Tax News

CCH (cch.taxgroup.com) reports:

  A corporation wholly owned by an individual was denied deductions for claimed net operating losses, allowed claimed bad-debt deductions, partially denied a deduction for professional fees incurred for the benefit of the owner, and the owner was subject to tax on any of the fees for which the deductions were denied. The corporation was involved in many retail and vending businesses, including the sale of coffee and cigarettes. The owner was charged with and convicted of several counts of tax evasion, the defense of which was paid for by the corporation.

  The corporation was not entitled to a deduction for net operating losses under Code Sec. 172 for state tobacco tax refunds it claimed to have accounted for prematurely. The corporation presented no credible evidence that the refunds were ever actually received, as state tax filings did not indicate any offsets or overpayments of taxes. Further, the theory upon which the corporation claimed to be entitled to the refund was not valid under the laws of the state.

  The corporation was entitled to a bad-debt deduction under Code Sec. 166 for amounts owed by the mistress of the corporation's owner. The corporation claimed that the owner transferred assets from the corporation to the mistress to hold in trust to pay to the owner's ex-wife in satisfaction of a divorce settlement. However, the corporation failed to provide credible evidence establishing that this event even occurred and, if it had occurred, that a valid creditor/debtor relationship was established. Nonetheless, the corporation's claim to a bad-debt deduction was upheld because a state court entered a judgment requiring the mistress to pay money to the corporation, and a creditor/debtor relationship was thereby established. In the proceedings for the mistress's bankruptcy petition, the debt was settled for a lesser amount, and the corporation was entitled to a deduction under Code Sec. 166 for the difference.

  The corporation was entitled to deductions, as trade or business expenses under Code Sec. 162, for some of the professional fees incurred by a wholly owned subsidiary corporation in the legal defense of the owner. The corporation was entitled to claim deductions for expenses paid by the subsidiary because the subsidiary understood that it would be reimbursed for the expenses by the corporation, so the corporation was the actual payor of the expenses. Several of the expenses claimed to be incurred as professional fees (specifically, legal fees) were properly disallowed as deductions because the corporation either failed to properly substantiate the expenses or the expenses were incurred solely for the benefit of the corporation's president and sole shareholder. Expenses were found to be solely for the benefit of the individual if the expenses either did not benefit both the individual and the corporation due to the individual's importance to the corporation or if the legal expenses did not arise out of the individual's role with the corporation.

  Any professional expenses paid for the benefit of the corporation's owner and president that were not deductible by the corporation as trade or business expenses constituted constructive dividends to the owner under Code Sec. 301, and he was subject to ordinary tax on the amount of the covered expenses up to the amount of accumulated earnings and profits held by the corporation under Code Sec. 316. Any amounts determined to be dividends in excess of the corporation's earning and profits were taxed as long-term capital gain.

  The corporation was liable for an addition to tax under Code Sec. 6651 for a failure to timely file a return.

  Related cases at 2008-1 USTC ¶50,206; and 2009-1 USTC ¶50,289.

HIE Holdings, Inc., TC Memo. 2009-130, Dec. 57,847(M)

Other References:

 
Code Sec. 162

  CCH Reference - 2009FED ¶8520.588

  CCH Reference - 2009FED ¶8526.4462

 
Code Sec. 166

  CCH Reference - 2009FED ¶10,650.12

  CCH Reference - 2009FED ¶10,650.515

 
Code Sec. 172

  CCH Reference - 2009FED ¶12,014.3095

  CCH Reference - 2009FED ¶12,014.311

  CCH Reference - 2009FED ¶12,014.411

 
Code Sec. 316

  CCH Reference - 2009FED ¶15,704.22

 
Code Sec. 6651

  CCH Reference - 2009FED ¶39,475.23

  Tax Research Consultant

  CCH Reference - TRC CCORP: 6,308

  CCH Reference - TRC BUSEXP: 18,052.10

  CCH Reference - TRC BUSEXP: 45,100

  CCH Reference - TRC BUSEXP: 48,050

  CCH Reference - TRC BUSEXP: 48,300

  CCH Reference - TRC PENALTY: 3,052