I am reading a case concerning an Uber driver who ran afoul of Form 1099 requirements.
The amounts at issue were impressive.
Tax $193,784
Penalties $ 85,354
Robert Nurumbi drove for Uber in 2015. He ran the
business through a single-member LLC and used two bank accounts. Business was
doing well. He bought multiple cars which he rented out to family and friends
who drove for Uber through him. The twist to the tale is that all Uber payments
were paid to the LLC’s bank account - meaning Nurumbi’s bank account, as he was
the LLC - and he in turn would pay his family and friends.
Sounds like he established a small business, with
employees and all.
Except that he treated his drivers as independent
contractors, not employees. I get it: Uber is gig economy.
Every week Uber would pay Nurumbi. He would transfer
the family-and-friends portion to a second bank account. He would sometimes pay
them by electronic transfer; at other times he paid in cash. He did not keep
documentation on these payments, and he further muddied the waters by also paying
nondriver expenses from the second bank account.
He filed his 2015 personal tax return showing wages of
approximately $19 grand.
Uber meanwhile issued him two 1099s totaling
approximately $543 thousand.
The IRS saw a case of unreported income.
It is not clear to me how Nurumbi prepared his tax return,
as a self-employed does not receive a W-2 from himself. He should have filed a
Schedule C with his return, as Schedule C reports self-employed business
activity. I would have expected his C to report gross receipts of approximately
$543 grand, with a bunch of expenses reducing the net to approximately $19 thousand.
The IRS would have matched Uber’s 1099 to the gross receipts on the Schedule C
and spared us the drama.
However, Nurumbi did not prepare his taxes this way.
Dumb, I am thinking, but not necessarily fatal.
Nurumbi would submit a Schedule C (or a facsimile thereof) and argue his point.
But the damage had been done. Nurumbi had spotted the
IRS gross income of $543 grand. He next had to show expenses bringing his net income
down to $19 thousand. This gave the IRS the chance to say: prove it.
Which is why we keep records: invoices, bank
statements, cancelled checks, QuickBooks files and so forth.
Nurumbi had a problem. He kept next to no records. He
had not issued 1099s. His records in many cases were inadequate to even
calculate a 1099.
Nurumbi played a wild card.
There is a court-created exception to the customary
documentation requirements. It is called the Cohan rule, and it refers to the
person and case that prompted the exception decades ago. The rule has two key
requirements:
(1) One must prove that the expenditure occurred,
and
(2) One must prove that the expenditure relates to
and was incurred in one’s trade or business.
Even then, the exception will probably not yield the
same result as keeping records. The Court may spot you something, but that
something is likely to be much less than what you actually incurred.
Nurumbi’s records were so feckless that it would have
been unsurprising if the Court allowed nothing.
Except …
Remember that he sometimes paid his drivers
electronically from the second bank account.
The Court spotted him a deduction of approximately
$157 grand for those payments.
What about the cash payments to his drivers?
No dice.
Let’s summarize the damage.
The IRS increased his 2015 income from $18 to $543 thousand.
The Court allowed a deduction of approximately $157 thousand.
There was another significant deduction that we did
not discuss: the fee paid to Uber itself. That was approximately $163 thousand.
That still leaves a bump to income of almost $205
grand.
I believe that Nurumbi paid the money to his family
and friends.
But there was no tax deduction.
To be fair, he is the one who decided to keep the
payments under-the-table. While not stated, I suspect this … flexibility … was
a key factor in the Court’s decision.
Our case this time was Nurumbi v Commissioner,
TC Memo 2021-79.
