Augusta Rule Gone Wrong.

This is one of the most talked about “Tax Secrets of the Rich!” I see from non-tax influencers on social media. It’s the Augusta Rule - which allows you to not claim rental income on a property you own if you rent it out for 14 days or less during the year. Apparently what the wealthy do, is they will have their business rent their property under this rule, thus getting a rental expense on the business side, and not have to claim income on the personal side.

Let’s be clear - this is a legitimate tax strategy when implemented correctly. This involves renting the property at a reasonable FMV, transferring the expenses in questions, issuing a 1099-Misc for the rental payments made to the business owner, and reporting the income and Augusta Rule deduction appropriately on your Schedule E, which is part of your personal 1040 tax filing.

A recent tax court case that deals directly with the August Rule and had #taxtwitter abuzz was Sinopoli v. Commissioner. In this case, the taxpayers used the Augusta Rule to expense $290,000 worth of rental expenses over three years through having monthly shareholder meetings in their homes. The courts ruled against the taxpayers and disallowed the majority of the deduction for the following reasons:

1. The defendants couldn’t produce record of what business was discussed during these meetings

2. The FMV of the meeting spaces were much lower than the taxpayers claimed

The IRS adjusted the rent down to $500 for each meeting where they could produce evidence of what business was discussed - bringing the actual deduction to $10,500 for the three tax years in question, down from $290,000.

For the IRS - this case was a slam dunk. The rent charged was so egregious and the evidence the taxpayers had was so minimal, it makes me wonder why they even tried contesting it in the first place.

Gang Gang - Yacht + Airplane Denied.

The courts ruled in Conrad v. Commissioner that a couple’s yacht, and airplane depreciation expenses that were ran through their S-Corp for 2008 and 2009 were not deductible. In total - they attempted to write-off $1,240,612 in depreciation expenses and some maintenance/storage costs over the two tax years that were disallowed.

The reason for the disallowance was because there was “… no real business purpose for having an airplane and a yacht”, meaning for those tax years, neither asset was actually utilized in the business. In other words - the yacht and airplane were not ordinary and necessary for the business.

Remember, in order for an expense to be deductible for tax purposes, it has to meet both the ordinary and necessary threshold in order to pass an audit. A good way to think of it is this - if you were to ask 100 other business owners in your industry, would they also have that cost? If yes - it is ordinary. Do you need the expense to conduct business (eg you can tie the expense directly to revenue)? Then it is necessary.

Silly IRS Loses Millions of Taxpayer Documents.

Unfortunately, I’m not surprised by this news. The IRS has a bad track record of document management (remember the millions of tax documents they destroyed?) since the number of times I’ve had clients get notices that the IRS doesn’t have record of receiving certain documents which we know, for a fact, have been submitted (sometimes multiple times). The documents that were lost were from two locations - a closed facility in California and one in Utah.

This was news to me - but the IRS requires microfilm back-up cartridges of old tax records - and it’s these cartridges (which hold up to 2,000 images each) that are missing - in addition to poor internal controls of inventory in other warehouses where cartridges are stored.

Learning about this is endlessly frustrating because if tax professionals treated taxpayer data as poorly the IRS did, we would have our professional licenses revoked.