Tax Court In Brief | Starer v. Comm'r | S Corp Passthrough; Constructive Dividend; Method Of Accounting; Bad Debt Deduction; Accuracy-related Penalties

• Published date: 05 January 2023
• Subject Matter: Accounting and Audit, Corporate/Commercial Law, Tax, Accounting Standards, Corporate and Company Law, Income Tax, Tax Authorities, Shareholders
• Law Firm: Freeman Law
• Author: Freeman Law

The Tax Court in Brief - December 19th - December 23rd, 2022

Freeman Law's "The Tax Court in Brief" covers every substantive Tax Court opinion, providing a weekly brief of its decisions in clear, concise prose.

For a link to our podcast covering the Tax Court in Brief, download here or check out other episodes of The Freeman Law Project.

Tax Litigation: The Week of December 19th, 2022, through December 23rd, 2022

• Brooks v. Comm'r, T.C. Memo. 2022-122 | December 19, 2022 |Wells, J. |Docket No 28206-15
• Ayria v Commissioner T.C. Memo. 2022-123 | December 19, 2022 | Lauber, J.| Dkt. No 13745-20
• Mamadou v. Comm'r, T.C. Memo 2022-121 | December 20, 2022 | Lauber, J. | Dkt No. 9759-21L
• Schwartz v. Comm'r, T.C. Memo. 2022-125| December 21, 2022 | Vasquez, J. | Dkt. No. 17291-14L

Starer v. Comm'r, T.C. Memo. 2022-124 | December 20, 2022 |Wells, J. |Docket No. 615-13

Summary: This 28-page opinion regards Petitioners Robert Lewis Starer and Merle Ann Starer (the "Starers"), controlling shareholders of the Bayview Corp. (Bayview), an S corporation. Bayview operated agriculture and horse-breeding businesses and served as a holding company for the Starers' primary residence, a farm, and several unimproved subdivided properties initially marked for development. Ultimately, the Tax Court addressed six distinct issues (listed below) all stemming from the IRS's deficiency notice issued to the Starers for tax years 2008, 2009, and 2010, which included determinations of deficiencies totaling over $1.3 million and penalties totaling over $250,000.

Boiled down in Tax Court in Brief style, the opinion regards the Starers' tax liability arising from real property sales made by Bayview to family members and long-standing business acquaintances of the Starers (none of which appeared to have arm-length qualities in application) as well as transactions and inter-company transfers involving debt forgiveness among Bayview and two other of the Sharers' closely held corporations, Village Builders, Inc. (Village Builders) and Historic Arms, Inc. (Historic Arms), and two later-formed grantor trusts, Old Plantation Trust and Family Plantation Trust. Village Builders operated a construction business that built modular homes. Historic Arms operated a firearms training and dealing business out of a residence in which Bayview owned but leased to the Sharers for no rent. The Starers and their related entities operated under the cash method of accounting. With regard to the real property transactions, Bayview and the Sharers (along with the purchasers) did not maintain arms-length relationships on the deals, especially in regard to Bayview's contractual rights upon default by the purchasers, Bayview's failure to exercise repurchase rights, and Bayview's complete acquiescence to the substantial financial obligations owed by the defaulting purchasers. Some of the transfers appeared to be gratuitous, despite parcel valuations near $1 million.

Notice of Deficiency. The IRS conducted an examination of Bayview's tax returns for taxable years 2008 through 2010, which led to adjustments of the Starers' individual income tax for the same years. In the notice issued to petitioners, the IRS determined the deficiencies totaling over $1.3 million for the three-year period in issue and, pursuant to section 6662(a), penalties totaling over $250,000. The Starers timely petitioned the Tax Court for redetermination.

Key Issues and Short Answers:

(1) Whether any resulting tax liabilities from the transactions in issue should pass through to the Starers' two grantor trusts as shareholders of record in Bayview or to Starers as reported on Bayview's tax return?

Short Answer: No. The Sharers presented no evidence demonstrating, for these purposes, that they filed the required S Corp election or election statement as required by Treasury Regulation ' 1.1361- 1(m)(2)(i) and (ii)(A).

(2) Whether the IRS's determination that Bayview's accounting of four transfers of property should be treated as sales rather than loans constitutes a change in Starers' method of accounting, and if so, whether the IRS abused his discretion in making the determination?

Short Answer: The transactions in issue were sales because Bayview never intended to fulfill its repurchase obligations. And, the IRS did not abuse its discretion in making the changes to Bayview's method of accounting.

(3) Whether two transfers of property constitute constructive distributions of appreciated property from Bayview to the Starers?

Short Answer: Yes. The...