Happy Mother's Day! Son Tries to Deduct Over $1MM in Legal Fees to Parents

So how much would you pay to have your child take care of you when you’re old and infirm?

According to one tax attorney, $1.2 million. At least that is the take away from Estate of Olivo v. Commissioner.

"The court considered whether mom’s estate could deduct $1,240,000 for son’s services before mom died. Tax lawyer Anthony Olivo worked in law firms from 1976 to 1988, then opened his own practice.

Yet by 1994, he was devoting so much time to his parents and their health problems that it was hard to maintain his practice. He lived with his parents and gave them round-the-clock care. That left little time to practice law, so from 1994 through 2003, he earned almost nothing from his practice.
So when they died he figured the estate should pay him all those lost wages. Hey, it’s deductible, he said. The court had to decide whether the estate could deduct the $1,240,000. On top of that was the $44,200 administrator’s commission Anthony received, not to mention $55,000 in accountant’s and attorney’s fees.
The court was careful to say that Anthony rendered extraordinary care. Hey, this was a doting son. His efforts were commendable. However, mom’s estate couldn’t prove that Anthony was entitled to any pay or how much his services were worth.
There was no contract, no invoice, and no evidence the family agreed to pay him anything. Sure, Anthony gave round-the-clock care. The family would have hired round-the-clock nurses if he hadn’t been there.
But he was, and the fact that a nurse would have been paid didn’t mean pay to Anthony was deductible. Anthony even considered billing the estate for his legal services.
After all, apart from his personal care and for administering the estate, he performed legal work too. He filed the estate tax return, handled an IRS audit and the estate’s Tax Court petition.
But here again, Anthony was out of luck. He didn’t keep time records, prepare invoices, or establish the value of what he did. He merely estimated his hours at a $150 hourly rate. That kind of loosey-goosey estimate wasn’t enough for a deduction.
The biggest lesson? Contracts, invoices, and good record-keeping are as important with family or related parties as anywhere else. In fact, perhaps there’s a bigger reason for being scrupulous with family and related parties: to save yourself headaches with the IRS. Happy Mother’s Day, Mom."

(Hat Tip:  Attorney Robert Wood of Forbes)

California Fire Prevention Fees Are Not Tax Deductible Says IRS

California has begun mailing bills to rural property owners for fire prevention.  If you own habitable property the CalFire's jurisdiction, you will eventually receive two bills this year--one for the State's 2011-2012 fiscal year, and one for its 2012-2013 fiscal year.

Each bill will be $150 per habitable structure on your property.  So if you have one house on your property and no other habitable structures, you will receive two bills this year totaling $300. 

The Howard Jarvis Taxpayer Association warns:

PAY CLOSE ATTENTION TO THE DUE DATE. You may have fewer than 30 days to pay. If you are late, there is a 20% penalty, plus interest. Every 30 days after that, another 20% penalty is added, plus interest. The fee is a lien on your property, and failure to pay can result in foreclosure.

Unfortunately, it appears the IRS has taken the position in a recent Memorandum that such payments are not deductible property taxes. 

 Office of Chief Counsel, IRS Memorandum 2013-10-029 (Jan. 14, 2013) (released Mar. 8, 2013):

Issue:  May California residents deduct the Fire Prevention Fee they may pay on their federal income tax returns as a real property tax deduction under section 164 of the Internal Revenue Code and § 1.164-4 of the Income Tax Regulations?

Conclusion:  California residents may not deduct the Fire Prevention Fee as a real property tax deduction because (i) the fee is not a tax under California or federal law (ii) the fee is not levied at a like rate, (iii) the fee is not imposed throughout the taxing authority's jurisdiction, and (iv) the fee is assessed only against specific property to provide a local benefit

"Gentle Soul" Shoe Shiner Donates $200K to Charity--But Beware of the Tax Man

From WTAE Pittsburgh:

For 32 years, [Albert] Lexie has been examining his schedule each morning, like a doctor on the clock. But the longtime shoe shiner’s gift isn’t healing, it’s giving back. A shoe shine costs $5, but Lexie said customers have been generous with their tips since he started working at the hospital in 1981.

“Most of them give $6, some of them give $7,” Lexie told Channel 4 Action News anchor Wendy Bell.

And Lexie gives every cent of his tips back to the children.

“I think he does it because he loves the kids,” said Dr. Joseph Carcillo. “He's donated over a third of his lifetime salary to the Children’s Hospital Free Care Fund.”

The money goes to parents of sick children who can’t afford to pay medical costs.

“He's a philanthropist, is what he is,” said Carcillo. “He's an entrepreneur.”

Lexie has donated $200,000 to the cause, bringing in several hundred dollars a week.

No doubt about it.  Mr. Lexie has quietly and consistly done something noble and great by turning over his tips to a worthwhile charity.  However, this raises some very interesting tax implications.  In particular, it is well-settled that amounts received as tips are "income" for income tax purposes and should be reported on a person's tax return.  Now you would hope that the fact Mr. Lexie simply donated these funds to charity would absolve him of any tax liability for those tips, but that isn't necessarily the case.  The reason why is that one's charitable donations are not always 100% deductible.

In this case, it is likely that Mr. Lexie could only deduct these donated tips up to 50% of his adjusted gross income (and remember his AGI would include this tip income).  If, for instance, his donated tips ever exceeded 50% of his AGI, then he would not be able to deduct the full amount of donated tips that year.  While these excess donations can be rolled over for up to 5 years, it doesn't do Mr. Lexie much good if every year he is maxing out this deduction limitation.  On a related not, it is unclear what documentation the hospital has provided Mr. Lexie each year that would enable him to substantiate these deductions, if ever questioned.

In all, Mr. Lexie has done a noble thing...let's just hope the IRS doesn't take notice. 

What's the FMV of artwork that cannot be sold? IRS says $65 million

From the NY Times:

The object under discussion is "Canyon," a masterwork of 20th-century art created by Robert Rauschenberg that Mrs. Sonnabend’s children inherited when she died in 2007.

Because the work, a sculptural combine, includes a stuffed bald eagle, a bird under federal protection, the heirs would be committing a felony if they ever tried to sell it. So their appraisers have valued the work at zero.  But the Internal Revenue Service takes a different view. It has appraised “Canyon” at $65 million and is demanding that the owners pay $29.2 million in taxes.

...

At the moment, tax experts note that the I.R.S.’s stance puts the heirs in a bind: If they don’t pay, they would be guilty of violating federal tax laws, but if they try to sell “Canyon” to zero-out their bill, they could go to jail for violating eagle protection laws.

Mr. Lerner said that since the children assert the Rauschenberg has no dollar value for estate purposes, they could not claim a charitable deduction by donating “Canyon” to a museum. If the I.R.S. were to prevail in its $65 million valuation, he said the heirs would still have to pay the $40.9 million in taxes and penalties regardless of a donation.

Then, given their income and the limits on deductions, he said, they would be able to deduct only a small part of the work’s value each year. Mr. Lerner estimated that it would take about 75 years for them to absorb the deduction.

“So my clients would have to live to 140 or so,” he said.

Ann Romney's Tax Deductible Horse Activity--The Tax Code Got This Right

Professor Donald Tobin has a wonderful article giving some insights on the taxability of Ann Romney's participation in dressage (with some nice examples of how the passive loss limitation rules apply):

Ann Romney’s love of horses and Steven Colbert’s infatuation with Rafalca, one of her dressage horses, have created a buzz about horses, money, and taxes. Romney owns a one-third interest in Rafalca, and Rafalca will be competing, with her rider, Jan Ebeling, in the Olympic dressage event.  In the most recent uproar, the Romneys are criticized for deducting $77,731 for the Romney’s share of Rafalca’s expenses. But here is the catch: Because of anti-abuse provisions contained in the Tax Code the Romney’s only actually deducted $49 on their return. Assuming the Romney’s are in the 35% tax bracket, the benefit to the Romneys was about $17. Not much worth working yourself into a lather about.

California Entrepreneur Fills Out Form Himself-- Loses $18.5 Million Charitable Deduction

In what can be considered one of the harshest Tax Court cases of the year, the Tax Court denied a gigantic charitable deduction because admittedly "confusing" IRS forms were not filled out properly.

A prominent Sacramento real estate broker, certified real estate appraiser, and entrepreneur, donated six properties worth at least $18.5 million to a charitable remainder trust in 2003 and 2004, but failed to read and ultimately follow the instructions to Form 8283 (Noncash Charitable Contributions).  Although the Tax Court acknowledged that "the property was quite likely more valuable than the [broker] reported on [his] tax returns," the Tax Court denied the claimed charitable deduction for failure to comply with the substantiation requirements.  Ouch. Mohamed v. Commissioner, T.C. Memo. 2012-152 (May 29, 2012):

We recognize that this result is harsh—a complete denial of charitable deductions to a couple that did not overvalue, and may well have undervalued, their contributions—all reported on forms that even to the Court's eyes seemed likely to mislead someone who didn't read the instructions. But the problems of misvalued property are so great that Congress was quite specific about what the charitably inclined have to do to defend their deductions, and we cannot in a single sympathetic case undermine those rules.

The lesson here is that any time a person seeks a charitable deduction for real estate, a competent adviser should actually prepare the Form 8283 and ensure that any attached appraisal meets IRS requirements. 

(See more from Tax Prof)

$4 Billion in Annual Tax Fraud From Undocumented Workers

This local news report from Indiana is startling and uncovers a growing trend. 

Word has spread amongst the undocumented workers how they can easily claim (albeit improperly) child tax credits for numerous children and relatives in Mexico, with some claiming as many as 12 dependents. 

"One of the workers, who was interviewed at his home in southern Indiana, admitted his address was used this year to file tax returns by four other undocumented workers who don't even live there. Those four workers claimed 20 children live inside the one residence and, as a result, the IRS sent the illegal immigrants tax refunds totaling $29,608."

The U.S. Inspector General is well aware of the abuse and released a new report showing the problem now costs American tax payers more than $4.2 billion a year.

So how much did President Obama donate to charity before running for office?

The big news today is that the Whitehouse released Pres. Obama's tax returns for 2011.  Notably, he donated 21.8% of his income to charity last year.

But what did President Obama's charitable contributions look like in prior years?  Below is a chart showing his income and chartable donations since 2000 (courtesy of TaxProf Blog). 



I won't attach Joe Biden's chart as its hard to deviate from a high of 1.45%.

Employee Could Not Deduct Forgiven Interest on Employer's Loan

In a recent Tax Court case a taxpayer employee was denied interest deductions on a loan from his employer after the employer forgave the loan.

The taxpayer was recruited as a stock broker and as part of his compensation, the employer lent him $500,000, upfront, which was to be paid back by the taxpayer (including interest) at the end of each year over five years.  However, the note provided that the employer could forgive that year's installment payment if the taxpayer continued working for the employer.  (This arrangement is fairly common and allows the employer to give an employee a large signing bonus, while spreading tax payments over several years). 

The taxpayer worked for all five years and so all principal and accrued interest was forgiven and such forgiven amounts were properly included in the employee's income.

However, the taxpayer argued that he should be allowed to deduct the forgiven interest from income because under Section 108(e)(2),  the payment of such interest would have been otherwise deductible under Section 212 as being incurred for the production of income (namely, his work as a stock broker). 

Unfortunately for the taxpayer, the Tax Court held that he did not produce enough evidence to show that he used the $500,000 loan proceeds to buy stock or securities, but simply produced a list of transactions he had entered into.  As such, there was no ability to trace the use of the loan proceeds to those financial transactions. 

It is imperative that anytime an employer and an employee enter into a loan arrangement that both parties keep accurate records and seek advice from competent tax advisers to ensure that the loan is structured properly. 

(Brooks v. Commisioner, T.C. Memo. 2012-25)