Image of Larry Bird by Kurt Shimala under Creative Commons license.
Licked. Larry Bird’s basketball career has been remarkable. As a player in high school, college and the NBA, he was an all-star. He is now winding down a successful career as a team executive.
An attempt to cash in on Mr. Bird’s fame was less successful. An Alaska attorney and his domestic partner formed French Lick LLC in 2007 and bought a house where Mr. Bird had once lived. They began operating a bed-and-breakfast there. The owners continued to live in Alaska, using on-site managers to run the business.
The plan went awry. Judge Kerrigan takes up the story:
About June 1, 2008, French Lick began operating the Indiana property as a bed and breakfast. Between May 2008 and January 2010 French Lick employed a series of managers for the bed and breakfast at the Indiana property. French Lick’s contracts with the managers provided them with an apartment on the Indiana property to use as their personal residence. The last manager of the bed and breakfast resigned in January 2010, and a replacement manager was not hired.
That ended the operation as a bed and breakfast. The deductions for the operations on the taxpayer’s returns continued through 2011. The IRS called a technical.
Most real estate loss disallowance cases involve the passive loss rules. Here the IRS called an older play — they said that the owner losses were limited under the “vacation home” rules of Sec. 280A. Judge Kerrigan explains (my emphasis, citations and footnotes omitted):
Under section 280A(a) generally no deduction is allowed with respect to any dwelling unit that the taxpayer uses as a residence during the taxable year. Any deductions to which petitioner would otherwise be entitled under either section 162 or section 212 will be disallowed if he used the Indiana property as a residence during the tax years in issue within the meaning of section A dwelling unit is used as a residence if the taxpayer uses it for personal purposes for more than the greater of 14 days or 10% of the number of days during the taxable year that the unit is rented at a fair rental value. A passthrough entity is considered to have made personal use of a dwelling unit on any day on which any beneficial owner would be considered to have made personal use of the unit.
But not every day an owner spends on the property counts against the 14-day/10% tests:
…Congress did not intend for days spent primarily repairing and maintaining the property in question to count as personal use days. Likewise, a day spent traveling to or from the property, on which the taxpayer is at the property but performs no repairs and maintenance, should not be counted as a day of personal use if the principal purpose of the trip as a whole is to perform repairs and maintenance.
The Tax Court record showed the taxpayer stayed at the house 26 days in 2010 and 33 days in 2011. It was up to the taxpayer to show that the time spent there was performing maintenance and repairs. The taxpayer failed to convince Judge Kerrigan:
Petitioner testified that he spent numerous hours on “business activities” during each of his trips to the Indiana property. He relied on daily activity logs (logbooks) that he created during examination.
When you have to create your logbooks during the examination, that’s usually a bad sign.
Petitioner relies on his logbooks to establish that he engaged in repair and maintenance activities during his trips to the Indiana property. His testimony did not provide specific details about the activities that he performed. He testified that he did some work on the grounds of the Indiana property. No other witnesses testified to verify that petitioner conducted repairs and maintenance during his trips to the Indiana property.
From petitioner’s testimony and the logbooks, there is no evidence of disrepair of the Indiana property and no specific details of what was to done to improve it… Aside from petitioner’s own visits, there was no specific use for which to repair and maintain the property.
During the tax years in issue a series of caretakers lived at the Indiana property… Petitioner’s records indicate that these caretakers had duties and responsibilities with respect to maintaining the property and that he had conversations with the caretakers about the status and upkeep of the property at least once per month. The logbooks report that during his trips petitioner engaged in activities maintaining the grounds of the Indiana property. However, the records that petitioner maintained for French Lick show that French Lick employed a landscaping firm during the tax years in issue.
The taxpayer introduced receipts related to the trips to support his contention that he was working on the property, but the Judge did not find that they supported that contention.
Worse than passive. The court ruled that the taxpayer failed to prove that his personal use was less than 14 days. The result was a disallowance of all losses — under Sec. 280A. This is a worse result than losses disallowed under the “passive loss” rules. Passive losses are just deferred until, at worst, the property is disposed in a taxable transaction. Sec. 280A disallowed losses carry forward, but aren’t triggered on disposition.
Adding to the tax pain, the judge also imposed a 20% “accuracy-related penalty”
The Moral? Passive losses are bad, but “residential” losses are worse. Also, if you claim you are visiting the property to do repairs, keep a good log — and have a ready explanation for why your effort is needed when you have on-site caretakers and landscapers.
Cite: Cooke, T.C. Memo 2017-74.
Related: IRS.gov, Renting Your Vacation Home.
Peter Reilly, George Will And Columnist Tax Literacy. In which Peter ascribes to me a belief I do not hold:
George Will now having demonstrated severe tax illiteracy leaves just Joe Kristan as the only person I know of with any sense who buys the notion that IRS minions stole the 2012 election.
I don’t believe the IRS decided the 2012 election. I don’t think it was close enough for that to make the difference. I do believe that the IRS was grossly partisan and unfair in their treatment of Tea Party groups. That’s plenty of scandal by itself.
Robert D. Flach has this week’s fresh Buzz roundup of tax news. Interesting stuff, including this: “I don’t ‘hate’ the business yet ”
Kay Bell, These May tax moves could make you very merry
Robert Wood, Which IRS Violations Are Evasion Or Willful Depends On The Facts. “If you didn’t know you had a legal duty to report income or a foreign bank account, you might reason, how can you be treated as willful? Unfortunately, it is not that simple.”
Roger McEowen, Specific Property Devised in Will (or Trust) That Doesn’t Exist At Death – What Happens?
Keith Fogg, Bias Creating Remand (Procedurally Taxing). If your Tax Court judge turns out to be a tax cheat, does that call her fairness into question?
Lew Taishoff, FOOLISH INCONSISTENCY. “Bernie and Mary Ellen are in a jurisdictional joust over the Section 6662(a) chops IRS handed out for Bernie’s and Mary Ellen’s inconsistent reporting of gain from a partnership. And they never bothered to file Form 8082 or otherwise Tell IRS they were deviating from the K-1 they got.”
Shu-Yi Oei, We Hear What We Want to Hear (Surly Subgroup). “A quick Google search yielded me this citypages top 10 country tunes for tax day list, which includes Johnny Paycheck’s ‘Me and the IRS‘ (1978), Willie Nelson’s ‘Who’ll Buy My Memories?’ from his album, The IRS tapes, and Sleepy LaBeef’s ‘There Ain’t Much After Taxes‘ (1996).”
Greg Mankiw, How Best to Tax Business. “The Better Way plan, championed by House Speaker Paul D. Ryan and Representative Kevin Brady, the Republican chairman of the Ways and Means Committee, promises fundamental changes in the nature of business taxation, most of which would, in my view, be steps in the right direction.”
Brian Gongol, White House says it will propose biggest tax cut ever. “Everyone like the idea of a tax cut, but it’s not always the right prescription.”
Dylan Grundman, Time to Repeal State Deductions for Federal Income Taxes (Tax Justice Blog). “Lawmakers in Alabama, Iowa, Louisiana, Missouri, Montana, and Oregon should strongly consider repealing this costly, regressive, and volatile tax break.”
Gavin Ekins, UK Government Abandons Structural Tax Reform (Tax Policy Blog)
Annette Nellen, Tax principles for the digital age. “At the start of the 21st century, I was involved with a project with the AICPA on tax reform. An outcome of our task force work was a set of ten principle of good tax policy.”
Career Corner. How to Get Ahead: Work on Your Writing (Caleb Newquist, Going Concern). A thousand words a day on your blog should cover it.
