Tax Court in Brief | Amos v. Comm’r | Net Operating Loss Deductions Denied; Penalties Proper

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The Tax Court in Brief – November 7th – November 11th, 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.

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Tax Litigation:  The Week of November 7th, 2022, through November 11th, 2022

Amos v. Comm’r, T.C. Memo. 2022-109 | November 10, 2022 | Urda, J. | Dkt. No. 4331-18

Summary: Petitioner, Betty Amos, “an accomplished” CPA challenged a notice of deficiency relating to disallowed net operating loss (“NOL”) deductions claimed on her 2014 and 2015 tax returns and determined accuracy-related penalties. From 1983 through 2011, Amos ran a total of 15 Fuddruckers restaurants, mainly through partnerships and S corporations. In the late-1990s, she ran into legal trouble with her business partner, Nick Buoniconti (a retired NFL Hall of Famer) and ultimately closed all Fuddruckers by 2011. The tax issues involved in the 2014 and 2015 tax returns regarded Amos’s carryforward— under 26 U.S.C. § 172—of NOLs relating to the Fuddruckers enterprise dating back to about 1999. By the time Amos filed her 2008 return, the NOL carryforward was near $6 million, and the NOL carryforward for each of the next three years exceeded $5 million. For 2012 and 2013, the NOL carryforward “dipped” to about $4.7 million. For her 2014 return, she claimed an NOL carryforward deduction of $4.2 million, resulting in negative $4.1 million of adjusted gross income. She claimed that the carryforwards were from losses incurred before 2012. A similar submission was made for the 2015 tax year. In February 2018, the IRS issued a notice of deficiency that determined deficiencies for 2014 and 2015, finding that Amos had not established that she sustained the loss in prior years. The IRS also assessed penalties under 26 U.S.C. § 6662(a).

Key Issues: Whether or not the IRS’s notice of deficiency and penalty assessment were proper?

Primary Holdings: Yes and yes. The determinations in the notice of deficiency to disallow the NOL deductions were upheld as were the section 6662(a) penalties. Amos (1) failed to provide sufficient evidence of the underlying NOLs in 1999 and 2000 and (2) failed to show that any NOL was available to carry forward to the years at issue. As for penalties, the IRS met its prima facie burden, and Amos failed to show that she acted with reasonable cause and in good faith with respect .

Key Points of Law:

Burdens of Proof. The IRS’s determinations in a notice of deficiency are generally presumed correct, and a taxpayer bears the burden of proving that the Commissioner’s determinations are in error. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). The taxpayer also bears the burden of proving her entitlement to any deduction claimed. New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). “If, in any court proceeding, a taxpayer introduces credible evidence with respect to any factual issue relevant to ascertaining the liability of the taxpayer . . . , the [IRS] shall have the burden of proof with respect to such issue.” 26 U.S.C. § 7491(a)(1). To avail herself of this burden shift, however, a taxpayer must have “complied with the requirements . . . to substantiate any item” and “maintained all records required under this title.” Id. at § 7491(a)(2)(A) and (B).

Record-Keeping. Section 6001 provides that the government [Secretary of Treasury] “may require any person” to “keep such records, as the Secretary deems sufficient to show whether or not such person is liable for tax under this title.” Treas. Reg. § 1.6001-1(a) specifies, in turn, that “any person subject to tax under subtitle A of the Code . . . shall keep such permanent books of account or records, including inventories, as are sufficient to establish the amount of gross income, deductions, credits, or other matters required to be shown by such person in any return of such tax or information.”

Net Operating Loss Deductions – General Requirements. Section 172 allows a taxpayer to deduct NOLs for a taxable year. The amount of the NOL deduction equals the aggregate of the NOL carryovers and NOL carrybacks to the taxable year. 26 U.S.C. § 172(a). Section 172(c) defines an NOL as the excess of deductions over gross income, computed with certain modifications specified in section 172(d). An unused NOL is first required to “be carried to the earliest of the taxable years to which . . . such loss may be carried.” Id. at § 172(b)(2). Any excess NOL that is not applied in one year is carried to the next earlier year. Id. at § 172(b)(2). Absent an election under section 172(b)(3), an NOL for any taxable year first must be carried back 2 years and then carried over 20 years. Id. at § 172(b)(1)(A), (2), (3).

Claiming an NOL. A taxpayer claiming an NOL must file with the return “a concise statement setting forth the amount of the net operating loss deduction claimed and all material and pertinent facts relative thereto, including a detailed schedule showing the computation of the net operating loss deduction.” Treas. Reg. § 1.172- 1(c). “A taxpayer who claims a net operating loss deduction bears the burden of establishing both the existence of the net operating loss and the amount that may be carried over to the year involved.” Chico v. Commissioner, T.C. Memo. 2019-123, at *39. A taxpayer “cannot rely solely on [his or her] own income tax returns to establish the losses [he or she] sustained.” Barker v. Commissioner, T.C. Memo. 2018- 67, at *13, aff’d, 853 F. App’x 571 (11th Cir. 2021). The taxpayer “must establish that the NOL was not fully absorbed in the years preceding the particular year for which [s]he seeks the NOL deduction.” Villanueva v. Commissioner, T.C. Memo. 2022-27, at *3. To meet this burden the taxpayer must introduce convincing evidence that he or she incurred NOLs in the taxable years and also prove the taxpayer’s taxable income for the applicable period, beginning and end. Power v. Commissioner, T.C. Memo. 2016-157, at *14.

Accuracy-Related Penalty. An accuracy-related penalty of 20% is imposed on the portion of an underpayment of tax attributable to negligence. 26 U.S.C. § 6662(a) and (b)(1). Negligence includes the failure to properly substantiate items claimed on the return. Treas. Reg. § 1.6662-3(b)(1). The IRS bears the burden of production with respect to a taxpayer’s liability for the section 6662(a) penalty and must produce evidence that the imposition of the penalty is appropriate. See 26 U.S.C. § 7491(c). The accuracy-related penalty does not apply to any part of an underpayment of tax if it is shown that the taxpayer acted with reasonable cause and in good faith with respect to that portion. 26 U.S.C. § 6664(c)(1); Rogers v. Commissioner, T.C. Memo. 2019-61, at *31, aff’d, 9 F.4th 576 (7th Cir. 2021).

Insights: Taxpayers claiming net operating loss deductions must be prepared to prove, with appropriate records and convincing evidence, all bases for the deduction. This means maintaining appropriate records of accounting and absorption dating back, at times, 20 years or more. And, a taxpayer’s assertion that the IRS’s acquiescence to tax positions in previous tax years should support a reasonable cause position for penalties will not likely carry the day for the taxpayer.