Second Circuit Affirms Importance of Proper Valuations for Facade Easements

Second Circuit Court of AppealsOn Wednesday, June 18, 2014, the Second Circuit Court of Appeals affirmed the U.S. Tax Court’s ruling in Scheidelman v. Commissioner, TC Memo 2013-18.

This is Scheidelman’s second, and likely final, visit to the Second Circuit Court of Appeals. See our previous discussion of the Second Circuit’s decision to vacate and remand the case back to the U.S. Tax Court.

Read the full opinion here:  Scheidelman v. Commissioner, No. 13-2650 (2d. Cir., June 18, 2014).

Shea Homes v. Commissioner: Tax Court Allows Homebuilder to Defer Recognition of Income from Home Sales

us_Tax_Court_fasces-with-red-ribbonIn Shea Homes, Inc. v. Commissioner, the Tax Court allowed a homebuilder to defer the recognition of income, using the completed contract method under IRC § 460(e)(1)(A), from home sales in a newly constructed development until the entire development was nearly complete.

The specific facts and contracts in Shea were crucial to the court’s determination.

Read the entire opinion here:
Shea Homes, Inc. v. Commissioner, 142 T.C. No. 3 (2014).

Rent-A-Center v. Commissioner: Significant Win for Captive Insurance Companies

Rent-A-Center Logo

In Rent-A-Center, Inc. v. Commissioner, the majority court affirmed deductions for premiums paid to the taxpayer’s Bermuda captive insurance subsidiary, finding that the captive was adequately capitalized with qualified assets that meaningfully shifted risk.  The dissenting judges disagreed with the majority’s conclusions on the facts and the law finding that Rent-A-Center’s captive arrangement did not constitute insurance for tax purposes.  Split decisions in the Tax Court are infrequent and an appeal may be in store.

Read the full opinion here:
Rent-A-Center, Inc. v. Commissioner, 142 T.C. No. 1 (2014)

Famous Fridays: Wesley Snipes, A Lesson in Listening to Bad Advice

1336381705Wesley Snipes was at the center of one of the most publicized tax trials of the last twenty years. Snipes got his start on the small screen with appearances on Miami Vice and in Michael Jackson’s “Bad” music video. His star rose quickly after he appeared as Willie Mays Hayes in the baseball spoof, Major League. He was probably best known for playing the comic book action hero Blade.

Snipes was indicted in 2006 for tax fraud and failure to file returns. His tax problems traced back to the advice of his accountants/tax advisors, Eddie Ray Kahn and Douglas Rosile, who came up with an argument that most of Snipes’ income was exempt from tax. Kahn and Rosile claimed that U.S. citizens could only be taxed on income earned from certain foreign-based activities and not on money made in the U.S. They relied upon a facetious argument which cited IRC § 861 to exclude income earned in the United States by U.S. citizens. This well worn tax protester argument wasn’t new to the courts having been struck down by the Tax Court as early as 1993. See, Solomon v. Commissioner, TC Memo. 1993-509.

Ignoring IRC § 61, and most of the rest of the Internal Revenue Code, Snipes’ advisors argued that only income derived from “taxable activities” is taxable income. They looked to Treas. Reg. § 1.861-8T(d)(2)(iii) to define taxable activities and maintained that, as a United States citizen, Snipes and other clients were not subject to tax on wages derived from sources within the United States. Snipes and his advisors faced a difficult battle given the large volume of Court cases rejecting the IRC § 861 argument and the identification of the argument as a legally frivolous tax return position under IRC § 6702(a).

Snipes pursued his argument in a big way. Snipes filed tax returns though 1999, when presumably he was approached by Kahn and Rosile. He filed amended tax returns seeking $12 million in refunds on taxes he paid in 1996 and 1997. Claiming he had no wages, Snipes stopped filing altogether from 1999 through 2004 – tallying over $15 million in back taxes.

The Department of Justice already had a line on Snipes advisors, having issued a restraining order against Rosile in 2002 for promoting this scheme. After gathering evidence on Snipes, Rosile, and Kahn, the Department of Justice indicted Snipes in 2006. He pleaded not guilty to all counts.

The case went to trial in 2008 with Snipes facing over 16 years in prison. Confident in their case, the defense team did not call any witnesses and rested after less than an hour. Snipes was found not guilty of felony tax fraud, but was convicted of three misdemeanor counts of failing to file tax returns.

In a gesture of good will, Snipes wrote three checks amounting to $5 million to the U.S. Treasury prior to his sentencing. The payments were accepted, but Snipes was still sentenced to three years in prison – the maximum sentence requested by federal prosecutors. He began serving his sentence in 2010 after his appeal requesting a new trial was denied. Kahn and Rosile were not as fortunate. They were sentenced to 10 and 4.5 years, respectively.

Snipes was released from prison in April 2013 to serve the remainder of his three year sentence under house arrest. It looks like he landed on his feet, as he’ll have a role in the movie Expendables 3 slated for release in 2014. Hopefully, he’ll look to § 61 to report his income moving forward.

Revised Due Dates for Tax Court Filings

us_tax_courtBecause of the government shutdown which began October 1, 2013, and ended October 16, 2013, revised due dates apply for the following United States Tax Court filings.

Pretrial Memoranda

  • Pretrial memoranda for Regular and Small Tax Case sessions beginning October 28, 2013, are due by “October 24 if possible.” If filed, parties are asked to bring courtesy copies to calendar call.
  • Pretrial memoranda for Regular and Small Tax Case sessions beginning November 4, 2013, are due by October 31, 2013.
  • Due dates for pretrial memoranda in cases calendared for trial November 12, 2013, and thereafter are unchanged from those provided in the Standing Pretrial Order and Standing Pretrial Notice.

Opening, Answering & Reply Briefs

  • Opening, Answering & Reply Briefs with an original due date between October 1 and October 16 are due November 8, 2013.
  • Opening, Answering & Reply Briefs with an original due date between October 17 and November 4 are due November 15, 2013.

Answers

  • Answers with an original due date between October 1 and October 16 are due November 8, 2013.
  • Answers with an original due date between October 17 and November 4 are due November 15, 2013.

Decisions

  • Decisions with a due date between October 1 and November 21 are due November 22, 2013.

All Other Items & Actions

  • All other items to be filed or actions required to be taken with an original due date between October 1 and October 16 are due October 25, 2013.
  • All other items to be filed or actions required to be taken with an original due date between October 16 and October 27 are due October 28, 2013.

Please be reminded that statutory deadlines for filing petitions were not extended during the government shutdown.

Read the Tax Court’s official guidance here:
Tax Court Announcement Final 10.17.13

U.S. Tax Court Reopens Today

UnknownThe United States Tax Court reopens today with the end of the government shutdown. Electronic forms may be filed and hand-delivered petitions will be accepted. Tax Court sessions scheduled to begin on October 21, 2013 will be held as previously scheduled.

Additional information will be posted with details about cancelled trial sessions and grace periods for suspended due dates.

Read more here:
US Tax Court Startup Interim Announcement

Tax Court Reverses Itself on Qualified Appraisals for Façade Easements

UESThe proper standard for a qualified appraisal in the façade easement context has been vigorously contested by the IRS in recent years. In a rare reversal on reconsideration, the Tax Court adopted the Second Circuit Court of Appeals’ view of the necessary elements for a qualified appraisal in the context of these easement deductions. In short, the Court affirmed that the regulatory standard for a qualified appraisal requires only a method of valuation and a basis for valuation.

The decision under reconsideration was Friedberg v. Commissioner , TC Memo. 2011-238. In the reversal the Tax Court observed its practice of following the precedent of the U.S Court of Appeals to which a case may be appealed, first established in Golsen v. Commissioner, 54 T.C. 742 (1970).

In 2002, the taxpayers, Mr. Friedberg and Ms. Moss, purchased a townhouse in Manhattan’s Upper East Side Historic District for $9,400,000. In 2003, the National Architectural Trust (NAT) contacted Mr. Friedberg and asked him to donate a façade easement. Mr. Friedberg agreed and contacted an appraiser, recommended by NAT, who appraised the value of the easement. The appraisal concluded that the total loss of value, including the easement and the value of unused development rights, was $3,775,000. The taxpayers deducted that amount on their 2003 tax return as a charitable donation of a qualified conservation easement. The Commissioner challenged the deduction with a statutory notice of deficiency. The taxpayers filed a petition in the Tax Court.

The Tax Court issued an opinion following cross-motions on summary judgment. One of the questions decided in favor of respondent was that the taxpayers had failed to provide a qualified appraisal under Treas. Reg. §1.170A-13(c)(3)(ii). In reaching that determination, the Court followed its findings in Scheidelman v. Commissioner, T.C. Memo. 2010-151 (Scheidelman I) where it found that

“the mechanical application of a percentage diminution to the fair market value before donation of a façade easement does not constitute a method of valuation as contemplated under section 1.170A-13(c)(3)(ii).”

Though Friedberg and Moss lost on that issue, not all of the argued issues were decided, including whether the appraisal was “qualified” as to the valuation of the unused development rights. The parties continued discovery on that question.

Meanwhile, in Scheidelman v. Commissioner, 682 F.3d 189 (2d Cir. 2012) (Scheidelman II), the Second Circuit vacated the Tax Court on the qualified appraisal standard referenced in the Friedberg opinion. The Court of Appeals held that Huda Scheidelman had obtained a qualified appraisal under the regulations because her appraisal adequately specified the appraiser’s method of, and basis for, determining the easement’s fair market value.

Friedberg and Moss were still hashing out interrogatories and depositions when the Second Circuit decided Ms. Scheidelman’s case. They filed a motion for reconsideration of the Court’s earlier ruling under Tax Court Rule 161. The Tax Court granted the motion.

On reconsideration, the Tax Court found that the appellate opinion “specifically alter[ed] the underlying law” applied in the 2011 Friedberg decision. The Tax Court held that under Scheidelman II

“any evaluation of accuracy is irrelevant for purposes of deciding whether the appraisal is qualified pursuant to section 1.170A-13(c)(3)(ii)(J), Income Tax Regs.”

Accordingly, the Court re-examined the two elements necessary for a qualified appraisal under Treas. Reg. §1.170A-13(c)(3): (1) a method of valuation and (2) a specific basis for the valuation. With regard to the first element, the Court found that Mr. Freidberg’s appraiser provided sufficient information to enable the Commissioner to evaluate his underlying methodology. Thus it included a method of valuation. The Court then considered and found that the appraisal included “some research and analysis” which was enough to establish a specific basis for the appraisal. The legal standard met, the Court reversed its holding in favor of the government and granted summary judgment for the taxpayers on the question of whether they had obtained a qualified appraisal.

The case is hardly over for Friedberg and Moss though. The Court specifically did not opine on the reliability and accuracy of the appraisal, reserving that factual determination for trial. Nonetheless, the Court’s reconsideration reversed its legal ruling in favor of the government and re-established the appraisal as qualified under the regulations. Whether the merits of the appraisal will withstand the scrutiny of a trial remains to be determined.

Read the opinion here:
Friedberg v. Commissioner, TC Memo. 2013-224

Tax Court Filing Deadlines during Government Shutdown

us_tax_courtFacing a deadline to file a petition to challenge your Statutory Notice of Deficiency or seek a Redetermination of Collection Due Process Hearing while the federal government is shut down?

Your deadline is not extended.

Statutory Filing Deadlines

The Tax Court lacks the authority to extend statutory filing deadlines imposed in the Internal Revenue Code. So, even though you may not hand deliver the petition to the Tax Court (since it is closed), you still must file by the statutory deadline.

Accomplish your filing and preserve your rights by timely mailing the petition. The post office is still open during the shutdown.

You may also deliver the petition by an approved private express delivery company (FedEx, UPS, etc.). Note that the standard for determining compliance with the deadline by mail is a timely USPS postmark. However, the standard for timely filing for express companies is a certificate of delivery. Confirm that the delivery company you are using will deliver or issue a certificate of delivery to an office that is closed, such as the Tax Court, before relying on that option to file your petition.

Other Tax Court Due Dates Extended

Due dates previously set by Tax Court Rule or Order for filing a document, completing discovery, or any other act shall be extended. All such due dates on or after October 1, 2013, shall be extended by the number of days that Court operations are suspended, up to a maximum extension of 5 days from the date the Court resumes operations. If the extended due date falls on a Saturday, Sunday, or a “legal holiday”, the due date shall then be the next succeeding day that is not a Saturday, Sunday, or a legal holiday.

Read the Tax Court guidance here:
Tax Court Government Shutdown Public Statement

Tax Court: Business Expense Deductions Still Require…a Business

bowling-w-fred-flintstoneIn a case that would have Fred Flintstone rolling over in his grave, the Tax Court reminded us that expenses incurred while pursuing a hobby cannot be claimed as deductions – no matter how you see it.

Bruce Phillips was a career postal worker. He was also a self-taught bowler. Until 2004, he worked the night shift and spent a far amount of time at the bowling alley.

2000 was a very good year for Mr. Phillips. He won over $50,000 in bowling tournaments. It seemed his pastime might be lucrative enough to become a business. He invested heavily in the bowling venture – to the tune of $30,000 per year. He was not an overnight sensation though. He only won more than $10,000 in a year once more. He nonetheless continued to view bowling as his business.

That brings us to 2008. In 2008, Mr. Philips was working days for the post office and apparently found less time to bowl. Even though he had not won a tournament in three years, he continued to devote substantial resources to his bowling endeavors – or at least he claimed that he did on his 2008 tax return. Mr. Phillips claimed earnings of $67,171 from the postal service and deductions for business expenses of $28,243 related to his bowling endeavors in 2008. (Credit Mr. Phillips’ accountant who refused to sign the return.)

The IRS denied Mr. Phillips’ business expenses and he challenged the Commissioner’s determinations by filing a pro se petition in Tax Court. The Tax Court walked through the nine factors in Treas. Reg. §1.183-2(b), which defines activities not engaged in for profit, concluding that Mr. Phillips satisfied none of them. The Court’s conclusion probably had as much to do with Mr. Phillips’ failure to produce evidence that he even participated a bowling tournament in 2008 as it did with his failure to show that he carried out his bowling venture in any kind of business-like manner. It seems from the evidence and testimony recounted in the opinion that he did neither.

Mr. Phillips’ business expense deductions were denied in full and he found himself subject to an accuracy-related penalty of 20%. Gutter ball.

Read the entire opinion here:
Phillips v. Commissioner, TC Memo. 2013-215

Tax Court Reasserts Position on Conservation Easements

Opining on a motion for reconsideration, the Tax Court has reaffirmed the circumstances under which a conservation easement might be extinguished without violating the regulatory requirement that the donation be made in perpetuity. Asked to account for an intervening change in the law based on First Circuit Court of Appeals’ decision in Kaufman v. Shulman, the Court declined to change its earlier decision in Carpenter v. Commissioner, T.C. Memo. 2012-1.

In the matter under reconsideration, the parties reserved the right to extinguish the conservation easement by mutual agreement. Under those circumstances, the donee organization would have received its proportionate share of the proceeds following removal of the easement. The taxpayers argued that these circumstances met the in perpetuity “safe harbor” under Treas. Reg. Sec. 1.170A- 14(g)(6)(i) for terminated conservation easements.

The Court disagreed and emphasized that “extinguishment by judicial proceedings is necessary” to satisfy the regulation and that a proportionate share reserved for the donee organization is not an adequate substitute for guaranteeing the donation in perpetuity. The Court also reminded the taxpayers that in cases appealable to Federal Courts of Appeals that had not ruled on the issue – as was the case here – the First Circuit’s decision is not binding on the Tax Court.

Read the entire opinion here:
Carpenter v. Commissioner, T.C. Memo. 2013-172