Tax Court in Brief | Romana v. Commissioner | Miscellaneous Itemized Business Expenses and Accuracy-Related Penalty

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Tax Court in Brief | Romana v. Commissioner | Miscellaneous Itemized Business Expenses and Accuracy-Related Penalty

The Tax Court in Brief – June 13th – June 17th, 2022

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Tax Litigation:  The Week of June 13th, 2022, through June 17th, 2022

Romana v. Commissioner, T.C. Summary Opinion 2022-9 | June 16, 2022 | Carluzzo, J.| Dkt. No. 1156-21S

Opinion

Summary: In this case, the miscellaneous itemized deductions of taxpayers, Raul Romana and Maria Romana (together, the Romanas), were in issue. Raul Romana was employed as a stationary engineer. Maria Romana was employed as a nurse in a plastic surgery clinic operated by Kaiser Permanente (Kaiser). Kaiser’s dress code required that she be dressed in “comfortable” clothes and in a manner that reflected her profession as a nurse. Neither Kaiser nor the collective bargaining agreement for her nursing union had a policy that allowed reimbursement for the expenses she incurred to purchase clothing that satisfied the dress code. While at work, Maria Romana wore scrubs that she purchased and dry-cleaned at her own expense. The Schedule A, Itemized Deductions, included with the Romanas’ 2017 return showed various deductions, including unreimbursed employee business expenses relating to Maria Romana’s employment with Kaiser and Raul Romana’s employment as a stationary engineer. The expense categories were professional dues, uniforms and protective clothing, dry cleaning/laundry, seminars, tools, telephone, and internet. The IRS disallowed the miscellaneous itemized deduction for unreimbursed employee business expenses claimed for uniforms and protective clothing, dry cleaning and laundry, tools, telephone, and internet. The IRS also imposed a section 6662(a) accuracy-related penalties.

Key Issues:

  • Whether the Romanas (1) are entitled to a miscellaneous itemized deduction for unreimbursed employee business expenses for the tax year in issue in excess of the amount already allowed by the IRS and (2) are liable for a section 6662(a) accuracy-related penalty for any year in issue.

Primary Holdings:

  • Maria Romana’s work-clothing expenses were deductible to the extent of the amounts shown in the record; the clothing was not adaptable to general use as ordinary clothing outside of her employment. The expenses for tools, phone, and internet, however, were not deductible as unreimbursed employee business expenses; the Romanas failed to show how these expenses were for business versus personal use.
  • The Romanas made a reasonable and good faith attempt to comply with the tax requirements under the circumstances—they sought competent tax advice from a professional, they regularly met with and provided records to their tax practitioner, and the Romanas, in good faith, attempted to comply with their tax obligations. The court found that the Romanas should not be assessed an accuracy-related penalty under section 6662(a).

Key Points of Law:

  • Burden of Proof. As a general rule, the IRS’s determination of a taxpayer’s federal income tax liability in a notice of deficiency is presumed correct, and the taxpayer bears the burden of proving that the determination is erroneous. Rule 142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933).
  • Itemized Deductions for Business Expenses. Deductions are a matter of legislative grace, and the taxpayer bears the burden of proving entitlement to any claimed deduction. Rule 142(a); INDOPCO, Inc. v. Commissioner, 503 U.S. 79, 84 (1992); New Colonial Ice Co. v. Helvering, 292 U.S. 435, 440 (1934). This burden requires the taxpayer to substantiate expenses underlying deductions claimed by keeping and producing adequate records that enable the IRS to determine the taxpayer’s correct tax liability. IRC § 6001; Treas. Reg. § 1.6001-1(a); Hradesky v. Commissioner, 65 T.C. 87, 89–90 (1975), aff’d per curiam, 540 F.2d 821 (5th Cir. 1976); Meneguzzo v. Commissioner, 43 T.C. 824, 831–32 (1965). Taxpayers may deduct ordinary and necessary expenses paid in connection with operating a trade or business. § 162(a); Boyd v. Commissioner, 122 T.C. 305, 313 (2004). Generally, the performance of services as an employee constitutes a trade or business. Primuth v. Commissioner, 54 T.C. 374, 377 (1970). If, as a condition of employment, an employee is required to incur certain expenses, then the employee is entitled to a deduction for those expenses unless entitled to reimbursement from his or her employer. See Fountain v. Commissioner, 59 T.C. 696, 708 (1973); Spielbauer v. Commissioner, T.C. Memo. 1998-80.
  • Miscellaneous Itemized Deductions. The deduction for unreimbursed employee business expenses is a miscellaneous itemized deduction, and the amount that may be claimed is subject to statutory adjusted gross income threshold in effect. See IRC §§ 67(b), 63(d)(1), 62, 67(a)-(b).
  • Clothing Deduction. Clothing costs are deductible as ordinary and necessary business expenses under section 162 only if (1) the clothing is of a type specifically required as a condition of employment, (2) it is not adaptable to general use as ordinary clothing, and (3) it is not so worn. See Yeomans v. Commissioner, 30 T.C. 757, 767 (1958); see also Deihl v. Commissioner, T.C. Memo. 2005- 287. Generally, the cost of a business wardrobe, even if required as a condition of employment, is considered a nondeductible personal expense within the meaning of section 262. See, e.g., Hynes v. Commissioner, 74 T.C. 1266, 1290 (1980).
  • Section 6662(a) Accuracy-Related Penalty. The accuracy-related penalty does not apply to any portion of an underpayment if it is shown that there was reasonable cause for the taxpayer’s position and that the taxpayer acted in good faith with respect to that portion. R.C. § 6664(c)(1); Treas. Reg. § 1.6664-4(a). The determination of whether a taxpayer acted with reasonable cause and in good faith is made on a case-by-case basis, taking into account all the pertinent facts and circumstances, the most important of which is the extent of the taxpayer’s effort to assess his or her proper tax liability for the year. Treas. Reg. § 1.6664-4(b)(1). The taxpayer bears the burden of proof with respect to reasonable cause. Higbee v. Commissioner, 116 T.C. 438, 446 (2001).

Insights: Deductions are a matter of legislative grace, and the taxpayer bears the burden of proving entitlement to any claimed deduction. If a taxpayer has a miscellaneous item to deduct as a business expense, the taxpayer must be prepared to show that the expense is ordinary and was necessarily paid in connection with operating a trade or business and not for personal use. The IRS and the Tax Court evaluates these deductions on a case-by-case and item-by-item basis. Also, a taxpayer might avoid accuracy-related penalties by engaging and working diligently with a competent tax professional.