Tax Court in Brief | Spencer v. Commissioner | Detailed Business Deductions and Substantiation Requirements | law of the free man


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Tax litigation: The week of June 6, 2022 to June 10, 2022

Spencer vs. Commissioner, Memo TC. 2022-8 | June 7, 2022 | Marshall, J. | Dekt. No. 17106-19S


Short summary: This case involves the disallowance of the taxpayer’s deductions for (1) contract labor expenses, (2) car and truck expenses, and (3) repairs and maintenance expenses for non-compliance with substantiation requirements. During the 2016 and 2017 taxation years, Brandon Spencer (Spencer) operated Home Comfort Transportation LLC (Home Comfort), a business that provided non-emergency transportation services to medical patients. As part of its business, Home Comfort purchased and maintained vehicles and had full-time and part-time drivers who were paid by check and cash, respectively. Cash compensation was not documented. Additionally, Spencer kept receipts for vehicle rentals, purchases and tolls, repair bills, an insurance statement, and vehicle registration records. On his tax returns for the years 2016 and 2017, Spencer claimed itemized deductions on Schedule C for Home Comfort expenses, including contract labor and vehicle expenses. The IRS selected Spencer’s filings for review and the IRS issued Spencer a Notice of Deficiency (IRS Notice CP3219A). Spencer filed a petition with the Tax Court and, after concessions from the IRS, the remaining issue for the lawsuit was deductions for contract labor expenses and vehicle expenses.

Key issues:

  • If, pursuant to 26 USC § 274(d) (substantiation requirements), Spencer has presented sufficient evidence to prove entitlement to the trade deductions claimed under Schedule C regarding contract labor and rental of vehicles, repairs and maintenance expenses?

Main holdings:

  • Yes, for some; and no, for the most part. Spencer was entitled to a portion of the contract labor expense deduction. For vehicle-related expenses, Spencer did not keep detailed evidence to support the times and locations where car rentals were used, to prove that they were used for business purposes by Home Comfort, and he did not provide sufficient information to substantiate that he was entitled to deductions for repair and maintenance expenses. Therefore, he did not meet the higher justification requirements for the right to deduct the expenses related to the vehicle.

Main points of law:

  • IRS determinations in a deficiency notice are generally presumed to be correct, and the taxpayer bears the burden of proving by a preponderance of the evidence that the determinations are in error. Rule 142(a); Welch versus Helvering, 290 U.S. 111, 115 (1933). Section 7491(a) places the burden of proof on the IRS if a taxpayer presents credible evidence regarding any factual issue relevant to determining the taxpayer’s liability. If a taxpayer fails to provide such proof, the burden is on the taxpayer.
  • 26 USC § 162(a)(3) allows a taxpayer to deduct ordinary and necessary expenses paid to carry on any trade or business carried on during a taxable year. Taxpayers must keep sufficient books and records to establish income and deductions. See 26 USC § 6001; Treasures. Reg. § 1.6001-1(a), (e).
  • If the taxpayer is unable to substantiate the specific amount considered deductible, the Tax Court may estimate the amount of deductible expenses (cohan to reign). See Cohan v. Commissioner39 F.2d 540, 543–44 (2d Cir. 1930).
  • Section 274(d) prevails over the cohan rule for certain expenses. Section 274(d) provides that for the taxpayer to be able to deduct certain expenses under section 162, including expenses for the use of listed property such as passenger cars, he must meet certain requirements stricter justifications.
  • The taxpayer must support with adequate records or sufficient evidence corroborating the taxpayer’s testimony: (1) the amount of the expense or other item, (2) the time, place, date and description of the expense, (3) the business purpose of the expenditure or use; and (4) the business relationship. See 26 U.S.C. 274(d); Temp. Treasures. Reg. § 1.274-5T(a).

Knowledge: This case is another example of a taxpayer failing to properly document and support business expenses for deductions on Schedule C of Form 1040. For more information on 26 USC Section 274(d) (substantiation requirements), see the Freeman Act:

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For more information on the deficiency notice, see Freeman Law attorney Matthew Robert’s paper, What is an IRS Deficiency Notice? | Tax returns | law of the free man

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