Welcome to TaxView with Chris Moss CPA

What is a reverse 1031? No it is not a football game plan. Commonly known as a reverse exchange or a reverse Section 1031 tax free exchange, this very trendy tax savings variation on the traditional Starker exchange has roared back to life. If you read my article on 1031 Exchanges you are somewhat familiar with tax free exchange investment strategy. We are now going to take a look at this same tax free strategy but in reverse. As an example, the Smiths give you 30 days advance notice before their hotel in Carmel CA property officially lists for $10M. Your dream has always been to purchase that hotel. You are certain you could buy the hotel if you sell those three rental properties you own but you have to move quickly.. Unfortunately your tax attorney has some bad news She says “Even if you could sell your property within the next thirty days, deprecation recapture turns your already low basis into negative territory causing at least $5M of your $10M sales price to go to the IRS in taxes.” But your tax attorney has some good news too:: "a tax free and reverse section 1031 exchange, could save you 5M in taxes."  Interested in how this is possible? Stay with us on TaxView with Chris Moss CPA to see how a reverse Section 1031 tax free exchange can save you taxes and help to preserve your wealth.

Just to refresh your memory, a traditional easy 1031 starts out with a sale of your investment called the “relinquished” property.  Your retain the service of a qualified intermediary (QI) who escrows the proceeds. Not all QIs are qualified as experts in their field. Make sure your QI is a member of the Federation of Exchange Accomodators. After you choose a QI you trust you must identity within 45 days an investment you want to buy called the “replacement” property. Within 180 days your QI purchases the replacement property and then transfers ownership to you. All gain on the sale of your first property is deferred and adjusted into the basis of the replacement property. In theory the gain could be deferred forever unless Congress changes the rules. It’s that simple.

Now let’s tackle the reverse 1031 play. The IRS has given us a winning strategy as we sprint through a safe harbor pocket provided by Rev Proc 2000-37,  Also in play is IRS Bulletin 2000-40. (Page 308-310),  Before this Rev Proc came out on the field there was surprisingly little guidance from the coaches at US Tax Court on how to play this game. There was just one tax court case that I found which is the poster case for how not to handle a reverse exchange play. DECLEENE vs IRS 115 T.C. No. 34 US Tax Court.

The facts of the case are relatively simple, Decleene operated a trucking business since 1977 and leased the building on McDonald Street land Decleene owned. In 1992, Decleene purchased Lawrence Drive land with his intent to eventually house his trucking business on that land. In 1993 P sold the McDonald Street and Lawrence Drive land to Western Lime and Cement (WLC) in exchange for WLC constructing a building on Lawrence Drive and then conveying back Lawrence drive to Decleene. On their 1993 tax return, the Decleene’s disclosed a tax free exchange with WLC as a taxable sale of the Lawrence land (boot) and a like kind exchange of McDonald for improved Lawrence with no gain or loss reported to the IRS. The IRS audited the 1993 tax return indicating that the Lawrence property had never really been “sold” to WLC by Decleene. The Decleene’s appealed to US Tax Court Decleen vs IRS.

Judge Beghe points out that Decleene purchased the replacement property directly with WLC, without the participation of a third-party exchange facilitator or qualified intermediary (QI) a year or more before he relinquished the McDonald property. In the following year Decleene transferred title to Lawrence subject to an “exchange agreement’ again not to a QI but directly to WLC. The Court concludes that “in foregoing the use of a third party QI Decleene created an inherently ambiguous situation. The reality of the subject transactions as we see them is a taxable sale of the McDonald Street property to WLC. Petitioner’s prior quitclaim transfer to WLC of title to the unimproved Lawrence Drive property, which petitioners try to persuade us was petitioner’s taxable sale, amounted to nothing more than a parking transaction by petitioner with WLC. In substance, petitioner never disposed of the Lawrence Drive property and remained its owner during the 3-month construction period because the transfer of title to WLC never divested petitioner of beneficial ownership. IRS wins, Decleene loses.

What does all this mean if you spot a deal of a lifetime that you want to purchase now and pay for it with tax free money from a future sale of property you presently own? It is clear form Decleene that you must use a QI if you want to survive an IRS audit. In fact, you should assemble the following team you trust: commercial real estate agent, tax attorney, and QI either in person or by conference call to map out the reverse 1031 exchange tax strategy that fits your unique situation. Furthermore, if you intend to pay off a mortgage on the relinquished property or incur new debt on the replacement property be aware that not all lenders understand complex reverse 1031 exchanges, so add to your team an experienced 1031 banker as well. Finally, have your tax attorney fully disclose to the government the nature of the reverse exchange in an attachment to your income tax return. Ask your attorney to put in writing that your unique reverse exchange complies with the safe harbor provided by Rev Proc 2000-37 and that she will be there to defend you in the likely event of an IRS audit years later.

In conclusion, if you correctly execute, a 1031 reverse exchange in compliance with Rev Proc 2000-37 and fully disclose your tax strategy in your tax return before filing, you will have bullet proofed your return from IRS audit years later, and assisted your family in preserving wealth, savings taxes, and achieving your financial goals. Happy 1031 Exchanges to all.

Thank you for joining us on TaxView with Chris Moss CPA.

Kindest regards
Chris Moss CPA

Welcome to TaxView with Chris Moss CPA

Just the thought of a “levy” gives me the absolute feeling of impending doom. However, an IRS levy adds additional and painfully real fear of immediate economic loss to any law abiding American taxpayer. What is an IRS levy? According to the IRS website a levy is a legal seizure of your property to satisfy a tax debt. If you think this could never happen to you, think again. What about a payroll tax debt, or perhaps a nasty divorce or partnership dissolution suit targets you as owing tax to the IRS. Or perhaps a business you were involved with that has filed bankruptcy had you listed as an officer owing tax to the IRS. In all these cases I would hope your family tax attorney would have been busy filing petitions on the merits with the US Tax Court to defend you and your family and protect your hard earned assets. But you somehow let events overtake you and now find yourself with a final “levy notice” from the IRS also referred to as a Doomsday Levy. What can you do? You have one last line of defense in this battle. So stay with us here on TaxView with Chris Moss CPA to better understand how you can minimize the damage to your family and your financial assets if an IRS Doomsday Levy ever shows up on your doorstep.

Have your heard certified letters usually bring you bad news? The IRS issued “Final Notice of Intent to Levy” oftentimes referred to as the “Doomsday Levy” is usually sent certified by the Government, but also can be delivered by a special agent in person direct to your front doorstep. Regardless how you receive the Levy notice, if the amount of the Levy is relatively large enough to cause you severe economic hardship, I recommend you retain the best tax attorney you can afford. While the IRS website is an excellent source of information on how the IRS levies you and explains your rights to appeal within the IRS and then eventually to US Tax Court, you are simply no match for the brutally effective Collection Division of the US Treasury if you should, as thousands before, lose to the IRS in Court.

Once you have your team assembled best practice in my view is to appeal within 30 days of the date on the levy notice to the IRS appeals division and submit your “offer in compromise” If you read my article on offer in compromise you know that this offer is a very viable alternative to being levied and can in many cases be a “win-win” for both you and the Government. However, your offer must be reasonable enough to be accepted by the Government. In order to better understand how reasonable is reasonable let’s take a look at some very interesting US Tax Court cases.

In Lloyd v IRS 2008-15 taxpayer Lloyd a 70 year old practicing attorney was assessed income tax after an IRS audit for years 1990 through 2002. What makes this case so interesting is that Lloyd never disputed the tax owed, but he also never paid the tax owed. After receiving a notice to levy in 2006, Lloyd’s tax attorney requested a hearing with the IRS Appeals Office to discuss an offer in compromise. Lloyd offered a 7 year payment plan for a total of $139,707 to compromise $264,457 owed. The IRS determined that Lloyd’s “reasonable collection potential” RCP was almost $1.5 Million easily allowing Lloyd to pay much more than $139,707 if not the whole amount due. After months and months if not years of delays, phone calls, meetings and correspondence by both sides no agreement could be reached. The IRS gave Lloyd 30 days to appeal to US Tax Court which indeed he did in 2008 US Tax Court Lloyd v IRS . Judge Chiechi immediately notes early on in this 63 page Opinion that Lloyd could not challenge the tax owed, but only challenge whether or not Appeals abused its discretion by not accepting Lloyds RCP calculations. The Court concluded that Appeals “on the record before us” did not abuse its discretion. IRS wins Lloyd loses.

Next case is Crosswhite vs IRS just decided two weeks ago. Crosswhite owed 2003 Form 941 payroll taxes from a business he owned. He retained a tax attorney to put forth an offer in compromise to the IRS in 2004. Crosswhite’s tax attorney was still working this case with the IRS all the way to January of 2007. Eventually in June of 2009 the IRS sent the dreaded Doomsday Levy to Crosswhite. Legal counsel executed Form 12153 “request for due process hearing” before IRS appeals. The IRS determined Crosswhite had RCP of $82,948. Crosswhite only offered $7,200. The IRS countered with a revised RCP of $68,847. Crosswhite eventually offered $25,000. The Government issued a notice of determination sustaining the levy. Crosswhite appealed to US Tax Court in Crosswhite vs IRS 2014-179.

Judge Paris points out that the IRS analysis of RCP for Crosswhite only included net equity but not future income computations. Therefore the Court was unable to conclude whether or not it was an abuse of discretion for Appeals to proceed with the levy. The Court remanded the case back down to the Appeals office for further consideration and suggested that Crosswhite offer a revised new collection alternative. Hopefully now that Crosswhite has been given a second chance his tax attorney will work this out with Appeals.

What does all this mean for us? First, don’t ever ignore IRS notices and bills. Ignoring IRS notices and correspondence endangers your business and family making a Doomsday Levy attack very possible in your own backyard. Second, retain a tax attorney early in the battle to minimize injury and protect your assets. Just so you know, if you try to hide assets while all this is going on the IRS will invoke the power of Code Section 6331(d)(3) that “collection of the tax was in jeopardy” and proceed immediately against you to protect the Government’s best interest with such financial force your assets will not know what hit them. Finally, if you do get the dreaded Doomsday Levy, don’t rely on the US Tax Court to save you. As we saw in Lloyd and Crosswhite, Doomsday Levy US Tax Court proceedings rarely have happy endings. Your best chance to minimize the damage if an armed Doomsday Levy is racing your way, is to have your tax attorney proceed quickly and quietly to IRS Appeals, work out an offer in compromise, and neutralize and unarm that Doomsday Levy before it ever hits its target.

Thanks for joining us on TaxView with Chris Moss CPA.

Kindest regards
Chris Moss CPA

Welcome to TaxView with Chris Moss CPA

What is a substitute tax return? No your identity has not been stolen and a false return filed by the perpetrator. In fact, a substitute tax return is what the Government has the authority to file for you when you don’t file your tax return on time. Yes, isn’t that nice of the IRS to file your income tax return for you, and better yet, all at no charge! But wait a minute. Before you all start calling me asking how to get the government to file this free substitute tax return for you, let me make clear that a substitute return is not the real deal, it is more like a knock off return. You all know what knock offs are, those fake replicas of an authentic brand of luxury goods or service, often times not worth purchasing even at any price due to lack of quality and poor workmanship. The same holds true for a substitute tax returns, usually poorly prepared by the IRS and in worse cases substantially inaccurate, not reflective of your true net income and tax owed and unfortunately presenting you with a very large tax bill with even larger interest and penalties that is simply in many cases not correct. So if you have an outstanding tax return that has not yet been filed, or perhaps a few such returns, or if you are in any way just curious, then stay with us on TaxView with Chris Moss CPA to find out how you can get hit with a substitute knock off return and what you need to do to “return” the return back to sender where it belongs.

According to the Government’s own IRS website, the IRS warns us all: “…If you fail to file, we may file a substitute return for you. This return might not give you credit for deductions and exemptions you may be entitled to receive. We will send you a Notice of Deficiency proposing a tax assessment. You will have 90 days to file your past due tax return or file a petition in Tax Court. If you do neither, we will proceed with our proposed assessment….” Seems fair enough. In my view you get a pretty good deal. Either file or go to Tax Court. Although not everything with the IRS is quite what it seems to be especially when you go through the bizarre world of US Tax Court case law.

Gloria Spurlock did not file her tax returns for 1995 96 and 97 and in fact did go to US Tax Court in Spurlock v IRS 118 TC No 9 (2002). Judge Ruwe points out that under IRS Code Section 6020(b)(1), the Government has the authority to execute a return “If any person fails to make any return required by any internal revenue law or regulation made thereunder at the time prescribed therefor, or makes, willfully or otherwise, a false or fraudulent return”. IRS wins Gloria loses. Sandra Stern also didn’t file a tax return and decided to go to Tax Court, Sandra Stern vs IRS TC 2002-212. Judge Beghe says: “…the above-quoted language of section 6020(b) makes clear that the Commissioner is not charged with preparing a perfectly accurate return. The Commissioner is required only to do the best he can with the information available to him, in the absence of a return prepared and filed by the taxpayer…” IRS wins Sandra loses.

The next case is even more interesting: Sam Kornhauser, a practicing attorney no less, didn’t file his 2007 tax return nor did he file one for 2008. The IRS prepared a substitute 2008 return and sent him the 90 day letter. Within the 90 day period Kornhauser signed a tax return and submitted it to the IRS for processing. However, the IRS did not process the return. Kornhauser appealed to US Tax Court, Kornhauser v IRS 2013-230. Judge Haines’ Opinion allowed into evidence Kornhauser’s “income” but not his deductions. Surprise, Surprise. Judge Haines says: “…It seems Kornhauser disputes the tax liability because the substitute return failed to take into account certain “deductions and credits”. Kornhauser’s only evidence to support his deductions and credits was his testimony as well as documents and records contained in exhibits…” Unfortunately for Kornhauser the Court did not feel the evidence Kornhauser presented to the Court or even his own sworn testimony to be credible. The Court concluded “….we find Kornhauser’s testimony to be self-serving and uncorroborated and do not accept it”. IRS wins Kornhauser loses.

In conclusion, there are certainly going to be times in your life that your tax return is going to be filed late, even years after the deadline, perhaps for reasons beyond your control. A death in the family, divorce, loss of job, natural weather disaster to name a few. So make sure you tax attorney communicates with the IRS that your return is running late and keep in constant touch with the Government until your return is eventually filed. In my view best practice in cases like this requires proper, regular, and effective written and verbal communication with the IRS to allow for cooperation not confrontation, and assistance not interference. Finally, for whatever reason, if you choose not to file your tax return without communicating to the IRS via your tax attorney, expect the IRS to file a substitute tax return for you. If you try to contest the substitute tax return in US Tax Court I bet you a Lobster dinner at the Palm that the Government wins every time. Happy tax return filings and remember, there is no substitute. Thanks for joining Chris Moss CPA on TaxView

Kindest regards
Chris Moss CPA

Welcome to TaxView with Chris Moss CPA

If you have investment gains to offset business losses this year, you may be in store for a direct head on collision with the IRS and the Tax Reform Act of 1986. The journey to disaster starts off innocently enough. You sell some stocks for a $10M gain to purchase a small retail shopping center for the same price. You think about structuring the deal so that the losses from the first year of operations at the shopping center could offset your capital gains from the sale of stocks. You never bothered to retain a tax attorney to create a tax plan because as you see it you have a no brainer zero tax due. You believe that a buy and sell for $10 Million equals a full and complete offset come April 15 2015; but perhaps not so fast says TaxView, because the offset is in great danger. There are land mines ahead that seem to explode at the worse possible moment with an IRS audit. If you are interested in how the IRS could dramatically change even your best tax plan for offsetting gains and losses, stay with us on TaxView with Chris Moss CPA to see how the Tax Reform Act of 1986 makes your no brainer into a brain strainer and a tax disaster for you the unfortunate taxpayer victim of the creation of Section 469 and the Passive Loss rules.

To get a better idea of the catastrophe ahead, first let’s all take a short trip back to the source of confusion to Washington DC. Fasten up your tax plan as we turn back the clock landing us right in the middle of the center table at the downtwon Palm. Dan Rostenkowski (House Ways Means) and Bob Packwood (Senate Finance) have gotten together to finalize some last minute provisions of the 1986 Act. Legendary Tommy Jacomo spots us immediately with a great table. We hear Rosti roar over the boisterous dinner crowd to Bob: You personally have quite a large portfolio in stocks and bonds. Would you really consider interest and dividends “positive” income? Rosti, you know I don’t like that word “positive” taken in this context. Besides, we can’t really tell the average American taxpayer that the wealthy making dividends and interest are working as hard as they are with “positive income”. Let’s just go with this term “Portfolio”. It bridges the gap between those darn “passive” tax shelters and the American W2 worker. I say we treat these items like positive income similar to a salary but call it “portfolio”. In other words we tell America that their stocks and bonds are…well like working 40 hours a week for them as their “portfolio”. Bob, you have got to be kidding, that is really dumb, really stupid… but you know, comparing portfolio to W2 earnings is so ridiculously outrageous it might just work. See Joint Committee on Taxation, page 209-213 which eventually morphed into IRS Code Section 469 Passive Loss Rules.

Agree or disagree with how my imaginary conversation might have unfolded that night, the fact is that Section 469 prohibits the offset of “portfolio” gains or losses and “passive” gains all losses. In order to see the bizarre consequences of how these two types of gains and losses can interact, let’s head over to US Tax Court just a five minute cab ride from the Palm over to Capitol Hill to survey a 2000 case More v IRS 115 T.C. No 9. More was an independent managing underwriter as part of a syndicate for Lloyds of London. In order to be accepted by Lloyds More had to demonstrate his ability to cover potential losses of his syndicate usually by posted a letter of credit. In 1988, More transferred his personal stock portfolio to a brokerage account at Bank Julius Baer (BJB), a London-based bank. During 1992 and 1993, petitioner underwrote £500,000 of Lloyd’s premiums which were secured by a letter of credit from BJB in the amount of £150,000. The policies written by More did in fact incur losses and More cashed in his stocks at a large gain to cover those losses as required by his letter of credit. More reported his losses and gains on his tax returns so that each offset the other. The IRS audited Moore, and disallowed all the losses, arguing “portfolio” income could not be offset against “passive” income. Moore appealed to US Tax Court.

Judge Vasquez in More writes a very short 16 page jam-packed with Section 469 Opinion. The Court then confirmed that Congress enacted passive loss regulations “to curb expansion of tax sheltering”. Judge Vasquez further noted that IRS regulation 469-2T makes an exception to the general rules regarding disposition of More’s stocks at a gain. Specifically, gross income derived in the ordinary course of a trade or business includes “income from investments made in the ordinary course of a trade or business of furnishing insurance or annuity contracts or reinsuring risks underwritten by insurance companies” The Court notices that More’s attorney, Louis B. Jack, did not refute or address this at all and was silent on the reason why More acquired the stock. If More could have shown that he primarily created this portfolio as a way to get into the insurance business and not as an investment More wins IRS loses. Unfortunately for More, no evidence was presented to the Court on when his investments in stocks turned primarily to assist More in keeping his job at Lloyds. I don’t know about you all, but it seemed More’s transfer to a brokerage account back in 1988 was primarily to show sufficient assets so he could work at Lloyds. Nevertheless, since More did not refute the Government’s argument leaving the Court no choice but to hold that More’s stocks were primarily created for investment and not for the convenience of Lloyds. Government wins, More loses.

What does this rather obscure Tax Court case and the provisions within Section 469 tell us working taxpayers regarding passive loss rules that create “portfolio income” and “passive income”? Anyone out there who wants to offset losses from one activity against gains of another: Be warned, the IRS is actively and aggressively audited these kinds of offsets, particularly any losses that offset W2 income or Investment Portfolio Income, or any gains that offset passive losses. Prior to filing your tax return with any offsets from different sources of gains and losses, review with your tax attorney the ramifications of Section 469, with particularly emphasis on what kind of offsets you have. If you have “portfolio” and “passive” losses or gains pay particular attention to whether or not the Section 369 allows those offsets. Finally have your tax advisors insert into your tax return detailed evidence of your tax strategy explaining how these offsets were created, what provision of Section 469 controls, and how your tax strategy is being implemented. For example if your tax strategy involves long range estate planning, make sure you disclose this in the tax return before filing. Better you should support and bullet proof your tax strategy now than to have to wait 4 years for the Government to do it for you during an IRS income tax return audit.

May your losses and gains offset wisely. Thanks for joining Chris Moss CPA on TaxView

Kindest regards,
Chris Moss CPA

Thanks for joining Chris Moss CPA on TaxView

Do you volunteer for a nonprofit organization which is exempt from paying income tax? For example, have you driven for Meals On Wheels, or perhaps you have dropped off some household goods to the local Salvation Army, hosted a student in your home, or headed up an usher team at Church? All of these activities most likely have legitimate tax deductions hidden from view of most American taxpayers due to the complexity of the IRS Code. I believe many of you involved with charitable organizations, whether it be the United Way, the American Cancer Society, or the Leukemia and Lymphoma Society, just to name a few, overlook a wonderful tax deduction explained in IRS Code Section 170(a) called Unreimbursed Volunteer Expense (UVE). I wager many of you have UVE which you are not deducting on your tax returns. Interested in learning more about this deduction and how you can save income tax this year? Stay with us on TaxView as we better understand the nature and history of UVE.

Taxpayers have been deducting cash and property donations to charities for almost 100 years. However, there is an obscure IRS regulation 26 CFR 1.170A-1(g), “contributions of services” that seems to generate many controversial US Tax Court case Opinions as to what constitutes UVE. We start with an easy case, so get ready for our journey to Washington DC where we can catch the opening arguments in Van Dusen vs IRS. VanDusen of Oakland California was an attorney who loved cats. As a volunteer for Fix Our Ferals VanDusen trapped feral cats, had them neutered, obtained vaccinations and necessary medical treatments, housed them while they recuperated, and released them back into the wild. She also provided long-term foster care to cats in her home. VanDusen deducted all the unreimbursed expense for this volunteered activity on her 2004 income tax return. The IRS audited her 2004 tax return and disallowed all her deductions, arguing that VanDusen was an independent cat rescue worker whose services were unrelated to Fix Our Ferals and did not benefit the organization. Proceeding Pro-Se VanDusen appealed to US Tax Court. Van Dusen vs IRS.

Judge Morrison’s Opinion recognizes that VanDusen is entitled to a charitable-contribution deduction only if her expenses were, in the words of section 1.170A–1(g), ‘‘expenditures made incident to the rendition of services’’ to Fix Our Ferals. The Court noted that in determining whether a taxpayer has provided the requisite service, courts consider the strength of the taxpayer’s affiliation with the organization, the organization’s ability to initiate or request services from the taxpayer, the organization’s supervision over the taxpayer’s work, and the taxpayer’s accountability to the organization citing Smith v. IRS and Saltzman v. IRS.

Travis Smith attended nondenominational company of Christians called an “assembly” at Cuyahoga Falls, Ohio. Smith deducted on his 1967 and 1968 tax returns the costs of trips to the rural areas of Western and Northwestern Newfoundland each year since 1964 to carry out evangelistic activities as a minister of his church. The IRS audited and disallowed all deductions claiming Smith had either taken these trips as vacation, or more probably and primarily that the trips did not directly benefit the local Ohio church economically, religiously, or otherwise. Smith appealed to US Tax Court. Smith vs IRS Judge Featherston noted that one of the basic functions of Smith’s church is evangelism — spreading the faith through preaching, teaching, and personal persuasion. As a member of his local assembly, Smith was taught that it was his duty to do missionary work of the kind he performed, and he responded to that teaching by doing it. Smith wins IRS loses.

Not to be outdone by Smith, the Government pursued Saltzman during 1966. Salztman served without pay as the leader of the Harvard-Radcliffe Hillel Folk Dance Group. He taught folk dancing and related subject matter to a group which met once a week, 3 to 4 hours at a time. During 1966, Saltzman took four trips on which he led members of the Hillel group to folk dance festivals and conventions, at which these group members performed exhibitions as part of the convention. The IRS audited Salztman and disallowed all his expenses. Saltzman appealed to US Tax Court Saltzman v IRS. Salztman argued based on Rev. Rul. 55-4, 1955-1 C.B. 291, and Rev. Rul. 56-509, 1956-2 C.B. 129, that his expenses of his trips to Pittsburgh and Europe qualify for deduction under these rulings. Rev. Rul. 55-4 holds that a taxpayer who renders gratuitous service to a charitable organization may deduct certain unreimbursed traveling expenses incurred while away from home “in connection with the affairs of the association and at its direction.” Judge Simpson easily found for the IRS as Salztman offered no evidence that he was under the direction of the Hillel Folk Dance Group. IRS wins, Salztman loses.

Heading back to VanDusen, the Court noted that Van Dusen has demonstrated a strong connection with Fix Our Ferals. She was a regular Fix Our Ferals volunteer who performed substantial services for the organization in 2004 and clearly had the required “connection” necessary for the deduction to prevail in US Tax Court. Van Dusen wins, IRS loses.

In conclusion, the key to winning in an IRS audit for UVE is to prove that your activity has a strong enough “connection” to the exempt organization to prevail in Court. What this means is that if you are chief usher in your Church and travel with your usher team to various other cities and churches on training missions, and you want to deduct the cost of this trip on your tax return, make sure you establish the required “connection” with your home Church. Finally consult with your tax attorney to make sure you fully disclose to the Government the “connection” established. Get emails in writing from the Vestry commissioning your trip and include those documents in your tax return before filing. You will then have bullet proof UVE deductions when and if you are audited many years later by the IRS. Hope to see you again soon on TaxView with Chris Moss CPA.

Kindest regards,
Chris Moss, CPA

Welcome to TaxView with Chris Moss CPA

Medical marijuana is now legal in at least 23 states and the District of Columbia, and two of those states, Washington and Colorado, have legalized marijuana for recreational use. If you are one of the many taxpayers out there thinking about operating a medical or recreational marijuana retail store there are some unique tax consequences that you will face as you file your annual business tax return. Regardless of which State you are operating in you are well advised to retain the best tax attorney you can find to bullet proof your tax return in accordance with IRS Code 280E which disallows deductions for any amount paid or incurred in carrying on any trade or business consisting of trafficking of controlled substances which is prohibited by Federal law. Does State law conflict with IRS tax law? Stay with us on TaxView as we explore the Kafkaesque surreal and adverse tax consequences of operating a retail marijuana store in states where it is legal to do so.

Martin Olive operated a sole proprietorship in 2004 he called the Vapor Room Herbal Center (Vapor). Vapor sold medical marijuana in California, pursuant to the California Compassionate Use Act of 1996. The Vapor Room was open weekdays from 11am to 8:30pm and weekends noon to 8pm and sold nothing but medical marijuana. Vapor’s sole source of revenue was its sale of medical marijuana. Employees explained to customers the benefit of vaporizing marijuana as opposed to smoking it and helped customers operate the vaporizers. Olive filed his income tax return for 2004 and 2005 reporting sales of over $1M in 2004 and over $3M in 2005. Vapor’s Cost of Goods Sold (COGS) or how much Vapor paid for the marijuana was high. For every million in sales Vapor COGS was $900K in 2004. In 2005 Vapor’s $3M in sales had a COGS of $2.8M. In addition Vapor had normal administration costs associated with any retail business.

The IRS audited Vapor’s returns for 2004 and 2005 and the IRS disallowed all Vapor’s expenses relying on Section 280E. Based on examination of Vapor’s bank statements the IRS determined tax deficiencies for Vapor of over $600K and $1M for 2004 and 2005. Vapor appealed to US Tax Court and the Court rendered its Opinion in Olive v IRS in 2012. Judge Kroupa almost immediately points out that while numerous medical marijuana dispensaries were formed in California to dispense medical marijuana to recipients, medical marijuana is nevertheless a “controlled substance” under Federal Law.

The case did not go well for Vapor. Judge Kroupa found that Olive’s testimony was “rehearsed, insincere and unreliable”. The Court also found that Vapor’s reported revenue was substantially understated. Worse yet is that Olive did not dispute that he under-reported Vapor’s receipts. Moreover, the Court could not ascertain the actual amount of COGS even with the help and an expert Henry C Levy CPA. Unfortunately for Vapor, the Court found Levy’s testimony to be “unreliable”. The Court eventually estimated a COGS based on a percentage of sales, but at a much lower percentage than Vapor originally reported. The IRS, however, even wanted the COGS disallowed citing Section 280E. Just when the IRS was about to vaporize Vapor into a puff of smoke, the Court took notice of another California caseCalifornians Helping to Alleviate Medical Problems (CHAMP)..

CHAMP provided counseling and other caregiving services including medical marijuana. The IRS audited CHAMP and determined that all of CHAMP’s expenses were nondeductible under Section 280E in connection with the trafficking of a controlled substance. CHAMP appealed to US Tax Court. Judge Laro noted that CHAMP furnished its services at is main facility in San Francisco California where customers received medical marijuana. The IRS argued that all of CHAMP expenses where in connection with the illegal sale of drugs and therefore all expenses were nondeductible under Section 280E. The Court disagreed. Citing the Senate Finance Committee report, the Court found that COGS would be exempt from 280E in order “to preclude possible challenges on constitutional grounds.” Senate Finance Report S. Rept. 97-494 (Vol. 1). Likewise citing Champs, Judge Kroupa’s Vapor Opinion also concluded that Section 280E did not apply to Vapor COGS. Nevertheless, the Court disallowed all other expenses incurred by Vapor, even though the Vapor Room was a legitimate operation under California law, citing CHAMP US Tax Court.

What does all this mean for any of you out there who want to run a legal retail operation in a state where sale of medical or recreational marijuana is legal? First, until and if Congress changes the law, COGS may be the only deduction you are allowed for marijuana retail expense. That being said, make sure you have excellent books and records that separates out the marijuana retail portion of your business from any other retail operations you may have so all expenses can be deducted. Second, get support from State government and local tax departments on how best to set up your business so that you are not in violation of Section 280E of the IRS code. In other words, be prepared to deal with the fact that the Federal Government still views what you are doing as illegal, and make sure your COGS is well documented. Finally be prepared for an IRS audit, retain the best tax attorney you can afford, and file a bullet proof tax return with full disclosure to the Federal Government as to exactly how your deductions are not subject to Section 280E limitations. Years later if you get audited by the IRS you will be happy you did.

Thank you for joining Chris Moss CPA on TaxView

Kindest regards
Chris Moss CPA

Welcome to TaxView with Chris Moss CPA

If you are a minister of the Gospel you most likely have heard of the Parsonage Allowance Exclusion or the tax free housing allowance for clergy under Section 107 of the IRS Code. First enacted in 1921 the Allowance excludes the rental value of a dwelling house furnished to a minister from Federal Income tax. Congress kept the Allowance rules substantially unchanged until amendments were added by Congress in 2002 in response to Rick Warren’s battle with the IRS regarding his Allowance from Saddleback Valley Community Church vs IRS The case worked its way up to the US Court of Appeals for the 9th Circuit. However Rick Warren and the US Government suddenly settled out of court and the case was dismissed. But 10 years later in a surprise move that even caught TaxView off guard last year, one provision of the Allowance, 107(2), was ruled unconstitutional by Judge Barbara Crabb on November 21, 2013 in Freedom From Religion v Lew US District Court Wisconsin. In response to Judge Crabb’s ruling, the US Government appealed to the 7th Circuit arguing that the Allowance does not endorse a religious message but merely adapts the IRS Code’s general exemptions for certain types of employer-provided housing to the unique context of a church and its minister. TaxView asks why the Parsonage Allowance is being challenged for the first time in almost 100 years. Stay with us on TaxView for the answer.

Let’s first look at what Section 107 is all about. Simply stated if you are a preacher you get to exclude from your income the fair rental value of the home or what the church pays you for the home, whichever is less. Section 107(1) excludes the value of your housing provided by the Church. Section 107(2) excludes direct cash compensation paid to the preacher for housing that the preacher pays for. Further regulations added requirements that the Allowance be officially approved by the Vestry or similar church Board.  See IRS Ministers’ Compensation and IRS topic 417. Various tax court rulings, including US Tax Court Driscoll v IRS imply that Congress had viewed the the relationship between a Church and its ministers in a similar manner as they viewed the relationship between an Employer and its Employees. Congress reasons that if Employees were exempted on housing provided for the convenience of their employer, then why not have the Clergy exempt on similar housing allowance income when they would travel to a new Church to preach the Gospel. Interestingly, while the US Tax Court has ruled for or against the clergy over the years for abuse of the Exclusion, the Court has never before challenged Section 107 on Constitutional grounds, that is until now.

So why now after 100 years was the Parsonage Allowance Section 107(2) ruled unconstitutional by Judge Crabb? How did FFRF manage to persuade the Wisconsin Federal Courts to strike down Section 107(2)? As I see it, the whole of FFRF’s argument revolved around one Supreme Court case Texas Monthly. As you read Judge Crabb’s opinion see if you can spot the 1989 Supreme Court ruling in Texas Monthly. Justice Brennan joined by Marshall and Stevens held that a Texas law that gave tax free status to religions publications was unconstitutional. Justice Brennan concludes “In this case, by confining the tax exemption exclusively to the sale of religious publications, Texas engaged in preferential support for the communication of religious messages.” However Justice Scalia in his dissent joined by Justice Kennedy noted that for “over half a century the federal Internal Revenue Code has allowed “minister[s] of the gospel” (a term interpreted broadly enough to include cantors and rabbis) to exclude from gross income the rental value of their parsonages. In short, religious tax exemptions of the type the Court invalidates today permeate the state and federal codes, and have done so for many years. Justice Brennan shot back, however, that the “fact that such exemptions are of long standing cannot shield them from the strictures of the Establishment Clause and furthermore, no one acquires a vested or protected right in violation of the Constitution by long use, even when that span of time covers our entire national existence and indeed predates it.”

Moreover, Judge Crabb in her own Wisconsin Opinion in FFRF v Lew seems to have totally and completely embraced Justice Brennan’s Opinion in Texas Monthly, noting that because Section 107 does not include the limitations on the type or location of the housing that the private sector exclusion provides, Section 107 has no “secular purpose or effect and that a reasonable observer would view it as endorsing religion.” However the Good News is there is hope. Indeed, Judge Crabb states, that invalidation of the Allowance on Constitutional grounds does not mean that the government is powerless to enact tax exemptions that benefit religion. Thus, if Congress believes that there are important secular reasons for granting the Exclusion, Congress is free to rewrite the provision in accordance with the principles laid down in Texas Monthly so that it includes ministers as part of a larger group of beneficiaries.

In conclusion in my view, regardless of the outcome in the 7th Circuit, this case may be headed for the US Supreme Court for a final showdown. So be warned, if you live outside the 7th Circuit of Indiana Wisconsin and Illinois, be prepared for more challenges from the FFRF closer to home. What does this mean for the Preachers of the Gospel out there? If you are a member of the Clergy and preach the Gospel, unless Congress acts soon, your housing allowance may be just a memory from the 20th Century. If the Allowance is important to you, make sure to let your elected representatives know how you feel.

Thanks for joining Chris Moss CPA on TaxView

See you next time,
Kindest regards 
Chris Moss CPA

Welcome to TaxView with Chris Moss CPA.

Every year around tax time, I hear a few successful and intelligent taxpayers come explain to me that income tax is illegal.  When I ask them how this is possible, I am told that the 16th Amendment was never properly ratified.  It turns out these taxpayers had attended some seminar or read some book that promotes the 16th Amendment as a fraud on the American people.  So I thought it might be useful for us to look a little closer here on TaxView at the various arguments against paying income tax that are out there.   

The Benson case: William J Benson stopped paying income tax claiming the 16th Amendment was never properly ratified. He argued that state amendments were not of the exact language of the circulated congressional amendment, making the amendment fail to achieve the three-forths required majority of states. Benson even wrote a book in 1985 titled “The Law That Never Was: The fraud of the 16th Amendment and personal income tax.” History in fact shows that in 1913, Mr. Knox, Secretary of State, proclaimed that the amendment had been ratified by the necessary three-quarters of the states. Mr. Knox was clearly aware of the grammatical and minor changes in text between the various state and congressional amendments.

In US vs House  the Court said “The Solicitor of the Department of State drew up a list of the errors in the instruments and taking into account both the triviality of the deviations and the treatment of earlier amendments that had experienced more substantial problems [and] advised the Secretary that he was authorized to declare the amendment adopted. The Secretary did so.”  

Benson was sentenced to four years in prison in 1995 but is still very actively promoting his beliefs. Trust me folks, every court out there has ultimately rejected Benson’s arguments.

The Cheek case: John L. Cheek stopped paying income tax claiming the tax laws were unconstitutionally enforced and the he did not have to pay tax. He ultimately lost all his civil claims and was forced to pay the tax. However, he was also criminally charged as well. He claimed he acted without the willfulness required for criminal conviction.

He was able to get his case to the Supreme Court on an issue of criminal intent. Cheek v. United States, 498 U.S. 192 (1991). He had a partial victory on a technicality in that the Court ruled that even though an honest belief may be irrational, if intent was not there, there could be no criminal liability. The Supreme Court remanded the case to the court below so new jury instructions could be given. Cheek’s victory was short lived, in that on remand, he was sentenced to a year in prison in 1991.

There are countless other tax protester arguments other than the 16th Amendment argument. One of my favorite arguments is to place all your assets and income in a foreign trust in a tax free haven with a foreigner in control of all the assets and income. Since only American citizens and resident aliens are taxed on worldwide income, the income deposited into this foreign trust would accumulate tax free.

However, most taxpayers never create the required “irrevocable” trust, but still retain control, either through a revocable trust or through a credit card access to the money, making the scheme illegal and criminal.

All of the promoters of these tax protest arguments and others like them are either serving time in Federal prison or have just been released. Taxes owed were all assessed and either paid or are due. No group or individual has ever successfully challenged the United States to collect income tax form its citizens.

Let’s start with our own local and state elected officials to move forward to legally change the system and to shut down these tax protestors for good. Remember if the tax advice is too good to be true, it isn’t.

(H Christopher Moss of Mount Pleasant , a CPA and attorney, is President and CEO of Infinite Partnerships Inc.)
AS PUBLISHED BY THE POST AND COURIER March 19, 2008

Thank you for joining us on TaxView with Chris Moss CPA

Kindest regards
Chris Moss CPA

Welcome to TaxView with Chris Moss CPA


If you own multiple businesses you know all too well that start-ups generally lose money the first or second year. But did you know you can deduct these losses against current earnings, lower taxes and increase cash flow all at the same time you phase into rapid growth and expansion? Before you get too excited about having such a great tax strategy, turn around and make sure your tax professional has your back, for lurking in the dark at an IRS office near you is a Government agent getting ready for battle using a new and exciting weapon against you, the “material participation” rules of engagement. Long time business owners and start ups alike are increasingly at risk of losing all losses in the battle to comply with IRS regulations requiring at least 500 hours of material participation. Stay with me on TaxView as we head to US Tax Court to find out how to protect and armor up your business losses from adverse IRS audit consequences if the Government finds that you are not “materially participating” in your business activities.

Let’s start out with Iversen vs IRS a rather simple introdution to Section 469. Iversen owned various business interests included 100% ownership in Stirrup Ranch LLC, a 14,000 acre cattle and horse ranch in Fremont County Colorado. Martin Nergaard, attorney and CPA and former IRS employee prepared and filed Iversen’s 2005 and 2006 tax returns. Nergaard concluded Iversen qualified for material participation in that he worked the Ranch at least 500 hours. As a result Nergaard deducted almost $500,000 in losses on Iversen’s tax returns. Sure enough the IRS audited and disallowed all the losses claiming that Iversen did not materially participate in the Ranch. Iversen appealed to US Tax Court.   Judge Swift’s Opinion in Iversen vs IRS (2012) defines material participation as involvement on a “regular, continuous and substantial basis”. Sec.469(h)(1)(A-C) Judge Swift says you can use “any reasonable means” to prove you materially participated, including calendars, appointment books, and narrative summaries citing 1.469-5T. Iversen’s testimony and evidence he presented to the Court was not credited as adequate enough to convince Judge Swift to allow Iversen’s losses. IRS wins Iversen loses.

Our next case, Newell vs IRS, decided in US Tax Court in February of 2010, has somewhat of a different set of facts than Iversen. Newell owned 100% of a California Millworks business and owned a 33% interest in Pasaddra Country Club LLC. Newell deducted over $5 Million of losses on his 2001 2002 and 2003 income tax returns from these businesses. The IRS audited and disallowed all these losses citing 469(h)(2) claiming that Newell as a “limited partner” did not materially participate in the Country Club. The Court's Opinion written by Judge Marvel, sided with Newell, noting that only limited partners in a “partnership” not partners in an LLC are limited by 469(h)(2). Newell wins IRS loses.

We now come to our final case involving real estate businesses. Fasten your seat belts on this ride because real estate passive activity road map requires acceleration at dizzying speeds sometimes causing taxpayers to faint into disastrous head on collisions with the IRS into the walls of US Tax Court in Washington DC. Frank Aragona Trust vs IRSdecided in US Tax Court in March of 2014 Aragona is a trustee which manages rental real estate properties. Real estate activities, even with material participation, are considered passive under 469(c)(2). For those of you in real estate please take a look at these excellent articles on real estate passive losses. See Journal of Accountancy 469(c)(2). Also see theTax Advisor Section 469. Aragona deducted on the trust tax return from 2003-2006 millions of dollars of losses. When the IRS audited these years all losses were disallowed and almost $600,000 of tax was assessed. Aragona appealed to US Tax Court. The question presented before the Court: Whether 469(c)(7) applies to a trust as it does for all other business entities.

Before we find out the exciting conclusion of the Court, I suggest we rewind history to the Tax Reform Act of 1986 as championed by President Reagan. The 1986 Reform Act had generally disallowed all Real Estate losses from offsetting ordinary income in order to fight back against abusive tax shelters in that era. However after years of lobbying by the Real Estate industry, Section 469(c)(7) was enacted in the 1993 during the Clinton Administration to give “Real Estate Professionals” a chance to deduct their legitimate losses. For those of you with multiple businesses you need to jump through two high, but with proper structure planning and record keeping, not impossible hoops: 1)More than one-half of the personal services performed in trades or businesses by the taxpayer during the tax year are performed in real property trades or businesses in which the taxpayer materially participates; and 2) The taxpayer performs more than 750 hours of services during the year in real property trades or businesses in which the taxpayer materially participates.

Fast forward please back to Aragon Trust. The IRS agreed that the trust had adequately documented its records to prove material participation. However, the IRS said a “trust” was not capable of performing personal service since the trust was not a person. The Court rejected this IRS argument and concluded that a trust is “capable of performing personal services and therefore can satisfy the section 469(c)(7) exception. The Court opined that indeed, if Congress had wanted to exclude trusts from the section 469(c)(7) exception, it could have done so explicitly by limiting the exception to “any natural person”. Aragon wins IRS Losses; a big victory for trusts and taxpayers nationally.

In conclusion if you do not all feel 100% protected from a possible IRS material participation attack on your business activities ask your tax professionals to document your time in each business in the actual tax returns they file for you. If you have multiple businesses, and you feel you need even more protection, please consult your tax advisors and make sure you are extemporaneously and contemporaneously keeping track of your participation in each business. Perhaps you wish to disclose summary participation data in attachments to your annual income tax returns before you file? Finally subscribe as I do to the “now or later” ancient philosophy of tax audits: Consult tax attorney now, protect you from IRS audit later.

Thanks for joining Chris Moss CPA on TaxView

Thank you for joining Chris Moss CPA on TaxView  

Days after President Roosevelt signed into law the “Current Tax Payment Act of 1943” 60 million Americans were instantly introduced to withholding on wages. Forced withholding was sold to the American people as a war-time emergency, a temporary radical loss of freedom to collect maximum revenue from the maximum number of taxpayers.  How dramatic was the effect of this new law requiring withholding on wages?  From 1943 to 1945, in just two years United States revenue collection increased from 7 Billion to 43 Billion with 60 Million new taxpayers all receiving  that strange new tax form called the W2..  Stay with us here on TaxView to discover what W2 replacement in the 21st century will save our economy and dramatically reduce the National Debt.

Fast forward to 2014.  The major costs of government is now domestic entitlements including medicare, disability, and social security..  Wars are costly, but are not as expensive as entitlements. and have never been a major burden to US growth and prosperity,.

Costs of Major U.S. Wars, 1775-2013     In todays dollars    % of GDP

American Revolution 1775-1783    2 Billion    N/A

War of 1812 1812-1815      2 Billion    2%

Mexican War 1846-1849   2 Billion  1%

Civil War: Union 1861-1865  60 Billion  11%

Civil War: Confederacy 1861-1865  20 Billion  N/A

Spanish-American War 1898-1899  9 Billion   1%

World War I 1917-1921  334 Billion 13%

World War II 1941-1945  4 Trillion    36%

Korea 1950-1953   341 Billion    4%

Vietnam 1965-1975   738 Billion   2%

Persian Gulf War 1990-1991   102 Billion  1%

Iraq 2003-2010    784 Billion  1%

Afghanistan 2001-2010  1 Trillion    1%                                 

In today's dollars only WW II was a significant cost as a percent of GDP.  The Government back then in the 1940s borrowed the money to pay for the war.  But the Government then paid back that borrowed money with increased tax revenue.  You might say the W2 form in 1943 saved the day back in the day and ushered in a rapid pace of growth, prosperity and American prestige around the globe as the nation headed into the 21st century.  

What will save us now in 2014?  With annual trillion-dollar deficits and national debt approaching the unthinkable $20 trillion level, how is the US Government going to collect more funds from a shrinking income tax paying base to pay back all the borrowed money. Is there another W2 type of scheme waiting in the wings?  I believe there is.

Imagine a National Sales Tax replacing the Income tax.  All that offshore money will quickly return to the US.  The underground economy would vanish. Tax receipt collections as a percent of GDP would rise as much if not more than it did back in 1943. when the W2 appeared on the scene..  A National Sales Tax in my view is a way to pay for necessary Government spending on domestic entitlements without cutting essential defense and military protection provided by our armed forces.  If you agree that a National Sales tax is the answer to an ever shrinking national tax base tell your elected representatives that you support a National Sales Tax to replace the obsolete Income Tax..  The National Sales Tax, a 21st century replacement for the 20th century W2.

Thank you for joining Chris Moss CPA on TaxView

Kindest regards Chris Moss CPA