Category: Taxes: Because We’re The Little People

Tax Court: “…religious, charitable, scientific…literary, or educational purposes…” Doesn’t Mean “Sex with Kids.”

Private charitable efforts are as American as can be. Toqueville noted our vigorous civil society back in the early days:

Americans of all ages, all conditions, and all dispositions constantly form associations. They have not only commercial and manufacturing companies, in which all take part, but associations of a thousand other kinds, religious, moral, serious, futile, general or restricted, enormous or diminutive. The Americans make associations to give entertainments, to found seminaries, to build inns, to construct churches, to diffuse books, to send missionaries to the antipodes; in this manner they found hospitals, prisons, and schools. If it is proposed to inculcate some truth or to foster some feeling by the encouragement of a great example, they form a society.

The tax law recognizes this all-American tendency in Sec. 501(c)(3), which grants a tax exemption for associations with the proper purpose, like those in the headlines.

So along comes Eddie C. Risdal from Iowa. Eddie wanted tax exemption for a cause dear to his heart, “Mysteryboy Incorporation”:

MENBERS SHALL NOT PROMOOT, BUT WILL NOT DENY THE FACT OF PAST & PRESENT HUMAN HISTORY THAT HUMANKIND FROM YOUTH ON-THROUGH ADULTHOOD HAS IN MAJORITY BEEN SEXUAL ACTIVE WHETHER BE IN PROMISIOUS, DEVENTCY, OR EXPERIMENTATION SEXUAL ACTS, AND MENBERS WILL PROMOOT SAFE SEX EDUCATION AND SAY NO TO ILLEGAL DRUGS USES UNTIL THE EVENT THAT THEY BECOME LEGALIZED, MENBERS WILL PROMOOT FEED THE HUNGARY, SUEICIDE PREVENTION AND ANY AMENDED PROGRAMS AS THE INCORPORATION FINDS SUCH A PUBLIC NEED TO ADD SUCH PROGRAMS THAT WILL BENEFIT SOCIETY AT LARGE.

The IRS somehow found this suspicious and asked a few more questions. They came to this conclusion:

The facts of this case show that Mysteryboy Incorporation was organized and operating primarily for influencing a change in the laws concerning sexual exploitation of children.

The Tax Court found that cause a bit too close to Eddie’s heart (my emphasis):

The activities in which petitioner proposes to engage seek to decriminalize the type of behavior (1) for which Mr. Risdal, petitioner’s founder, sole director, sole officer, and executive director, was convicted and incarcerated and (2) which formed the basis for his having been adjudicated a sexually violent predator subject to civil commitment under Iowa Code Ann. ch. 229A (West 2006).10 On the record before us, we find that petitioner has failed to show that those activities will not provide Mr. Risdal with a platform from which he will seek to legitimize the illegal behaviors in which he has engaged, for which he was convicted, and which formed the basis on which he is civilly committed under the laws of the State of Iowa. On that record, we find that petitioner has failed to carry its burden of establishing that its proposed activities will not further the private interests of Mr. Risdal in violation of section 501(c)(3) and the regulations thereunder.

The moral? Civil society ends where civil commitment begins.

Cite: Mysteryboy Incorporation v. Commissioner, T.C. Memo 2010-13.

Joe Kristan is a tax shareholder for Roth & Company, a Des Moines, Iowa CPA firm, where he works with closely-held businesses and their owners. Prior to helping start Roth & Company, he worked for two of what are now the Final Four CPA firms. He writes the Tax Update Blog and is available for seminars, first communions, Bar Mitzvahs, etc. You can see all his posts for GC here.

SHOCKER: People Make Mistakes Preparing Tax Returns

When the “Government Accountability Office” reported that 68 percent of S corporation returns had errors, a few people who don’t prepare returns for a living were astonished:

By the way, these S Corporation shareholders are mostly comprised of the “small businessmen” that the right-wing anti-tax crowd constantly claims is overtaxed. Hmmmm. Looks like the bigger issue with this group is noncompliance, not overtaxation. We need to increase enforcement efforts, especially focused on the particular items that have tended to be misreported in S corporation returns.

The reaction from tax pros is more like, “you mean 32% of S corporation returns have no activity?”


Breaking news: this stuff is hard. The tax return for an S corporation of any size starts with thousands of transactions that have to be properly recorded – thousands of opportunities for mistakes. Then you start to apply the tax law. You have to find all of the meals and entertainment expenses, and you have to see which ones fail to qualify. Did the S corporation properly include health insurance on the W-2s (probably not)? What about for the owner’s nephew who has a job at the loading dock? Did every fixed asset get capitalized properly? What about the expenses of acquiring it? Can Section 179 apply? Is it new equipment that qualifies for the bonus depreciation rules? Oh, did they apply the Section 263A inventory capitalization rules properly? Did the Section 199 information get properly recorded for all of the shareholders? Interest? Dividends? Are they qualifying dividends? Are there Capital gains? Section 1231 gains – and what about unrecognized Section 1250 gain? Oh, don’t double them up – that Section 1250 number is part of that 1231 number, not an addition to it!

You get the picture. And if you have a multistate return, your fun is just beginning.

Once you think you have taxable income right, then you have to apply it correctly to the K-1 for the shareholders. Then the shareholders have to apply it correctly to their own tax return, even though the IRS-designed K-1 omits crucial information that the taxpayer or his preparer needs – the shareholder’s basis in the tax return, whether the taxpayer is “at-risk” for basis, and the level of the taxpayers involvement in the business.

If 32% of the returns are reported correctly, it’s shocking all right – it’s amazing that so many are
correct. I’d like to see some law professor, or Congresscritter, try do a tough 1120-S perfectly on a deadline and a budget.

Anybody who has prepared returns for very long has had a “doh!” moment along the way – “holy crap, I’ve been doing that wrong!” It’s not because tax preparers or taxpayers are lazy or evil. It’s just hard.

Joe Kristan is a tax shareholder for Roth & Company, a Des Moines, Iowa CPA firm, where he works with closely-held businesses and their owners. Prior to helping start Roth & Company, he worked for two of what are now the Final Four CPA firms. He writes the Tax Update Blog and is available for seminars, first communions, Bar Mitzvahs, etc. You can see his previous posts for GC here.

You Don’t Like the Way I Prepared Your Return? Take Two Tylenol and Call Me in the Morning.

TYLENOL325.jpgEditor’s note: Joe Kristan is a tax shareholder for Roth & Company, a Des Moines, Iowa CPA firm, where he works with closely-held businesses and their owners. Prior to helping start Roth & Company, he worked for two of what are now the Final Four CPA firms. He writes the Tax Update Blog and is available for seminars, first communions, Bar Mitzvahs, etc. You can see his previous posts for GC here.
While the IRS is cracking down on tax preparers and proposing new rules to herd them into submission compliance, problem preparers aren’t a new problem.
Back in 1982, when the 1986 Code was just a gleam in Dan Rostenkowski’s eye, the nation’s headaches went untreated when people started dying from cyanide-tainted Tylenol. We still live with the hard-to-open containers for almost everything as a legacy of the murder spree. The killer has never been nabbed, but the tax world has supplied one suspect. The Chicago Tribune reports:

James William Lewis, a longtime suspect in the 1982 Tylenol murders, made a rare public appearance on public access television near Boston on Sunday night, hoping to promote his new self-published novel, “Poison! The Doctor’s Dilemma.”


Instead, Lewis was met with a barrage of questions from the show’s host and callers about whether he had a role in the unsolved cyanide poisonings that left seven Chicago-area residents dead, and if his novel had anything to do with the killings.

Why the suspicion?

Lewis said during the 48-minute interview that he regretted having written Tylenol’s manufacturer after the deaths, demanding $1 million to “stop the killing,” for which he was convicted of extortion.

A mistake anybody could make, especially after things have gone bad in your tax practice:

After his extortion conviction in 1983, Lewis served more than 12 years in prison. In the 1970s, Lewis was accused in Kansas City, Mo., of killing and dismembering a client of his tax-preparation business. Charges were dropped after a judge threw out most of the evidence.

That just shows how the new preparer regulations are long overdue. We can be confident that IRS Commissioner Shulman’s new preparer registration and CPE requirements — especially the two annual “ethics” hours — will keep anything like that from ever happening to a preparer today.

The Winners and Losers in the New Tax Preparer Requirements

winners_losers.jpgHaving mastered all of its other responsibilities, the IRS was getting restless. Seeking a new challenge, they are now going to run a testing and continuing education bureaucracy for unenrolled preparers.

When a bureaucracy takes on a new role, the smart question to ask is: who wins?

The big franchised tax preparers are the biggest winners&R Block, Jackson Hewitt and Liberty Tax will now get to put little neon signs saying “IRS Licensed” in their windows. Yes, they will have to take on some responsibility in administering continuing education and employee testing, but they will be able to spread that cost across a nationwide business. They will find ways to streamline things so their employees will miraculously achieve government-approved competence with amazingly little effort. And they will be able to afford fixers and lobbyists to unravel any glitches that happen in the IRS preparer bureau.


This process isn’t just hypothetical. It is just another variation of what happened in the accounting industry after Sarbanes-Oxley and PCAOB. Smaller firms who would take on small public companies before PCAOB could no longer justify the regulatory costs, and the public companies are now captive clients of the big firms.

Over time, the IRS regulatory function will undergo the inevitable process of regulatory capture by the big players. The result – regulations that don’t much bother them but which make life difficult or impossible for their little competitors.

Fixers and lobbyists – See above.

Congresscritters and their staffs – Especially those on tax writing committees. Their new friends Henry, Robert, Jackson and Hewitt will enrich their PACs and make sure that the needs of their new overlords are attended to.

IRS staffers – Once public service palls, the bureaucrats who oversee the programs will have cushy new homes awaiting them at the franchised tax shops.

When there are winners, there are losers. These include:

Small tax prep shops – A solo practitioner will have to manage the new bureaucracy alone, while his giant competitors will have full-time fixers. When a little guy’s competency exam gets lost by the IRS bureaucracy, he might lose a season’s worth of business; fixers and lobbyists will make sure nothing like that happens to the big boys. And of course the inevitable capture of the IRS bureaucracy by the big players will continue to squeeze the little guys.

Enrolled Agents – Now that the IRS will be creating a new lesser level of licensing, these professionals will have a harder time distinguishing their much higher standards to a confused public.

Consumers – The most obvious result will be an increase in prices, both to pay for the new compliance costs and because the rules will run smaller preparers out of the market. Supporters of the regulations will say that it will be worth it because the new standards will improve quality. That’s a pipe dream. A bozo test and a few hours of CPE won’t turn a quack into a brain surgeon.

Low income consumers will, of course, not have to pay for the fancy “licensed” preparers. There will still be plenty of folks with pirated copies of Turbotax preparing unsigned returns in their cars and apartments, and the higher prices of the licensed competitors will send them more business. Other consumers will either struggle through their own returns without benefit of CPE or drop out of the tax system entirely.

So what would be a better approach? – The real problem is Congress. A simple tax law without fraud-inviting refundable credits wouldn’t have preparer problems. At the very least, we should require Congresscritters to face the consequences of their own work. Every one of them should be required to prepare their returns themselves in a live (and archived) webcast. If they use software, their screens should be visible on the webcast. What about their privacy? They make us give them all of our personal information, so fair is fair.

Editor’s note: Joe Kristan is a tax shareholder for Roth & Company, a Des Moines, Iowa CPA firm, where he works with closely-held businesses and their owners. Prior to helping start Roth & Company, he worked for two of what are now the Final Four CPA firms. He writes the Tax Update Blog and is available for seminars, first communions, Bar Mitzvahs, etc. You can see his debut post for GC here.

Section 409A: Worst Tax Enactment of the Decade

Thumbnail image for Thumbnail image for Thumbnail image for Thumbnail image for thumbs down col.gifEditor’s note: Welcome to GC’s first edition of “Taxes: Because We’re the Little People” by Joe Kristan. Joe Kristan is a tax shareholder for Roth & Company, a Des Moines, Iowa CPA firm, where he works with closely-held businesses and their owners. Prior to helping start Roth & Company, he worked for two of what are now the Final Four CPA firms. He writes the Tax Update Blog and is available for seminars, first communions, Bar Mitzvahs, etc.
Sure, those Northwest pilots who missed Minnesota were off the mark. So was Arthur when he signed off on the Enron audit. But as badly as they missed the target, they look like Annie Oakley compared to Congress in its response to Enron.
Congress takes aim at the national firms whose audits failed to spot the looting at places like Enron. The result? SarBox, the greatest gravy train for the Final Four firms since the invention of the senior accountant.


The Congressional response on the tax side took a different approach. Rather than reward the guilty, they chose to beat the innocent. Hence Section 409A.
The Enron scandal featured elaborate deferred compensation plans to provide executives a gilded liferaft when the ship sinks. Congress responds with a code section affecting schoolteachers. They showed Ken Lay what for by designing a tax on folks on money they may never see because of somebody else’s foot fault.
Sec. 409A clobbers its victims two ways:
• It taxes employees on their deferred comp balances when the plan is out of compliance, even if the employee doesn’t get the money, ever.
• It hits them again with a 20% excise tax.
Worse, the code section imposing these penalties is so complicated that it took 3 years to complete the regulations that run to 200 pages, and are so complicated and intrusive that accidental noncompliance must be rampant.
This all makes Sec. 409A my choice as the worst tax enactment of the decade. But tastes differ. Let us know your nominee for the worst tax provision enacted from 2000 through 2009 in the comments and if we get some good submissions, we’ll put it to a vote.