John R. Bullis: Choose your business entity carefully
March 12, 2018
Paul and Irvin Barnhart (brothers) claimed their "C" corporation (separate entity that pays its own taxes) was only their agent and losses in 2010, 2011 and 2012 were deductible on their individual returns, not the corporation returns.
IRS disagreed. IRS disallowed the individual return losses and assessed accuracy-related penalties.
The Tax Court held a trial and decided IRS was correct. The brothers appealed to the Fifth Circuit Court of Appeals. The appeal was denied, IRS findings were affirmed.
The brothers claimed the corporation (BRC) was only their agent and the losses should be allowed on their individual returns.
It’s fairly easy to adopt an LLC (Limited Liability Company) in Nevada and it doesn’t cost the big amounts California charges an LLC. The LLC then could be taxed as a Partnership or it could file and elect to be taxed as an “S” corporation.
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The land and cattle business operations of BRC had 17 employees, gathered the cattle, bought and sold the cattle, built fences, repaired equipment and dealt with contractors. The purchases and sales of cattle were shown on the bills of sale using various names such as "Barnhart Ranch Company," Barnhart Ranch Co." and "Barnhart Ranch."
The Tax Court and the Fifth Circuit Court looked at the facts and circumstances, heard testimony and saw opening and closing briefs. The decision was it was operations by the corporation. IRS audit findings were confirmed and found to be correct.
There was an easy way to accomplish what the brothers argued. If the corporation had elected to be taxed as an "S" corporation, the income and losses would've been passed down to their individual returns. Just by filing form 2553 and electing to be taxed as an "S" corporation would've avoided all the time, trouble and expense.
The courts also upheld the 20 percent of the tax accuracy-related penalties. The defenses of reasonable cause and good faith were found to not be adequate. It appears that perhaps the attorneys for the brothers didn't present to the courts a substantial authority argument. The court found the brothers were "savvy businessmen, experienced in complex business entities, and they did not show a genuine attempt to determine the correctness of the income tax reporting."
It's fairly easy to adopt an LLC (Limited Liability Company) in Nevada and it doesn't cost the big amounts California charges an LLC. The LLC then could be taxed as a Partnership or it could file and elect to be taxed as an "S" corporation. The new tax law favors "S" corporations beginning in 2018. If you have a business, maybe you should meet with your CPA firm and consider whether you have the best entity or not.
Did you hear? "Success is the intersection where dreams and hard work meet," by Lynn Goldblatt.
John Bullis is a certified public accountant, personal financial specialist and certified senior adviser who has served Carson City for 45 years. He is founder emeritus of Bullis and Company CPAs.