Freeman Law’s “Tax Court Brief” covers all of the Tax Court’s substantive opinions, providing a weekly summary of its decisions in clear, concise prose.
Tax litigation: The week of February 21, 2022 to February 25, 2022
Hoops, LP c. Comm’r, TC Memo. 2022-9 | February 23, 2022 | Nega, J. | Dekt. No. 11308-18
Short summary: Hoops, LP owned the Memphis Grizzlies, an NBA franchise. In 2012, Hoops sold substantially all of its assets and assigned its liabilities to a buyer. The liabilities included two NBA player contracts and deferred compensation earned by the players but not to be paid by Hoops until after the 2012 sale. In calculating its gain on the 2012 sale, Hoops claimed 10 $673,327 (total deferred compensation discounted by 3%) as a deduction from the 2012 performance of Hoops. The IRS issued a Final Partnership Administrative Adjustment Notice (FPAA) for the 2012 tax year, disallowing the deduction. Heisley Member, Inc., Hoops’ tax partner, has filed for readjustment. In the view of the parties, the case centers on Section 404(a)(5) of the Internal Revenue Code and the deductibility of compensation earned but payable in a subsequent year under a unqualified deferred compensation plan.
- Section 162(a) contains the general rule allowing a deduction for expenses incurred in carrying on any trade or business, including a reasonable allowance for remuneration for personal services. However, if amounts are paid by an employer under a deferred compensation plan, the deductibility is governed by section 404(a).
- Under section 404(a)(5), if an accrual-based employer defers the payment of compensation to the employee until one or more future years, the employer does not will not be entitled to a deduction until the year in which the indemnity is paid.
- Hoops had not paid any amounts due to the players with respect to the deferred compensation obligation in 2012 and, therefore, Hoops is not permitted to deduct the amount of the deferred compensation.
- When Buyer assumed liability for deferred compensation, Hoops was released from its obligation to pay deferred compensation. Thus, pursuant to Section 1001, Hoops was required to take into account the amount of the deferred indemnification obligation in calculating Hoops’ gain or loss from the sale.
Main points of law:
- The Tax Court is a court of limited jurisdiction. The jurisdiction of the Court over a Tefra the procedure at the level of the partnership is invoked as soon as the commissioner issues a valid FPAA and the filing in good and due form of a request for readjustment of the elements of the partnership for the year or years to which the FPAA relates. See 26 USC § 6226(a).
- The Commissioner’s determinations in an FPAA are presumed to be correct, and the party challenging the FPAA bears the burden of proving that those determinations are wrong.
- An entity disregarded for federal tax purposes but a general partner under state law may be designated as a tax partner of a taxable partnership. Tefra partnership arrangements.
- Deductions are a matter of legislative grace, and the onus is on the disputing party to prove their right to any claimed deduction.
- Section 162(a) allows a deduction for all ordinary and necessary expenses paid or incurred during the tax year in carrying on a trade or business, including a reasonable allowance for wages or any other compensation for personal services actually rendered. To see 26 USC § 162(a)(1). However, if amounts are paid by an employer under a deferred compensation plan, section 404(a) governs the deductibility of those amounts and prescribes limits on the amount deductible for any year. Treasures. Reg. § 1.404(a)-1(a)(1); see also Reg. § 1.162-10(c).
- Section 404(a)(5) covers all cases where deductions are permitted under section 404(a) but not permitted under subsection (1), (2), (3), ( 4) or (7) of this subsection. . To see Reg. § 1.404(a)-12(a).
- Section 404(a)(5) provides that, in the case of a non-qualifying plan, a deduction for deferred compensation paid or accrued is permitted for the taxation year for which an amount attributable to the contribution is included in gross employee income. plan participant. See also Reg. § 1.404(a)-12(b)(1).
- Under an accrual method of accounting, a liability is incurred, and generally recognized for federal income tax purposes, in the tax year in which all of the events occur. : (1) establish the fact of the liability, (2) the amount of the liability can be determined with reasonable accuracy, and (3) the economic performance has taken place with respect to the liability. To see 26 USC § 461(h); Treasures. Reg. §§ 1.446-1(c)(1)(ii)(A), 1.461-1(a)(2)(i). However, if another provision of the Code or the Regulations prescribes the manner in which the deferred compensation liability is taken into account, this prescription takes precedence over the economic performance rule. In this case, section 404(a)(5) prescribes how the deferred compensation in question is taken into account.
- Section 1001(a) provides that the gain from the sale or other disposition of property is the excess of the amount realized over the adjusted basis. The “realized amount” is the sum of any money received plus the fair market value of the property (other than cash) received, including the amount of debts from which the transferor is released as a result of the sale or another arrangement. 26 USC § 1001(b); Treasures. Reg. § 1.1001-2(a)(1).
Knowledge: Where a taxpayer, in connection with the sale of a business, assigns to the purchaser the liability for compensation earned which is payable in a subsequent tax year under a compensation plan unqualified deferred tax, the taxpayer should carefully consider and evaluate Code Section 404. and its effect on the proper account of the gain to be realized from the sale of the business. As shown on the Hoops, LPand under the special rules for deductions set out in section 404, if an employer, under the accrual method, defers payment of compensation to the employee until one or more future years, the employer will not be entitled to a deduction until the year in which the allowance is paid, even if the allowance would otherwise be deductible under section 162.[View source.]