking back as much as three, four, five, and six times as much as it pays in to the federal government. How does this happen? Though the column doesn’t go into the details, it surely is attributable, at least in part, to federal politics, with Senators and representatives from the “taker” states having serious clout in Washington, often because of seniority rules. Those seniority rules are rather detrimental, and are another reflection of why some sort of term limit is worth serious consideration.

Third, the portion of state budgets that are funded with federal expenditures also varies considerably. In some states, federal funding constitutes about a quarter of the state budget. In the “taker” states, almost half of state expenditures are funded with federal dollars.

Fourth, it is unlikely that the “taker” states would be pleased with proposals to equalize federal funding inflows and outflows. It is quite likely that they would resist any attempt to reduce their dependency on the federal government, especially as that would require them to raise state taxes, and thus incur the wrath of state taxpayers.

Fifth, according to a WalletHub study, the states that fall into the “maker” category are pretty much so-called “blue states,” and the states that fall into the “taker” category are pretty much “red states.” It’s rather ironic, that if federal expenditures were cut as desired by the anti-tax, anti-government crowd, red states would experience economic turmoil far more severe than what would hit the blue states. Letting the emotion of anti-tax, anti-government feelings trump the logic of rational analysis is foolish, and yet that is what succeeds so well in pulling people into the irrationality of the anti-tax, anti-government movement.

A few days ago, I heard a story on the local news radio about tax evasion charges being brought against the owners of a pizza shop. I didn’t think much of it, because, for me, tax evasion indictments are an unfortunate yet not uncommon event. But some time later, I saw a posting by a cousin on facebook, referencing instance of the story, accompanied by a comment of “what’s the world coming to?”

By reading the story I learned that those who had been charged own a chain of pizza shops, that they are “landmark” stores, and that three are in Ocean City, New Jersey. The indictment alleges that the owners concealed almost $1,000,000 of the $4,500,000 in sales that they generated mostly during the three months of summer. The owners, a married couple are charged with conspiring to evade income taxes, making false statements to the IRS, and tax evasion. The husband also is charged with 23 counts of structuring financial transactions to avoid reporting as required.

I think that my cousin’s reaction was not one of shock at the idea of someone being charged with tax evasion. My guess is that it’s WHO has been charged. Incidents like this chip away at people’s faith in society, that is, their faith in each other. And when that societal bond deteriorates, anarchy is not all that far down the road. When the glue that holds society together, that is, a mutual trust and fidelity that comprehends the importance of adhering to norms and pitching in, is eroded, society crumbles. And so the answer to the question, “what’s the world coming to?,” is not a pleasant response to consider.

The other day, I noticed a headline in a PhillyClout blog post that required me to stop and read it several times. Superficially, it made no sense. The headline? “Dems bash Corbett for new taxes and fees supported by Dems”

After reading the blog post, it made more sense. The chairman of the Pennsylvania Democratic Party criticized Republican Governor Corbett for signing legislation that funded transportation infrastructure repairs and improvements by, among other things, increasing fuel taxes and vehicle-related fees. The long and twisted path that this legislation took on its way to enactment was discussed by me in If They Use It, Should They Pay?, The See-Saw World of Legislating Infrastructure Funding and Noticing a Tax. Many Democrats supported the proposal, and thus it is puzzling that the chairman of the party would criticize the governor for signing it.

The criticism directed at the governor took the form of pointing out that he had violated the infamous “I won’t raise taxes” pledge pushed by Americans for Tax Reform. This pledge has been the subject of several of my posts, including Tax Pledges: Never Say Never and Never Say Never. Corbett signed the pledge when he ran for governor in 2010. He has been criticized by Democrats, and others, for having done so. The chairman of the Democratic party stated, "This is a man who campaigned on and most likely won on that pledge, and then he turned around and broke it." When he signed the bill, Corbett pointed out that it was the result of a bipartisan effort.

Not only has the Democratic party chair lashed out at Corbett, Americans for Tax Reform characterized his signing of the bill as a violation of the pledge, and conservative Republicans have been so upset that one has decided to challenge Corbett in the Republican primary for the governor’s race. A Corbett spokesman apparently labeled the criticism from the Democrats as an April fool’s joke.

So what’s up? Is the chair of the Democratic party being silly? I don’t think so. I think the underlying message is a simple one, namely, making the point that Corbett ought not be trusted because he changed his mind, violated a pledge, and broke a campaign promise. But seriously, if someone should be denied public office because of broken campaign promises, most, if not all, public offices would be vacant.

There are all sorts of bases on which to criticize Governor Corbett. But to find fault with his seeing the light on taxation simply deters others who have made the wrong choice from recognizing the error of their ways and reforming themselves. As I wrote in Tax Pledges: Never Say Never, “It takes a good deal of courage to confess to having signed a foolish pledge. It takes a good deal of wisdom to understand that the pledge is foolish. It takes a good deal of honesty to explain to America why the foolish pledge is causing so much harm.”

In November of 2012, the Tax Court, in Packard v. Comr., held that a married couple qualified for the first-time homebuyer credit because the husband satisfied section 36(c)(1) and the wife satisfied section 36(c)(6), even though the husband did not satisfy section 36(c)(6) and the wife did not satisfy section 36(c)(1). Last week, the Eleventh Circuit disagreed, reversing and remanding the case after concluding that because the husband and wife failed to satisfy either section 36(c)(1) or section 36(c)(6) as a unit, they did not qualify for the credit.

The husband and wife purchased a principal residence on December 1, 2009. The wife owned and resided in a principal residence from April 1, 2004, until November 17, 2009. The husband rented a residence during the three years preceding December 1, 2009, and did not own a principal residence during that time.

Section 36(a) allows “an individual who is a first-time homebuyer of a principal residence in the United States” a tax credit for the taxable year in which the residence is purchased. Section 36(c)(1) provides that a first-time homebuyer is “any individual if such individual (and if married, such individual’s spouse) had no present ownership
interest in a principal residence during the 3-year period ending on the date of the purchase of the principal residence to which this section applies.” In 2009, Congress added section 36(c)(6), which provides: “Exception for long-time residents of same principal residence.--In the case of an individual (and, if married, such individual’s spouse) who has owned and used the same residence as such individual’s principal residence for any 5-consecutive-year period during the 8-year period ending on the date of the purchase of a subsequent principal residence, such individual shall be treated as a first-time homebuyer for purposes of this section with respect to the purchase of such subsequent residence.”

The IRS argued that in order to satisfy section 36(c)(6) both the husband and the wife must own and reside together in the same residence for the required five-consecutive-year period. The IRS conceded that the wife would have satisfied section 36(c)(6) but for the fact that the husband did not co-own and live in the residence with her. The IRS also conceded that the husband would have satisfied section 36(c)(1) but for the fact that the wife owned a residence during the three-year period preceding the purchase of the new residence.

The Tax Court reasoned that section 36(c)(6) expanded the scope of the credit by widening the definition of first-time homebuyer. The court explained that the language should be given its plain and ordinary meaning unless doing so generated an absurd or futile result. The court concluded that “it is clear that Congress wanted to restrict the first-time homebuyer credit to only those married couples where both spouses qualify as first-time homebuyers. When Congress amended section 36(c) to add an
exception to the definition of first-time homebuyer that would include longtime residents of the same principal residence, it presumably also sought to restrict the
first-time homebuyer credit to only those married couples where both spouses qualify as first-time homebuyers, and it therefore borrowed the same parenthetical
phrase from section 36(c)(1). However, we cannot believe that Congress intended to restrict the first-time homebuyer credit to only those married couples where both
spouses qualify under the same paragraph of section 36(c).

The IRS appealed, and the Eleventh Circuit reversed and remanded the case. The court reasoned that originally, before section 36(c)(6) was enacted, both a husband and a wife were required to satisfy section 36(c)(1) in order to qualify as a first-time homebuyer. The court also reasoned that when Congress added section 36(c)(6) it used the same parenthetical language to require that in order to fall within the exception, both the husband and the wife were required to satisfy section 36(c)(6). The court pointed out that “The ‘preeminent canon of statutory interpretation’ requires the court to ‘presume that the legislature says in a statute what it means and means in a statute what it says there.’” The court concluded that the language of both section 36(c)(1) and section 36(c)(6) is unambiguous, and that a married couple can qualify as a first-time homebuyer only if both the husband and wife satisfy section 36(c)(1) or if the husband and wife satisfy section 36(c)(6). The court rejected the Tax Court’s reliance on the absurdity exception, noting that it “only comes into play where the absurdity is ‘so gross as to shock the general moral or common sense.’”

In other words, according to the Eleventh Circuit, a married couple is treated as a single unit and must satisfy either section 36(c)(1) or section 36(c)(6) in order to qualify as a first-time homebuyer. According to the Tax Court, the husband and wife can qualify even though one satisfies section 36(c)(1) and the other, section 36(c)(6), or vice versa.

The language of the statute is not as crystal clear as it could be. What would Congress select if asked to choose from the following two provisions?

1. “A married couple does not qualify as a first-time homebuyer unless the husband and the wife both satisfy paragraph (1) or unless the husband and wife both satisfy paragraph (6).”

2. “A married couple qualifies as a first time-homebuyer if the husband satisfies either paragraph (1) or (6) and the wife satisfies either paragraph (1) or (6), without regard to which paragraph is satisfied by the other spouse.”

Because it is highly unlikely that the Congress considered the question, it is foolishness to try to predict which of the two provisions it would select. Could Congress have done a better job when it amended section 36 and added section 36(c)(6)? Of course. That ought not come as a surprise to anyone who pays attention to the last decade and a half of Congressional tax writing.