MauledAgain

A recent case, Gyorgy v. Comr., No. 13-3363 (7th Cir. 2015), provides a good example of why taxpayers need to let the IRS know their new address when they move.

The taxpayer earned income in 2001 through 2003, but did not file federal income tax returns for those years or for 2004 through at least 2007. During the period in question, he moved frequently, living at eight different addresses in four cities in two states. Using Forms W-2 and 1099, and other information from third parties, the IRS generated substitute returns for the taxpayer and computed tax liabilities for 2001 through 2003.

On or shortly after March 9, 2004, according to the IRS computer system, it sent a notice of deficiency for 2001 to the taxpayer’s apartment on Octavia Street in San Francisco. That address was the one provided on the taxpayer’s 2000 return. Whether the notice actually was sent is unknown, but by that point Gyorgy no longer lived on Octavia Street. In August 2004, the IRS assessed the 2001 tax deficiency.

Gyorgy did not provide any address updates to the IRS. One of the Forms W-2 for 2002 provided an address on Lee Street in Oakland, California. The taxpayer’s Form W-2 and one of his Forms 1099 for 2003 provided an address on Jean Street in Oakland. Other forms provided a business address at Goodby Silverstein in San Francisco. On November 29, 2004, the IRS sent a Form 2797 to the taxpayer, using the Jean Street address, in attempt to confirm that address as being the appropriate address. No response was received.

On December 11, 2006, the IRS sent a notice of deficiency for 2003 to the Octavia Street address. The notice was returned to the IRS by the Postal Service marked “not deliverable as addressed” and “unable to forward,” accompanied by a date stamp of “12/17/06.” There is no indication that the IRS made any other attempts to locate the taxpayer or re-issue the notice. In May of 2007, the IRS assessed the 2003 tax deficiency.

On July 30, 2007, the IRS sent a notice of deficiency for 2002 to the Octavia Street address. The notice was returned by the Postal Service marked “attempted – not known” and “unable to forward,” accompanied by a date stamp of “08/03/07.” The IRS did not try to locate the taxpayer and did not re-issue the notice. In December of 2007, the IRS assessed the 2002 tax deficiency.

The taxpayer did not pay the tax, nor did he petition the Tax Court for a redetermination of the deficiencies. Two years later, the IRS instituted collection efforts. It filed a notice of federal tax lien in the recorder’s office in Cook County, Illinois, in August of 2009. The lien was placed on the taxpayer’s residence at 8900 Forestview Road in Evanston, where he had been living since 2008. It is unclear how or when the IRS figured out that the taxpayer was living at that address in Evanston. The IRS sent a notice of the lien filing to the Forestview Road address. The taxpayer received the notice and requested a collection due process hearing. He contended that the IRS had not followed the necessary procedures and claimed he was not liable for the assessed taxes.

The collection due process review lasted from 2009 until 2011. The taxpayer did not respond to requests for documentation and did not participate in the review. He insisted on a face-to-face meeting, but the appeals officer conditioned doing so on the taxpayer filing returns for 2001 through 2010, as he had not filed returns for those years. Because he refused to do so, the appeals officer performed the review using the information in the administrative file. On July 15, 2011, the Appeals Office issued a notice of determination sustaining the lien notice and concluding that the IRS had followed all legal and procedural requirements. It determined that the Octavia Street address was the most recent address on record and that the taxpayer had not notified the IRS of any address changes.

The taxpayer filed a petition in the Tax Court on August 15, 2011, challenging the Appeals Office determination. The Tax Court granted a de novo review, and held a bench trial on January 28, 2013. The IRS presented the deficiency notices, evidence, and testimony to support its computations. The taxpayer presented no evidence and made no arguments with respect to liability. He testified that he lived on Octavia Street until the spring of 2002, on Lee Street in Oakland until the spring of 2003, on Jean Street in the same city until November of 2004, in Irvine, California until the spring of 2005, on Quail Bush in Irvine until the winter of 2006, on Ridge Street in Evanston until the spring of 2007, on Colfax Street in that city until the spring of 2008, and then on Forestview Road.

The taxpayer claimed that he called the IRS 800 number and submitted a change-of-address form to the post office every time he moved. He claimed to have written letters to the IRS once or twice when he moved but could not remember for which moves. He could not remember the dates or other details of the calls or letters. He provided no documentation. The IRS appeals team manager for the taxpayer’s case testified that the Octavia Street address was his address of record when the notices of deficiency were mailed, and that he did not update his address until 2009.

The Tax Court issued oral findings of fact and an opinion on January 31, 2013. It vacated the lien notice for 2001 because the IRS could not produce a copy of the notice of deficiency or other proof it was mailed. The IRS did not appeal that ruling. The Tax Court sustained the lien notices for 2002 and 2003. It denied the taxpayer’s motion to vacate on July 22, 2013. The taxpayer appealed to the Seventh Circuit on October 21, 2013.

The Court of Appeals for the Seventh Circuit concluded that the IRS mailed the notices of deficiency to the taxpayer’s last known address. It pointed out that in previous cases, it had allowed the IRS to use the address on the return being audited, unless there is clear and concise notification from the taxpayer directing the IRS to use a different address. Other Courts of Appeal have adopted similar principles. A similar formulation has been adopted in Treasury Regulations, though with a reference to the most recently filed tax return rather than the one being audited. The regulations provide that address information from a third party is not a clear and concise notification of a different address unless it comes from the United States Postal Service National Change of Address database.

The court explained that presumptively Gyorgy’s last known address was the Octavia Street address on his 2000 return, as he had not filed any subsequent returns. The taxpayer argued that he had notified the IRS, but the court pointed out that he had failed to prove he had done so. The taxpayer argued that the Forms W-2 and 1099 sent to the IRS with different addresses for him provided the IRS with information, but the court determined these did not constitute clear and concise notification, particularly because they were possible addresses but not known addresses. The taxpayer argued that because the IRS knew he did not live at the Octavia Street address because correspondence sent there was returned, it should have done more to find him through its own investigation, citing two cases from other circuits suggesting that the IRS should do so. The court rejected this argument. It distinguished those cases because they involved taxpayers who proved that they had tried to notify the IRS. In contrast, not only did Gyorgy move around, by failing to file tax returns he made IRS attempts to find him close to futile. Nor did Gyorgy identify the steps that the IRS could or should have taken but failed to take.

The lesson is undeniable. Taxpayers who move need to send a change of address notice to the IRS. It also helps to file returns as required, because doing so increases the odds that the IRS will have the taxpayer’s last known address.

It is rather unfortunate that the amount of time that the taxpayer invested in pursuing this case eclipsed by orders of magnitude the time it would have taken to send notices of address change to the IRS. And had he filed his returns, paying his tax liabilities, the address issue would not have arisen.

A reader directed me to an article reporting the results of a study examining the connection between food consumption and the type of movie being watched by the subjects of the study. According to the study by the Cornell Food and Brand Lab, people watching sad movies ate between 28 and 55 percent more popcorn, both in the lab and in an actual theater. A related study concluded that people watching action and adventure television shows eat more, but only if the food is within arm’s length.

The reader asked, “If a study of college students watching courses online was performed would a college student eat more watching a drama class {liberal arts class} or a tax class {business or legal class}? The class could be taped or live.”

The answer, I suppose, is whether a tax class should be classified as tragedy, comedy, action, or adventure. It surely isn’t romantic. Learning about tax can make a person sad, and so in some respects tax class is like a tragedy. I’m not referring to the students who, at the beginning of the semester, perceive an expected grade that they rate as a tragedy, especially as those students generally end up with decent or even better grades.

But as I told the reader, in my classes, tax or otherwise, so much is happening at such a law-practice-world pace, there is no time to eat. Students are taking notes, flipping through statute books, turning pages in the course book, bringing up materials on their laptops, reading questions posted on the projection screen, and operating their student response pads (“clickers”) that they probably don’t have a free hand often enough to eat. Actually, I do see students bring food into the classroom but almost all of them make a point to finish their meal before class begins.

At the risk of seeming crude, the idea of tax law making someone want to eat strikes me as the opposite of reality. For me, when I read tax law, especially recent amendments, and examine the underlying policies, I want to do the opposite of eating. Yes, the depths into which the federal, and some state, tax law has sunk makes many people nauseated.

On March 4, the IRS released information on the progress of the 2015 income tax filing season. The highlight is the IRS estimate that “three out of five taxpayers have yet to file their tax returns.” Is this a surprise?

One might guess that with more taxpayers expecting refunds than expecting to owe additional payments, a majority of taxpayers would file early. The sooner one files, the sooner the refund arrives. But that’s not what’s happening. Why? Increasing numbers of taxpayers have invested in partnerships, and are waiting for Schedules K-1. Those need not be sent to taxpayers until April 15. Increasing numbers of taxpayers are waiting for Forms 1099. I’m still waiting for one of those. The days of January 31 being the day when Forms 1099 need to be in the hands of taxpayers are long gone.

Most taxpayers receive Forms 1099, because most taxpayers have interest-bearing accounts, or stocks, or other investments, or some combination. Until someone, in this era of rapid information processing, figures out how to get the transactions of one year summed up within a few weeks of that year’s ending, increasing numbers of federal (and state) income tax returns will be filed in late March and April.

The facts in the recent case of Morles v. Comr., T.C. Summ. Op. 2015-13, at least as they related to one of the issues, are simple. During 2010, the taxpayer maintained an IRA, funded by an initial contribution of $1,000 in 2008. The taxpayer did not claim a deduction for that contribution. In 2010, a distribution was made to the taxpayer from the IRA of $950.81, and that amount was shown on a Form 1099-R issued to the taxpayer by the IRA administrator. The taxpayer was younger than age 59.5 years when the distribution was made. The taxpayer did not include any amount on his 2010 federal income tax return on account of the distribution.

Because the distribution was not in the form of an annuity, section 72(e) applies. Under that provision, the taxpayer’s investment in the IRA is taken into account in computing the amount that must be included in gross income. The Tax Court concluded that the taxpayer’s failure to maintain the required records with respect to the contribution for which no deduction was claimed did not prevent treating the non-deducted contribution as the taxpayer’s investment in the IRA.

The taxpayer argued that because the distribution from the IRA was less than the his investment in the IRA, it should be treated as a return of investment. The IRS argued that the entire distribution should be included in the taxpayer’s gross income. The Tax Court concluded that both the taxpayer and the IRS were wrong. The court directed the parties to compute the taxpayer’s gross income by applying section 72(e)(3). Because the opinion does not include any other information, it is not possible to do that computation, but my best guess is that some portion of the $950.81 must be included in the taxpayer’s gross income. That amount reflects the untaxed increase in the value of the IRA attributable to interest and other investment growth between 2008 and 2010. The gross income would be an amount less than what is shown on the Form 1099-R.

A recent case, Villegas v. Comr., T.C. Memo 2015-33, demonstrates a very basic principle applicable to the section 121 exclusion from gross income of gain from the sale of a principal residence. A residence is not a principle residence if the taxpayer never lives in it.

The taxpayers, husband and wife, purchased a four-bedroom home in 1994, paying $200,000. They decided to use the home as a group home for developmentally disabled individuals. The taxpayers used three of the bedrooms to house six clients, two in each room, and used the fourth bedroom as their office. The home also included a kitchen, two bathrooms, a living room, a garage, a patio, and a pool.

Though the wife occasionally slept in the home, the taxpayers resided in another town, La Puente, California, with their three children, a nephew, and the husband’s parents. The La Puente is what appeared on the taxpayers’ checks, bank records, payroll records, tax preparation documents, and their children’s school records. The bookkeeper for the group home business visited the La Puente home to prepare reports in connection with the group home business. There also was evidence that the taxpayers held social gatherings at their La Puente residence.

In 2007, the taxpayers sold the group home for $600,000. According to the Tax Court, the taxpayers filed separate returns, and “each excluded more than $250,000 og fain from the sale,” claiming that the group home was their principal residence. It is unclear how $400,000 of gain realized generates more than $250,000 of gain realized for each of two taxpayers.

Additional evidence presented to the Tax Court shut the door on any section 121 claim. None of the employees of the group home saw the taxpayers live at the group home. Two employees testified that the taxpayers lived at the La Puente residence. None of the school records for the taxpayers’ children listed the group home address, but showed their residence as the La Puente home. The wife’s sister told an IRS agent that the taxpayers lived at the La Puente residence. The Tax Court also discounted the claim that the wife slept at the group home, because the room she claimed to use as a bedroom was the room used as the office.

A taxpayer who has never lived at a residence ought not claim it is or was a principal residence. If a taxpayer does live in a residence, it makes sense to retain evidence of the residency, and if characterizing the home as a principal residence appears to be something that might need to be proven in the future, the taxpayer ought to retain evidence that the residence is the principal residence. Certainly when there are witnesses ready to testify that the taxpayer did not live at the home in question, the idea of claiming it is the principal residence is not a very good one.

As mentioned in this article, Pennsylvania faces a deficit of $2.3 billion in its budget. The deficit is structural, that is, it reflects revenues and spending that persist from year to year. There are only two ways to eliminate structural deficits. One is to change the revenue structure so that more revenue is collected. The other is to reduce spending. Raising taxes triggers all sorts of opposition. Reducing spending sounds appealing, but once people realize it’s not a matter of cutting spending that benefits others but cutting spending that benefits them, opposition to spending cuts grows. The public also suffers from a perception that it is easy to cut spending, but when given a list of spending cut options, they hesitate because they then realize the reality of the spending budget.

On top of this, according to this report, the new governor of Pennsylvania, a Democrat, wants to reduce the corporate income, franchise, and capital stock taxes. That will increase the current and structural deficit. According to the same report, the governor is expected to propose increases in individual income taxes. It will take quite a bit of personal income tax increases to cover a $2.3 billion-dollar deficit plus the revenue loss from cutting corporate taxes.

According to Republican state legislators, the solution is to privatize the state’s alcohol stores. This one-time “fix” supposedly would raise $1 billion, less than half of the deficit, even aside from the proposed corporate tax decreases. But this so-called solution does not address the structural deficit. What happens next year when the deficit re-appears? What, then, does the state sell?

A decision to sell the state store system ought to reflect analysis of the advantages and disadvantages of state-controlled alcohol sales. It ought not be done simply because of a one-time revenue infusion that does not address the underlying cause of the structural budget deficit. It is unknown if sale of the state store system is part of the governor’s overall plan, because only a few pieces of the budget plan has been released. Very soon, the entire budget plan will be disclosed, and that will permit closer analysis. In the meantime, state officials need to fix the causes of the structural deficit, or the state’s fiscal fortunes will continue to spiral downward.

According to a report on a recent NerdWallet survey, “[m]ost American adults get an ‘F’ in understanding income tax basics.” The survey posed 10 questions to 1,015 people. The average score was 51 percent.

Readers of MauledAgain know that I am no fan of tax ignorance. In posts such as Tax Ignorance, Is Tax Ignorance Contagious?, Fighting Tax Ignorance, Why the Nation Needs Tax Education, Tax Ignorance: Legislators and Lobbyists, Tax Education is Not Just For Tax Professionals, The Consequences of Tax Education Deficiency, The Value of Tax Education, More Tax Ignorance, With a Gift, Tax Ignorance of the Historical Kind, and A Peek at the Production of Tax Ignorance, I have lamented how poorly Americans, to say nothing of legislators, fare when dealing with tax issues.

The NerdWallet survey report shares eight of the ten questions that were posed to the people who were surveyed. In all fairness, three of those questions touch topics that are not covered in the basic income tax course that I have taught. The topics – Roth IRAs, section 529 plans, and flexible spending plans – aren’t included because they cannot be understood until the basics are mastered, are complex, and would displace more fundamental topics if squeezed into the course. Yet the performance of those surveyed on those three questions was roughly the same as on the other five that were shared. With the exception of one of the five questions that I would expect a student who completes the basic income tax course to answer correctly, fewer than half of those surveyed chose the correct answer for any of the questions.

It would be fun to require members of Congress and candidates for that office to take this survey, or one like it. I cannot imagine the outcome would be any better than that achieved by the 1,015 survey takers.

According to a recent report, the decision by the Michigan legislature to come up with road repair funds by asking voters to approve an increase in the state sales tax has been criticized by Senator Gary Peters. Peters made the point that “additional road money raised from those who use the roads, not through a sales tax.” He’s right. The sales tax takes a higher percentage of low income individuals’ incomes than it takes from the wealthier individuals, yet vehicle ownership and use is lower for low income individuals than it is for those economically more advantaged.

Trying to get legislatures to adopt a mileage-based road fee is an ongoing effort that will require some years before it is widely adopted. In the meantime, it is totally irresponsible to let the transportation infrastructure fall into deeper disrepair while politicians and privateers try to squeeze dollars for themselves out of the process. I’ve discussed the mileage-based road fee in a long series of posts, beginning with Tax Meets Technology on the Road, and continuing 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, and Is the Mileage-Based Road Fee a Threat to Privacy?.

But if Michigan is unwilling to take on the mileage-based road fee, it ought to enact, or put to a referendum, a funding mechanism that aligns use of roads with revenue for the maintenance of roads. Though the liquid fuels tax has its flaws, it’s a much more appropriate means of funding highways than is the sales tax.

Almost five years ago, in a series of posts including IRS Ought Not Be the Health Care Enforcement Administrator, Health Care: Enlarging the Code and Stressing the IRS. and More Challenges of IRS Health Care Oversight, I criticized the Congress for saddling the IRS with responsibility for administering and enforcing much of the Affordable Care Act. Doing so violated a principle to which I have subscribed for decades, that is, the Internal Revenue Code ought not be used to accomplish goals that ought to be spelled out in other legislation.

Now comes news that the Department of Health and Human Services sent incorrect tax information to as many as 800,000 taxpayers. The information permits taxpayers to determine if they qualify for a subsidy to assist them in paying for health care, a determination that affects income tax returns. The catch is that the information provided by HHS was computed by the IRS, as pointed out in this editorial. The editorial notes:

Last week the U.S. Department of Health and Human Services announced that the IRS had miscalculated subsidies for 800,000 Americans. Figuring out taxes is what the IRS does.

But there’s the catch. The IRS did NOT err in computing taxes. It erred in computing a health care subsidy. It is no more surprising to discover a tax agency making a mistake computing a health insurance subsidy than it is to discover a clerk-typist making a mistake interpreting an MRI. Ought not HHS be computing the subsidy amounts and reporting those to taxpayers rather than simply passing along insurance subsidy information provided by the IRS? Why is the IRS doing what HHS ought to be doing?

If it is outrageous that the IRS has caused problems for almost a million taxpayers, is it not even more outrageous that the IRS was put in this position because the Congress was unwilling to charge HHS with the responsibility for administering the Affordable Care Act? Many members of Congress are quick to criticize the IRS, yet when trying to decide which federal agency ought to administer a program, gleefully turns to the IRS by enlarging the Internal Revenue Code and piling more work on the IRS. Oh, and then it cuts funding for the IRS. It seems to be a reflection of the same mindset that causes some employers, usually the large and impersonal ones, to fire some employees, reduce the pay of others, and to pile more work on those who remain because there’s a shortage of labor resources.

Of course, we don’t know what would have happened had HHS computed the subsidy information and sent out the information to taxpayers. Perhaps there would have been two or three times as many errors. Or perhaps not. But at least Congress ought to give the agency responsible for health issues an opportunity to show what it can do. Then the IRS could focus on its expertise, taxes, and stop focusing on health insurance computations.

The depreciation deduction is not one of my favorites. Too often, it permits taxpayers to report, and pay tax on, a taxable income amount that is much less than the taxpayer’s economic profit. One of the culprits is section 179, originally designed to spare taxpayers the task of computing annual depreciation on relatively small amounts expended for capital items, but expanded to provide half-million dollar write-offs that far exceed the economic cost to the taxpayer of making an investment. The justification is that this provision creates jobs.

Both sides of the aisle are guilty of supporting this unwise provision, as well as its cousin, section 168(k). In Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, I criticized the Congress for renewing the provision. A year later, in If At First It Doesn’t Work, Try, Try, Try Again, I criticized the President for proposing yet another renewal of the expanded section 179 limitations.

In Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, I explained:

Does it make sense to increase deductions for acquisitions of equipment? How does that restore confidence in the economy, which is essential to putting the nation back on track. How does a tax provision that encourages businesses to use their limited funds to buy machinery put people in this country back to work? Nothing in the provision requires that the property be built in the United States, and it's almost certain that such a requirement would violate at least a few trade agreements and treaties. What's the point of enacting tax breaks that create jobs in other nations? Dollar-for-dollar, a tax break for creating jobs directly is worth much more than a tax break for purchasing equipment.

Nothing that has happened during the past six years has changed my opinion on this point.

Now comes news that, again, Congress is planning to renew the provision. At the moment, the renewal proposal has passed the House of Representatives. My guess is that at some point, unless derailed by machinations with respect to unrelated provisions, it will pass the Senate. And it will be signed by the President.

This provision is one of many that is set to expire after a short time, creating incentives for its beneficiaries to fork over campaign contributions to ensure that it is renewed when the time comes. This is no way to run a nation or its tax policy, but it surely is a good way for wealthy political campaign contribution donors to run a Congress.

As I explained in Just Because It Didn't Work the First 50 Times Doesn't Mean It Will Work Next Time, “The depreciation provisions, including bonus depreciation and first-year expensing, have contributed to the current economic mess by allowing taxpayers to compute taxable income as though their economic position declined when in fact it remained the same or improved. Packaged into tax shelters, LILO deals, tax-exempt leasing arrangements, and other devices that contribute to the tax gap, these provisions ought not be considered remedies for the very economic diseases that they have caused and aggravated.”

It’s time to limit depreciation to the economic decline in the value of the property. If it remains acceptable to provide deductions for economic losses that haven’t happened and that may never happen, perhaps it’s time to tax future economic gains that haven’t happened and that may never happen. Imagine the outcry. That alone demonstrates the absurdity of making section 179 anything more than a short-cut for deducting the cost of de minimis expenditures.

Last week, in a CNN Money commentary, Jordan Wathen compared what he described as getting rich the easy way with getting rich the hard way. He pointed out that although people generally think that getting paid millions of dollars a year to do something a person loves to do is getting rich the easy way, it’s actually the opposite. People who get rich, for example, by playing a professional sport have invested tens of thousands of hours learning the game and honing their skills.

Wathen takes the position that there is a much easier way to get rich. He explains that by saving money at a higher rate and patiently holding on to an investment, a person can do quite well. He notes that the average savings rate is between 4 and 5 percent, and that mutual fund investments are held for an average of 3.3 years. In contrast, he suggests, a savings rate of 15 to 20 percent, and a mutual fund holding period of 20 to 40 years, would be outstanding.

Wathen is correct. A person’s savings, or investment, will be higher, and generally much higher, if the person saves 15 or 20 percent of income rather than 4 or 5 percent, even if the person doesn’t hold assets for several decades. Adding long-term holding periods to the mix makes the outcome even better.

The challenge, of course, is finding a way to save more money. Wathen suggests living in smaller home, driving a less expensive vehicle, and “shopping around for the best prices on routine monthly expenses like cable or insurance” will generate funds that can be invested. That might work for someone who is living in a 2,500 square foot home who can move to an 1,800 square foot home, as Wathen suggests. But how many people are living in homes of that size? And how many can move? Additional money might be within reach by trading in a European sports car for a Japanese vehicle, as Wathen suggests. But how many people are driving European sports cars? And of the people living in large homes and driving these sports cars, how many already have more-than-sufficient savings and investments? In other words, how many already are rich? For the wealthy, investing 80 to 90 percent of annual income is easy, because it’s easy to live on 10 percent of a $12,000,000 annual income.

But what about the folks whose income doesn’t cover the costs of sub-standard housing, nutritionally deficient food, second-hand clothes, and emergency-room-only health care? How does someone scraping by on basement wages set aside 4 to 5 percent of income, let alone 15 to 20 percent? How does someone whose annual income just about covers those costs set aside money for the future? By cutting back on a non-existent cable bill? By selling the fancy European sports car?

One of the underlying cause of the current national economic disequilibrium is the lack of long-term savings. That will happen when pensions are discontinued, employee benefits are cut by classifying workers as independent contractors, and wages are cut to the bare minimum. There wouldn’t so many “needy” people if the value of labor were fairly determined.

And, incidentally, when those who are able to do so cut back consumer spending by reducing cable bills and insurance costs, by eating in more than eating out, and by decreasing discretionary spending on entertainment and sports events tickets, what does that do to “consumer demand”? Consumer demand is what makes the economy move.

I’m not against savings. I’m just being practical. A person can’t save what the person doesn’t have. Unless incomes are more than sufficient to cover the costs of living, savings rates will remain too low.

Last week, in Priorities, Priorities: What to Do With Tax Revenues, I explained how Wisconsin’s Governor Scott Walker plans to cut education funding while simultaneously plowing tax revenue into the hands of a privately-owned professional sports franchise owner for a new arena that is far from a necessity.

In at least two other states facing budget shortfalls caused by tax cuts for the wealthy, tax breaks for the wealthy, and expenditures in the form of handouts to the wealthy, Republican governors are seeking to eliminate the deficits by cutting education funding. This is happening in Louisiana, and Kansas.

Why not fix the problem by reversing the cause of the problem? Is there something horrible about eliminating the tax cuts for the wealthy so that the citizens of the state have access to quality, affordable education? Perhaps the reason is a desire to reduce the number of educated people. Why do that? Educated people are less likely to fall for the fear-stoking and lie-infested campaign slogans tossed about by those whose goal is to shift wealth into the hands of a tiny oligarchy.

One would hope that by now enough Americans would realize that the promises offered as enticements to vote for politicians determined to shift wealth to the oligarchy are empty, unfulfilled, and dangerous. The nation is still waiting for the jobs promised more than a decade ago. Those that have developed in the past few years reflect steps taken in spite of the increase in wealth and income inequality. The nation is still waiting for repair and maintenance of the country’s infrastructure, a goal not achieved by the privatization technique that also shifts wealth to a tiny handful of wealthy individuals.

An epidemic of ignorance is about to sweep across the land. If voters let it happen, the outcome will be most unpleasant. Citizens need to ask, “Who benefits from cuts to education funding?” and “Who benefits from handouts to the wealthy?”

Sometimes a principle of tax law is uncomplicated, easy to understand, and easy to apply. This can be the case even if taxpayers don’t like the result or don’t understand the reason for the principle. An example of this concept popped up in a recent Tax Court case, Stebbins v. Comr., T.C. Summary Op. 2015-10. The taxpayer incurred a net operating loss in 2007. In 2008, the taxpayer generated self-employment earnings, on which the self-employment tax was due. The taxpayer took the position that the self-employment earnings in 2008 could be offset from the NOL carried forward from 2007. The IRS disagreed. The Tax Court agreed with the IRS, citing section 1402(a)(4). That provision clearly states that in computing self-employment earnings, the NOL deduction is disallowed.

Whether the provision makes sense can be debated. Should an NOL be permitted to offset self-employment earnings? Perhaps, but at the moment that’s not how the tax law works. Unless it is changed, taxpayers cannot do what the taxpayer in Stebbins tried to do.

The anti-tax crowd claims to dislike taxes because, among other reasons, they enable government spending. To these folks, government spending is a bad thing. Or at least that’s what they say.

So, when the governor of Wisconsin, Scott Walker, as reported in various sources, including this one and this one, proposed a state budget cutting $300 million in funding for the University of Wisconsin, the anti-tax crowd must have rejoiced. Finally, a reduction in the expenditure of public funds to improve the education of citizens, to reduce and eliminate ignorance, to foster knowledge, and to preserve civilization.

But wait!

That same anti-tax, anti-government-spending governor’s proposed budget also includes a payment of $220 million to assist the Milwaukee Bucks, a privately-owned professional sports team, build a new arena. The Bucks don’t need a new arena. But what’s to stop a wealthy sports team owner from grabbing some free money when it’s there to be grabbed? That it is coming from a governor who objects to people thinking they are entitled to government food and medical assistance makes no difference to those who preach one thing and practice another.

This is not the first time that I have objected to wealthy owners of professional sports teams grabbing taxpayer dollars, often with the assistance of people who claim to detest taxes because government spending is such a bad thing. Eleven years ago, in Tax Revenues and D.C. Baseball, I objected to the grabbing of tax dollars by those not in need, and revisited the issue in Putting Tax Money Where the Tax Mouth Is, Building It With Publicly-Funded Tax Breaks , Public Financing of Private Sports Enterprises: Good for the Private, Bad for the Public, When Tax Revenues Fall Short, Who Gets Paid?, and So Who Are the Takers of Taxpayer Dollars?.

But this time, it is inescapably obvious that the governor of Wisconsin has no qualms about taking money from education in order to fatten the wallets of his wealthy “sponsors.” He, of course, is not alone. He is joined by the other politicians who beckon to the siren song of rich donors’ money. Though campaigning on themes designed to get votes from unknowing and easily misled voters who struggle to pay taxes, these experts in transferring wealth from the poor and middle classes to the wealthy are now so emboldened by the success of their electoral strategies that they don’t care if the world sees them for what they are or notices what they are doing. These are people who think giving the wealthy even more money so that they can build basketball arenas for the simple purpose of keeping up with their wealthy friends’ new arenas is far more important than educating the nation’s citizens.

Today, Wisconsin. Tomorrow, considering Walker’s desire to be president, the nation? Is this really what the people of Wisconsin want? Is this what the people of this nation want?

The facts are easy. Tom Brady, by being named MVP of the Super Bowl, becomes the winner of a truck given by Chevrolet as a prize to the player named MVP. Brady, however, decided that Malcolm Butler, whose interception of Russell Wilson’s pass sealed the New England Patriots’ win, should get the truck, and announced he would transfer the truck to Butler. That’s a nice gesture, but it also raised tax questions. What would be the tax consequences?

The answer to the first “What would be the tax consequences” question is easy. Under statutory and judicial precedent, Brady would be required to include in gross income the fair market value of the truck. Depending on information not available, he might be subject to a gift tax on making a taxable gift to Butler, though the best guess is that Brady would simply use a small portion of his unified credit to offset any gift tax liability. Barring further changes in the law or in Brady’s financial situation, that decision would cause his estate tax in some distant future year to be a wee bit higher. For all practical purposes, the amount and the time lag make that tax burden minimal.

That answer, however, caused someone to ask Chevrolet to transfer the truck directly to Butler. And Chevrolet, according to this story, decided to do just that.

So again one must ask a question. What would be the tax consequences?

The answer to the second “What would be the tax consequences” question also is easy. What makes it worth discussing is that the wrong answer has been offered. In that same story, one Robert Raiola, a CPA, is reported to have said that “Now instead of Brady paying income taxes, Butler will have to.”

Because Brady won the prize, he must include the value of the prize in gross income. Not only did he win the prize, he took delivery of the vehicle when the keys were handed to him. In order to have avoided being taxed on the prize, he would have needed to reject the keys, and to have disclaimed the prize before he became entitled to it, in other words, at some point before he was named MVP. He could have done so by somehow declining to be named as MVP, though I don’t know if that is possible, or by rejecting any claim to the prize associated with being named MVP. He did neither. And even if he had not been handed the keys, he would have had constructive ownership of the truck by virtue of being named the MVP.

Many years ago, in Rev. Rul. 58-127, 1958-1 C.B. 42, the IRS concluded that a taxpayer who won a prize by submitting the winning entry in a contest was required to include the prize in gross income despite having directed the payor to deliver the prize to someone else. Did it matter that title to the prize did not pass through the taxpayer’s hands? No. The IRS explained, “It is not material whether the taxpayer actually acquired title to the prize.” In other words, Chevrolet, in transferring title directly to Butler, is acting as Brady’s agent, and the substance of the transaction remains the winning of a taxable prize by Brady and the making of a gift by Brady. This conclusion is strengthened by the fact that Brady didn’t reject the prize, but exercised dominion and control by dictating who would receive the prize, namely, Butler. That’s because Brady became economic owner of the truck when he was named MVP, and Chevrolet had no choice other than to deliver title to Brady or someone designated by Brady. Had Chevrolet, as suggested by some, awarded the truck to the Seattle offensive coordinator or head coach, Brady would have a contract claim for Chevrolet’s breach of the MVP prize agreement.

The last time Brady won a prize, he gave it to a charity. So the issue washed out, with the charitable contribution deduction offsetting the gross income. In contrast, Malcolm Butler is not a charity. There’s no deduction for Tom Brady to use to offset his gross income.

Unfortunately, this incorrect advice is popping up all over the internet, for example, not only in the ESPN story, but also on the website of ABC 7 in California, CBS Sports, and dozens of other sites. Raiola, who is described as an expert in sports management, is going to find it difficult to retract the bad tax advice.

It’s time to ponder the tax issues in another Judge Judy episode. Readers of MauledAgain know that television court shows are among the various sources producing material for this blog. Surely I have missed many episodes that generated other tax issues, as I don’t get to see very many of the shows. In the past, I have commented on six, starting with Judge Judy and Tax Law, and continuing through Judge Judy and Tax Law Part II, TV Judge Gets Tax Observation Correct, The (Tax) Fraud Epidemic, Tax Re-Visits Judge Judy, and Foolish Tax Filing Decisions Disclosed to Judge Judy.

In this most recently viewed episode, the plaintiff sued his former employer for unpaid wages. The defendant allegedly employed the plaintiff as a day laborer. There was no dispute that the plaintiff worked for the defendant. During the process of trying to determine how much was owed, Judge Judy asked a sensible question. Surely tax records would provide information. When asked if he had filed tax returns, the plaintiff answered no. When asked if he had filed business tax returns reporting the plaintiff as an employee, the defendant replied no.

Perhaps the parties keep up with the news and realize that the IRS lacks the resources to audit more than a handful of taxpayers. Perhaps they realize that Congress has made additional cuts to the IRS budget. Perhaps they will be joined by everyone else. Once we end up with no one paying taxes, it will be amusing, and tragic, to observe the outcome.

When I first read the claim by Senator Rand Paul that the earned income tax credit is afflicted by a 25 percent fraud rate and deprives the Treasury of between twenty and thirty billion dollars, I thought, “That cannot be so.” According to several reports, including this one, the senator’s claim is wrong.

The Government Accountability Office issued a report that concluded the earned income tax credit had a 24 percent improper payment error rate. But not all improper payment errors are fraud. Some are math mistakes. Some are the consequence of not understanding a complex slice of the income tax law. Some are made by taxpayers. Some are made b the IRS. Though the percentage that constitutes fraud wasn’t specified, it is far more likely it is on the order of 5 or 10 percent than it is to be 25 percent. Actually, it cannot be 25 percent, because that would require treating 104 percent of the errors as due to fraud.

The same GAO report concluded that as a consequence of all the errors, including those that are not due to fraud, the Treasury failed to collect roughly $14.5 billion. That’s a far cry from twenty to thirty billion dollars.

So why would a senator say what Rand Paul said? There are several possibilities.

One is that he was misinformed by a staff member or campaign consultant. That doesn’t create much confidence in the senator, does it?

Another is that he glanced at the report, but didn’t read it carefully. Would he do the same with the details of a proposed federal budget?

Yet another is that he looked at the report, but didn’t understand it. Though that might happen to most Americans considering the complexity of tax law, ought not those who aspire to direct tax policy have the requisite ability to do so?

Still another is that he very well knew the facts, but set them forth in a manner designed to exaggerate something so that he could cast in a bad light a program he does not like. Though modern politics has become a swamp of this sort of behavior, is this the sort of example the nation wants being set by its leaders?

Mistakes happen. But the higher one tries to climb on the ladder of responsibility, the more dangerous the consequences of mistakes, the more vociferous the criticism, and the more urgent the need to surround one’s self with those who can assist in preventing mistakes.

The candidate I admire is one who would simply say, “There are problems with the earned income tax credit. It is too complex. It would not be necessary if employers paid living wages.” Getting to the root of the problem makes it easier to solve the problem.

After the Katrina disaster, Congress enacted section 1400N(d), a provision permitting taxpayers to claim more generous depreciation deductions for certain property used in the Gulf Opportunity Zone, used in the active conduct of a trade or business by the taxpayer in that zone, and purchased by the taxpayer after August 27, 2005, provided original use of the property in the zone begins with the taxpayer after August 27, 2005, and provided the property is placed in service before January 1, 2008, or January 1, 2009, if it is nonresidential real property or residential rental property. A recent case in the United States District Court for the Western District of Louisiana, Stine, LLC v. United States, No. 2:13-cv-03224 (27 Jan 2015), addresses the question of when a building was placed in service for purposes of this provision.

The taxpayer sells home building material and supplies. After Katrina, the taxpayer constructed two retail store buildings within the Zone. The taxpayer claimed the more generous depreciation deduction, generating a loss that it carried back to earlier years, which in turn generated refunds for those years. After receiving the refunds, the taxpayer then received a notice of deficiency because the IRS rejected the deduction. The taxpayer paid the deficiency and sued for a refund of that payment.

The government and the taxpayer agreed that all of the requirements for the more generous depreciation deduction had been satisfied except for one. The government contended that the buildings had not been placed in service before January 1, 2009, because they were not open for business by that date. The taxpayer argued that the buildings had been placed in service because they were substantially complete, were ready and available for their intended use, were staffed by employees to install the shelving and load the merchandise to be sold, and had been the subject of certificates of completion and occupancy issued by the appropriate local authorities.

The court rejected the government argument that the deduction should be disallowed because it violated the “matching principle.” According to the government, that principle would be violated because the deduction would not be claimed for a year in which revenue from use of the buildings would be received by the taxpayer. It is unclear where the government found that principle, because nothing in the depreciation deduction provisions include a revenue requirement, which probably is at least one reason the court characterized the arguent as “totally without merit.”

Under Treasury Regulation section 1.167(a)-10(b), property is placed in service “when first placed in a condition or state of readiness and availability for a specifically assigned function, whether in a trade or business, in the production of income, in a tax-exempt activity, or in a personal activity. . . In the case of a building which is intended to house machinery and equipment and which is constructed, reconstructed, or erected by or for the taxpayer and for the taxpayer's use, the building will ordinarily be placed in service on the date such construction, reconstruction or erection is substantially complete and the building is in a condition or state of readiness and availability. Thus, for example, in the case of a factory building, such readiness and availability shall be determined without regard to whether the machinery or equipment which the building houses, or is intended to house, has been placed in service. However, in an appropriate case, as for example where the building is essentially an item of machinery or equipment, or the use of the building is so closely related to the use of the machinery or equipment that it clearly can be expected to be replaced or retired when the property it initially houses is replaced or retired, the determination of readiness or availability of the building shall be made by taking into account the readiness and availability of such machinery or equipment.”

The government argued that a building used in a retail operation must be open for business in order to be considered placed in service. The court examined the three cases advanced by the government in support of its argument, and distinguished all three. One case involved an airplane, and not a building, and a taxpayer whose evidence was discounted and whose testimony was not credible. The second involved a facility containing interconnected components, unlike a building housing separate items of shelving and merchandise. The third case involved the placement in service of equipment housed in a building and not the building itself. The court noted that the taxpayer in the third case relied on yet another case, in which the Tax Court determined that a building was placed in service years before the equipment in question was installed and made operational.

The taxpayer cited proposed Treasury Regulation section 1.168-2(e)(3), which provides “For purposes of this section, a building shall be considered placed in service (and, therefore, recovery will begin) only when a significant portion is made available for use in a finished condition (e.g., when a certificate of occupancy is issued with respect to such portion).” The taxpayer also cited the IRS Audit Technique Guide for Rehabilitation Tax Credits, which indicates that for purposes of the rehabilitation credit placement in service requirement, “[A] ‘Certificate of Occupancy’ is one means of verifying the ‘Placed in Service’ date for the entire building (or part thereof).”

Accordingly, the court dismissed the government claim that a building must be open for business in order to be placed in service. The court explained that during oral argument, the government conceded that there is no authority for its proposition. Because the taxpayer presented undisputed evidence that certificates of occupancy had been issued, that the buildings were substantially complete, and that the buildings were fully functionally to house the shelving and merchandise, they had been placed in service within the required time period. Thus, the taxpayer was entitled to the deduction.

The IRS Commissioner has disclosed that because “It takes longer to process paper returns and in light of IRS budget cuts resulting in a smaller staff, it will likely take an additional week or more to process paper returns meaning that those refunds are expected to be issued in seven weeks or more.” Keeping in mind that 80 percent of taxpayers get refunds, there will be more than a handful of people fretting over the impact of waiting at least another week to get money they need to pay bills or deal with other financial demands.

Why the longer delay? It’s simple. The Republican-controlled Congress has yet again cut the IRS budget. The foolishness of cutting the IRS budget should be apparent to all those other than the handful who are plotting the destruction of government through the elimination of taxation, as I described in The Continued Assault on the Tax Foundations of American Civilization.

Unquestionably, some of the people who will complain about delays in receiving refunds will be people who voted for the legislators who have caused the delays. It is mind boggling that people will vote for what they don’t want. Though in some instances people are tricked into voting for what they don’t want when politicians use deception to hide their true intentions, the politicians who are working to destroy the tax foundations of civilization have been very clear that they are on a tax-elimination campaign that includes the destruction of the IRS. Folks, if you think it’s bad now, imagine what it will be like when the system falls apart. And it will, if people continue to vote for what they don’t want.

Almost two years ago, in Getting Smart About Tax Questions, I expressed agreement with the advice given to an individual who donated eggs to a fertility clinic, that the compensation received for doing so was includible in gross income. I referred readers to my previous posts concerning donation of kidneys, The Taxation of Kidney Swaps and Tax Consequences of Kidney Sales.

Now, in a case of first impression, the Tax Court has agreed. In Perez v. Comr., the Tax Court held that even though the amounts received by the egg donor were designated as compensation for pain and suffering in the contract with the fertility clinic, the payments constituted gross income, and not damages within the scope of the section 104(a)(2) exclusion.

When it came time to prepare her federal income tax return, the taxpayer “concluded that the money was not taxable because it compensated her only for pain and suffering.” She reached this conclusion [a]fter consulting other egg donors online.” She did not report the compensation on the return, and the IRS issued a notice of deficiency. Once again, we are given an example of why relying on advice from those not expert in a matter can be counter-productive.

The Court’s conclusion makes sense, and not simply because it reaches the conclusion I advocated for reasons I suggested relying on cases on which I relied. It makes sense because there is a long history of requiring employees and independent contractors to include in gross income the amounts they are paid for performing services, even if the services cause discomfort, pain, bruising, or other “damages” to the person. Though the Court did not cite me, it did cite an article which in turn cited the article in which I alerted the tax practice world to the tax issues in these types of transactions, Federal Tax Consequence of Surrogate Motherhood, 60 Taxes 656 (1982).

The outcome strengthens the likelihood that my position with respect to the tax consequences of kidney swaps, similarly will be the result when a court eventually deals with that issue. It further demonstrates the foolishness of describing my positions with respect to these sorts of transactions as “ivory tower academics,” a charge I refuted in Taxation of Kidney Swaps: Dispelling the “Ivory Tower” Myth. Indeed, the donation of eggs or the swapping of kidneys, even if properly categorized as “innocent events,” are taxable events.

The only downside to the decision is that it deprives tax law professors of a “question with no authoritative answer” examination or discussion question. That’s not a problem, though, because our supply of these sorts of questions is abundant.