What would you do…if you prepare income taxes out of your home and feel harassed by clients calling you at all hours—and you (likely) have alcoholic biochemistry? (TAR Lite # 32)
1. Turn off the ringer on your phone from 5 pm to 8 am?
2. Let the phone ring through to voice mail after hours?
3. Get a separate phone line and ignore the work phone after normal business hours?
4. Under the theory that your business requires you to get rest so you can better function and earn a living, deduct the travel costs required to “get away” from clients, including those for a Holiday Inn, a car rental service, and a stay at a casino?
Congratulations if you selected # 4, because that’s what Joyce A. Linzy did on her own tax return. Her clever-by-half idea was shot down by the IRS and, later, by the United States Tax Court, and while they were at it the Court disallowed deductions for an office in her home (she claimed half the building in which she lived for her business), a slew of unproven gambling losses, repayment of tax-free disability benefits, as well as some entertainment deductions.
I only wonder why there were no reports of large deductions for booze and booze-filled parties, but perhaps those made it through the court case uncontested.
Even more interesting, this is Lizzy’s second foray into the United States Tax Court in three years. She had already taken another audit to trial for her 2007 return and now this one, for 2009. While any single misbehavior is not strongly indicative of substance addiction, serial misbehaviors—which these cases reveal—argue compellingly for addiction. She appears to be a fairly big gambler; whether or not it’s compulsive is not clear, but if she is, the odds of addiction in the single behavior alone are 50%. She worked, yet collected Social Security Disability, a government “entitlement” often serving to institutionalize enabling for addicts and for which fraudulent or semi-fraudulent claims are becoming increasingly common. Yet it’s her misinterpretations of the tax code and lack of proper recordkeeping that are most compelling, especially considering she is a purported expert in the subject, with at least 15 years of experience.
First, she repaid MetLife disability payments received, because she later qualified for Social Security Disability for those years (apparently while she was working; as an aside, there is tremendous fraud in Social Security disability program). Up to 85% of her Social Security Disability payments were added into her taxable income, while the MetLife payments were tax-free. Anyone with basic knowledge of tax law understands the “tax benefit rule,” which states that repayments of previously-taxed income are be deductible, while repayments of (and expenses incurred to produce) non-taxable income are never deductible. Yet she deducted the repayment to MetLife, which the IRS correctly disallowed.
Second, she deducted numerous expenses on her Schedule C (profit or loss from business), for which she lacked proof. Any taxpayer, much less “tax pro,” knows that deductions require proper records. The “Cohan Rule,” under which reasonable deductions can be allowed without receipts for anything other than travel and entertainment, requires some sort of indirect proof; she couldn’t even meet that standard for many of the deductions claimed.
Third, any competent tax pro knows you can’t deduct personal vacations, even if you are trying to get away from clients.
Fourth, as a “tax pro” she should know that a deduction for business use of home can be taken only if the use is exclusive. She couldn’t meet that standard.
Fifth, while she reported $17,693 in gambling winnings on the originally-filed return, she took no deduction for gambling losses. In audit, she claimed she had losses exceeding the gambling winnings, but could not substantiate those either directly or indirectly. The Court stated, “We have used the Cohan rule to estimate a taxpayer’s gambling loss deductions when the taxpayer provided both bank statements recording ATM withdrawals at a casino and credible testimony regarding specific details of his practices regarding ATM withdrawals and his gambling activities.” The Court would have no doubt given Linzy some slack with the most basic of records, but pointed out she failed to provide such testimony and ruled she was “not entitled to offset her gambling winnings with any gambling loss deductions.” (Emphasis added.)
Sixth, in the 2007-return audit, Linzy originally didn’t itemize personal deductions but, with changes to income increasing her tax, decided at trial that she wanted credit for $12,000 of medical deductions and $12,350 of charitable contributions. This is multi-faceted. Any competent professional knows how difficult it is to get a deduction in audit or court for items not originally claimed. She could not prove that she paid all of the medical expenses or those that she paid were not reimbursed; they were summarily disallowed. In court she claimed to have made donations exceeding $250 or more on a number of occasions, for which strict rules must be followed (see pp. 5-6 of issue # 51 of Wealth Creation Strategies for an explanation). She failed to meet the substantiation rules for all but $570 of the donations claimed.
Finally, in the 2007 case the Court pointed out Linzy’s “inexactitude” was of her own making and that the business expenses claimed but denied by the IRS in audit were “not well organized and have not been submitted to the Court in a fashion that allows for easy association with the portions of deductions that remain in dispute….[Linzy] claimed on her Schedule C a deduction of $34,880 for contract labor [which the IRS disallowed in its entirety] for lack of substantiation. None of the numerous receipts [Linzy] offered in support for her claimed contract labor expense were for contract labor. However, some of the receipts were for valid business expenses properly deductible elsewhere on” Linzy’s Schedule C. Embedded in the receipts for “contract labor” the Court found receipts for blinds, a carpet, a fence, a vacuum, repairs and furniture, which included a desk, a file cabinet and a dining set, all of which the Court (generously) allowed.
The question I kept asking as I read the cases (which make for interesting reading even to the non-professional) was, “How drunk is she?”