Powell v. IRS, T.C. Memo. 2014-235 (Nov. 17, 2014).
Monday’s Powell v. IRS is yet another small business case (S Corporation) in which many tax incentives were at issue. Code sections 162 (trade or business expenses), 166 (bad debt deduction), 1001 (capital gains), 1372(employee benefits in an S Corp), and many more are discussed in the case. As no new legal interpretations are offered in this Memorandum Opinion, it is a good read for any small business owner.
The discussion of 162 trade or business expense deductions (beginning on page 7) is particularly instructive for new business owners. New enterprises cost a lot of time and money in the start-up phase. Code sections 162 and 212 account for the costs of doing business by creating deductions for “ordinary and necessary expenses paid or incurred during the taxable year in carrying on a trade or business.” Powell, at p. 7. Most notably, “A taxpayer is not carrying on a trade or business under section 162(a) until the business is functioning as a going concern and performing the activities for which it was organized.” Id. at p. 7. These deductions mean that Congress only taxes the new money-the profit.
In this case, the Powells had a Virginia S Corporation in the petroleum industry. They began a side business in North Carolina for growing and selling beer hops. The Powells purchased some land, unsuccessfully grew and sold hops, and sold the land a substantial loss. Powell, at p. 4. They attempted to deduct (on a 1040 Schedule C) related to their beer hop growing business. Id. at p. 8. The IRS denied that this was a proper use of the 162 deduction because the taxpayers were merely preparing to engage in business, but not actually “carrying on” a business at that time. Although Mr. Powell had purchased realty, incorporated his business for this purpose, planted some hops, and contacted buyers, the Tax Court agreed that he was not actively engaged in a trade or business because it wasn’t conducted with sufficient continuity and regularity. Id. at p. 9.
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