Preparers Preparing Fraudulent Returns Need Prepare Not Only for Fines and Prison But Also Injunctions

A recent Department of Justice news release made me think about something on which I had not focused. I have written about tax return preparers gone bad, in posts such as Tax Fraud Is Not Sacred, Another Tax Return Preparation Enterprise Gone Bad, More Tax Return Preparation Gone Bad, Are They Turning Up the Heat on Tax Return Preparers?, Surely There Is More to This Tax Fraud Indictment, Need a Tax Return Preparer? Don’t Use a Current IRS Employee, Is This How Tax Return Preparation Fraud Can Proliferate?, When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, Tax Return Preparer Fails to Evade the IRS, Fraudulent Tax Return Preparation for Clients and the Preparer, Prison for Tax Return Preparer Who Does Almost Everything Wrong, Tax Return Preparation Indictment: From 44 To Three, and When Fraudulent Tax Return Filing Is Part of A Bigger Fraudulent Scheme. I had assumed that once a tax return preparer pleaded or was found guilty and sentenced, the preparer would stop preparing tax returns for others. But apparently that’s not always the case. And I had assumed that once a tax return preparer had been charged, the preparer would stop preparing returns, either voluntarily or because the news of the indictment would turn customers away. And apparently that doesn’t always happen and if it does, not every potential customer necessarily turns elsewhere.

According to the news release, the United States has filed a complaint asking for an injunction against two tax return preparers, both in their individual capacity and as owners of a tax return preparation business. One of the preparers started the business in 2013, and the other started working for the business in 2016. Interestingly, the complaint alleges that in October of 2019, the Civil District Court for the Parish of Orleans permanently enjoyed the owner from working as a tax return preparer in Louisiana. The complaint also alleges that the two individuals, in preparing returns, invented deductions and credits to reduce tax liabilities and also invented income to increase earned income tax credits, generating fraudulent refunds. In addition, according to the complaint, the two individuals “charged exorbitant fees for their services, often without their customers’ knowledge.” The complaint alleges that since the 2017 filing season, the two individuals filed more than 12,400 tax returns, and that they used other tax return preparers’ personal identifying information on some of the returns. One of the individuals allegedly did so “in order to avoid an IRS investigation as to whether he has complied with due diligence requirements that obligate a tax return preparer to make reasonable inquiries to ensure that a customer is legitimately entitled to various tax credits, including the earned income tax credit.” This particular individual, the complaint alleges, is subject to and has not paid penalties incurred for past violations of these due diligence requirements.

Apparently, chasing down tax return preparers who are violating the law and getting them to stop their behavior isn’t easy. In addition to prosecuting them, the Department of Justice has successfully sought injunctions against hundreds of tax return preparers who file fraudulent returns. Some preparers, as one of the individuals named in the complaint is alleged to have done, use false identifying information in order to circumvent the process used to screen for preparers who are enjoined from preparing tax returns, who are in violation of preparer due diligence requirements, or who have not paid penalties. My miscalculation was thinking that getting caught and being hit with fines and prison terms would be enough of a lesson. Apparently not.

Something is amiss. To get into these situations, a preparer must conclude that the rules don’t matter, that the rules matter but only for others, that the fraudulent return preparation activity won’t be detected, and that there will be no consequences. These aren’t cases of carelessness, negligence, ignorance, or other problems caused by preparers who want to do what’s right but stumble. Those preparers can be helped to get better because they are trying and can benefit from additional tax preparation education. The preparers who engage in generating fraudulent returns know that what they are doing is wrong, but don’t care. Unfortunately, that attitude, not caring about doing what is wrong, isn’t limited to tax return preparers cranking out fraudulent returns. In that sense, the fraudulent tax return preparation problem is simply one facet of a much bigger issue, one that reaches far beyond taxation.

It’s Not Tax But It’s Close: The Minimum Wage

In a recent commentary, How Much Is a $15 Minimum Wage Worth? It Depends on Where You Live, published by the Institute for Policy Innovation, Tom Giovanetti relies on several arguments in making his objection to a proposed $15 per hour federal minimum wage.

The first, and principal point that Giovanetti offers makes sense, that is, $15 per hour is worth more in some parts of the country than in others. Why? Because the cost of rent, food, and other things varies from place to place because of geography, population density, and similar factors. Two years ago, the Pew Research Center published a study explaining this in more detail. The solution is simple. The minimum wage can be adjusted for cost-of-living just as other federal dollar amounts, such as the per diem allowance. So this is something very easy to fix. Yet even if the proposed increase in the national minimum wage were adjusted in that manner, I suspect that it would not overcome Giovanetti’s objections.

Giovanetti’s second point is one that has been repeatedly blasted across social media, probably funded by the business tycoons who want to continue getting cheap labor despite the fact that the minimum wage has not kept pace with the cost of living. Giovanetti writes, “the minimum wage was never intended to be a pay rate for adults to support themselves and a family. Minimum wages are entry level wages for entry level jobs. Lacking higher skills, workers enter employment at a relative low wage, and then as they develop skills and experience, they qualify for higher pay.” Is this true? No. The federal minimum wage was first enacted in section 206 of the Fair Labor Standards Act. Section 206(g) contains an exception that permits a lower wage for newly hired employees less than 20 years of age, which leaves the general rule in place for persons who are adults. In other words, the minimum wage was intended to apply to adults. Was it intended to let adults support a family? The minimum wage was championed by Franklin Roosevelt though many others also proposed and supported the idea. In a 1933 speech, Roosevelt explained as follows:

In my Inaugural I laid down the simple proposition that nobody is going to starve in this country. It seems to me to be equally plain that no business which depends for existence on paying less than living wages to its workers has any right to continue in this country. By "business" I mean the whole of commerce as well as the whole of industry; by workers I mean all workers, the white collar class as well as the men in overalls; and by living wages I mean more than a bare subsistence level-I mean the wages of decent living.

Throughout industry, the change from starvation wages and starvation employment to living wages and sustained employment can, in large part, be made by an industrial covenant to which all employers shall subscribe. It is greatly to their interest to do this because decent living, widely spread among our 125, 000,000 people, eventually means the opening up to industry of the richest market which the world has known. It is the only way to utilize the so-called excess capacity of our industrial plants. This is the principle that makes this one of the most important laws that ever has come from Congress because, before the passage of this Act, no such industrial covenant was possible.

On this idea, the first part of the Act proposes to our industry a great spontaneous cooperation to put millions of men back in their regular jobs this summer. The idea is simply for employers to hire more men to do the existing work by reducing the work-hours of each man's week and at the same time paying a living wage for the shorter week. [emphasis added]

Clearly Roosevelt was speaking of all workers, not just entry-level workers or low-skill workers. He was speaking of workers with families and workers without families to support, not just workers without dependents. The nonsense that the minimum wage was “never intended to be a pay rate for adults to support themselves and a family” has been circulating too long, and originates with business owners, and disseminated by their funded operatives, in order to protect the wealth growth of starving oligarchs. It appears to have originated in this commentary, set forth without any citation to statute, legislative history, or other proof of a bald allegation made without supporting evidence. The diminution in the study of history by Americans has been exacting, and continues to exact, an ever-increasing price. Ignorance, as I have pointed out many times, is the most costly flaw in humanity.

Giovanetti’s third point is that increasing the minimum wage is harmful to workers. He asserts that “most economists agree that a higher minimum wage actually cuts off employment opportunities for the lowest skilled workers.” Those economists, and I doubt that “most” economists are among their ranks, seem to overlook the impact of raiing the minimum wage in places like New York City, and Seattle, and the growing support for minimum wage increases from businesses not only in terms of advocacy but also in terms of stepping up their wage rates, as described, for example, in this Economic Policy Institute report.

Giovannetti’s fourth point is that “there are some workers who simply aren’t worth $15 an hour—yet.” Perhaps that is true of workers who are under the age of 21, a notion supported by the lower minimum wage for young workers. But the ideal that some workers are worth less than $15 per hour while others rake in tens and hundreds of millions of dollars per year, in some instances not doing much of anything productive, is appalling. The minimum wage has not kept pace with inflation. That alone is justification for increasing it. It’s unfortunate that it was not set to increase with inflation from the outset.

Though I headlined this commentary with “It’s Not Tax But It’s Close,” that is a bit misleading. There is a connection between the minimum wage and the tax law, aside from the inclusion of wages in gross income. The tax law provides an earned income credit, to supplement the resources of people whose earned income is low. Why is their income low? A significant reason is the inadequacy of the minimum wage. With a sufficient minimum wage perhaps the tax law would not need to be cluttered with provisions designed to ameliorate the insufficiency of the minimum wage. Others have written about this problem, with varying positions, ranging from letting the earned income credit substitute for a minimum wage, through keeping both, to eliminating the earned income credit by providing for a decent minimum wage. At this moment, I am not digging into the specifics of those discussions as that is beyond the scope of today’s commentary.

When Fraudulent Tax Return Filing Is Part of A Bigger Fraudulent Scheme

Usually, taxpayers who file fraudulent returns do so to reduce their tax liabilities, or to create or increase refunds that exceed what they are entitled to receive. But there are times when the filing of a fraudulent tax return is part of a bigger fraudulent scheme. For example, someone applying for a benefit available to persons with gross income below a certain amount will file tax returns that omit income. Sometimes a person who needs to show gross income above a certain amount in order to qualify for something, such as a loan, will fraudulently report phantom gross income.

Recently, according to this story, a tax return preparer pleaded guilty to filing fraudulent tax returns as part of a much larger scheme. To understand what had happened, I found the Department of Justice news release describing the indictments and the scheme.

The story begins with race, ethnic, and gender discrimination. In 1997, a group of black farmers filed a class action against the U.S. Department of Agriculture (USDA), claiming that they had been discriminated against when they applied for farm credit, credit servicing, or farm benefits from the USDA. At about the same time, additional class actions making similar allegations was brought against the USDA by groups of Hispanic farmers and female farmers. The lawsuits were settled with an arrangement through which farmers who could demonstrate they had applied for participation in a USDA program and believed they had been discriminated against could make a claim for financial relief. If the claim was successful, an award of $62,500 was paid, split between the claimant, who would receive $50,000 and the IRS, which would receive $12,500 as withholding credited to the claimant.

According to the indictment, from 2008 until 2017, five defendants allegedly solicited people to file false claims asserting they were discriminated against when they tried to get assistance from the USDA for their farming operations. The indictment alleged that 192 false claims were made, almost all of which were successful, generating more than $11.5 million in payments that should not have been made. The claims were false because the claimants either were not farmers, or had not suffered discrimination.

One of those charged, an attorney, would deposit the claim checks into his law firm trust account, and issue a check from that account to the claimant in an amount reduced by the attorney’s fee. The fees were limited to $1,500 for each claimant. The attorney split the fee with four others who were charged. Those four are sisters who recruited the claimants and also demanded and received money from those claimants. The amounts received from the claim constitute gross income that should have been reported on the claimant’s income tax return. According to the indictment, the four sisters arranged for yet another person charged in the indictment, a tax return preparer, to prepare income tax returns for the claimants. Allegedly, the tax return preparer falsified the tax returns to create a tax refund, with the falsified items totaling more than $4.6 million. The indictment also alleges that three of the sisters also filed false tax returns and laundered money through the purchase of various properties, and through payments on a student loan for the daughter of one of the sisters. The daughter also was indicted. The Department of Justice also filed a civil case for forfeiture of some of the properties purchased by the sisters.

The indictment lists 106 charges against one of the sisters, 109 against the second, 114 against the third, and 90 against the fourth. The daughter faces 8 counts. The attorney also faces 8 charges. The tax return preparer? One count. The trial of those who have not pleaded guilty was scheduled to begin this week.

Of all the commentaries I have posted about tax return preparers, in posts such as Tax Fraud Is Not Sacred, Another Tax Return Preparation Enterprise Gone Bad, More Tax Return Preparation Gone Bad, Are They Turning Up the Heat on Tax Return Preparers?, Surely There Is More to This Tax Fraud Indictment, Need a Tax Return Preparer? Don’t Use a Current IRS Employee, Is This How Tax Return Preparation Fraud Can Proliferate?, When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, Tax Return Preparer Fails to Evade the IRS, Fraudulent Tax Return Preparation for Clients and the Preparer, Prison for Tax Return Preparer Who Does Almost Everything Wrong, and Tax Return Preparation Indictment: From 44 To Three, this story probably is the most complicated of the bunch. Yet somehow the tax return preparer faced only one count despite filing at least 82 fraudulent returns. The preparer received $550 for each return. That’s not much compared to the price now going to be paid. It could have been much more, had there been 82 counts alleged in the indictment. I am guessing, though I could be wrong, that at some point the preparer cooperated with those investigating the situation.

Is It the Tax or Is It Something Else?

Recently, in a New York Post opinion piece, Charles Cooke explained his frustration with an unfortunate experience he endured when dealing with Connecticut tax authorities. Cooke and his family moved from Connecticut to Florida three years ago. In December of last year he received a notice from a debt collector for a local property tax imposed in Connecticut on vehicles, as described in this explanation. According to Cooke, he did not pay the tax because he was never told he owed it, never received an invoice despite having his mail forwarded after moving and despite the fact that other family members continued to live at the same address where Cooke had lived. By the time he received the notice, interest and a debt collection fee had been added to the tax, increasing the amount due by 40 percent. Worse, when he tried to resolve the matter by phone, he ran into a brick wall. He was challenged with questions such as, “Why didn’t you just pay it?” and “Why didn’t you apply for a waiver?” even though he continued to respond that he did not know about the tax, or the waiver possibility. He discovered, after sending proof that they had cancelled their Connecticut registration when they left the state, that it had no effect because the process to remove a vehicle from the tax rolls is different from the process to remove the vehicle from the Connecticut list of vehicles registered in the state. Cooke received resounding negative responses to requests to cancel the debt, prorate the debt, and waive the interest. Yes, he could appeal, and it took four tries to get the details that included the amazing news that appeals are heard once a year and only in person, a prospect not appealing (sorry) to someone living in Florida. Cooke notes that he will eventually pay the tax debt just to make it go away.

Cooke asks, “Why do a growing number of people hate the Northeast? Why has Connecticut lost 100,000 more residents than it’s picked up over the last five years?” He responds, “This is why.” Now, if by “this” he means the mind-boggling administrative and bureaucratic incompetence, the badly designed systems that don’t let the Department of Motor Vehicles share information about vehicle registration and de-registration with local tax collectors, the lack of online appeals processes, or the need to ask four times to get an answer, he makes a good point. On the other hand, the headline to his opinion piece, perhaps written by an editor, claims, “This absurd tax is the very reason people are fleeing the Northeast.” The tax itself is not what bothered Cooke and presumably bothers others. The implementation of the tax almost certainly does. Yet it is a small tax, which ought to be classified as a fee, but that’s another issue, one I have discussed many times. Is the tax absurd? No, and if it were a fee, it still would not be absurd. Motor vehicle use imposes a cost, ranging from the need for repair and maintenance of highways to noise and pollution, and charging vehicle owners is not an inappropriate way to recover those costs.

But what surprised me was Cooke’s description of tax life in his new state of residence, Florida. A photo caption accompanying his commentary states, “As a stark contrast to the northeast, Florida officials and state offices are a pleasure to deal with.” Though perhaps he did not write that, it surely was culled from what he did write, specifically, “In Florida, where I now live, every interaction I’ve had with the government has been a pleasure. The DMV is efficient and useful. The sales tax office genuinely tries to help. Even toll operators give you the benefit of the doubt.” I am guessing he did not encounter the Seminole County tax office back when it was making the bureaucracy encountered by Cooke in Florida look good, a Florida mess I described in a series of posts about the former Seminole County, Florida, Tax Collector, starting with A Reason Not to Run for Tax Collector (or Any Other Office)?, and continuing through Perhaps Yet Another Reason Not to Run for Tax Collector, Running for Tax Collector (or Any Other Office)? Don’t Do These Things, When Behaving Badly as a Tax Collector Gets Even Worse, Tax Collector Behaving Badly: From Even Worse to Even More Than Even Worse, What Qualifications Are Needed to Be a Tax Collector?, The Legacy of Misbehaving Tax Collectors, Lengthening the List of What Not to Do As a Tax Collector, and The List of What Not to Do As a Tax Collector Has Become Even Longer. I wonder how Cooke will react when he hears stories from Seminole County residents who describe a tax collector who has been accused of stalking and impersonating a political opponent, impersonating a student, manufacturing fake IDs using information from drivers’ licenses surrendered to his office, sex trafficking a minor using information accessed through his office, spending public funds on a private enterprise he had formed, openly carrying firearms while wrongly claiming to be a revenue officer, making a traffic stop while driving his personal vehicle, trying to produce fake concealed weapons permits, asking a friend to hold the county’s computers hostage, and using tax revenues to make personal purchases and to pay lawyers to defend against these accusations. In other words, incompetence, bungling, corruption, and every other sort of misfeasance and malfeasance, including the ones of which Cooke complains, can be found anywhere. I offer another reason people flee the Northeast for Florida, and other states close to the Equator, one with much more impact than a $150 vehicle tax. They are tired of being cold, shoveling snow, and slipping on ice. Of course, there is a trade-off. Alligators, crocodiles, snakes, monster insects, hurricanes, and inadequately funded schools, to mention some of the criticisms shared by residents and former residents of Florida, are a price some are willing to pay to find warmth. It’s not just a tax thing, and it almost certainly isn’t a matter of a small vehicle tax (in substance a small vehicle fee) is the deciding factor. In all fairness, Cooke did not blame that tax for his decision to move, but he did add it to the list of reasons he is glad he moved to Florida.

Tax Return Preparation Indictment: From 44 To Three

Another tax return preparer has been caught and indicted, and has pleaded guilty. I have written about tax return preparers getting into trouble because they falsify client returns or invent fake clients in order to get fraudulent refunds, in posts such as Tax Fraud Is Not Sacred, Another Tax Return Preparation Enterprise Gone Bad, More Tax Return Preparation Gone Bad, Are They Turning Up the Heat on Tax Return Preparers?, Surely There Is More to This Tax Fraud Indictment, Need a Tax Return Preparer? Don’t Use a Current IRS Employee, Is This How Tax Return Preparation Fraud Can Proliferate?, When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, Tax Return Preparer Fails to Evade the IRS, Fraudulent Tax Return Preparation for Clients and the Preparer, and Prison for Tax Return Preparer Who Does Almost Everything Wrong.

According to this Department of Justice news release, a Pennsylvania resident working as a tax return preparer in Newark, N.J., admitted that he helped prepare 44 fraudulent tax returns from 2014 through 2016. When indicted, he was charged with three counts of aiding and assisting in the preparation of false and fraudulent tax returns. Those not familiar with how the criminal justice system works might ask, “Why only three?” The answer is complicated. Prosecutors evaluate the strength of the case they can make with respect to each fraudulent return. They evaluate the marginal utility of piling on additional counts. They might have an indication of whether, in a particular situation, the number of counts affects the probability of a guilty plea. They may have reduced the number of counts in exchange for cooperation that helped them find and charge others involved in the same or related activity. It’s a good example of how theory, charging the preparer with 44 counts, must yield to practical reality, 3 counts gets the message across and generates a sufficient sentence. That’s not true in all situations but apparently something to that effect was in play in this one.

Tax Headlines: Difficult to Write But Need to Be Accurate

Many years ago, after a reporter had written a story about my basic federal income tax class, I asked him about the headline. He explained that he did not write the headline, and that it had been written by a person whose job it was to write headlines. Headline writing is difficult. The gist of a story must be condensed to fit into a space presumably allotted by an editor, who also is constrained by the size of the page, the range of usable fonts, and the space demands of other stories. Many people read only the headline, so getting it right is important. Of course, the same challenge faces those who compose sound bites or pound out tweets. Yes, brevity has its advantages but it also is dangerous.

Over the years, I have noted the headline dilemma in various posts. For example, in How to Fix a Broken Tax System: Speed It Up?, I suggested that the headline of the Philadelphia Inquirer story that broke the news about a decision by the Philadelphia Board of Revision of Taxes to to accelerate the process of reassessing then state senator Vincent Fumo’s home, which said, “Fumo home tax leads to change,” was probably the victim of space restraints, and should have read, “Fumo home tax leads to meaningless change.” In "Taxing Lawyers" Taxes This Tax Lawyer's Brain, I explained that the article capped by the headline, “Is Schwarzenegger Serious About Taxing Lawyers?” was not about taxing lawyers or singling out the legal profession, but was a story about the governor’s proposal to extend the sales tax to professional services. In When Taxpayers Claim Credits To Which They’re Not Entitled, Who Loses?, I explained why I would have rewritten the headline, “Bogus Electric Vehicle Tax Credits May Be Costing IRS Millions” was misleading because it should have been written as “Bogus Electric Vehicle Tax Credits Harm Honest Taxpayers.”

The other day I noticed a headline that caused me to pause. According to the headline of this story, “Biden expected to raise corporate tax rate, add tax on book income.” Of course, anyone who understands civics knows, the president cannot raise tax rates. The president, a president-elect, or, actually, anyone who wants to do so, can PROPOSE an increase or decrease in tax rates, a tax on book income, a new deduction, the repeal of a credit, or any other change. But making the change is within the purview of the Congress. The story itself explains that the “Biden Administration will likely revisit” the 2017 tax legislation, tells readers to [e]xpect the top corporate tax rate to rise,” describes a “new tax on book income,” and finally mentions a “proposed 10% surtax” on foreign production profits, and a “proposal” to disallow deductions related to moving jobs and production overseas. Language matters. Writing about proposals as though they are in effect or will be in effect is misleading. The use of the words “proposed” and “proposal” when describing some suggested tax changes but not others reinforces the impression that some of the changes are already in place and ready to go. There is no guarantee that any of the Biden proposals will be enacted in the form suggested, and it is possible that some are rejected by the Congress.

How would I have written the headline, without going beyond the allotted space? Simply, “Biden to Congress: Up corporate tax rate, add tax on book income.” Actually, my version of the headline is a wee bit shorter. And it’s much more accurate.

Some Thoughts About the “Wheel Tax”

A television station in Wisconsin features a “You Ask, We Answer” segment. In last Friday’s episode, the station answered the question, “What does the wheel tax pay for?”

First, what is the wheel tax? It is a vehicle registration fee that many people call a “wheel tax.” The state of Wisconsin permits local jurisdictions, whether villages, towns, cities, or counties, to add an amount to the regular annual registration fee imposed on vehicles. There are 13 counties in which the so-called wheel tax has been enacted, ranging from $10 to $30.

Second, this amount is not computed based on the number of wheels. Whatever amount a locality chooses to impose is a flat amount, determined without regard to the number of wheels. Why the word wheel is used in calling it a wheel tax is puzzling. It is not a tax on things with wheels, because it does not apply to baby strollers, wagons, and bicycles.

Third, the amount collected must be used for transportation related purposes. In the county referenced in the question posed to the television station, it is used for road repairs.

Fourth, the amount collected makes, and has made, a difference. One county enacted a $10 add-on in 2015, which expired at the end of 2019, and used it to eliminate a deficit in its road winter maintenance fund. During the four years in question, the fund went from a negative balance of more than $1.2 million to a positive balance of almost $400,000.

Fifth, the state resorted to this approach because the property tax receipts used to fund the roads were not keeping pace, especially as new roads were built. Jurisdictions began to borrow money. That requires taxpayers not only to pay taxes to repay the loans but also to pay interest in the loans.

Sixth, is the amount being charged best described as a fee or as a tax? It is an amount charged for a specific purpose, namely, transportation, and is imposed on those making use of the transportation facilities. Yet it isn’t tied directly to use. In some ways it resembles, and in other ways it does not resemble, the so-called “wheel tax” in Indiana, which I described in Wheeling and Dealing the Wheel Tax, because what is charged in that state is arbitrary, as I explained:

The tax on passenger vehicles, which almost always have four wheels, is $25. The tax on motorcycles, which have two wheels, is $12.50. My immediate reactions was, “That’s $6.25 per wheel.” But I was wrong. The tax on commercial vehicles, which can have as few as four and as many as eighteen, or perhaps more, wheels, is $40. I would have expected some sort of sliding scale, so that a ten-wheeled truck would be subject to a $62.50 tax. And what about recreational vehicles, which can have as few as four, or as many as ten wheels? The tax is only $12.50. And personal trailers, which usually have two, but sometimes four, wheels? Again, $12.50.

So is the amount charged in Wisconsin a tax or a fee? A little more than five years ago, in Tax versus Fee: Barely a Difference?, I wrote:

Though a variety of definitions and distinctions have been suggested over the years, I distinguish a fee from a tax by identifying a fee as an amount paid in exchange for a service provided by a government directly to the person making the payment. Thus, for example, the amount charged by a township for trash pick-up is a fee. The amount charged by a state government or agency for the use of a toll highway is a fee. The amount charged by a local government for filing a zoning variation application is a fee. On the other hand, amounts paid to a government that bring indirect benefits, such as an income tax, is not a fee. A portion of what is paid in federal income tax funds national defense, which in turn provides a benefit to citizens, but there is no one-on-one relationship between the amount of tax paid that ends up financing national defense and the value of military protection afforded to a particular individual or business. Sometimes the line is blurred. The township in which I live charges a storm water fee, but it is a flat amount regardless of the size of the lot or the amount of storm water discharged from the property into the storm sewer system. Is it truly a fee? Yes, in the sense that the township provides a system for removing storm water back into the creeks. No, in the sense that a person who diverts most storm water into on-site tanks nonetheless pays the fee, which makes it more difficult to describe the payment as one made for a direct service.

The Wisconsin “wheel tax” is much like the storm water fee I described. A true fee would reflect the relative damage done to roads, and thus reflect the number of axles, the number of wheels, weight, or some combination, similar to what one encounters when being charged a toll to use a highway. On the other hand, it is not a tax, because it is not imposed on people who do not own vehicles. When the property tax, paid by property owners whether or not they own vehicles, is used for road repairs, it lives up to its character as a tax. Yet, ultimately for the person paying, calling it a fee or a tax doesn’t change the amount being forked over. In So Is It a Tax or a Fee?, I provided the following insight:

So what is it? A tax or a fee? Apparently, it’s whatever the politicians want to call it as part of the process of putting spin on what they are advocating. Of course, it would make much more sense to be transparent and honest. The problem with transparency and honesty is that it gets in the way of political power play, and exposes covert political deals for what they really are. And apparently the same sort of labeling is applied to people to fit the accusations that some people want to make. Expediency trumps integrity in post-modern America.

I wrote that in the context of Republicans voting for tax increases by tagging things as fees and thus wiggling around promises not to vote for new or increased taxes. What matters is not what the charge is called, but what it is used to finance. That is why people asked the question posed to the television station, and they were able to get an answer.

A Taxing WhatAboutIsm Attempt

Over the years, when I have encountered a tax issue in a television court show, the tax issue has been relevant in some way that affected the case. Some of these commentaries include Judge Judy and Tax Law, Judge Judy and Tax Law Part II, TV Judge Gets Tax Observation Correct, The (Tax) Fraud Epidemic, Tax Re-Visits Judge Judy, Foolish Tax Filing Decisions Disclosed to Judge Judy, So Does Anyone Pay Taxes?, Learning About Tax from the Judge. Judy, That Is, Tax Fraud in the People’s Court, More Tax Fraud, This Time in Judge Judy’s Court, You Mean That Tax Refund Isn’t for Me? Really?, Law and Genealogy Meeting In An Interesting Way, How Is This Not Tax Fraud?, A Court Case in Which All of Them Miss The Tax Point, Judge Judy Almost Eliminates the National Debt, Judge Judy Tells Litigant to Contact the IRS, People’s Court: So Who Did the Tax Cheating?, “I’ll Pay You (Back) When I Get My Tax Refund”, Be Careful When Paying Another Person’s Tax Preparation Fee, Gross Income from Dating?, Preparing Someone’s Tax Return Without Permission, When Someone Else Claims You as a Dependent on Their Tax Return and You Disagree, Does Refusal to Provide a Receipt Suggest Tax Fraud Underway?, When Tax Scammers Sue Each Other, One of the Reasons Tax Law Is Complicated, An Easy Tax Issue for Judge Judy, Another Easy Tax Issue for Judge Judy, Yet Another Easy Tax Issue for Judge Judy, Be Careful When Selecting and Dealing with a Tax Return Preparer, Fighting Over a Tax Refund, Another Tax Return Preparer Meets Judge Judy, Judge Judy Identifies Breach of a Tax Return Contract, When Tax Return Preparation Just Isn’t Enough, Fighting Over Tax Dependents When There Is No Evidence, If It’s Not Your Tax Refund, You Cannot Keep the Money, Contracts With Respect to Tax Refunds Should Be In Writing, Admitting to Tax Fraud When Litigating Something Else, When the Tax Software Goes Awry. How Not to Handle a Tax Refund, Car Purchase Case Delivers Surprise Tax Stunt, Wider Consequences of a Cash Only Tax Technique, Was Tax Avoidance the Reason for This Bizarre Transaction?, Was It Tax Fraud?, Need Money to Pay Taxes? How Not To Get It, When Needing Tax Advice, Don’t Just “Google It”, Re-examining Damages When Tax Software Goes Awry, How Is Tax Relevant in This Contract Case?, Does Failure to Pay Real Property Taxes Make the Owner a Squatter?, Beware of the Partner’s Tax Lien, Trying to Make Sense of a “Conspiracy to Commit Tax Fraud”, and Tax Payment Failure Exposes Auto Registration and Identity Fraud.

The most recent television court show that I watched, episode 84 of Judge Judy’s 25th season, introduced tax in a manner not relevant to the issue being litigated. The plaintiff owns a trucking company and contracted with the defendant to drive one of the company’s trucks. The plaintiff gave the defendant driver a debit card to use if and when necessary for truck repairs. The plaintiff alleged that the defendant used the card for personal expenses and provided proof of the unauthorized use. The defendant offered no evidence that could rebut the allegations. The testimony and documentation on this issue consumed most of the episode, but isn’t relevant to how tax entered the picture.

The defendant wiggled around the allegations. He offered no evidence to demonstrate that the use of the card was for authorized expenditures, and though he alleged he used the card for repairs, he had no invoices, no other documentation, and no witnesses to support his position. Instead, his defense was that the plaintiff paid him in cash, did not issue a Form 1099, and does not maintain paperwork for his drivers. The plaintiff interjected that the defendant was an independent contractor. The defendant replied that he could not be an independent contractor because he did not own the truck.

Judge Judy dismissed the defense as irrelevant. She entered judgment for the plaintiff in the amount of withdrawals and payments made with the card that were unrelated to the driving of the truck.

The defendant’s approach to the litigation is an example of whataboutism. Rather than providing evidence to prove that the use of his debit card was for authorized purposes, other than his own self-serving testimony, the defendant tried to sidetrack the proceedings by making claims about alleged improper behavior by the plaintiff that had nothing to do with the use of the debit card. Perhaps the defendant has watched and learned how this whataboutism reaction has been used in the political arena. Or perhaps he watched and learned, and even used it, as a child, following the pattern of response offered by some children who, when confronted by their parents about improper behavior, make claims about something done by a sibling.

Had the defendant alleged that other drivers had been permitted by the plaintiff to use company debit cards for personal purposes, the success of that defense would depend on what was demonstrated by other facts, such as the details of the contracts with those other drivers, but it would have been rational in the sense of focusing on alleged inconsistency in the position taken by the plaintiff. There is a difference between making a comparison to someone else’s behavior in order to focus on inconsistency, and simply making an allegation about unrelated behavior by another person. Of course, the inconsistency might be justified, and thus not an adequate defense, but at least it requires examination. On the other hand, there is no point in examining allegations resting on mere whataboutism, which is why Judge Judy did not inquire into the truth or falsity of the claims made by the defendant about the plaintiff’s tax compliance.

The difference between allegations resting on inconsistency and allegations that are mere whataboutism is narrow and nuanced. Too many people, including politicians and other public figures, as well as some commentators, do not grasp that difference. And thus, attempts to resolve a situations are delayed or sidetracked, often intentionally, by the use of whataboutism as a deflective defense. Judge Judy would have none of it. It would serve the nation well if everyone else followed her approach to claims based on whataboutism.

What If They Enacted a Tax Credit and Nobody Used It?

Last September, in Suppose They Gave a “Tax Break” And No One Used It?, I noted that many employers had planned to ignore the payroll tax deferral tax break put in place by the Trump Administration. In fact, many employers followed through and continued to withhold the usual payroll taxes to spare their employees the consequences of doing so, namely, an increase in payroll tax withholding in early 2021.

Now it appears that another tax break, this time at the state level, has gone unused. It’s not because taxpayers refrained from claiming it because of adverse consequences, but it was a tax break for which apparently no individuals qualified, or if they did, they either chose for some reason to ignore it or did not realize it existed. According to Arizona Department of Revenue, “for four consecutive fiscal years that no individual taxpayers have claimed the income tax credit for qualified employment of recipients of temporary assistance for needy families.” The Department explained that under section 43-224 of the Arizona statutes, individual taxpayers will no longer be eligible for that credit starting in 2021. Corporate taxpayers will continue to be eligible for the credit. The termination of the credit becomes fully effective when the legislature enacts the technical corrections legislation submitted by the Department of Revenue.

Curious, I searched for the statute in question. It provides as follows:

43-224. Individual and corporate income tax credits; annual report; termination of unused credits

A. On or before September 30 of each year, the department shall report to the directors of the joint legislative budget committee and the governor's office of strategic planning and budgeting on the amount of individual income tax credits and corporate income tax credits that were claimed in the previous fiscal year.

B. Except as provided by subsection C of this section, if, in any four consecutive reports under subsection A of this section, an individual or corporate income tax credit was not claimed by or allowed to any individual or corporate taxpayer, the director of the department of revenue shall:

1. Terminate the recognition and servicing of that credit for taxable years beginning from and after December 31 of the year in which the fourth report is issued.

2. Issue a public announcement, including on the department's website, of the termination of the credit under authority of this section.

3. Notify the governor's office of strategic planning and budgeting, the president of the senate, the speaker of the house of representatives, the joint legislative budget committee and the legislative council.

4. Include the repeal of all statutes relating to the terminated credit in technical tax correction legislation for enactment in the next regular session of the legislature. If the legislature fails to enact this legislation, the director shall rescind the termination of the credit.

C. The director may not terminate under subsection B of this section the recognition and servicing of any income tax credit that is subject by law to preapproval by the Arizona commerce authority unless over any period of four consecutive calendar years both of the following conditions occur with respect to the credit:

1. The department has not received notice of preapproval of any applicant or project for the credit from the Arizona commerce authority.

2. In the report issued under subsection A of this section, the credit was not claimed by or allowed to any taxpayer.

I wonder, but I am not about to try to research, whether there are any federal credits or deductions, or for that matter credits or deductions in other states, that have gone unclaimed by taxpayers for one or more years. Similarly, I wonder if any other states have provisions similar to Arizona’s section 43-224. What I really would like to see is an automatic repeal provision for tax breaks based on promises that are not fulfilled, coupled with a “give back” requirement for those tax breaks.

Stimulus Payments Make Tax Filing More Complicated (for Some)

Following the statute, the IRS has explained that eligibility for the 2021 stimulus payment is based on the taxpayer’s 2019 adjusted gross income: “Generally, if you have adjusted gross income for 2019 up to $75,000 for individuals and up to $150,000 for married couples filing joint returns and surviving spouses, you will receive the full amount of the second payment. For filers with income above those amounts, the payment amount is reduced.”

But if for some reason, a person did not receive a stimulus payment that they should have received, the person can claim the recovery rebate credit on their 2020 federal income tax return when they file in 2021. The IRS explains the credit in this statement. However, in the same statement the IRS explains, “The Recovery Rebate Credit is figured like the 2020 Economic Impact Payment, except that the credit eligibility and the credit amount are based on the tax year 2020 information shown on the 2020 tax returns filed in 2021.” That means that a person filing as single in 2019 who had adjusted gross income of $73,000 but who has adjusted gross income in 2020 of $110,000 will not get the credit even though they would have received the stimulus payment had the IRS managed to send it last month or this month.

Yet if the taxpayer did receive a stimulus check because 2019 adjusted income was low enough, but 2020 adjusted gross income was high enough to entitle the taxpayer to a lower, or no, stimulus payment, the taxpayer is not required to return the difference. Guaranteed, many taxpayers are going to be confused, and I daresay some tax return preparers will be challenged when trying to explain to their clients what is happening.

For a preview, take a look at the recovery rebate credit worksheet on page 59 of the DRAFT of Form 1040 instructions from the IRS. This is an example of why some people dread filing tax returns and others, albeit few, find it to be fun.

For Tax Purposes, Apparently a Hostel is Not a Hostel

About a month ago, in Not That More Proof Is Needed, But Here’s Another Example That Taxes Aren’t “Just Numbers”, I wrote about the dispute between Philadelphia tax officials and the Chamounix youth hostel. The tax officials sought to impose on the hostel the hotel occupancy tax. For this purpose, title 61 section 38.3 of the Pennsylvania statutes defines a hotel as “A building in which the public may, for a consideration, obtain sleeping accommodations, including establishments such as inns, motels, tourist homes, tourist houses or courts, lodging houses, rooming houses, summer camps, apartment hotels, resort lodges and cabins and other building or group of buildings in which sleeping accommodations are available to the public for periods of time less than 30 days.” Section 19-2401(5) of the ordinance enacted by Philadelphia to add to the hotel occupancy tax includes in the list of establishments treated as hotels “any place recognized as a hostelry.”

The hostel, operated by the Friends of Chamounix Mansion, is owned by the city of Philadelphia, to which the hostel pays an annual $1 rent. The hostel argues that it is not a hotel because it is a hostel, but the city poited out that other hostels in the city pay the tax, and notes that section 19-2401(5) of the ordinance enacted by Philadelphia to add to the hotel occupancy tax includes in the list of establishments treated as hotels “any place recognized as a hostelry.” After the city sent an invoice for more than $500,000 in back taxes and the hostel refused to pay, the city went to its Tax Review Board, which decided it had no jurisdiction. And that is how the dispute ended up in the Court of Common Pleas.

In that previous post, I wrote, “So this should be an easy case. . . . The tax applies to hostels and the organization admits it is a hostel.” The statutory language is clear, even though it leads to a questionable result. I suggested that the Friends of the Chamounix Mansion should ask City Council to enact an exception, though noting that such a move would open the door to a parade of exception seekers.

Now comes news that a Philadelphia Common Pleas judge has ruled that Philadelphia’s attempt to collect the taxes is invalid. The judge wrote that the tax applies to payments for “the use or occupancy by a transient of a room or rooms.” Thus, according to the judge, because the hostel charges visitors by the bed, not by the room, and provides the beds in dormitory-like group settings, the tax does not apply. The judge also held that after the hostel alleged it had not been notified by the city that it planned to assess the tax retroactively, the city failed to prove that it had provided the proper notice.

Dismissing the attempt to collect the tax because of a failure to provide proper notice makes sense. However, it only applies to the years in question and has no effect when and if the city attempts to collect the tax for other years. But the conclusion that charging by the bed and not by the room somehow causes the hostel not to fall within the statutory definition of hotel does not make sense. The hostel is a building. It is open to the public. It charges money for sleeping accommodations. The statute applies to establishments such as summer camps. Summer camps often house attendees in dormitory-type rooms, and charge by the bed. If the hostel is not within the statute, neither is a summer camp. Yet the statute clearly applies to summer camps, nor is it limited to the listed types of establishments because it uses the phrase “such as.” As of the time I am writing this, the judge’s opinion has not been published, and it remains to be seen whether it will be, because very few Philadelphia Common Pleas Court opinions are published. It would be helpful to learn if the judge found some other statute that limited the definition of hotel to establishments that charge by the room and not by the bed, or some other statute that provides an organization that admits it is a hostel is not subject to a tax that applies to hostels.

In my previous commentary, I noted, “My guess is that when the ordinance was enacted, no one was paying attention to what was happening in a mansion owned by the city and rehabilitated by the Friends of Chamounix Mansion.” Thus, the entire situation is another instance of legislative failure. We’ve seen quite a bit of that lately, at multiple government levels. We’ve seen too much of it.

Prison for Tax Return Preparer Who Does Almost Everything Wrong

I have written about tax return preparers getting into trouble because they falsify client returns or invent fake clients in order to get fraudulent refunds, in posts such as Tax Fraud Is Not Sacred, Another Tax Return Preparation Enterprise Gone Bad, More Tax Return Preparation Gone Bad, Are They Turning Up the Heat on Tax Return Preparers?, Surely There Is More to This Tax Fraud Indictment, Need a Tax Return Preparer? Don’t Use a Current IRS Employee, Is This How Tax Return Preparation Fraud Can Proliferate?, When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, Tax Return Preparer Fails to Evade the IRS, and Fraudulent Tax Return Preparation for Clients and the Preparer.

Now comes a report of more bad news for tax return preparers who are thinking that fraudulent return preparation is an easy way to make quick money. According to this news release from the Department of Justice, a tax return preparer in Newport News, Virginia, has been sentenced to 27 months in prison for preparing false tax returns. The preparer owned a tax return preparation business that she ran not only in her home but also in hotel rooms. Over a five-year stretch ending in 2018, she put fraudulent credits and deductions on returns in order to increase her clients’ refunds. On top of that, she did not sign the returns as preparer, so that the returns appeared to be self-prepared by the taxpayers. And if that wasn’t enough, she did not go over the completed returns with her clients before they signed. And, as the bonus cherry on top, she did not give her clients copies of the returns even when they asked for them. She filed more than 400 false returns, creating at least $700,000 in refunds to which the taxpayers were not entitled.

A list of what tax return preparers should do includes, among other things, filling out returns accurately, review the return with the client, sign as preparer, and provide a copy to the client. It's almost as though the preparer in question looked at such a list and intentionally ignored each item. That’s a recipe for the outcome experienced by this tax return preparer and that looms on the horizon for others who imitate what she did.

Tax Cuts, Tax Repeals: When Will They Ever Learn?

I have written so often about the failure of supply-side trickle-down tax and economic theory that I won’t even try to list all of the posts in which I have tried to explain why tax cut legislation based on that flawed theory has failed to deliver the promises provided by its advocates. Suffice it to say that it’s a bad theory that refuses to go away despite its persistent failure.

An important aspect of life is learning from one’s mistakes. An equally important aspect is learning from the mistakes of others. But apparently the Republican governor and legislators of Mississippi either haven’t been paying attention or are simply so beholden to the handful of wealthy individuals who benefit from tax cuts that they are pursuing an unwise dream, the repeal of the state income tax.

According to this story, the governor plans to ask the legislature to phase out the personal income tax. Four years ago, the state enacted legislation that phases out the 3 percent bracket by 2022. The current governor was lieutenant governor when that law was passed.

The governor claims that the state “could be more competitive” if it also eliminates the 4 percent and 5 percent brackets. In effect, that would eliminate the state income tax. The governor calls the income tax “one huge speed bump to long-term economic growth and recovery.”

The lieutenant governor, also a Republican, cautions that no one should rush into the repeal because of the economic uncertainty arising from the pandemic. He noted that the state needs resources to increase teacher pay and to strengthen state services. He pointed out that eliminating the income tax would reduce revenue by hundreds of millions of dollars of revenue that the state would need to “make up” somehow. That means either reducing state services significantly or increasing or enacting a different type of tax. And here is where the nonsense begins. Supporters of the income tax repeal claim that repeal would create more economic activity, creating revenue growth, presumably in other taxes. That fantasy has never played out in any jurisdiction in which the trickle-down theory and supply-side economics have driven tax policy. The lieutenant governor noted that Mississippi would need a “tremendously profitable” year to make up the lost revenue, pointing out that the state hasn’t had that sort of growth. Though tax repeal advocates would claim that the slow growth is due to taxes, careful analysis would demonstrate that high growth requires things that cost money, such as quality education, reliable and adequate infrastructure, and affordable health care.

After looking at Mississippi’s tax rate schedule, the problem is obvious. The 4 percent rate kicks in at $4,000 in 2021 and $5,000 in 2022, and the 5 percent rate kicks in at $10,000. That lumps working class taxpayers in the same category as multi-millionaires and billionaires. One of the organizations supporting the repeal, a group dedicated to limited government, claims that repealing the income tax would give Mississippi workers more money to spend, arguing that “increased consumption in the economy drives new jobs and higher wages.” That argument supports the idea of eliminating the income tax for the poor and increasing it for the wealthy. Why? The wealthy plow relatively little of their money into consumer goods and services. On the other hand, to apply the top rate to someone with relatively little income makes no sense.

Opponents of the proposal are pointing the the Kansas experience, about which I’ve also written numerous commentaries. Simply put, when Kansas reduced its income tax rates substantially, it ended up in economic agony. And that was without completely repealing its income tax. As one opponent noted, investing in education would make Mississippi “more livable.” Indeed. Long-term investment in education, infrastructure, and health care is a much more solid foundation for growth than is the superficially appealing tax cut approach.

Grabbing Tax Breaks, Sports Franchises, Casinos, and Now, a Water Park

Readers of this blog know that I oppose using tax breaks to finance construction of facilities for, or operations of, professional sports franchises owned by wealthy individuals. They also know that I oppose using tax breaks to help wealthy individuals and corporations engage in business ventures. The tax break grab is justified by claims that they are doing something “good for the public,” but this reasoning would support tax breaks for almost everyone, thus destroying government and civilization. I have explained this tax break grab game in posts such as Tax Revenues and D.C. Baseball, four years ago in Putting Tax Money Where the Tax Mouth Is, Taking Tax Money Without Giving Back: Another Reality, and Public Financing of Private Sports Enterprises: Good for the Private, Bad for the Public, Taking and Giving Back, If You Want a Professional Sports Team, Pay For It Yourselves; Don’t Grab Tax Dollars, Is Tax and Spend Acceptable When It’s “Tax the Poor and Spend on the Wealthy”?, Tax Breaks for Broken Promises: Not A Good Exchange, Tax Breaks for Wealthy People Who Pretend to Be Poor, When One Tax Break Giveaway Isn’t Enough, and It’s Not Just Sports Franchise Owners Grasping at Tax Breaks.

For decades, sports franchise owners who pretend to be poor have sought tax breaks that ultimately burden those who aren’t wealthy. Casino owners have jumped into the tax break buffet. And now comes news from the Philadelphia Inquirer of a tax break pumped out to the developer of a water park in Atlantic City, New Jersey. The tax break consists of an annual rebate of as much as $2.5 million in sales tax revenue generated by the water park for 20 years, along with tax breaks on materials used to build the park. Who approved the tax break? The Casino Reinvestment Development Authority.

According to the mayor of Atlantic City, the tax break is a “true game-changer.” I’m not sure what qualifies as a false game changer. Perhaps realizing that the tax break simply shifts the tax burden to the residents of Atlantic City, most of whom are far from wealthy, or to the residents of New Jersey? The mayor is excited because Atlantic City is dominated by gambling and wants to focus on family attractions. He claims, “If you build it, they will come.” Then, fine, build it, people pay to use the water park, and the owner of the water park makes money. So why is the tax break needed? There are two possible reasons. The first is that not enough people will show up to make the water park profitable, so the owner of the water park, working with the Casino Reinvestment Development Authority, decides that taxpayers, including those who don’t use water parks, should provide the financial resources not provided by the water park customers. Why not raise admission fees? The answer is that increased admission fees would reduce the number of customers. In other words, the project is financially unfeasible. The second is that the water park would be profitable, but a tax break would make it even more profitable, just another manifestation of the disjointed world in which we live, a world in which profits are never sufficient.

What would happen if someone wanted to start a necessary business in Atlantic City? Would the person get tax breaks for twenty years? Would the person get tax breaks on the equipment or services that are purchased to start the business? I doubt it.

The history of the project is interesting. In 2014, the Showboat Casino closed. It was purchased by the water park developer in 2016 and reopened as a non-gambling hotel. Three years later he proposed resuming gambling activities in the hotel, and obtained preliminary approval to seek a casino license. If approved, it would be Atlantic City’s tenth casino. It is unclear whether the casino license will be pursued. The water park is proposed for vacant land next to the Showboat. A previous attempt to build a water park, sought by a different developer, fell apart when financing could not be obtained. The same developer also tried unsuccessfully to build a water park in the environs of Atlantic City. Eight years ago, a third group proposed a water park in the city but it, too, failed.

As I wrote in It’s Not Just Sports Franchise Owners Grasping at Tax Breaks: “Here is how truly free capitalism, which doesn’t exist in this country, works. A developer proposes a project. If it’s a home run, investors flood the developer’s inbox and voicemail. If it’s a pretty good idea, enough investors show up. If an insufficient number of investors or investment dollars show up, then it’s a project not worth pursuing.” [Water parks] are not essential functions of society and do not deserve tax breaks, especially when taxpayers are lining up at food banks, facing eviction, and losing jobs. Public dollars, that is, money paid by taxpayers, should be put into facilities and projects over which the public, not oligarchs, have control. The price for public money, whether tax breaks or kickbacks of fees, should be public control.” So, It seems to me that someone who wants to build a water park should run the numbers. If the numbers pan out, financing should be available. If financing is not available, it’s a good indication that the project doesn’t have a promising future. If the only way to make the project work is to ask taxpayers to pay more in order to give tax breaks to the proponent, then the taxpayers should be given the opportunity to answer a referendum question, “Are you in favor of tax breaks in the amount of [whatever], to be granted for a period of [so many years], to be provided to [name of proponent or developer]?” I am confident the tax break seekers would recoil at the thought of making the tax break dependent on a taxpayer referendum.

Vacation Home Rental Arrangements Pose Tax and Other Legal Questions

A long-time reader shared with me a situation he has seen raised on tax forums. A parent owns a vacation home that sits empty most of the year. The parent doesn’t have the desire to invest time and energy renting out the property. The parent’s child suggests that the parent let the child list the property on AirBnB, handle the contracts, and deal with the tenants. The parent tells the child to go ahead, keep the rental proceeds, but make sure the property isn’t rented out during July and August, the two months the parent has always used the property. So the child registers with AirBnB and is listed as the landlord in the contracts with tenants.

The reader asked if the parent has rental income, pointing out that the parent owns the property and has the legal right to rent the property. The reader suggested that under Lucas v. Earl, 281 US 111 (1930), the parent should not be able to assign the rental income to the child. Yet the child is doing all of the work to generate the rental income, and the parent is not giving up anything or being inconvenienced. The reader wondered if the transaction should be treated as a loan of the property by the parent to the child.

My response is that the child is acting as the agent of the parent. The parent owns the property. The parent can end the arrangement whenever the parent chooses to do so. The leeway granted to the child in terms of handling the specific details of renting out the property doesn’t shift ownership of the property or the income it generates from the parent to the child any more than leaving the details of a brokerage account investments to the broker causes the account income to shift from its owner to the broker. The rental income is the parent’s, the rental expenses are the parent’s, and whatever net income the parent permits the child to retain is a combination of compensation to the child for his rental agent activities, which is a fact question, and to the extent the net income exceeds reasonable compensation for the child’s services, a gift by the parent to the child. So the parent’s adjusted gross income would reflect an amount equal to the amount of the gift, reflecting gross income equal to the rental income, deductions equal to the rental expenses and the compensation to the child. Presumably, the child acts as an independent contractor, so the parent would not have any employer withholding obligations.

The reasoning behind my response reflects what would happen if the parent entered into the same arrangement with an unrelated third party. The twist would be that to the extent the third party kept all of the net income, the facts would indicate that the entire net income kept by the third party was compensation to the third party. Of course, to the extent that amount exceeded a fair market value compensation amount, the parent would not enter into the same arrangement, which is further support for concluding that when the arrangement is with the child, the excess kept by the child is a gift by the parent to the child.

I pointed out that the numbers could be tricky. Suppose that the depreciation on the property exceeds the net cash income. Because of the parent’s use of the property (presumably the days of use in July and August exceed the greater of 14 or 10 percent of the rental days) section 280A would block any loss (except to the extent somehow interest and taxes alone exceeded the net rental income). But that would not change the tax treatment of the amounts kept by the child, nor would it diminish the parent’s rental income.

Treating the arrangement as a loan of the property simply complicates matters, because it would require a determination of deemed rent paid by the child to the parent, and would not prevent the parent from having some sort of rental income. There probably are better ways to handle the arrangement. For example, the parent and the child could enter into a partnership, with the parent contributing the property and the child contributing services. That would permit some of the net income to be reported by the child rather than by the parent. The arrangement as described does not have sufficient indicia of an intent to create a partnership. Another example would be transfer of the property to the child, with a reserved right of occupancy. Whether the transfer should be a gift, a sale, or a part-gift-part-sale, and the other details of the transfer, depend on the particular facts and circumstances of the parent’s financial and tax situation, whether the child is an only child, and similar concerns.

My guess is that when these arrangements occur, neither the parent nor the child thinks about the tax and other consequences. There is a conversation, the idea makes sense to the parent, the parent agrees, and off goes the child to list the property for rent. And if something goes awry, tax or otherwise, disputes will arise. For example, who gets sued and is ultimately responsible if a hazard on the property causes physical injury to a tenant? Who is listed as owner on the property insurance policy? Ultimately, it’s not just a tax issue, and the assistance of legal counsel is highly recommended.