Research Assignment #2

From: Team Manager

To: New Tax Associate

Date: January 12, 2021

Re: Terry Apple, New Client Assignment

Dear New Tax Associate: Welcome to your first day! We are so glad to have you on the team. As Im sure you know, research will be an essential part of the job. So, I have a tax research project for you. Our firm recently started representing a new client, Terry Apple (Terry). She is a bit concerned about her pending tax situation. Another firm has been preparing Terrys tax returns for the last 30 years. However, Terry recently received a notice from the IRS that she is going to be audited. Our firm specializes in representing clients before the Internal Revenue Service. Therefore, were going to represent her in her audit. For the last 30 years Terrys primary job has been that of a dentist. Terry loves being a dentist and has wanted to practice dentistry since childhood. Right after college, she bought into a practice with a partner but now the practice is a solo practice and business has been great. She files her dental practice as a single member LLC on a Schedule C that is filed with her Form 1040. Her net income has been $256,000, $302,000, $403,000, 509,000, and $610,000 for the last 5 years. She works as the dentist 5 days per week from 7:00 a 6:00 pm. She is on call at the dental office for emergencies on Saturday and Sunday. Terry has 3 employees at the dental office: a dental hygienist, a receptionist, and a bookkeeper. When Terry isnt practicing dentistry, shes going to conferences and workshops learning about new innovations in dentistry. Oftentimes, Terry is asked to be a presenter at workshops because of her expertise in cosmetic dentistry as well. Terry is away from the office about 1 week per month attending these conferences. In addition to operating her dental practice, Terry has been operating an activity for the last 20 years on a separate Schedule C involving animal breeding. Terry has been trying to get the business to be profitable, but shes only managed to have losses in the business for the last 20 years and they have increased and ranged from losses of $20,000 to $100,000. I immediately became concerned that the IRS may consider Terrys animal breeding business to be an activity not engaged in for profit. If thats the case, the IRS will limit Terrys expenses to her income and all her losses will be disallowed which could create a huge tax bill for Terry. Other managers in the firm have said that the IRS considers each activity not engaged in for profit situation on a case-by-case basis. There is no way to determine exactly what will happen, but we can educate Terry on the IRS thought process and attempt to prepare her for questions that may be asked of her during the audit to determine whether she was operating her business for profit.

Assignment:

Im swamped with other client consults and this issue appears to be quite involved, so Ill need your assistance. We dont know the specific details yet about the animal breeding because I wanted to have the issue researched first so I can know what to discuss with Terry. However, we do know that Terry has been operating at a loss for the last 20 years. Can you find out the following and summarize your findings in a memo?

1. What constitutes an activity not engaged in for profit as it pertains to animal breeding?

2. What section of the Internal Revenue Code governs an activity not engaged in for profit? What section of the Treasury Regulation governs an activity not engaged in for profit?

3. What factors are considered in the courts to make the determination that an activity is engaged in for profit or not for profit?

4. Compare and contrast situations where taxpayers were successful in court in showing that their business was engaged in for-profit and situations where taxpayers were not successful in court in showing that their business was engaged in for profit.

Tasks:

1. Read IRC 183. You can find this on CheckPoint by doing a search like you did for Research Assignment number 1.

2. Read the 2 court cases as a part of your analysis that I have attached. One court case rules in favor of the taxpayer and the other rules against the taxpayer.

3. Find additional authority such as court cases, Treasury Regulations, or the Internal Revenue Code that further explains the activity not engaged in for profit issue and include them in your memo. I would recommend that you find 2 additional court cases that are for the taxpayer and 2 additional court cases that are against the taxpayer in the ruling.