Downside To A Tax Election

Many tax professionals believe that computerization has led to increasing complexity in the tax Code. If one had to prepare returns by hand – or substantially by hand – the current tax Code could not exist. Taxpayers would almost certainly need the services of a professional, and professionals can only prepare so many returns in the time available – despite any wishes otherwise.

COMMENT: There is, by the way, a practitioner in New Jersey who still prepares tax returns by hand. His name is Robert Flach, and he has a website (http://wanderingtaxpro.blogspot.com) which I visit every now and then. I do not share his aversion to tax software, but I respect his stance.

That complexity has a dark side. It occurred to me as I was reading a recent case concerning tax elections.

Tax elections are no longer the province of the big wallets and the Fortune 500. You might be surprised how many there are and further surprised with the hot water in which they can land you.

Examples include:

(1)  If you are a small landlord there is an election that will allow you to deduct repairs below a certain dollar limit without second guessing by the IRS. It is called the “safe harbor small taxpayer” election, and it is available as long as the cost of your property is $1 million or less. Mind you, you can have a collection of properties, but each property has to be $1 million or less.

(2)  There is an election if you want out of first-year depreciation, which is now 100% of the cost of qualifying property. Why would you do this? Perhaps you do not need that all 100%, or the 100% would be used more tax-efficiently if spread over several years.

(3)  You may have heard about the new “qualified business income” deduction, which is 20% of certain business income that lands on your individual tax return, perhaps via a Schedule K-1. The IRS has provided an opportunity (a very limited opportunity, I would argue) to “aggregate” those business together. To a tax nerd. “aggregate” means to treat as one, and there could be compelling tax reasons one would want to do so. As you guessed, that too requires an election.

The case I am looking at involves an election to waive the carryback of a net operating loss.

COMMENT: By definition, this is a pre-2018 tax year issue. The new tax law did away with NOL carrybacks altogether, except in selected and highly specialized circumstances.

The taxpayers took a business bath and showed an overall loss on their individual return. The tax preparer included an election saying that they were giving up their right to carryback the loss and were electing instead to carryforward only.

COMMENT: There can be excellent reasons to do this. For example, it could be that the loss would rescue income taxed at very low rates, or perhaps the loss would be negated by the alternative minimum tax. One has to review this with an experienced eye, as it is not an automatic decision

Sure enough, the IRS examined a couple of tax years prior to the one with the big loss. The IRS came back with income, which meant the taxpayers owed tax.

You know what would be sweet? If the taxpayers could carryback that NOL and offset the income the IRS just found on audit.

Problem: the election to waive the carryback period. An election that is irreversible.

What choice did the taxpayers have? Their only argument was that the tax preparer put that election in there and they did not notice it, much less understand what it meant.

It was a desperation play.

Here is the Court:

Though it was the error of the [] return preparer that put the [] in this undesirable tax position, the [] may not disavow the unambiguous language of the irrevocable election they made on their signed 2014 tax return.

As the Code accretes complexity, it keeps adding elections to opt-in or opt-out of whatever is the tax accounting de jour. I suspect we will read more cases like this in upcoming years.

Our case this time was Bea v Commissioner.

UberEats and Employer-Provided Lunches

It is 50 pages long. This is not the time of year for me to read this in detail.

I am referring to an IRS Technical Advice Memorandum. A TAM means that a taxpayer is under examination and the revenue agent has a question. The TAM answers the question.

This one has to do with excluding meals as income to employees when the meals are for the “convenience of the employer.”

I guess I long ago selected the wrong profession for this to be an issue. The instances have been few over the years where an employer has regularly brought in dinner during busy season. I had one employer who would do so on Tuesdays and Thursdays, but the offset was working until 9 p.m. or later. As I recall, one virtually needed a papal decree to deviate from their policies, and they had policies like the Colonel has chicken. At this age and stage, I would not even consider working for them, but at the time I was young and dumb.

The classic “convenience of the employer” example is a fireman: you have to be around in case of emergencies. There are other common reasons:

·      To protect employees due to unsafe conditions surrounding the taxpayer’s business premises;

·      Because employees cannot secure a meal within a reasonable meal period;

·      Because the demands of the employees' job functions allow them to take only a short meal break.

What has exacerbated the issue is not your job or mine, but the Googles and Microsofts of the world. For example, Google’s headquarter in Mountain View, California has over 15 cafeterias. Not to be overshadowed, Microsoft in Redmond, Washington has over two dozen. Why would one even bother to go to a grocery store?

Not my world. Not my reality.

The “reasonable meal period” has generally meant that there are limited dining options nearby. I have a family member who works at a nuclear facility. I do not know, but I would expect options thin-out the closer you get to said facility. That reasonable meal period is likely legit in his case.

The TAM is presented in question and answer form. Here is one of the answers:

While the availability of meal delivery is not determinative in every analysis concerning …, especially in situations where delivery options are limited, meal delivery should be a consideration in determining whether an employer qualifies under this regulation and generally when evaluating other business reasons proffered by employers as support for providing meals for the “convenience of the employer” under section 119.

So the IRS is working to incorporate the rising popularity of GrubHub and UberEats into the taxation of employer-provided meals. Wow, if you practice long enough…

I am not too worried about it, other than prompting a chuckle. Why? Because here at CTG command-center we do not provide the occasional lunch because of limited dining opportunities. Rather we bring-in lunch because of in-house training (as an example), and we want everyone there.

Think about it: we give you a sandwich and you get to hear me talk about taxes and watching paint dry.

I suspect you would rather just buy your own lunch.

IRS Individual Tax Payment Plans

I anticipate a question about an IRS payment plan this tax season. It almost always comes up, so I review payment options every year. It occurred to me that this topic would make a good post, and I could just send a link to CTG if and when the question arises.

Let’s review the options for individual taxes. We are not discussing business taxes in this post, with one exception. If the business income winds up on your personal return – say through a proprietorship or an S corporation – then the following discussion will apply. Why? Because the business taxes are combined with your individual taxes.

YOU DO NOT HAVE THE MONEY BUT WILL SOON

You do not have the money to pay with your return, but you do have cash coming and will be able to pay within 120 days. This is a “short-term” payment plan. There is no application fee, but you will be charged interest.

BTW you will always be charged interest, so I will not say so again.

YOU OWE $10,000 OR LESS

You cannot pay with the return nor within 120 days, but you can pay within 3 years. This is the “guaranteed” payment plan. As with all plans, you have to be caught up with all your tax filings and continue to do so in the future.

If you are self-employed you can bet the IRS will require that you make estimated tax payments. I have seen this requirement sink or almost sink many a payment plan, as there isn’t enough cash to go around.

The IRS says they will not allow more than one of these plans every 5 years. I have had better luck, but (1) I got a good-natured IRS employee and (2) the combined tax never exceeded $10 grand. Point is: believe them when they say 5 years.

YOU OWE MORE THAN $10,000 BUT LESS THAN $25,000

This is a “streamlined” payment plan. Your payment period can be up to six years.  

As long as your balance is under $25 grand, the IRS will allow you to send a monthly check rather than automatically draft your bank account.

YOU OWE MORE THAN $25,000 BUT LESS THAN $50,000

This is still a “streamlined” plan, and the rules are the same as the $10-25 grand plans, but the IRS will insist on drafting your bank account.

DOWNSIDE TO THE GUARANTEED AND STREAMLINED PLANS

Have variable income and these plans do not work very well. The IRS wants a monthly payment. These plans are problematic if your income is erratic – unless you sit on a stash of cash no matter whether you are working or not. Then again, if you have such stash, I question why you are messing with a payment plan.

UPSIDE TO THE GUARANTEED AND STREAMLINED PLANS

A key benefit to both the guaranteed and the streamlined is not having to file detailed financial information. I am referring to the Form 433 series, and they are a pain. You have to attach copies of bank statements and provide documentation if you want more than IRS-provided amounts for certain cost-of-living categories. Rest assured that – whatever you think your “essential” bills are – the IRS will disagree with you.

Another benefit to the guaranteed and streamlined is avoiding a federal tax lien. I have had clients for whom the threat of a lien was more significant than the endless collection letters they received previously. Once the lien is in place it is quite difficult to remove until the tax debt is substantially paid.

YOU OWE MORE THAN $50,000

If you go over $50 grand you will have to provide Form 433 financial information, work your way through the cost-of-living categories, fight (probably) futilely with the IRS to spot you more than the tables and then agree on an amount that will pay off the debt over your remaining statute-of-limitations (collections) period.

If you are at all close to the $50,000 tripwire, SERIOUSLY consider paying down the debt below $50,000. The process, while not good times with old friends, will be easier.

YOU CANNOT PAY IT ALL OVER THE REMAINING COLLECTIONS PERIOD

It is possible that – despite the best you can do – there is no way to pay-off the IRS over the remaining statute-of-limitations (collections) period. You have now gone into “partial pay” territory. This will require Form 433 paperwork and working with a Collections officer. If one is badly injured in a car wreck and has indefinitely decreased earning power, the process may be relatively smooth. Have a tough business stretch but retain substantial earning power and the process will likely not be as smooth. 

HOW TO APPLY

There are three general ways to obtain a payment plan:

(1)   Mail

(2)   Call

(3)   Website

There is a charge for anything other than the 120-day plan. The cheapest way to go is to use the IRS website, but the charge – while more if not using the website – is not outrageous.

You use Form 9465 for mail.

The website is https://www.irs.gov/payments/online-payment-agreement-application for online.

Set aside time if you intend to call the IRS. You may want to download a movie.

Do You File An Accurate Return Or A Timely Return?

I have alerted the staff here at CTG command center that I prefer and expect to file all business returns, especially passthrough returns, on a timely basis, irrespective of whether we have all required information. Granted, there is some freeplay – we cannot file if we have no information, for example, or if so much information is missing that a filing would not be construed as substantially correct.

The reason?

Penalties for late filing.

Let’s say that you and a partner have an LLC. The return is due in March and can be extended to September. You file an extension but, for whatever reason, do not file the partnership return until December.

What just happened?

(1)  You might think that the return is only 2 months late, as it was extended until September. That is incorrect. You have until September 15 to file the return. Fail to do so, and it is as if you never filed an extension. That return is now late beginning March 16.

(2)  So what? Here is so what: the penalty is $195 per K-1 per month. There are two K-1s: you and a partner. The penalty is $390 per month. Multiply that by the number of months, and you can see how this gets expensive fast.

(3)  You might be able to get out of this penalty. Revenue Procedure 84-35 allows an avenue for small partnerships with 10 or fewer partners, for example. Depending on the facts, however, there may be no easy out. Like fire, you do not want to be playing with this.

There are a hundred variations on the theme. Let me give you one. This one involves an estate tax return. Let’s review the key points, and you decide whether there is cause for a late-filing penalty. 

• The decedent died February 24, 1986.
• On May 6, 1986 the estate was admitted to probate.
• The wife was appointed executrix.
• The estate hired an attorney.
• The estate tax return was due November 24, 1986 (nine months after death). No extension was filed.
• In January, 1987 the executrix filed an inventory with the probate court. Four assets were listed but given no value. One of those assets was an interest in a trust, which asset took on a life of its own. 
• The assets which were valued - that is, excluding the four which were unvalued - were enough the require the filing of a federal estate tax return.
• In 1991 (five years later) the estate filed suit concerning the trust.
• In 1994 the common pleas court entered judgement.
• In 1996 the executrix filed a revised and final accounting with the probate court.
•  In 1997 the estate finally filed a federal estate tax return. 

     The IRS immediately went after late filing penalties. Why wouldn’t it? The tax return was filed more than 10 years after the decedent died.

The gross estate was over $2 million. Those items that could not initially be valued came in around $200 grand.

The IRS charged in and chanted its standard wash-rinse-repeat hymn: the taxpayer cannot escape penalties for the non-extension or late filing of a return pursuant to the Supreme Court’s Boyle decision.

But the estate punched back with reasonable cause: the executrix did not have values for some of the assets that were eventually distributable from the estate. Heck, they had to sue to even get to some of those assets!

What do you think? Is there reasonable cause?

Let me give you a clue: the disputed assets were about 10% of the final estate.

And we come back to a phrase I used early on: “substantially correct.” Tax Regulations require only that the estate return be “as complete as possible.” There are numerous cases where pending litigation – even if the outcome is expected to materially affect the estate’s final tax liability – has not been considered reasonable cause for not filing a return.

The Court pointed out two things:

(1)  The executrix knew (or should have known) early on that the estate was large enough – even excluding the disputed items – to require filing a return.

(2)  She could have paid at least the tax on that amount, or estimated and also included tax on the disputed items.

a.     The Court pointed out that disputed assets were only 10% of the estate.

The executrix did not have reasonable cause. She should have filed and paid something, even if she later had to amend the estate tax return.

My thoughts?

I agree with the Court. I believe the estate was ill-advised. 

There is a sub-story in here concerning the attorney (who thought the accountant was taking care of the estate tax return) and the CPA (who was never told to prepare an estate tax return, at least not until years after the return would have been due). Why didn’t the attorney reach out earlier to the CPA, at least for peace of mind? Who knows? Why didn’t the long-standing CPA – who would have known the decedent - ask about an estate return? Again, who knows?

Our case this time was Estate of Thomas v Commissioner.

COMMENT: I am looking (translation: I printed but have not yet read) a case where a taxpayer did use estimates but still got nailed with penalties. We may come back to that one in the near future.

A Rant On IRS Penalties

I am reading that the number one most-litigated tax issue is the accuracy-related penalty, and it has been so for the last four years.

The issue starts off innocently enough:

You may qualify for relief from penalties if you made an effort to comply with the requirements of the law, but were unable to meet your tax obligations, due to circumstances beyond your control.

I see three immediate points:

(1)  You were unable to file, file correctly, pay, or pay in full

(2)  You did legitimately try

(3)  And it was all beyond your control

That last one has become problematic, as the IRS has come to think that all the tremolos of the universe are under your control.

One of the ways to abate a penalty is to present reasonable cause. Here is the IRS:

Reasonable cause is based on all the facts and circumstances in your situation. The IRS will consider any reason which establishes that you used all ordinary business care and prudence to meet your federal tax obligations but were nevertheless unable to do so.

How about some examples?

·       Death

Something less … permanent, please.

·       Advice from the IRS

·       Advice from a tax advisor

That second one is not what you might think. Let’s say that I am your tax advisor. We decide to extend your tax return, as we are waiting for additional information. We however fail to do so. It got overlooked, or maybe someone mistakenly thought it had already been filed. Whatever. You trusted us, and we let you down.

There is a Supreme Court case called Boyle. It separated tax responsibilities between those that are substantive/technical (and reasonable cause is possible) and those which are administrative/magisterial (and reasonable cause is not). Having taken a wrong first step, the Court then goes on to reason that the administrative/magisterial tasks were not likely candidates for reasonable cause. Why? Because the taxpayer could have done a little research and realized that something – an extension, for example - was required. That level of responsibility cannot be delegated. The fact that the taxpayer paid a professional to take care of it was beside the point.

So you go to a dentist who uses the wrong technique to repair your broken tooth. Had you spent a little time on YouTube, you would have found a video from the UK College of Dentistry that discussed your exact procedure. Do you think this invites a Boyle-level distinction?

Of course not. You went to a dentist so that you did not have to go to dental school. You go to a tax CPA so that do not have to obtain a degree, sit for the exam and then spend years learning the ropes.      

·     

• Fire, casualty, natural disaster or other disturbances
• Inability to obtain records
• Serious illness, incapacitation or unavoidable absence of the taxpayer or a member of the taxpayer’s immediate family

I am noticing something here: you are not in control of your life. Some outside force acted upon you, and like a Kansas song you were just dust in the wind.

How about this one: you forgot, you flubbed, you missed departure time at the dock of the bay? Forgive you for being human.

This gets us to back to those initially innocuous string of words:

          … due to circumstances beyond your control.”

When one does what I do, one might be unimpressed with what the IRS considers to be under your control.

Let me give you an example of a penalty appeal I have in right now. I will tweak the details, but the gist is there.

·   You changed jobs in 2015 

·   You had a 401(k) loan when you left

·   Nobody told you that you had to repay that loan within 60 days or it would be considered a taxable distribution to you. 

·   You received and reviewed your 2015 year-end plan statement. Sure enough, it still showed the loan.  

·   You got quarterly statements in 2016. They also continued to show the loan. 

·    Ditto for quarter one, 2017. 

·   The plan then changed third-party administrators. The new TPA noticed what happened, removed the loan and sent a 1099 to the IRS.

o   Mind you, this is a 1099 sent in 2017 for 2015.

o   To make it worse, the TPA did not send you a 1099.     

•  The IRS computers whirl and sent you a notice.
•  You sent it to me. You amended. You paid tax and interest.
•  The IRS now wants a belt-tightening accuracy-related penalty because ….

Granted, I am a taxpayer-oriented practitioner, but I see reasonable cause here. Should you have known the tax consequence when you changed jobs in 2015? I disagree. You are a normal person. As a normal you are not in thrall to the government to review, understand and recall every iota of regulatory nonsense they rain down like confetti at the end of a Super Bowl. Granted, you might have known, as the 401(k)-loan tax trap is somewhat well-known, but that is not the same as saying that you are expected to know.  

I know, but you never received a 1099 to give me. We never discussed it, the same as we never discussed Tigris-Euphrates basin pottery. Why would we?

Not everything you and I do daily comes out with WWE-synchronized choreography. It happens. Welcome to adulthood. I recently had IRS Covington send me someone else’s tax information. I left two messages and one fax for the responsible IRS employee – you know, in case she wanted the information back and process the file correctly – and all I have heard since is crickets. Is that reasonable? How dare the IRS hold you to a standard they themselves cannot meet?

I have several penalty appeals in to the IRS, so I guess I am one of those practitioners clogging up the system. I have gotten to the point that I am drafting my initial penalty abatement requests with an eye towards appeal, as the IRS has  convinced me that they will not allow reasonable cause on first pass - no matter what, unless you are willing to die or be permanently injured. 

I have practiced long enough that I remember when the IRS was more reasonable on such matters. But that was before political misadventures and the resulting Congressional budget muzzle. The IRS then seemed to view penalties as a relief valve on its budget pressures. Automatically assess. Tie up a tax advisor’s time. Implement a penalty review software package in the name of uniformity, but that package's name is “No.” The IRS has become an addict.

The Nick Saban Tax

Have you heard about the “Nick Saban” tax?

Let’s set it up.

There has been a longstanding tax provision limiting the deduction for public company executive compensation to $1 million. Mind you, this is not a restriction on how much you can pay an executive; the restriction only applies to how much you can deduct on a tax return. The restriction does not apply to all executives, either; it applies to the CEO, CFO and three other most-highly-paids.

But there was an exception large enough for the Fortune 500 to drive through. The exception was for “performance.” Magically and almost overnight, virtually all executive compensation packages became based on “performance.” Options were considered performance-based, and eventually options came to be passed around like candy. Realistically, one had to refuse to do any tax planning for this provision to actually apply.

This changed with the Tax Cuts and Jobs Act passed in December, 2017. Congress tightened up this code Section (162(m)) by taking away the performance exception. The $1 million cap now has a real bite.

But Congress was still looking for money.

Congress decided to put the same $1 million compensation limit on nonprofits.

This creates a quandary, as nonprofits (generally) do not pay tax. If I were a nonprofit executive and Congress threatened to disallow my deduction, I would not be feeling the tremulous fear of my for-profit peers.

Congress thought of that. They decided that the nonprofit would pay a 21% tax on my behalf.

Whoa. Now you have my attention. Granted, the tax is not on me, but we all know how this works in the real world. Only small children and Congress believes in free. The rest of us have to pay.

Congress passed a tax provision applying the $1 million cap to the five highest- paid employees of a 501(a), which includes a 501(c)(3). Think nonprofits, certain hospitals, colleges and universities and the like.

BTW medical professors were excluded from this, so it appears clear that Congress was trying to reach the athletics programs and their coaches.

But there is a problem.

Here is Code section 4960 imposing the tax:

       (c)  Definitions and special rules.

For purposes of this section-

(1)  Applicable tax-exempt organization.

The term "applicable tax-exempt organization" means any organization which for the taxable year-

(A)  is exempt from taxation under section 501(a) ,

(B)  is a farmers' cooperative organization described in section 521(b)(1) ,

(C)  has income excluded from taxation under section 115(1) , or

(D)  is a political organization described in section 527(e)(1) .

What is that Section 115(1)?

         § 115 Income of states, municipalities, etc.

Gross income does not include-

(1)  income derived from any public utility or the exercise of any essential governmental function and accruing to a State or any political subdivision thereof, or the District of Columbia; or …

What does this mean?

Congress thought that – by extending Section 4960 to reference Section 115(1) – it would reach those entities exempt via Section 115(1).

Entities such as Alabama.

Or the University of Alabama.

Why?

Because the University of Alabama is an instrumentality of the state of Alabama.

And here the tax law goes wonky.

The Courts have looked at the interaction of Sections 115(1) and 511(which is the unrelated business income tax which applies to a nonprofit). Can a state instrumentality (say a university) run a business – say a farm-to-table restaurant chain – and avoid the unrelated business income tax because of Section 115(1)? If that were the case, then Illinois could start a chain called Outfront Steakhouse, make a zillion dollars and never pay tax because of Section 115(1).

The Courts have clarified that is not the case. There is a limit to Section 115(1).

According to that reasoning, it seems to me that Congress should be able to tax those university salaries.

But there is another argument – the doctrine of implied statutory immunity. This arises from our federalist system of government: the federal government has to respect the state government. Under this theory, if the federal government wants to tax a state, it has to say so in an unambiguous manner – that is, it cannot be “implied.”

Continuing our example, if the federal government wanted to tax Illinois for opening a steakhouse chain and locating them adjacent to every Outback Steakhouse location throughout the land, it would have to say something like:

… the [] tax will apply to an entity relying upon Section 115(1) for nontaxability of their [] business activity should that activity be the same or substantially similar to a business activity conducted by a for-profit restaurant chain.”

That is explicit. That breaches implied statutory immunity. The tax would then stick.

Is that what Congress did with the new Section 4960(c) tax?

Nowhere close, it appears.

Under that reasoning the University of Alabama will not pay the Nick Saban tax, as the tax does not reach the University of Alabama.

There are universities clearly affected by this new law: Duke, for example, or Northwestern. They have to pay up. Think of it as the difference between a “public” university and a “tax-exempt” university.

But having the state name in the university’s name, however, does not mean that the university is exempt as “public.” It depends on how the university was organized and chartered. Texas A&M will be affected by the new tax provision, but the University of Texas - Austin will not. It is enough to give one a headache.

What happens next?

The easiest path is for Congress to revise Code section 4960 and clean up the language. Without Congressional action, you can be certain the “public” universities will litigate this matter. They have to.

But the likelihood of the present Congress accomplishing anything seems unlikely, at best.

The IRS And Bull

One thing with a blog by a practicing tax CPA: you get a feel for whatever is going across my desk at the moment.

Let’s get historical and look at a Supreme Court case from 1935.

The case is Bull v United States. I kid you not.

Mr. Bull died in 1920.

He was a partner in a partnership.

His share of the partnership profits through his date of death was $24,124. His share of the profits for the rest of the year was $212,719.

The executor filed an estate tax return (that is, the tax return on the net assets Mr. Bull died with). That return included both the $24,124 and the $212,719. The executor paid whatever the estate tax was.

The executor then filed an income tax return for the estate.

COMMENT: Mr. Bull would have had a personal income tax return up to the day of his death. His estate would also have an income tax return, starting the day after he died. The estate would pay income tax until the assets were distributed (by will, contract or whatever). Whoever received the assets would pick-up their income tax consequence from that point on.

The executor did not include the $212,719 representing Mr. Bull’s share of the profits after his death.

COMMENT: The quirky detail here is that the partnership agreement allowed Mr. Bull to participate in profits for the year even after he died. I interpret that to mean that his estate would participate, as Mr. Bull could not do so personally. After all, he died.

The IRS threw a conniption, arguing that the estate should have reported the $212,719 on its income tax return. The IRS assessed income taxes.

I think the IRS is right: the partnership income after Mr. Bull’s death is (income) taxable to his estate.

But I think the IRS was wrong to include that same income on the estate (that is, his net assets at death) tax return. Why? Simple: That income could not have been an asset to Mr. Bull at death as it did not exist as of the date of his death.

I say that the executor paid too much estate tax.

The executor agreed and wanted the taxes back.

Problem: too much time had elapsed. The refund was barred under the statute of limitations. The IRS had zero intention of refunding even a penny.

What to do?

There was nothing in the tax law per se for a situation like this. Folks, this was the 1930s.

But we had a tradition of English common law and equity. The Supreme Court acknowledged that what was happening here was unfair.

The Supreme Court reasoned:

·      There is one transaction underlying both tax situations.

·      The IRS claim for a deficiency allows for an argument of recoupment, since the overpayment and deficiency arose from the same transaction.

·      Recoupment as a defense is never barred by the statute of limitations. It cannot, as it is a doctrine of equity.

If the Supreme Court could not get to this result using the tax statutes available, it would get to the result by introducing what has come to be known as “equitable recoupment.”

The IRS had to allow the estate to offset one tax against the other. Allowing two bites at the same apple was inequitable. The key is that one transaction – the same transaction – is triggering two or more taxes

Bull was – from what I understand – the first time we see the equitable recoupment doctrine in tax law. In Bull it mitigated the otherwise severe absolutism of the statute of limitations.

OK, this was not a particularly thrilling day at my desk.

Is A Form 1099 Automatically Income?

I have a tax question for you.

It may seem straightforward, but this issue actually went to the Tax Court.

You bought a house in 2008. You took out a first and second mortgage.

During 2011 you fell behind on the mortgage. You caught up in 2012.

In 2014 you received a check for $13,508 from the mortgage company. Included with the check was a note stating

… based on a recent review of your account, we may not have provided you with the level of service you deserve, and are providing you with this check.”

The letter also stated you could call with any questions. You did but obtained no more information than we have above. You cashed the check.

The mortgage company sent a Form 1099-MISC for $12,789 and a 1099-INT for $719.

QUESTION: Do you have taxable income?

Several things are crossing through my mind.

(1)  First, if you deducted the $12,789 as mortgage interest, the recovery of a previous interest deduction can be taxable.

(2) Second, how would you know without further detail from the mortgage company?

(3) Third, is their reporting on a Form 1099 fatal?

I admit, I am thinking mortgage interest. To the extent the interest was previously deducted, its recovery could be taxable under the tax benefit doctrine.

The IRS has an easy argument.

Hey, you received a 1099. Two, in fact. A 1099 means income. If the 1099 is wrong, contact the mortgage company and have them void the 1099. Until then, as far as we are concerned you have income.

You have a tougher argument. You have to show that the monies are from a nontaxable source, but the mortgage company is not exactly baring its soul here.

You show the Court the letter. You point out that you paid both principal and interest on the mortgage. It is possible that the mortgage company is repaying you for principal it overcharged.

Did you rise to the occasion?

Here is the Court:

We hold that petitioner presented credible evidence that the $12,789 was a reimbursement for a mistake that [...] had made on his accounts. This return of $12,789 of petitioner’s mortgage payments was not a taxable event and the amount is therefore not includible in income.”

All parties agree that the $719 is taxable as interest income.

You did a good job, but you had a big break.

The IRS presented nothing other than they had received two 1099s. Most of the time that is a winning play.

But you could trump it by providing enough doubt that the 1099s sprung from a taxable source.

You did.

You may have had a sympathetic Court, though. You see, you served in the U.S. Army, and you were serving in Africa as you caught up on your mortgage during 2012.

The Court wouldn’t say, of course. We have to read between the lines.

Our case this time is Jin Man Park v Commissioner.