Is your airplane any of your business? The Tax Court yesterday dealt with a problem that will arise a lot as taxpayers struggle with the new 3.8% Obamacare Net Investment Income Tax: what “activities” can be considered to be part of a single business?
The issue comes up because “passive” activities are subject to the tax, while non-passive activities are exempt. It is especially important when S corporations are involved because their K-1 income is also exempt from the 2,9 Medicare tax and the .9% Obamacare Medicare surtax. The status of activities as “non-passive” usually depends on the amount of time spent working in the activity; if you can combine activities they are less likely to be passive.
Tax Court Judge Buch outlines yesterday’s case:
Mr. Williams is an aviation buff who owns a business that is unrelated to aviation. He purchased an airplane that he made available for rent, used for personal purposes, and used in his other business. On the Williams’ joint tax returns, they offset losses related to the ownership of the airplane against their income from the other business. Respondent disallowed those offsets…
Passive losses cannot offset non-passive income under the 1986 passive loss rules; they carry forward to offset future income until the activity is sold. Mr. Williams reported the airplane expenses as part of his business of training telemarketers. The court reviews the rules on combining activities (footnotes omitted; my emphasis):
Section 1.469-4(c), Income Tax Regs., sets rules for determining what constitutes a single “activity”. That regulation provides: “One or more trade or business activities or rental activities may be treated as a single activity if the activities constitute an appropriate economic unit for the measurement of gain or loss for purposes of section 469.” Whether activities constitute an “appropriate economic unit” depends on the facts and circumstances, giving the following five factors the greatest weight:
(i) Similarities and differences in types of trades or businesses;
(ii) The extent of common control;
(iii) The extent of common ownership;
(iv) Geographic location; and
(v) Interdependencies between or among the activities (for example, the extent to which the activities purchase or sell goods between or among themselves, involve products or services that are normally provided together, have the same customers, have the same employees, or are accounted for with a single set of books and records.)
The judge said the airplane wasn’t part of the same “economic unit” as Mr. Williams’ other business, called WPP:
The fact that there was no meaningful interdependence between the ownership of the airplane and the business of WPP is evidenced in part by the fact that Mr. Williams would rent another airplane for travel because he could earn more from renting WPP’s airplane to other pilots or pilot trainees than he would pay if he or WPP rented another airplane for a trip. Further, most of the airplane’s use and income came from renting the airplane outside WPP, which had no effect on the business of WPP. Likewise, there is no indication that the airplane activity depended on WPP; it was only an occasional user of the airplane. There is no evidence that WPP and the airplane activity had any of the same customers or that the two activities were integrated in any meaningful way.
When the airplane activity was separated his other business, Mr. Williams was unable to muster enough hours to reach “material participation,” making the airplane losses passive and non-deductible.
What does this mean in planning for the NIIT? Taxpayers get to revisit their activity groupings for 2013 and 2014 returns. Taxpayers with multiple businesses will want to ponder what things they can realistically combine. Just because you own both businesses doesn’t mean the tax law will consider them an “appropriate economic unit.”
Jack Townsend, Whistleblower Award for FBAR Penalties?
Jason Dinesen, Kudos to NAEA for Promoting EAs. Not to sound dumb, but isn’t that what the National Association of Enrolled Agents is supposed to do?
Russ Fox, The IRS Apparently Thinks They Won the Loving Case. “In Loving v. IRS, the IRS was permanently enjoined from the Registered Tax Return Preparer designation. One would think that the IRS would realize this and remove the designation from forms.”
Keith Fogg, How Bankruptcy Can Create a Pyrrhic Victory out of a Tax Court Win (Procedurally Taxing)
Peter Reilly, FAIR Tax Abolishes IRS – Then What? I have long thought the fair tax was half-baked gimmick, deceptively marketed. If you want to move to a consumption tax, move to a real consumption tax.
Adam Michel, What is the Consumed Income Tax? (Tax Policy Blog)
Allison Christians, Regulating Return Preparers: A Global Problem for the IRS:
The problem of regulating all foreigners in service of U.S. citizenship taxation plagues FATCA in the details, and it will plague the project of tax return preparer regulation as well. It won’t be easily solved unless Congress can accept that the universally practiced norm of residency-based taxation is really the only viable option in a globalized world. If not, as the world adjusts to the ongoing expansion of U.S. regulatory power through more — and more complex — financial regulation, everyone will have to accept that virtually every tax move Congress makes has global implications.
Via the TaxProf.
Just what the world needs: more IRS.
David Brunori, Keep the Inversion Hysteria Out of the States (Tax Analysts Blog). “A company’s decision to invert is no different from an individual’s decision to live in a state without an income tax or to buy a house rather than rent to take advantage of a tax break.” But, but, what about your loyalty oath? You must hate America! Or, worse, Iowa!
Scott Hodge, More Perspective on Inversions: Not a Threat to the Tax Base but the Face of U.S. Uncompetiveness (Tax Policy Blog)
Bob McIntyre, Statement: Despite Walgreens’ Decision, Emergency Action Is Still Needed to Stop Corporate Inversions (Tax Justice Blog, where inversion hysteria is always in style).
Eric Toder, How Political Gridlock Encourages Tax Avoidance (TaxVox)
Joseph Thorndike, The Origination Clause? Let It Go (Tax Analysts Blog). Since the courts allow the Senate to strip any house bill of its text and replace it with revenue provisions, it’s pretty much dead already. And that’s a shame.
Your legislators at work:
Chicago lawmaker pleads to misdemeanor; faced 17 felonies. ““I’m sorry I underestimated my taxes.”
Fattah Jr. released on bail following U.S. indictment on theft, fraud and tax-evasion charges. The son of a Congresscritter has tax issues? The apple doesn’t fall far from the tree.
TaxProf, The IRS Scandal, Day 454
Career Corner. Career Limiting Moves: A Beginner’s Guide (Leona May, Going Concern).
Tags: ACA, Allison Christians, Bob McIntyre, Career Corner, David Brunori, David Hirsanyi, Fair Tax, Jack Townsend, Joseph Thorndike, Judge Buch, Leona May, Net Investment Income Tax, NII, Obamacare, passive activities, Paul Neiffer, Peter Reilly, Russ Fox, TaxProf, X tax