MauledAgain

Today is Memorial Day. It began as Decoration Day, intended to recognize those who died in war in service to their country, by placing flowers, wreaths, flags, and other “decorations” on gravesites. Purists will note that Veterans Day, in November, provides an opportunity to honor those who served and who are still with us.

Today, though, is a day to remember more than those who have died while serving our country in war. It is a day to remember those who served and suffered fates worse than death, those who served but who suffered physical and psychological injuries from which they have not fully recovered, those who served and fully recovered, and those who served though escaping death and injury. It is a day to remember that the horror of war extends far beyond gravesites and into the lives of millions of Americans, including the families and friends of those who have served.

Today is a day to remember the lessons that are taught by war, lessons that apparently are difficult to learn. War comes with a cost, and that cost must be paid. In recent years, this nation has short-changed its veterans, and Congress and individual politicians have trotted out all sorts of reasons for bringing corporate cost-cutting measures to bear on those who have paid a price too few appreciate. As I wrote ten years ago in A Memorial Day Essay on War and Taxation:

Wars consume resources. Wars divert resources. In other words, wars cost money. Wars destroy lives. A life lost is immeasurable, yet economists, lawyers, and juries put price tags on lives, however lost. It is not good for an economy, or for taxation, for lives to end prematurely.
. . .
War is such a collective expression of the ultimate essence of life and death that it ought not be undertaken half-heartedly, experimentally, impetuously, or foolishly. War requires commitment, and without it there ought not be war. War requires resources, and without a commitment to expend those resources, it ought not be undertaken.
. . .
Yet the current global war has not been managed in the same manner. Politicians have chosen to fight without increasing revenue, imposing rationing, or deferring projects and activities. In their defense, they argue that none of these things are necessary, that a nation can have its guns without giving up its butter. I disagree, and I happen to think that politicians are reluctant to do what needs to be done because they are more concerned about maintaining their position in office than in making the tough decisions that war requires. So our national leaders have chosen to put the cost of the current war on our children and grandchildren. Those who decry the huge deficits, triggered in part by war and in part by the almost insane concept of decreasing tax revenues (mostly for the wealthy) during wartime, pretty much focus on the economic impact. They ask if, or suggest that, our grandchildren will be facing income tax rates of 80 percent in order to reduce an unmanageable deficit. I think it will be worse. I think our children and their children and grandchildren will become subservient to our nation's creditors. The sovereignty of the United States of America is far from guaranteed, and is at risk. Were these considerations discussed when those in power decided that war can be done on the cheap?

War cannot be done on the cheap. War is not free. War ought not be purchased on a credit card. War is a national commitment. Hiding the true cost of war in order to influence a nation's willingness to engage in war is wrong. Ultimately, the price to be paid will be dangerously high. . . .

If I could travel back in time, I would amend that commentary to point out that our national leaders have chosen to put the cost of twenty-first century wars, declared or undeclared, as well as military actions, on our children, grandchildren, veterans, and military personnel. Those who benefit from the outcome of war have not been handed an adequate invoice.

Previous Memorial Day posts:

Gasoline and War

A Memorial Day Essay on War and Taxation

Memorial Day: How Important are Taxes Really?

Honoring Those That Serve

Memorial Day: Why a Holiday From Taxes?

Memorial Day, Taxes, and Remembering the Future

Free, Freedom, Fees, and Taxes

Paying Taxes: In Memoriam

A recent case, Aleamoni v. Comr., demonstrates the need for business owners to select carefully the entity through which the business will be conducted. In the mid 1980s, the taxpayer, a college professor, formed a C corporation through which he offered consulting and similar activities not part of his teaching and other university responsibilities. The taxpayer and his wife owned half of the shares, and their children owned the other half. Over the years, the taxpayer and his wife advanced money to the corporation, which the corporation recorded on its general ledger as loans from shareholders. In the mid-1990s, the taxpayer and his wife started attaching a Schedule C to their federal income tax return, deducting the money advanced to the corporation during the year as a business expense. No income was reported on the Schedules C. The corporation filed Form 1120 for each of its taxable years, reporting gross income and deductions exceeding the gross income. The balance sheets on those returns showed the advances from the taxpayers as loans from shareholders. The IRS disallowed the Schedule C deductions, and the taxpayers filed a petition for redetermination in the Tax Court.

The taxpayers argued that the advances were loans to the corporations, that the advances are deductible as business expenses, and that the failure of the IRS to disallow the deductions in audits of returns for earlier years precluded it from disallowing the deductions for the years in issue. The IRS argued that the advances are not deductible whether they are characterized as loans or as capital contributions.

The Tax Court concluded that the advances were not deductible under section 162 because they were not expenses. They represented investments by the taxpayers in the corporation and thus were not deductible. The court noted that if the advances were loans the taxpayers might be entitled to a bad debt deduction in the future to the extent the loans became worthless, and that if they were capital contributions the taxpayers might be entitled to a capital loss deduction in the future to the extent the stock became worthless. However, because the taxpayers explained that the corporation existed and doing business, because they expected the advances to be repaid in due course, and because they gave no suggestion that the stock was worthless, the bad debt and capital loss deduction possibilities were not in play.

The court suggested that the taxpayers might argue that the corporation was little more than the alter ego of the professor, but that a corporation formed for legitimate business purposes is an entity separate from its shareholders. Thus, the shareholders are not permitted to deduct the corporation’s expenses, even if financed by loans or capital contributions made by the shareholders.

The court pointed out that if the corporation were an S corporation the amounts advanced to the corporation would be deductible by the shareholders to the extent those amounts were used by the corporation to pay deductible expenses. That approach was rejected because the taxpayers had not formed an S corporation.

The court dismissed the taxpayers’ argument that the failure of the IRS to object to the Schedule C deductions in audits of returns for earlier years precluded it from doing so for the years in issue. It explained that the doctrine of equitable estoppel is not a bar to correction by the IRS of a mistake of law, even if the taxpayer relied on that mistake in filing returns for subsequent years.

When starting a business, selecting the form in which the enterprise is conducted is an essential consideration. There are advantages and disadvantages to each of the choices. Determining which form makes the most sense for a particular taxpayer depends on the particular characteristics of that taxpayer’s characteristics. It requires examination of the particular business, the market in which it operates, the long-term and short-term probability of success, the possibility of becoming a target for acquisition by another party, the tax situation of the taxpayer, the psychological and emotional constraints on the taxpayer’s business presented by third parties, the prospects of the taxpayer’s premature death, and dozens of other factors. Making the wrong decision, which is much easier to identify through hindsight, can have significant adverse consequences. It is worthwhile for the taxpayer to consult with a professional, to avoid relying on internet advice and sound bite bits of so-called wisdom, and to remain skeptical of decisions made by robots or other forms of artificial intelligence that disregard the factors not easily reduced to bits and bytes.

A little more than three months ago, as I explained in “Can a Clone Qualify as a Qualifying Child or Qualifying Relative?”, a reader asked me, “Can a clone qualify as a qualifying child or qualifying relative?” After sharing my thoughts about how the analysis could begin, I concluded by admitting, “I don’t know. I can guess, and you can guess, and it’s fun to share our guesses. But in the end, it’s that classic response, ‘It depends.’ Until then, think about it from time to time.”

The same reader has now pointed my eyes in the direction of an almost two-year old commentary, Die, robot. From androids to zombies: taxation of the undead. However I had missed this, perhaps because it was based on a science fiction conference held in London, I had to read it. Of course.

The conference focused on how people would save tax in the future. The discussion started with the question, “who will the people be?” In a series of questions worthy of law school trying to prepare its students for practice in the late twenty-first century, the participants wondered if an android or robot into which someone’s consciousness had been downloaded would be taxable as a person.

The suggestion that taxing authorities would TRY to tax the android or robot is not surprising. Of course the authorities would try. But would they be correct? Would, or should, their decision be upheld or struck down?

One line of analysis contended that a person would not escape taxation simply because he or she had an artificial leg, or an artificial leg and an artificial heart, or a prosthetic voice. Logically, therefore, why would a person not exist if a combination of artificial everything, including an artificial brain, was cobbled together? These ideas have populated science fiction literature for decades. But unlike past generations, or even those alive today who as children or young adults passed these imaginations off as fantasy, the possibilities are very real, if not today, then next week or next year, or next decade, that human-like androids and robots will exist.

Eventually, the panelists at the conference decided that if the android or robot could own property, it should be treated as a person, and thus taxable. Similarly, if it incorporated itself the resulting entity would be taxable. The author of the commentary decided that the test should be, “if it moves, tax it, if it thinks, tax it, if it earns, tax it.” That approach would make animals obligated to file tax returns in those instances when the animal earned money, something that does happen. Animals certainly make money for their earners, as this article explains, so certainly the owner of an android or robot would be taxable on that income. But what happens if the android, or the robot, or the animal, is treated as having independent existence with a right to retain its earnings? Laugh not, because there are chimpanzees and capuchins who have been taught to handle money, as explained in an article that explains not only how they learned to use money and to understand it, but what they then ended up doing with it. It’s well worth the read.

The commentary addressed other tax issues involving androids and robots, such as domicile, cloning, zombies, sentient non-human aliens, and, perhaps alarmingly, time travel. If the question of “tax and time travel” is getting this sort of attention, I might need to find a better example for use in warning law students about drifting from the practical into the theoretical when doing so is inappropriate.

These questions are, at the moment, focused on theoretical concerns. But, one by one, sooner or later, they will become very real. Perhaps none of us will face them, other than in blog musings and dinner party chit-chat. But our children, grandchildren, or more remote descendants will grapple with these issues. Perhaps they will come back to fetch us. Will we be required to pay a transportation tax when that happens? If I find out, I’ll let you know.

Usually, ascertaining a taxpayer’s motives is something on which practitioners and judges focus when the issue involves taxpayer intent with respect to a specific transaction. For example, in more than a few places, the Internal Revenue Code requires a determination of whether a taxpayer entered into a transaction with a purpose to avoid federal income tax. There is another set of situations, however, in which the focus on a taxpayer’s motives is a matter of understanding why a taxpayer chose to take a particular return position or to litigate an issue. A recent case, Santos v. Comr., T.C. Memo 2016-100, leaves me, and presumably others, wondering why the taxpayer contested a deficiency and advanced the arguments that he did.

The facts of the case are fairly simple. At an unspecified time in the past, the taxpayer earned a bachelor’s degree in accounting. In 1990, he began working as a tax return preparer. Five years later, he became an enrolled agent. In 1996, he earned a master’s degree in taxation. He expanded the scope of his services to his clients to include accounting and financial planning. At some point during or before 2010, the taxpayer enrolled in law school, and graduated in 2011. In that same year, he sat for the California bar examination. He was admitted to the California bar in 2014, and also was admitted to practice before the United States Tax Court. In 2015, he and his father opened law offices, offering legal representation, tax planning, accounting, and financial planning.

When the taxpayer filed his 2010 federal income tax return, he deducted $20,275 in law school tuition and fees. The IRS disallowed the deduction. The taxpayer filed a petition in the Tax Court. He lost. He lost because education expense deductions are not allowable if the education prepares an individual for a new trade or business, because the requirement that the taxpayer be carrying on the trade or business to which the deduction relates is not satisfied. This principle is set forth in the regulations under section 162. The regulations specifically include an example that explains why law school tuition is not deductible by someone who is practicing a profession other than law, such as accounting. Numerous judicial decisions have reached the same conclusion, and have upheld the regulations.

The taxpayer attempted to justify the claimed deduction by challenging the validity of the regulations. He argued that the Treasury Department failed to respond adequately to public comments received when the regulations were proposed in 1967, citing a 2015 decision involving regulations under a different Internal Revenue Code provision, and that analyzed the validity of the regulations based on empirical determinations and not statutory interpretation. The taxpayer also claimed the regulations violated the Regulatory Flexibility Act of 1980, but the court pointed out that the 1967 regulations were not subject to that Act because that Act, by its terms, applies only to regulations promulgated after 1980. The Tax Court also noted that the taxpayer did not raise his claim that the regulations are invalid until after trial, leaving the court bereft of any information about the comments offered in 1967 and without the ability to determine whether the Treasury Department responded adequately to those comments.

Apparently no additions to tax or penalties were asserted by the IRS. My guess is that the amount of tax liability in question was insufficient to trigger them, and that had the tax liability been sufficient, the taxpayer would have faced one or another addition to tax or penalty.

So, for me, the question is, why did the taxpayer challenge the regulations? Why did the taxpayer argue that a statute applicable after 1980 should be applied to regulations promulgated in 1967? Why did the taxpayer fail to raise the validity arguments until after trial? Several thoughts cross my mind:

Did the taxpayer make this argument because someone in his law school basic tax class suggest that the argument should be made?

Did the taxpayer make this argument because there were no other possible ways to defend the disallowable deduction?

Did the taxpayer make this argument because another practitioner, or an internet commentator, put the idea into his head?

Did the taxpayer make this argument because somewhere in his legal or tax education he was taught, or somehow learned, that creativity or cleverness is commendable no matter the circumstances?

What motivated the taxpayer?

The controversy over the latest soda tax proposals in Philadelphia continues without respite. If I were to publish a reaction to every comment and news development concerning soda taxes, this blog would become immense, quickly. So I am selective when I see or hear soda tax information and opinions. I have been sharing my views on the soda tax for almost a decade, starting with What Sort of Tax?, and continuing through The Return of the Soda Tax Proposal, Tax As a Hate Crime?, Yes for The Proposed User Fee, No for the Proposed Tax, Philadelphia Soda Tax Proposal Shelved, But Will It Return?, Taxing Symptoms Rather Than Problems, It’s Back! The Philadelphia Soda Tax Proposal Returns, The Broccoli and Brussel Sprouts of Taxation, The Realities of the Soda Tax Policy Debate, Soda Sales Shifting?, Taxes, Consumption, Soda, and Obesity, Is the Soda Tax a Revenue Grab or a Worthwhile Health Benefit?, Philadelphia’s Latest Soda Tax Proposal: Health or Revenue?, What Gets Taxed If the Goal Is Health Improvement?, The Russian Sugar and Fat Tax Proposal: Smarter, More Sensible, or Just a Need for More Revenue, Soda Tax Debate Bubbles Up, and Can Mischaracterizing an Undesired Tax Backfire?

Several days ago, Dr. George L. Spaeth of Philadelphia, sent a letter to the editor of the Philadelphia Inquirer, in support of the 3-cents-per-ounce soda tax proposal offered by the mayor, and in opposition to a one-cent-per-ounce counterproposal from the president of City Council. Dr. Spaeth justifies the soda tax as follows:

Many people do not understand the harmful effects of sugar, including weight gain and diabetes. There is an epidemic of obesity and diabetes in Philadelphia. People who are significantly overweight have a poorer quality of life, shorter life expectancy, and more illness. We all have needs and wants. Drinking beverages containing sugar is a want, not a need.

Though the doctor is correct in pointing out the disadvantages of being overweight, in asserting that sugary beverages are a want, not a need, and in identifying sugar as a cause of weight gain, he, like so many others, treats sugary beverages as though they are the only ingestible items containing sugar. Donuts contain sugar, donuts are a want, not a need, and yet donuts escape being a tax target of those promoting sugar-free health. The same can be said of cakes, cookies, pies, candy bars, and a long list of foods. The same can be said of coffee and tea to which a person adds sugar, because the tax would not apply to sugar sold in bags for use in adding to food and drink.

When, several months ago, another letter writer supported the revival of a soda tax proposal by the mayor of Philadelphia, I stressed the inequity of focusing on sugary beverages as one of the reasons the proposal was flawed. In Soda Tax Debate Bubbles Up, I wrote:

Another issue is whether a tax characterized as designed to improve health should be limited to just one of many allegedly unhealthy dietary items. The letter writer conceded this point by noting, “And evaluate your health status - and who will benefit from the tax.” The letter writer offered no proof that soda is more unhealthy than many of the other items, particularly those containing sugar, fats, and cancer-causing substances, that people ingest.

I’ve yet to see any explanation or justification for subjecting only certain sugar-containing items to a tax whose supporters claim is designed to reduce sugar ingestion. Reducing the consumption of sugary beverages is meaningless if those are replaced by other items containing sugar. If sugar is the problem, those craving it will seek it wherever they can find it.

Taxing only sugary beverages when trying to reduce sugar consumption is like requiring inspection of tire treads but not brake linings when trying to reduce automobile accidents caused by traction failures. Failing to look at all aspects of a problem is a major contributor to unwise legislative proposals and wacky legislation. If the problem is sugar, tax sugar. If the target of tax are beverages, what is the problem?

Sunday’s Parade Magazine included an interesting Ask Marilyn question. Randall Hancock wrote:

I once owned a house that was the second of 10 on a gravel road. The neighbor in the 10th house proposed buying new gravel, with each neighbor paying one-tenth of the cost. I disagreed as I used only two-tenths of the road, and he used the entire road. What should our shares have been?

Marilyn replied:

I think everyone should share the cost equally. The first neighbor needs to pay only for the first tenth of the road, but then the second neighbor needs to pay only for the second tenth (the first tenth is paid by the first neighbor), and so forth, with the last neighbor ultimately needing to pay only for the last tenth of the road.

Administrative issues aside, I disagree with the reasoning, and I question whether the result, though administratively simple, makes the most sense.

The person living in the first house uses one-tenth of the road. The person living in the tenth house used 100 percent of the road. The benefit accruing to the owner of the tenth house is ten times the benefit accruing to the owner of the first house. Put another way, the person living in the tenth house imposed ten times as much wear and tear on the road as does the person living in the first house.

Suppose, for example, that each homeowner was responsible to care for the portion of the road in front of the homeowner’s property. To keep things simple, assume that the houses are only on one side of the street, and that each has the same front footage on the road. The portion of the road in front of the first house will wear out more quickly than the portion in front of the tenth house. Over time, the owner of the first house will be paying ten times more for road maintenance than the owner of the tenth house. This, of course, ignores cost savings obtained by owners who get together to seek a “quantity discount” from the road repair vendor. Does it make sense to impose a disproportionately greater financial burden on the owner of the first house? Would that burden be reflected in the fair market value, and thus purchase price, of the house? Is the closer proximity of the house to the main road something that adds value to the house sufficient to offset any negative impact of the disparate road maintenance burden? Sharing the cost equally permits the owner of the tenth house to pay for one-tenth of the cost while contributing to roughly 18 percent of the wear and tear.

The preceding analysis assumes that the usage of the road is proportional to the distance to each house. Thus, it ignores the number of vehicles traveling to each house. Taking those into account presents a different alternative. In theory, the financial burden of maintaining the road should reflect volume of traffic generated by each house. That theory certainly falls apart in the face of practical reality, though I suppose someday we will hear that there is “an app for that.” A proxy for this measurement could be the number of vehicles registered to the address of each house. That alternative presents fewer practical problems of measurement, though it would still be difficult to measure because registration data doesn’t necessarily reflect the reality of vehicle ownership and garaging.

Consider, in comparison, the case of a shared driveway. Assume that one house is close to the street and the other house is behind the first house, further from the street. To reduce impermeable surfaces, the township refuses permission for a “flag lot” driveway for the house in the back, and instead requires builder to extend the driveway for the first house, so that it reaches the second house. Should the owner of the second house pay one-half of the cost of maintaining and repairing the entire driveway, while using the entire driveway and thus causing the front half of the driveway to deteriorate at a faster rate? Should the owner of the first house pay one-half of the cost of maintaining and repairing the entire driveway, though only generating one-third of the entire driveway’s use? Should the owner of the second house, who would have been saddled with the cost of a separate driveway as long as the extended driveway had the township permitted the usual “flag lot” driveway, reap a financial benefit that is, in fact, generated by the owner of the first house paying more than would have been paid had the driveway not been extended?

Generally, in these instances of shared private roads and shared driveways, the deeds, homeowner association documents, or similar contracts, specify the terms and conditions for maintaining common areas. So the question arises when the property is being developed, and the owners simply can live with the rules or choose not to purchase a home subject to those rules. When the question is transferred into the world of shared highways, police protection, and other public services, the analysis runs along the same lines but often generates different results. One of the hallmarks of society is that benefits and burdens end up being distributed in ways that do not match each other, and that do not match the specific benefits for, and burdens on, each taxpayer. Though, for example, a township might add a “street light fee” to the property tax bills of only those homeowners who live on streets with street lights, the cost of trash pickup might be imposed in proportion to property value, reflecting its funding through the real property tax, even though the amount of trash picked up at each home differs by orders of magnitude, one bag here, two bags there, and seven bags over there.

This simple example illustrates the challenges of designing taxes, and also demonstrates why user fees are easier to manage. Though not all public services can be funded through user fees because of administrative challenges or measurement obstacles, the user fee does present an opportunity to inject more fairness into public revenue determinations without unduly increasing complexity. If the costs of maintaining the gravel road or shared driveway are sufficiently small, equal division probably generates assessments for each owner that are not significantly different from what they otherwise would be. It’s not worth the effort to reduce one bill by $20 while increasing another by $20. But in the larger arena, with costs reaching tens and hundreds of millions, if not billions and trillions, user fees tied to benefit and burden are always worth at least full consideration and often deserve enactment.

It is not uncommon for an employee to be told by an employer that the employee must purchase and use particular items in the course of performing the employee’s duties. For many taxpayers, it is easy to consider the amounts paid by the employee to be deductible employee business expenses. That can be the outcome in some situations, but in many instances it’s not.

One prevalent example of employer-mandated employee expenses is the requirement that the employee wear particular clothing. The cost of that clothing is deductible only if the clothing is not suitable for everyday use. The classic examples of deductible expenses include the cost of welders’ gloves, surgical masks, and hard hats.

A recent case, Barnes v. Comr., T.C. Memo 2016-79, provides an example of clothing purchased at the employer’s direction by an employee whose attempt to deduct the cost was rejected by the IRS and the Tax Court. The taxpayer was hired as a salesman for Ralph Lauren Corp., and was required to wear Ralph Lauren apparel when representing the company. So the taxpayer purchased Ralph Lauren shirts, pants, ties, and suits, and deducted the cost as an unreimbursed employee business expense. The IRS denied the deduction, and issued a notice of deficiency. The taxpayer filed a petition in the Tax Court seeking a redetermination of the IRS deficiency claim.

The Tax Court explained the long-settled principle that the cost of clothing is not deductible as an ordinary and necessary business expense unless three conditions are satisfied. First, the clothing must be required or essential in the taxpayer’s employment. Second, it must not be suitable for general or personal wear. Third, it must not be worn for general or personal purposes. Though the taxpayer was required to purchase the clothing, thus satisfying the first condition, the court simply stated that “Ralph Lauren, however, is suitable for general or personal wear.” Accordingly, the IRS denial of the taxpayer’s deduction was upheld by the Tax Court.

The court did not discuss, presumably because the taxpayer did not raise, the question of whether the employer’s logo on the clothing would change the outcome. I’m not certain if the Ralph Lauren logo appears on all Ralph Lauren clothing, but presumably it does. Readers should know that I’m far from being a fashion guru. Commentators, for example, those at Bench, and Harvey and Caldwell suggest that so long as the employer’s logo is on the clothing, and is required apparel by the employer, the employee’s cost is deductible. As pointed out in this explanation, the question of whether a company logo on the clothing makes it unsuitable for general use has not been the subject of a judicial decision.

Had the taxpayer raised the issue, the Tax Court almost certainly would have considered it. My guess is that the conclusion would not have changed. The Ralph Lauren logo appears on shirts and other attire designed for sale to the public for general use. My guess also is that the court knows that the logo appears on the clothing, and by concluding that “Ralph Lauren clothing . . . is suitable for general or personal wear” indicated that the logo did not make a difference. In contrast, if the company logo appears only on clothing available for sale to employees required to wear the clothing, and prohibited from wearing the clothing outside of the work environment, the clothing might fit within the conditions for deduction. It will be in a future case when this question is squarely faced and answered.

So here’s another tax issue that doesn’t involve numbers. It also provides material for a basic federal income tax examination question. I would be more interested in the student’s reasoning than in the answer, which, of course, would be “It depends.”

Entities that are disregarded for federal income tax purposes almost always are discussed in the context of determining who is taxed on an entity’s income or who is permitted to deduct its losses. The most prevalent example of a disregarded entity is a limited liability company owned by an individual. In that case, the federal income tax law, and the income tax laws of most states, consider the individual to be the owner of the LLC’s assets and responsible for reporting its income and losses. A similar outcome applies to an LLC solely owned by a corporation. If the LLC elects to be treated as a corporation, then it is not disregarded, but that situation does not arise nearly as often.

But the impact of treating an entity as disregarded reaches beyond the question of income and loss allocation. A recent IRS private letter rulingPLR 201618008 illustrates the scope of the disregarded entity doctrine. An individual wholly owns two LLCs, both of which are disregarded entities for federal income tax purposes. One of the LLCs owned qualified Gulf Opportunity Zone property. On the individual’s federal income tax return for the year in which the LLC placed the property in service, the individual deducted the additional 50 percent first year depreciation deduction available for GOZone property. In a later year, the individual caused the ownership of the property to be transferred from the one LLC to the other, by distributing the property to the individual, who in turn contributed it to the other LLC. After the transaction was completed, the first LLC elected to be treated as a corporation and elected S corporation status.

The additional 50 percent first year depreciation deduction for GOZone property is recaptured if the property is no longer GOZone property in the hands of the same taxpayer before the end of the property’s recovery period. The IRS concluded that because both LLCs, at the time of the transaction, were disregarded entities owned by the same individual, the property was in the hands of the same taxpayer both before and after the transaction.

The conclusion reached by the IRS makes sense. The reasoning should apply to any instance in which the disposition of property, or any transaction that causes the property to be owned by another taxpayer, would otherwise trigger recapture or some other adverse tax consequence. Thus, for example, had one of the LLCs transferred property of any kind to the other LLC in exchange for cash or other property, the transaction should not be treated as a realization event, and thus not trigger gain or loss. Why? Because in this sort of transaction, the individual who owns both LLCs is simply moving property from one pocket to another, or from one room to another.

The reasoning in this PLR should provide helpful guidance for more than GOZone property transfers. It’s worth taking note and setting aside for future reference.

A recent attempt to describe the impact of taxation on lottery winnings offers some inaccurate propositions. After explaining, correctly, that the IRS requires the lottery payor to withhold and pay to the IRS 25 percent of the winnings on behalf of the winner, the article then states that “The government taxes lotto winnings the same as income, but at the highest income tax rate, 39.6 percent.” First, lottery winnings are taxed the same as ordinary income, such as wages, and are not taxed in the same way long-term capital gains are taxed. Because lottery winnings are income, the better articulation would be to explain that lottery winnings are income, and are taxed in the same manner as is ordinary income. Second, lottery winnings are not necessarily taxed at the highest income tax rate. For example, an married couple with taxable income of $40,000 who wins a $5,000 lottery prize would face a $750 increase in their federal income tax liability, not a $1,830 increase. And if the couple decides to share some of the winnings with a charity, the increase in their federal income tax liability could be less than $750, depending on whether the couple itemizes deductions or claims the standard deduction.

The article then explains, “So if you win . . ., winners are then responsible for making the rest of the tax payment on the prize – another 14.6 percent – when they file their 2017 federal income taxes.” Aside from the possibility that a rate less than 14.6 percent could apply, if it turns out that the applicable effective rate exceeds 25 percent, the additional tax would be due when the taxpayers file their 2016 federal income taxes.

The article notes that winners can choose between thirty annual payments or a lump-sum that is less than the sum of the annual payments, describing the difference as a “loss of 35 percent of the total.” Actually, the lump-sum amount represents the present value of the thirty annual payments, because the lump-sum, if invested, generates additional income. What the article does not point out is that tp the extent the investments generate long-term capital gain and qualified dividends, the income produced by the invested lump-sum would be taxed at rates lower than those applicable to the thirty annual lottery payments treated as ordinary income.

Reducing tax information to sound bites or tweet-sized snippets is difficult, but if that path is chosen, words need to be selected carefully. Without words such as generally, roughly, usually, or approximately, specific situations end up viewed as universal rules applicable in all situations. A huge amount of tax law resides in the exceptions to general rules.

A reader shared some links in response to my recent post, Is Basic Math Enough?. I had quoted a previous post, from 2005, in which I had shared statistics on the extent to which American school systems require high school students to take one or more courses in financial literacy. At that time, “only seven states require personal financial education as a high school graduation requirement, one requires high schools to offer a course in the subject though it is not a required course, and one state requires that it be taught in middle school.” According to this 2013 report, Financial education: Does your state make the grade?, progress has been made. Twenty-three states require either a financial literacy or personal finance course as a condition of graduation, or require that financial literacy be incorporated into a required course. But twenty-three is less than half of the states. So there’s still much to be accomplished.

That much more needs to be accomplished is evidenced by yet another report, from the Educational Testing Service. Testing literacy, numeracy, and problem-solving, the outcome was dismal. “In numeracy, U.S. millennials ranked last.”

Those who are curious can test themselves, though I suspect most people reading this blog will do quite well with this test. Administered globally, the test revealed that Americans scored worse than other major English-speaking economies.

My reaction? Wow. Just wow. So much for claims of American exceptionalism. Assuming that America no longer is “great” – whatever that means – and needs to be made “great again,” the foundational work needs to be done in the education space. Uneducated people cannot accomplish what educated people can do. By education, I don’t mean only formal classroom sessions, but also training and hands-on learning in all sorts of skills, trades, professions, and occupations. It’s not just the white-collar financial analysts, brokers, and tax professionals who need numeracy skills. Carpenters, roofers, mechanics, and cooks, to name just a few, also work with numbers. And everyone needs to understand cash, finances, investments, interest rates, present value, inflation, compounding, and the time value of money. I’ve yet to hear any of the candidates for President talk about these basic underpinnings of a successful economy. I wonder why.

A question was posed by a tax practitioner that caught my eye, in part because it seemed to be an unusual situation, and in part because it could be used as an excellent examination question in a basic income tax course to measure students’ grasp of statutory interpretation and judicial opinions, and to argue by analogy. The facts are rather sad.

A man with Alzheimer’s disease lives at home. He receives help from an Alzheimer’s care specialist, is under a doctor’s care, and takes medications to alleviate and prevent other health problems. One day, he fainted. He fell back into the glass door of the oven. The glass shattered. The man’s head was injured but fortunately he only need medication for the headache and the lump on his head.

The oven was rendered useless. It cannot be fixed because the manufacturer no longer makes parts for the oven. Unfortunately, that part of the story is not unusual, because the “make no replacement parts, force purchase of a new item” approach to boosting profits is sweeping through the world. So the man needs to purchase a new oven.

The tax question is easily stated. Can the man claim a medical expense deduction or a casualty loss deduction for the cost of the new oven? Actually, those are two questions.

The first question is easy to answer. The cost of the oven does not qualify as medical care. Under Internal Revenue Code section 213(d)(1), medical care consists of “the diagnosis, cure, mitigation, or prevention of disease, or for the purpose of affecting any structure or function of the body, . . . transportation primarily for and essential to medical care, . . . qualified long-term care services, or . . . insurance . . . covering medical care. . . “ There’s simply no way the cost of the oven fits within that definition.

The second question is a bit more challenging. Under Internal Revenue Code section 165(c)(3), a casualty loss is a loss that arises “from fire, storm, shipwreck, or other casualty.” Because the incident did not involve fire, storm, or shipwreck, the question becomes one of determining if it fits within “other casualty.” The courts have defined a casualty as “an event due to a sudden, unexpected, or unusual cause.” The list of events that have been treated as casualties does not include destruction of an appliance on account of a fainting episode. However, arguing by analogy, the outcome should be the same as that reached when analyzing damage to property caused by an automobile accident triggered by a medical condition that causes loss of consciousness or control of the vehicle. If a person faints while driving and the vehicle consequently crashes, the event is a casualty. Now, whether the amount spent for the new oven would survive the $100 limitation and the ten-percent-of-adjusted-gross-income floor, and in turn be sufficient to permit disregard of the standard deduction, is a question that cannot be answered without having more information. What was the value of the old oven before the casualty? Is the value of the old oven after the casualty zero because it cannot be repaired? What is the taxpayer's adjusted basis in the old oven? That question must be answered because the amount of the casualty cannot exceed basis in the case of personal use property. Is the cost of the new oven an acceptable surrogate for cost of repairs in attempting to measure the decline in value? What is the cost of the new oven? What is the adjusted gross income? How much, if any, insurance reimbursement was available under the homeowner’s policy?

Note: On 10 May 2016, I added to the list of questions to be asked, in response to a reader's inquiry and suggestion that the original list of questions implied that the cost of the new oven would automatically be used to measure the deduction.

Though I’ve never tried to calculate which topic has been the subject of the most MauledAgain commentaries, certainly my strong support for mileage-based road fees is a candidate for topping the list. If it doesn’t, it’s not far behind. Readers of this blog surely are aware of the arguments I have made in favor of this particular fee, and the rebuttals I have offered against criticism. The analysis began with Tax Meets Technology on the Road, and has continued through Mileage-Based Road Fees, Again, Mileage-Based Road Fees, Yet Again, Change, Tax, Mileage-Based Road Fees, and Secrecy, Pennsylvania State Gasoline Tax Increase: The Last Hurrah?, Making Progress with Mileage-Based Road Fees, Mileage-Based Road Fees Gain More Traction, Looking More Closely at Mileage-Based Road Fees, The Mileage-Based Road Fee Lives On, Is the Mileage-Based Road Fee So Terrible?, Defending the Mileage-Based Road Fee, Liquid Fuels Tax Increases on the Table, Searching For What Already Has Been Found, Tax Style, Highways Are Not Free, Mileage-Based Road Fees: Privatization and Privacy, Is the Mileage-Based Road Fee a Threat to Privacy?, So Who Should Pay for Roads?, Mileage-Based Road Fee Inching Ahead, and Rebutting Arguments Against Mileage-Based Road Fees

Now comes a report that, according to a survey by HNTB, an infrastructure solutions firm, “The majority of Americans would support road-usage fees to help fund transportation costs.” The survey revealed that 65 percent of Americans favor mileage-based fees and similar options to finance repairs to a crumbling infrastructure. An even higher number, 69 percent, favor “priced managed lanes.” There are a variety of priced managed lane formulations, but all involve some sort of fee for access to presumably less congested highway lanes.

What caught my attention was the difference in responses among Millennials, Gen-Xers, Baby Boomers, and “seniors” to the question of funding infrastructure. A higher proportion of Millennials and Gen-Xers preferred using higher property taxes to close the funding gap than was found among Baby Boomers and “seniors.” That makes sense, because property taxes are not well received by those on fixed incomes who cannot control what they are paying by altering their infrastructure-use choices.

Younger respondents were more in favor of mileage-based road fees than were older people. It is possible this reflects some combination of understanding technology, being less apprehensive about technology, and being accustomed to using technology of this sort. It also is possible that this reflects the proportionately lower use of highway infrastructure by younger people. Sometimes the future can be predicted, at least to some extent, by looking at what younger people are doing, and saying. If that is the case with this issue, the future, sooner or later, will see the implementation of mileage-based road fees. That I have something more in common with the younger generations than with my own is encouraging. Perhaps it ought not be, but it is. Am I young at (tax) heart?

One of my second cousins once removed shared on Facebook a meme apparently originating in a tweet by Sage Boggs and then posted by George Takei. The meme states “I’m glad I learned about parallelograms instead of how to do taxes. It’s really come in handy this parallelogram season.” One of the many people commenting on the original post stated, “If you cared about learning these things you would have taken a business studies unit in your final high school years. Don’t complain about a terrible education when you made the choice that some things were more important than learning things that might be useful.” In turn, this comment brought several reactions. Among them was the observation that it was “Easy to say unless your school doesn’t HAVE such courses.” Another asked and answered, “Did you school have basic math? That’s all that’s really necessary.” Another explained, “Actually, I did take all of the business classes in high school, including accounting. And taxes weren’t covered.”

Understanding basic arithmetic, which is the most elementary subset of mathematics, is helpful but not absolutely essential when it comes to doing tax returns. Why? Because tax preparation software handles the computations, and for portions not handled by the software, such as adding up receipts, there is other software, such as the Microsoft Windows Calculator, and physical calculators. I wonder if anyone still owns an adding machine with paper “tape”?

What matters most is the ability to read, to understand words, and to follow logic. What also matters is the ability, and willingness, to retain and sort a variety of documents representing financial information. Even so, it helps not only to be able to read, but also to acquire an appreciation for the language of tax rules and the way in which those rules are written. That is why it is most useful to enroll in a tax course of some sort.

Though some high schools provide students with an opportunity to become familiar with their tax obligations and how to comply with tax law requirements, too many schools fall short. Nine years ago, in Congress Invites My Ideas for Improving Tax Compliance and Of Course I Respond, I shared the letter I sent to Congress, and repeat here a portion of it:

Thank you for the invitation to suggest approaches for improving tax compliance. The tax gap is a concern that demands attention from the Congress.

There is no one “magic bullet” to solve the problem. Instead, I advocate a six-pronged strategy for improving compliance. Those six prongs are tax education in high schools, tax simplification, increased reporting, expansion of withholding, funding an improved tax audit process, and strengthening the ability of the Department of Justice to prosecute tax crime.

Making tax education a part of high school curricula throughout the nation would go a long way in reducing noncompliance. A significant portion of noncompliance is inadvertent, the result of taxpayers’ inability to understand the nature of the federal tax system and to recognize the flaws in the many inappropriate “tax savings” schemes offered to them by unscrupulous promoters of noncompliant tax reduction plans. The tax education I suggest is not a technical tax return preparation course, but one that blends an understanding of the rationale for taxation and the basic features of the tax system with advice on how to maximize compliance and minimize the aggravations that arise from noncompliance. Educating citizens before or as they enter the taxpaying world is much more efficient and effective than trying to remove their misperceptions after the fact during tax audits and tax litigation.

About a year later, in Does It Matter Who or What is to Blame?, I reiterated and expanded on a point I had made back in 2005:

And more than three years ago, in Economically Depressing?, I referred to "my expressed desire that K-12 education be revamped so that high school graduates enter society with the survival tools needed for life in the 21st century." According to the 2005 report of the National Council on Economic Education, the latest I could find, only seven states require personal financial education as a high school graduation requirement, one requires high schools to offer a course in the subject though it is not a required course, and one state requires that it be taught in middle school. There are 50 states in the union, plus the District of Columbia and some overseas possessions. Surely personal finance is no less important than other subjects being taught in middle school and high school.

Though comments on a facebook thread do not necessarily reflect national mood, I think it is a safe guess that most Americans would welcome high school courses that provide students with an awareness of the practical realities of financial responsibility, particularly tax obligations. I also think it is a safe guess that many Americans would react to these opportunities with comments along the lines of, “I wish they had something like that when I was in high school.” Politicians of the nation, federal, state, and local, it is time to step up and improve high school curricula by adding courses that prepare young people for life when tax reality hits home. Basic math courses aren’t enough, and provide very little of what is necessary.