Here is the Court:
With
respect to petitioner’s Federal income tax for 2013 and 2014, the Internal
Revenue Service … determined deficiencies and accuracy-related penalties as
follows:
Year Deficiency Penalty
2013
$338,752 $67,750
2014
7,030,829 1,406,166
I cannot turn down at least skimming a Tax Court case
with penalties well over $1.4 million.
Turns out our protagonist is an attorney. He more than
dabbled in tax practice:
· During
law school, he took courses in tax law and participated in a tax clinic
assisting low-income taxpayers
· During
school he was employed by Instant Tax Services (ITS) in Baltimore. ITS operated
on a franchise basis, and he was the area manager for four storefronts. After graduation
he served as general counsel for five years.
· While
serving as general counsel, he started acquiring storefronts on his own behalf.
By 2013 he owned he owned franchises for 19 locations.
· These
stores were profitable. Aggregate profits exceeded $800 grand over the years
2008 through 2010.
You know, sometimes I wonder what swoon I was in to spend
an entire career with a CPA firm. It appears that the money is in setting up
and franchising seasonal tax preparation storefronts.
In 2012 ITS attracted the attention of the U.S.
Department of Justice – and in a bad way. In 2013 a district court permanently
enjoined ITS and its owner from having anything to do with preparing federal
tax returns.
COMMENT: Ouch.
Our protagonist was good friends with the owner of
ITS. So close, in fact, that Justice refused to allow him to take over the ITS tax
preparation business.
COMMENT: Something about helping the ITS owner hide around $5 million.
A third party stepped up to take over the ITS business.
This new person formed Great Tax LLC, and many of the ITS franchisees came on
board.
Our protagonist was not to be denied, however. He
bought the tax preparation software from ITS, put it in an entity called
Refunds Plus, LLC (RP), and in turn leased the software to Great Tax LLC.
COMMENT: There is existing commercial tax preparation software, of varying levels of sophistication. We, for example, use software that allows for very complicated returns. It costs a fortune, by the way. There is other software that tones it down a bit, as perhaps the tax practice prepares few or no returns of great complexity. In any event, writing my own software seems a monumental waste of time and money, except for the following tell:
“using this software to process tax returns for GTX customers, most or all of whom expected refunds.”
Most or all? Riiiigggghht.
Perhaps it is just as well that I have stayed with a CPA firm for all these
years.
Great Tax LLC paid our protagonist $100.95 for each
return it processed and which claimed a refund.
COMMENT: Was a non-refund return free?
Our protagonist worked out an arrangement with Great
Tax which allowed him to take money out of Great Tax’s bank account. He also
opened a bank account for RP. He moved over $3 million from Great Tax during
2014.
However, he did not deposit the monies from Great Tax
into the RP bank account.
So where did the money go?
Who knows.
Since this went to Court, we know that the IRS
figured-out what was going on.
Our protagonist agreed that he owed the taxes, but he
requested abatement of the penalties for reasonable cause.
He has my attention: what was his reasonable cause?
· He
was a cash-basis taxpayer.
And I like meatball sandwiches. Pray tell what that
has to do with anything.
· There
was little to no cash activity in the RP business bank account.
Seriously? Was he aware that failure to deposit funds
in its entity-related account is an indicia of fraud?
· He
relied on an attorney.
Reliance on a professional can provide reasonable
cause. Tell me more.
· She
had been working as a full-time lawyer for about a year.
Not impressed.
· She
had acquired some of the former ITS franchises.
Had to be a story somewhere.
· She
had represented him when the IRS pressed in a separate action for abuse of the
earned income credit.
We just learned where all those refund returns came
from.
Let me get this right: his reasonable cause argument
is that an attorney prepared his return?
· No.
Who prepared the return?
· An
accountant.
Why then are we talking about an attorney?
· She
advised our protagonist that he was not required to report the $3 million as gross
receipts for 2014.
Our protagonist in turn told the accountant the same
thing?
· Yep.
He relied on an attorney.
If this is true, she may be in the running for the
worst attorney of the decade.
And why would he – an experienced attorney with some
tax background – listen to an attorney with limited experience?
· The
attorney and our protagonist were codefendants in a lawsuit alleging
misappropriation of funds.
Yessir.
The Court requested documentary evidence that an
attorney would advise that moving approximately $3 million to bank accounts of one’s
choosing was not taxable income.
I’m in: I want to see those documents myself.
· She
supplied no evidence of letters, memos or e-mails – dated before those returns
were filed – in which she advised petitioner about the reporting of RP’s gross
receipts.”
Rain is wet. Nighttime is dark.
How did the Court decide this mess?
We did not find either’s
testimony on that point credible. Petitioner’s testimony was self-serving, and [the
attorney] did not strike the Court as an objective or candid witness.”
The Court did not believe a word.
Our protagonist owed the tax. He owed the penalties.
Frankly, I am surprised that the IRS did not go after
fraud in this case. Perhaps the IRS was prioritizing its limited resources.
I would say our protagonist got off easy.
Folks, this is not tax practice. You know what it is.
Do. Not. Do. This.
Our case this time was Babu v Commissioner, TC Memo 2020-21.