department of the treasury internal_revenue_service washington d c government entinies uil division date jan contact person identification_number telephone number tt eo a employer_identification_number legend a b m n p r x a t v zz dear sir or madam this is in response to ruling requests involving issues under sec_512 and sec_4941 of the code specifically we are responding to your ruling requests concerning unrelated_business_taxable_income as well as self-dealing the trustees of four charitable_remainder unitrusts m n o and p referred to hereafter as the crts propose to create and provide funds for a foreign_corporation with this funding the foreign_corporation will purchase interests in u s partnerships funds the foreign_corporation will be wholly owned by the crts collectively and will be treated as a corporation for u s income_tax purposes the foreign_corporation will manage certain investments contributed to it by the crts and is expected to purchase among other investments an interest in one or more u s partnerships funds which will manage a portfolio of securities and use debt financing to partially fund its acquisitions of those investment_assets the debt-financed_income will be distributed to the foreign_corporation which may in turn distribute it to the crts the foreign_corporation will purchase investment_assets with contributed cash from the crts or from borrowing each of m n o and p was created by a and b under different trust instruments they are the donors substantial contributors to each crt the income_beneficiary of each crt is a and b the trustee of each of the crts is a commercial bank and one of the children of a or a and b the unitrust_amount payable to the income beneficiaries varies from trust to trust in a range of percent to percent each crt provides that on the death of both donors the remainder will be distributed to r a private_foundation created by a and b each crt was originally funded with shares of stock of x corporation a publicly traded company r is a corporation organized under the law of state t and was created by a and b who are the substantial contributors r received exemption from tax under sec_501 from the service and was classified as a private_foundation by a letter issued in a the foreign_corporation will be governed by the laws of foreign_country v it will be treated as a corporation for u s income_tax purposes all corporate formalities with respect to the foreign_corporation will be followed the status of the foreign_corporation and its assets as separate from the crts and their assets will be observed and the foreign_corporation will not act as the agent for any of the crts or the crts’ trustees none of the entities will incur debt in order to create and fund the foreign_corporation it is anticipated that the funds will acquire and actively manage a diverse portfolio of securities it is also anticipated that the funds will use debt financing to partially fund its acquisition of assets such debt financing would result in income that is considered unrelated_business_taxable_income for purposes of sec_511 and sec_664 of the code if it were incurred directly by the crts the debt-financed_income will be distributed to the foreign_corporation and the foreign_corporation may either reinvest the amount or distribute some portion to the crts as a dividend the trustees of the crts represent that they have a number of business purposes for establishing the foreign_corporation and pooling the assets of the crts such reasons include the fact the foreign_corporation may manage and administer the crts’ investments as a group this will help minimize the administrative and advisor costs of investing help diversify assets and gain access to additional investment opportunities further the use of the foreign_corporation will provide an additional layer of limited_liability protection for the crts against liabilities in the evolving area of lender liability and against other liabilities the foreign_corporation provides greater flexibility for investment in that stock of the corporation may be more readily transferred than other investment forms by a letter dated date the crts provided additional information it is expected that each crt will contribute to the foreign_corporation an amount equal to ten to twenty percent of each crts’ total value the total value of all contributions is approximately z the crts expect to contribute only cash to the foreign_corporation the letter of date further provides that there will be no special voting rights in the foreign_corporation the voting rights will be strictly proportional to the equity_interest held by each crt the equity_interest of each crt in the foreign_corporation after the asset transfers by the crts varies from trust to trust m n o and p have requested the following rulings of our office the foreign corporation’s distributive_share of a fund’s income and gains under sec_704 will not constitute unrelated_business_taxable_income to any of the crts the amounts distributed by a fund to the foreign_corporation will not constitute unrelated_business_taxable_income to any of the crts the amounts distributed by the foreign_corporation to the crts will not constitute unrelated_business_taxable_income to any of the crts the amounts of subpart_f_income derived by the crts from their ownership of the foreign_corporation will not constitute unrelated_business_taxable_income to any of the crts the formation and operation of the foreign_corporation as set forth above will not constitute an act of self-dealing under sec_4941 law and analysis ruling_request sec_1 and sec_511 of the code imposes a tax upon the ubti of organizations exempt from tax under sec_501 of the code sec_512 of the code defines ubti as the gross_income derived from an unrelated_trade_or_business regularly carried on less allowable deductions and subject_to certain modifications sec_512 of the code provides that dividends received or accrued shail be excluded from ubti sec_512 of the code provides that notwithstanding the general exclusion of dividends from ubti dividends and other passive_investment_income derived from certain debt- financed property and corresponding deductions are included as an item_of_gross_income derived from an unrelated_trade_or_business in an amount ascertained under sec_514 of the code sec_512 of the code as amended by the taxpayer_relief_act_of_1997 provides that certain items of income received from a controlled_entity will be considered to be derived from an unrelated_trade_or_business dividends are not included among the items of income covered by sec_512 of the code sec_512 of the code added by the small_business job protection act of provides that any amount included in gross_income under sec_951 shall be included as an item_of_gross_income derived from an unrelated_trade_or_business to the extent that the amount so included is attributable to insurance_income as defined in sec_953 of the code sec_512 of the code provides that if a trade_or_business regularly carried on by a partnership of which an organization is a member is an unrelated_trade_or_business with respect to such organization such organization in computing its unrelated_business_taxable_income shall subject_to the exceptions additions and limitations contained in subsection b include its share whether or not distributed of the gross_income of the partnership from such unrelated_trade_or_business and its share of the partnership deductions directly connected with such gross_income sec_513 of the code defines unrelated_trade_or_business as any trade_or_business the conduct of which is not substantially related to the performance of exempt purposes or functions sec_514 of the code provides that the term unrelated_business_income includes unrelated_debt-financed_income from investment_property the investment_income included is proportionate to the debt on the property sec_514 of the code provides that the term debt-financed_property means any property which is held to produce income and with respect to which there is acquisition_indebtedness at any time during the taxable_year sec_664 of the code provides that a_trust is exempt from income taxes for any taxable_year unless the trust has ubti for such year then the trust is not exempt from taxes and is subject_to taxation under the normal rules of subchapter_j of the code if the trust has ubti for any taxable_year the house ways_and_means_committee report on the small_business job protection act of in describing sec_512 states that income inclusions under subpart_f have been characterized as dividends for unrelated_business_income_tax purposes sec_951 through comprise subpart_f - controlled_foreign_corporations sec_951 provides that a united_states_shareholder of a controlled_foreign_corporation must include in gross_income his pro_rata share of the controlled foreign corporation’s subpart_f_income for the year even if not distributed sec_954 of the code provides that subpart_f_income includes investment_income prior to the enactment of sec_512 of the code in it was unclear whether exempt_organizations that conducted insurance activities through a foreign_corporation were subject_to u s tax with respect such activities the internal_revenue_service issued a series of private letter rulings stating that amounts distributed by the controlled_foreign_corporation and thus includible in its shareholders’ income under subpart_f were characterized as dividends for unrelated_business_income_tax purposes and thus were not taxed buta private_letter_ruling to the contrary was also issued plr sec_512 of the code was enacted to provide that where a controlled_foreign_corporation is insuring third-party risks providing insurance to entities other than the exempt_organization which controls the controlled_foreign_corporation and certain related parties the income from that activity will be taxable as unrelated_business_income the house ways_and_means_committee report on the new provision discusses favorably the rulings issued by the service which characterized subpart_f inclusions as dividends and thus not taxable as unrelated_business_income the committee report also refers unfavorably to ruling which used a look through rule to characterize subpart_f_income in the case at hand the income derived by the foreign_corporation from the fund will not originate from insurance activities as defined in sec_953 of the code it appears clear that congress intended such noninsurance income to be treated as dividend income when paid or deemed distributed to shareholders of controlled_foreign_corporations under sec_512 sec_512 and sec_514 income from the fund would be ubit to the crts if received directly by them because it is debt-financed_income however here the income will be distributed to the crts indirectly through the foreign_corporation which will pay dividends to the crts dividend income is not taxable under sec_512 of the code further the crts have not themselves incurred debt in financing their interest in the foreign_corporation and thus such dividend income is not debt-financed_income described in sec_514 of the code based on the information submitted we rule as follows the foreign corporation’s distributive_share of the funds’ income and gains under sec_704 will not constitute unrelated_business_taxable_income to any of the crts m n q or p the amounts distributed by the fund to the foreign_corporation will not constitute unrelated_business_taxable_income to any of the crts m n o or p the amounts distributed by the foreign_corporation will not constitute unrelated_business_taxable_income to any of the crts m n o or p the amounts of subpart_f_income derived by the crts from their ownership of the foreign_corporation will not constitute unrelated_business_taxable_income to any of the crts m n o or p ruling_request sec_4941 a of the code imposes a tax on each act of self-dealing between a disqualified_person and a private_foundation sec_4941 d a of the code defines the term self-dealing to include a sale_or_exchange of property between a private_foundation and a disqualified_person sec_4941 of the code defines the term self-dealing to include a transfer to or use by or for the benefit of a disqualified_person of the income or assets of a private_foundation sec_4946 and sec_507 of the code defines the term disqualified_person to include a substantial_contributor to the foundation sec_4946 of the code defines the term disqualified person’ to include a_trust or estate in which persons described in paragraph a b c or d own more than _ percent of the beneficial_interest sec_4947 of the code provides in essence that a split interest trust meeting certain requirements including a charitable_remainder_trust is subject_to the prohibitions of sec_4941 of the code other provisions of chapter of the code and other specified sections of the code sec_53_4941_d_-1 of the regulations provides in part that the term self-dealing does not include a transaction between a private_foundation and a disqualified_person where the disqualified_person status arises only as a result of such transaction sec_53 d -2 f provides in part that the fact that a disqualified_person receives an incidental or tenuous benefit from the use by a foundation of its income or assets will not by itself make such use an act of self-dealing the crts own the stock of foreign_corporation a and b as substantial contributors to each crt are disqualified persons to the crts since the value of their income_interest with respect to the crt payment is likely to exceed percent each crt is a disqualified_person to one another a and b are deemed to own the stock of the foreign_corporation by virtue of the ownership of the foreign_corporation by the crts sec_267 and the regulations thereunder thus the foreign_corporation is a disqualified_person at the conclusion of the equity ownership transfers to the crts in this case n and the related crts are investing only cash in the corporation there is no non- sec_664 disqualified_person involved in this transaction and related private_foundation r will not be a participating investor the investments by the crts are not benefiting any disqualified persons other than themselves the transaction is comparable to one in which n would be the only charitable_remainder_trust investor accordingly the four crts’ investment activity in the foreign_corporation does not constitute an act of self-dealing accordingly we rule as follows the formation and operation of the foreign_corporation as set forth in this request will not constitute an act of self-dealing under sec_4941 of the code with respect to m n o or p pursuant to a power_of_attorney on file with this office a copy of this letter is being sent to your authorized representative if you have any questions about this ruling please contact the person whose name and telephone number are shown in the heading of this letter this ruling is directed only to the person that requested it internal_revenue_code sec_6110 provides that it may not be used or cited as precedent this ruling does not purport to rule on any other issue or code section not addressed herein sincerely igned robert c harpet jt robert c harper jr manager exempt_organizations technical group


department of the treasury nwasnineron oe to0221055 feb tep ra-t2 tax_exempt_and_government_entities_division xxxxxkxkxkxxkkkkk xxxxkxkxkkxxxkxkkk uic legend taxpayer a taxpayer b accountant c ira x ira y iraz company m sum n dear kik wee kak er kkk rk ee kk this is in response to the letter as supplemented by a letter dated submitted by your authorized representative in which you request relief under sec_301_9100-3 of the procedure and administration regulations the regulations the following facts and representations support your ruling_request taxpayer a maintained ira x an individual_retirement_account described in code sec_408 with company m during calendar_year taxpayer a converted ira x to a roth_ira ira y also with company m the amount transferred was sum n taxpayer a is married to taxpayer b taxpayers a and b’s adjusted_gross_income for exceeded the limit found at sec_408a of the internal_revenue_code taxpayers a and b did not use the services of a tax preparer ie accountant or tax attorney in preparing their federal_income_tax return and taxpayer b did hire accountant c to review their prepared return accountant c reviewed the return and neither recommended any changes nor signed the return taxpayer a and taxpayer b were not aware of the income limitations found at code sec_408a of the code however taxpayer a in date while preparing their federal_income_tax return taxpayers a and b realized that they were ineligible to convert traditional_ira x to roth_ira y they immediately sought the advice of an accountant who advised them to recharacterize xxxxxxxxxxxxx page - - roth_ira y back to a traditional_ira taxpayer a contacted company m and recharacterized ira y to ira z in date as noted above prior to the end of the calendar_year taxpayer a was unaware that he was ineligible to convert his traditional_ira to a roth_ira as a result prior to the end of the calendar_year he was also unaware of the time limits found in announcements and for recharacterizing an amount that had been converted from a traditional_ira to a roth_ira taxpayers a and b timely filed their calendar_year federal_income_tax return based on the above you through your authorized representative request the following letter_ruling that pursuant to sec_301_9100-3 of the regulations the recharacterization of taxpayer's roth_ira y which occurred during calendar_year which was after the date s prescribed by announcements and to traditional_ira z was timely with respect to your request for relief under sec_301_9100-3 of the regulations sec_408a of the internal_revenue_code and sec_1_408a-5 of the income_tax regulations i t regulations provide that except as otherwise provided by the secretary a taxpayer may elect to recharacterize an ira contribution made to one type of ira as having been made to another type of ira by making a trustee-to-trustee transfer of the ira contribution plus earnings to the other type of ira ina recharacterization the ira contribution is treated as having been made to the transferee ira and not the transferor ira under sec_408a and sec_1_408a-5 this recharacterization election generally must occur on or before the date prescribed by law including extensions for filing the taxpayer's federal_income_tax returns for the year of contributions sec_1_408a-5 question and answer-6 of the t regulations describes how a taxpayer makes the election to recharacterize the ira contribution to recharacterize an amount that has been converted from a traditional_ira to a roth_ira the taxpayer must notify the roth_ira trustee of the taxpayer’s intent to recharacterize the amount the taxpayer must provide the trustee and the transferee trustee if different from the transferor trustee with specified information that is sufficient to effect the recharacterization and the trustee must make the transfer code sec_408a provides in relevant part that an individual with adjusted_gross_income agi in excess of dollar_figure for a taxable_year is not permitted to make a qualified_rollover_contribution to a roth_ira from an individual retirement pian other than a roth_ira during that taxable_year xxxxxxxxxxkxx page-3- sec_1_408a-4 q a-2 of the t regulations provides in summary that an individual with modified_adjusted_gross_income in excess of dollar_figure for a taxable_year is not permitted to convert an amount to a roth ra during that taxable_year sec_1_408a-4 q a-2 further provides in summary that an individual and his spouse must file a joint federal tax_return to convert a traditional_ira to a roth_ira and that the modified_adjusted_gross_income subject_to the dollar_figure limit for a taxable_year is the modified agi derived from the joint_return using the couple’s combined income sec_301_9100-1 sec_301_9100-2 and sec_301_9100-3 of the regulations in general provide guidance concerning requests for relief submitted to the service on or after date sec_301_9100-1 of the regulations provides that the commissioner of the internal_revenue_service in his discretion may grant a reasonable extension of the time fixed by a regulation a revenue_ruling a revenue_procedure a notice or an announcement published in the internal_revenue_bulletin for the making of an election or application_for relief in respect of tax under among others subtitle a of the code sec_301_9100-2 of the regulations lists certain elections for which automatic extensions of time to file are granted sec_301_9100-3 of the regulations generally provides guidance with respect to the granting of relief with respect to those elections not referenced in sec_301_9100-2 the relief requested in this case is not referenced in sec_301_9100-2 sec_301_9100-3 of the regulations provides that applications for relief that fall within sec_301_9100-3 will be granted when the taxpayer provides sufficient evidence including affidavits described in sec_301_9100-3 to establish that the taxpayer acted reasonably and in good_faith and granting relief would not prejudice the interests of the government sec_301_9100-3 of the regulations provides that a taxpayer will be deemed to have acted reasonably and in good_faith i if its request for sec_301_9100-1 relief is filed before the failure to make a timely election is discovered by the service ii if the taxpayer inadvertently failed to make the election because of intervening events beyond the taxpayer's control iii if the taxpayer failed to make the election because after exercising reasonable diligence the taxpayer was unaware of the necessity for the election iv the taxpayer reasonably relied upon the written advice of the service or v the taxpayer reasonably relied on a qualified_tax professional including a tax professional employed by the taxpayer and the tax professional failed to make or advise the taxpayer to make the election sec_301_9100-3 of the regulations provides that ordinarily the interests of the government will be treated as prejudiced and that ordinarily the service will not grant relief when tax years that would have been affected by the election had it been timely made are closed by the statue of limitations before the taxpayer's receipt of a ruling granting relief under this section xxxxxxxxxxxxx page - - announcement r b date provided that a taxpayer who timely filed his her federal_income_tax return would have until date to recharacterize an amount that had been converted from a traditional_ira to a roth_ira announcement r b date provided that a taxpayer who timely filed his her federal_income_tax return would have until date to recharacterize an amount that had been converted from a traditional_ira to a roth_ira taxpayers a and b timely filed their federal_income_tax return as a result they were eligible for relief under announcement or announcement however they missed the deadlines found in said announcements therefore it is necessary to determine if they are eligible for relief under the provisions of sec_301_9100-3 of the regulations in this case taxpayer a was ineligible to convert his ira x to roth_ira y since his adjusted_gross_income exceeded dollar_figure however until he discovered otherwise taxpayer a believed that he was eligible to convert his ira x to a roth_ira taxpayer a filed this request for sec_301 relief shortly after discovering that he was ineligible to convert ira x to a roth_ira calendar_year is not a closed tax_year with respect to your request for relief we believe that based on the information submitted and the representations contained herein the requirements of sec_301_9100-1 and sec_301_9100-3 of the regulations have been met and that you have acted reasonably and in good_faith with respect to making the election to recharacterize your roth_ira ira y as a traditional_ira specifically the service has concluded that you have met the requirements of clauses iii and v of sec_301_9100-3 of the regulations accordingly we rule that taxpayer a’s recharacterizing his roth_ira y traditional_ira z which occurred during date was timely to this ruling assumes that the above iras qualify under sec_408 of the code at all relevant times no opinion is expressed as to the tax treatment of the transaction described herein under the provisions of any other section of either the code or regulations which may be applicable thereto this letter is directed only to the taxpayer who requested it sec_6110 of the code provides that it may not be used or cited as precedent pursuant to a power_of_attorney on file with this office a copy of this ruling letter is being sent to your authorized representative if you have any questions concerning this ruling please contact t ep ra t at xxxxkxkxxkxkxkkkk page - - sincerely yours signed joyce b floyd joyce e floyd manager employee_plans technical group tax exempt and governmental entities division enclosures deleted copy of ruling letter notice of intention to disclose


internal_revenue_service number release date index number ---------------------------------- ----------------------------------------------- ----------------------------------------------- --------------------------------------- ------------------------------------------- department of the treasury washington dc person to contact ------------------------ id no ------------- telephone number --------------------- refer reply to cc psi b01 - plr-102165-04 date date ------------------------------ -------------------- x -------------------------------------------------- a b date date trust trust ---------------------- ------------------- ------------------------ ------------------------------------ --------------------------------- ---------------------------------------------------- -------------------------- ---------------------------------------------- trust trust trust dear ----------------- this responds to a letter dated date and additional correspondence submitted on behalf of x requesting a ruling under sec_1362 of the internal_revenue_code facts plr-102165-04 x elected to be taxed as an s_corporation effective date at the time of the election x erroneously believed that trust and trust were shareholders of x however after the death of b on date x discovered that in fact trust and trust held shares in x after the death of b the shares of x held by trust were transferred to trust the income beneficiaries intended to file elections for the trusts that held x stock trust and trust to be treated as a aqualified subchapter_s trusts qssts under sec_1361 however the income beneficiaries did not timely file the appropriate elections under d in addition after a transferred shares to trust the trustees of trust failed to make an election to treat trust as an electing_small_business_trust esbt as a result of the failure_to_file these elections x’s s_corporation_election was invalid x represents that there was no intent to terminate x s s_corporation_election and that the failure_to_file timely the qsst elections for trust and trust as well as the esbt election for trust was not motivated by tax_avoidance or retroactive tax planning x also represents that since date and thereafter trust and trust have complied with the requirements under sec_1361 which defines a qsst similarly x represents that since date and thereafter trust has complied with the requirements under sec_1361 which defines an esbt x and its shareholders agree to make any adjustments required by the secretary consistent with the treatment of x as an s_corporation law and analysis sec_1361 provides that the term s_corporation means with respect to any taxable_year a small_business_corporation for which an election under sec_1362 is in effect for such year sec_1361 defines a small_business_corporation as a domestic_corporation which is not an ineligible_corporation and which does not a have more than shareholders b have as a shareholder a person other than an estate a_trust described in sec_1361 or an organization described in sec_1361 who is not an individual c have a nonresident_alien as a shareholder and d have more than one class of stock sec_1361 provides that a qsst whose beneficiary makes an election under sec_1362 will be treated as a_trust described in sec_1361 and the qsst's beneficiary will be treated as the owner for purposes of sec_678 of that portion of the qsst's s_corporation stock to which the election under sec_1361 applies under sec_1361 a beneficiary of a qsst may elect to have sec_1361 apply under sec_1361 this election will be effective up to days and two months before the date of the election plr-102165-04 sec_1361 defines a qsst as a_trust a the terms of which require that i during the life of the current income_beneficiary there shall be only one income_beneficiary of the trust ii any corpus distributed during the life of the current income_beneficiary may be distributed only to such beneficiary iii the income_interest of the current beneficiary in the trust shall terminate on the earlier of the beneficiary's death or the termination of the trust and iv upon the termination of the trust during the life of the current income_beneficiary the trust shall distribute all of its assets to that beneficiary and b all of the income within the meaning of sec_643 of which is distributed or required to be distributed currently to one individual who is a citizen or resident_of_the_united_states sec_1361 provides that an esbt as defined in sec_1361 is a permitted s_corporation shareholder sec_1361 provides that for purposes of sec_1361 and except as provided in sec_1361 the term esbt means any trust if i the trust does not have as a beneficiary any person other than an individual an estate or an organization described in sec_170 or ii no interest in the trust was acquired by purchase and iii an election under sec_1361 applies to the trust sec_1361 provides that such an election is to be made by the trustee and is to apply to the tax_year of the trust for which made and all subsequent tax years unless revoked with the consent of the service sec_1_1361-1 of the income_tax regulations provides that the trustee of the trust must make the esbt election by signing and filing with the service_center where the s_corporation files its income_tax return a statement that meets the requirements of sec_1_1361-1 sec_1_1361-1 provides that the trustee must file the esbt election within the period of time prescribed by sec_1_1361-1 for filing qualified_subchapter_s_trust qsst elections generally within the 16-day-and-2-month period beginning on the day the stock is transferred to the trust sec_1362 provides in relevant part that if an election under sec_1362 by any corporation was not effective for the taxable_year for which made determined without regard to sec_1362 by reason of a failure to meet the requirements of sec_1361 b or to obtain shareholder consents the secretary determines that the circumstances resulting in such termination were inadvertent no later than a reasonable period of time after discovery of the circumstances resulting in ineffectiveness steps were taken so that the corporation is once more a small_business_corporation and the corporation and each person who was a shareholder of the corporation at any time during the period specified pursuant to sec_1362 agrees to make any adjustments consistent with the treatment of the corporation as an s_corporation as may be required by the secretary with respect to the period then plr-102165-04 notwithstanding the circumstances resulting in the ineffectiveness the corporation shall be treated as continuing to be an s_corporation during the period specified by the secretary conclusion based solely on the information submitted and the representations made we conclude that x's subchapter_s_election was invalid because appropriate elections were not filed for trust trust and trust in addition we conclude that the election was inadvertently invalid within the meaning of sec_1362 therefore x will be treated as continuing to be an s_corporation from date and thereafter provided that the beneficiaries for trust and trust file qsst elections and the trustee of trust files an esbt election with the appropriate service_center within days of the date of this letter a copy of this letter should be attached to the qsst and esbt elections except as specifically set forth above we express no opinion concerning the this ruling is directed only to the taxpayer s requesting it sec_6110 of federal tax consequences of the facts described above under any other provision of the code specifically no opinion is expressed concerning whether x is otherwise eligible to be treated as an s_corporation whether trust and trust are eligible to be treated as qssts or whether trust is eligible to be an esbt the code provides that it may not be used or cited as precedent letter is being sent to your taxpayer representations submitted by the taxpayer and accompanied by a penalty of perjury statement executed by an appropriate party while this office has not verified any of the material submitted in support of the request for rulings it is subject_to verification on examination in accordance with the power_of_attorney on file with this office a copy of this the rulings contained in this letter are based upon information and sincerely david r haglund senior technician reviewer branch office of associate chief_counsel passthroughs special industries enclosures copy of this letter copy for ' purposes


department of the treasury internal_revenue_service washington d c date jl contact person rerererereeeerere 1d number erereererekeereke telephone number errererererereeeereer t e0o b4 employer_identification_number t 1sse00 legend a dear applicant this is in reference to your letter of date requesting a ruling that expenditures pursuant to the program described will not constitute taxable_expenditures within the meaning of sec_4945 of the internal_revenue_code you are a nonprofit corporation exempt from federal_income_tax pursuant to sec_501 of the code classified as a private_foundation under sec_509 of the code your proposed program will make grants to eligible charities in order to be an eligible charity an organization must be tax exempt under sec_501 c of the code and may not a private_foundation or otherwise excluded under the terms of the plan generally the organizations must benefit the community in directly providing social services education civic activities cultural actives youth or health and human services you will not make grants to several types of organizations including religious organizations veterans’ organizations political organizations and organizations that provide funds or services to organizations located in foreign countries in order for an eligible charity to receive a grant under your program it must have received a minimum of hours of volunteer services during a calendar_year from one full-time or part-time_employee of a or its subsidiaries boo the volunteer service must be performed on the employees personal time and not during working hours the employee may submit a grant application upon completion of hours of volunteer work if the application is completed and filed in a timely manner a grant will be awarded sec_4945 of the code provides for the imposition of taxes on each taxable_expenditure of a private_foundation sec_4945 of the code defines the term taxable_expenditure to include a grant by a private_foundation to any organization except an organization that is described in sec_509 or or is an exempt private_operating_foundation as defined in sec_4940 or where the private_foundation exercises expenditure_responsibility sec_4945 of the code defines the term taxable_expenditure as expenditure for any purpose other than one specified in sec_170 of the code sec_170 of the code defines the term charitable_contribution to include a contribution to or for_the_use_of a corporation organized and operated exclusively for charitable scientific literary or educational_purposes or for the prevention of cruelty to children or animals sec_501 of the internal_revenue_code exempts from federal taxation organizations that are operated exclusively for charitable scientific literary or educational_purposes or for the prevention of cruelty to children or animals under the terms of the program only organizations that are tax exempt under sec_501 of the code and are not private_foundations may be eligible to receive grants the purposes enumerated under sec_170 of the code constitute exempt purposes within the meaning of sec_501 c thus a contribution to a 501_c_3_organization would be a contribution for purposes specified in sec_170 of the code based upon the information you submitted and assuming your program will be conducted as proposed we rule that your expenditures pursuant to the program described above are not taxable_expenditures under sec_4945 d of the code because they are given to organizations that are not private_foundations to be used for one or more of the purposes specified in sec_170 of the code this ruling is conditioned on the understanding that there will be no material_change in the facts upon which it is based t is further conditioned on the premise that no grants will be awarded to your organization's creators officers directors trustees or members of the selection committee or for a purpose that is inconsistent with the purposes described in sec_170 of the code we are informing the ohio te_ge office of this action please keep a copy of this ruling with your permanent records this ruling is directed only to the organization that requested it sec_6110 of the code provides that it may not be used or cited as precedent sincerely yours bereta v book geraid v sack chief exempt_organizations technical branch


internal_revenue_service department of the treasury index number washington dc number release date person to contact telephone number refer reply to cc dom p si - plr-114753-99 date date x a d1 d2 year dear this letter responds to a letter dated date and subsequent correspondence submitted by you as x’s authorized representative on behalf of x requesting a ruling under sec_1362 of the internal_revenue_code the information submitted states that x was incorporated on d1 but did not begin doing business until d2 of year a the president of x represents that x was intended to be an s_corporation effective from x’s inception a further represents that there was confusion among a x’s accountant and x’s attorney as to who would file a form_2553 election by a small_business_corporation for x effective for x’s year taxable_year therefore no form_2553 was filed for x for x’s year taxable_year sec_1362 of the code provides that if -- a an election under sec_1362 is made for any taxable_year after the date prescribed by sec_1362 for making such election for such taxable_year or no such election is made for any taxable_year and b the secretary determines that there was reasonable_cause for the failure to timely make such election the secretary may treat such an election as timely made for such taxable_year based solely on the facts and the representations submitted we conclude that x has established reasonable_cause for failing to make a timely election to be an s_corporation for x’s year taxable_year accordingly provided that x makes an election to be an s_corporation by filing a completed form_2553 with the appropriate service_center effective for its year taxable_year within days following the date of this letter then such election will be treated as timely made for x’s year taxable_year a copy of this letter should be attached to the form_2553 except as specifically set forth above no opinion is expressed concerning the federal tax consequences of the facts described above under any other provision of the code including whether x was or is a small_business_corporation under sec_1361 of the code this ruling is directed only to the taxpayer who requested it sec_6110 of the code provides that it may not be used or cited as precedent pursuant to a power_of_attorney on file with this office a copy of this letter is being forwarded to x sincerely yours h grace kim assistant to the chief branch office of the assistant chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes


internal_revenue_service number release date index number ---------------------------------------------- -------------------------- ----------------------------------------------- ------------------------------------ ----------------------------- ------------------------------- department of the treasury washington dc third party communication none date of communication not applicable_person to contact -------------------- id no ------------- telephone number -------------------- refer reply to cc psi b02 plr-110302-08 date date legend x ------------------------------------------------------------------------------------------------------ ------------------------------------------------------------------------------------------ ------------------------ country d1 -------------- ------------------------- dear -------------- this is in response to a letter dated date submitted on behalf of x by its authorized representative requesting an extension of time under sec_301_9100-3 of the procedure and administration regulations to file an election to be classified as a disregarded_entity for federal tax purposes facts the information submitted states that x was formed under the laws of country as an entity eligible to elect to be treated as a disregarded_entity for federal tax purposes x’s default status was as an association_taxable_as_a_corporation for federal tax purposes x intended to be classified as a disregarded_entity for federal tax purposes effective d1 however a form_8832 entity classification election for x to elect to be treated as a disregarded_entity effective d1 was not timely filed plr-110302-08 law and analysis sec_301_7701-2 generally provides that a business_entity is any entity recognized for federal tax purposes that is not properly classified as a_trust under sec_301_7701-4 or otherwise subject_to special treatment under the internal_revenue_code sec_301_7701-3 provides that so long as a business_entity is not classified as a corporation under sec_301_7701-2 or an eligible_entity it may elect its classification for federal tax purposes sec_301_7701-3 provides guidance on the classification of a foreign eligible_entity for federal tax purposes generally a foreign eligible_entity is treated as an association_taxable_as_a_corporation if all members have limited_liability unless the entity makes an election to be treated otherwise if the foreign eligible_entity has only one owner it may elect to be treated as a disregarded_entity pursuant to the rules in sec_301_7701-3 sec_301_7701-3 provides that an eligible_entity may elect to be classified other than as provided under sec_301_7701-3 by filing a form_8832 with the appropriate service_center under sec_301_7701-3 this election will be effective on the date specified by the entity on form_8832 or on the date filed if no such date is specified on the election form the date specified on form_8832 cannot be more than days prior to the date on which the election is filed and cannot be more than months after the date on which the election is filed sec_301_9100-1 provides that the commissioner may grant a reasonable extension of time to make a regulatory election or a statutory election but no more than six months except in the case of a taxpayer who is abroad under all subtitles of the code except subtitles e g h and i sec_301_9100-1 defines the term regulatory election as including an election with a deadline prescribed by a regulation published in the internal_revenue_bulletin sec_301_9100-1 through provide the standards the commissioner will use to determine whether to grant an extension of time to make an election sec_301_9100-2 provides automatic extensions of time for making certain elections sec_301_9100-3 provides extensions of time for making elections that do not meet the requirements of sec_301_9100-2 sec_301_9100-3 provides that request for relief under sec_301_9100-3 will be granted when the taxpayer provides evidence to establish that the taxpayer acted reasonably and in good_faith and that granting relief will not prejudice the interests of the government plr-110302-08 conclusion based solely on the facts submitted and representations made we conclude that the requirements of sec_301_9100-3 have been satisfied accordingly x is granted an extension of sixty days from the date of this letter to elect to be classified as a disregarded_entity for federal tax purposes effective d1 the election should be made by filing form_8832 with the appropriate service_center a copy of this letter should be attached to the election except as expressly provided herein no opinion is expressed or implied concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter this ruling is directed only to the taxpayer requesting it sec_6110 of the internal_revenue_code provides that it may not be used or cited as precedent in accordance with the power_of_attorney on file with this office a copy of this letter will be sent to x’s authorized representative sincerely william p o’shea associate chief_counsel passthroughs and special industries enclosures copy of this letter copy for sec_6110 purposes


t c summary opinion united_states tax_court eliseo argomaniz petitioner v commissioner of internal revenue respondent docket no 18754-99s filed date eliseo argomaniz pro_se ric d hulshoff for respondent pajak special_trial_judge this case was heard pursuant to the provisions of sec_7463 of the internal_revenue_code in effect at the time the petition was filed the decision to be entered is not reviewable by any other court and this opinion should not be cited as authority unless otherwise indicated subseguent section references are to the internal_revenue_code in effect for the year in issue respondent determined a deficiency of dollar_figure in petitioner's federal_income_tax this court must decide whether petitioner is entitled to dependency_exemption deductions for his niece and nephew whether petitioner is entitled to file as head_of_household instead of single and whether petitioner is entitled to the child_care_credit the child_tax_credit and the earned_income_credit petitioner resided in santa ana california at the time he filed his petition during petitioner resided for part of the year pincite south maple street south maple and for the other part of the year pincite orange avenue petitioner's two sisters and their children lived with petitioner and his brother at the south maple address from date to date petitioner had been renting the property with his brother when both his sisters had problems with their husbands which caused the sisters and children to reside with petitioner there are two children who are relevant to the issues in this case melissa petitioner's niece and omar petitioner's nephew melissa was born in and omar was born in one of the sisters living with petitioner was melissa's mother the other sister living with petitioner was omar's mother petitioner and his brother worked in construction during his sisters were not working at that time but one sister was receiving some type of financial assistance from the government petitioner did not know whether the fathers of the children were paying any child_support petitioner testified that his brother was actually responsible for all of us and that he was the one that would make more money than everyone the rent for the three bedroom house was dollar_figure per month petitioner paid dollar_figure of the dollar_figure payments each week petitioner and his brother would spend about dollar_figure on food of that amount petitioner would pay at least dollar_figure a week petitioner would buy the children clothes when he would get spare money petitioner did not know how much it cost in total to support melissa and omar in on his tax_return petitioner claimed melissa and omar as dependents and listed them as foster children petitioner also filed as head_of_household and claimed his niece and nephew for the child_care_credit the child_tax_credit and the earned_income_credit respondent determined that petitioner was not entitled to claim his niece and nephew as dependents that his filing_status was single rather than head-of-household and that he was not entitled to the child care child tax and earned_income credits sec_151 allows a taxpayer to deduct an annual exemption_amount for each dependent as defined in sec_152 sec_152 provides in pertinent part that a dependent includes an individual over half of whose support in the taxable_year was received from the taxpayer and whose principal_place_of_abode for the taxable_year is the home of the taxpayer and is a member of the taxpayer's household sec_152 in determining whether or not an individual received over half of his or her support from the taxpayer there shall be taken into account the amount of support received from the taxpayer as compared to the entire amount of support which the individual received from all sources including support which the individual himself or herself supplied sec_1_152-1 income_tax regs support includes food shelter clothing medical and dental care education and the like sec_1_152-1 income_tax regs to establish that petitioner provided more than one-half of the claimed dependents' support he must first show by competent evidence the total amount of support furnished by all sources for the year in issue 56_tc_512 petitioner has not offered competent evidence of the total amount of support provided for each of the claimed dependents in aside from his testimony petitioner presented no evidence to corroborate or substantiate any of the claimed support expenses such as rent or that these expenses were indeed paid_by petitioner in fact based on petitioner's testimony it appears that most of the family's expenses were paid_by petitioner's brother with help from the government without proper substantiation the court cannot conclude from the record that more than one-half of the support of each claimed dependent was provided by petitioner thus petitioner has failed to establish that he provided over half of the total support for melissa and omar accordingly we hold that petitioner is not entitled to claim his niece and nephew as dependents under sec_151 respondent determined that petitioner's filing_status should be changed from head_of_household to single sec_2 in relevant part defines head_of_household as an unmarried taxpayer who maintains as his home a household which constitutes for more than one-half of such taxable_year the principal_place_of_abode of a person who is a dependent of the taxpayer if the taxpayer is entitled to a deduction for the taxable_year for such person under sec_151 sec_2 a because we held that petitioner is not entitled to a deduction for either his niece or his nephew in under sec_151 we also hold that petitioner may not claim head_of_household filing_status we sustain respondent's determination as to this issue petitioner claimed a credit for child and dependent care expenses of dollar_figure for which respondent disallowed sec_21 provides in part that an individual who maintains a household which includes as a member a qualifying_individual shall be allowed a credit based on the expenses for household services and dependent care services incurred to enable the taxpayer to be gainfully_employed sec_21 and b sec_21 defines in pertinent part a qualifying_individual as a dependent of the taxpayer who is under the age of and with respect to whom the taxpayer is entitled to a dependency_exemption deduction we have held that petitioner is not entitled to dependency_exemption deductions for his niece and nephew moreover petitioner did not maintain a household because he did not show that he furnished over half the cost of maintaining the home sec_21 we sustain respondent's determination with respect to this credit petitioner claimed a child_tax_credit of dollar_figure for which respondent disallowed sec_24 allows a credit for each qualifying_child of the taxpayer a qualifying_child means any individual if the taxpayer is allowed a deduction under sec_151 with respect to the individual for the taxable_year the individual has not attained the age of by the close of the year and the individual bears a relationship to the taxpayer described in sec_32 b sec_24 in this case because petitioner is not allowed dependency_exemptions under sec_151 for his niece and nephew they are not qualifying children petitioner does not qualify for the child_tax_credit in we sustain respondent's determination as to this issue petitioner claimed an earned_income_credit of dollar_figure for which respondent disallowed sec_32 provides for an earned_income_credit in the case of an eligible_individual sec_32 a in pertinent part defines an eligible_individual as an individual who has a qualifying_child for the taxable_year a qualifying_child is one who satisfies a relationship_test a residency test and an age_test sec_32 to satisfy the relationship_test in this case the qualifying_child must be an eligible_foster_child of petitioner sec_32 b iii an eligible_foster_child is an individual for whom the taxpayer cares for as the taxpayer's own child and who has the same principal_place_of_abode as the taxpayer for the taxpayer's entire taxable_year sec_32 c b iii the children resided with petitioner only until date they did not reside with him for the entire taxable_year moreover no evidence was presented that petitioner cared for his niece and nephew as his own children we find that the niece and nephew are not eligible foster children with regard to petitioner accordingly we sustain respondent's determination as to the earned_income_credit reviewed and adopted as the report of the small_tax_case division decision will be entered for respondent


david j maines and tami l maines petitioners v commissioner of internal revenue respondent docket no filed date ps received targeted economic development payments from the state of new york new york calls these payments credits and treats them as refunds for overpayments of state tax all the credits required ps to make some amount of business expenditure or investment in targeted areas within the state one of the credits the qeze real_property tax_credit is limited to the amount of past real-property tax actually paid the other two credits the ez investment_credit and the ez wage credit are not limited to past tax actually paid all the credits first reduce a taxpayer’s state income-tax liability any excess_credits may be carried forward to future years or partially refunded held the state-law label of the credits as overpayments of past tax is not controlling for federal tax purposes because the ez invest- ment credit and the ez wage credit do not depend on past tax_payments they are not refunds of past overpayments but rather are like direct subsidies because it does depend on past property-tax payments the qeze real_property tax_credit is treated like a refund of past overpayments held further the portions of the ez investment credits and the ez wage credits that only reduce ps’ state-tax liabilities are not taxable accessions to wealth however any excess portions of the credits that are refundable are taxable accessions to wealth to ps held further the portions of the qeze real_property tax_credit payments that only reduce ps’ state-tax liabilities are not taxable accessions to wealth refundable portions of the qeze real_property tax_credit payments are includible in ps’ gross_income under the tax-benefit rule to the extent that ps actually benefited from previous deductions for property-tax payments united_states tax_court reports ryan m mead for petitioners john m janusz kevin michael murphy justin g meeks and anne d melzer for respondent opinion holmes judge new york state uses extremely targeted tax_credits as an incentive for extremely targeted economic development in extremely targeted locations those who receive these credits may be extremely benefited-even if they do not owe any state_income_tax new york calls the credits overpayments of income_tax and makes them refund- able david and tami maines say that none of the credits should be taxable because new york labels them overpay- ments of past state_income_tax and they never claimed prior deductions for state_income_tax the commissioner dis- agrees and argues that these refundable credits are in sub- stance even if not in name cash subsidies to private enter- prise-and just another form of taxable_income background the new york economic development zones act offers state-tax incentives to attract new businesses and to encour- age expansion of existing ones n y gen mun law secs mckinney in the program changed its name to the empire zones program ez program the ez program provides incentives to stimulate private investment and business development and tries to create jobs in impov- erished areas in new york state businesses in empire the new york constitution prohibits direct gifts to corporations or in- dividuals from state funds n y const art vii sec mckinney such clauses found in many state constitutions present perhaps inten- tional difficulties for the sort of targeted economic development at issue in this case see peter j galie christopher bopst anything goes a his- tory of new york’s gift and loan clauses alb l rev gift and loan restrictions strictly limit state and local govern- ment taxing and spending powers martin e gold economic develop- ment projects a perspective urb law constitutional prohibitions major limitation on economic development we decide in this case only the possible federal-tax recharacterization of the refundable cred- its at issue here and not any possible state-law recharacterizations section references that do not cite new york law are to the internal_revenue_code in effect for the years in issue all references to rules are to the tax_court rules_of_practice and procedure maines v commissioner zones have to apply to become certified ez businesses certified ez businesses qualify for certain ez tax_credits a certified ez business that meets specific employment tests may become a qualified empire zone enterprise qeze n y tax law sec a mckinney qezes are eligible for additional targeted tax_credits the various ez credits require that the business stay put within a designated area and meet certain annual employment requirements see eg id sec_15 and b the three credits at issue in this case are the qeze credit for real_property_taxes id sec_15 bb the ez invest- ment credit id sec j and the ez wage credit id sec k eligibility for all the credits depends on a business’ meeting the requirements ez businesses that are corporate- level taxpayers get credits against their franchise-tax liability ez businesses that are passthrough entities such as partnerships s_corporations or llcs taxed as partnerships get credits against the personal income-tax liabilities of their partners or members the taxpayers in this case the maineses own two firms endicott interconnect tech- nologies inc and huron real_estate associates endicott is an s_corporation and huron is an llc taxed as a partner- ship therefore any reference to taxpayer refers to individ- uals such as the maineses and not to corporate taxpayers any reference to shareholders refers to shareholders in s_corporations because eligibility for the credits depends on a business’ meeting specific requirements the full credit_amount is cal- culated at the entity level even for pass-through entities a partnership for example would report the credit_amount on its ny form it-204 partnership return it would then taxation of s_corporations is under subchapter_s of the code and tax- ation of partnerships is under subchapter_k s_corporations and partner- ships are similar in that they do not pay taxes themselves but rather pass through items of income and deduction to their shareholders or partners sec_701 sec_1366 as an llc which stands for limited_liability com- pany with two or more members huron had a choice of how it would be taxed-the code treats such an llc as a partnership unless the llc elects otherwise sec_301_7701-3 proced admin regs huron did not elect otherwise even though they don’t pay taxes however both s_corporations and partnerships do file information returns to report their income and deductions to their owners see sec_701 sec_6031 sec_6037 united_states tax_court reports report to individual partners or in the case of llcs mem- bers or in the case of s_corporations shareholders their distributive_share of the pass-through credits on form it- 204-ip new york partner’s schedule_k-1 an individual claims his share of these credits on credit-specific forms such as form it-601 claim for ez wage tax_credit or form it- claim for qeze credit for real_property_taxes he then reports these amounts on his personal income-tax return new york form it-201 resident income_tax return which results in credit amounts that reduce his indi- vidual income-tax liability and any refundable portion being paid_by the state to him individually the process is similar for other passthrough entities such as s_corporations the first tax_credit at issue here is the qeze real prop- erty tax_credit n y tax law sec bb the formula for computing this credit starts with the amount of real-property taxes a qeze paid and depends on when the business first became a qeze id sec_15 and the qeze cal- culates the total credit_amount based on the property taxes previously paid and when the qeze is a passthrough_entity it provides its partners or shareholders with a distributive_share of the credit id it was the taxes paid and the business activity of huron and endicott that caused new york to pay the credits but new york does not distinguish between forms of business when passing out qeze credits partners in a qeze partnership or shareholders of a qeze new york s_corporation receive distributive shares of the credit and claim that amount on their individual returns the amount however cannot exceed the real-property taxes paid which in this case means the amount of real-property taxes that huron or endicott paid see id subsecs e and f-1 it i sec_4 the amount of credit and tax_benefit that passes through to the maineses is a consequence of the property_tax huron pays huron’s prop- erty taxes must be taken into account at the partnership level for its tax- able year and therefore its claimed property-tax expenses and the maineses’ share of those expenses are partnership items see sec_6231 sec_301_6231_a_3_-1 proced admin regs these credits- because they pass through to the maineses-affect the maineses’ federal tax bill that makes them affected items see sec_6231 the com- missioner may issue an affected-items notice_of_deficiency without opening and closing a partnership-level proceeding as long as the commissioner is bound by the partnership items as reflected on the partnership’s return see eg 691_f3d_1108 9th cir maines v commissioner important to note that while the amount of the credit is based upon the amount of real-property tax paid the credit is against the new york income-tax liability or corporate- franchise tax_liability of the taxpayer who claims the credit id subsec a any amount of an individual’s distributive_share of the credit not used in a particular tax_year to reduce an income-tax liability is treated as an overpayment of new york income_tax id sec bb new york state does not tax the refunded portion of the credit but treats it as a refund of state_income_tax id so to summarize as a qeze huron qualified for the credit based on the amount of prop- erty tax it paid but it was the maineses who claimed their distributive_share of the property-tax credit on their indi- vidual returns and who used it to reduce their own income- tax_liability and receive a refund the second credit at issue is the ez investment_credit this credit is eight percent of the cost or other basis for fed- eral income-tax purposes of tangible_property in an empire zone and acquired or built while the area is designated as an empire zone n y tax law sec j to be eligible the property must meet several requirements it must be purchased as defined in sec_179 located in a new york state empire zone depreciable under the code with a useful_life of four or more years and fit into one of only five listed categories n y tax law sec j and the credit is against income_tax or the corporate franchise tax and the taxpayer claiming the credit-in this case an indi- vidual partner or shareholder in an s corporation-may carry forward any unused portion of the credit or may receive fifty percent of the excess as a refund if the taxpayer qualified as an owner of a new business under n y tax law sec a see id subsec j the final credit at issue here is the ez wage credit id subsec k an ez business qualifies for the ez wage credit if its jobs employees and employment terms meet certain requirements as with the other two credits the credit is against a corporate taxpayer’s franchise tax or an individ- ual’s income_tax a pass-through ez business reports to its partners or shareholders their distributive_share of the ez aff ’g 132_tc_355 gustin v commissioner tcmemo_2002_64 united_states tax_court reports wage credit and those individuals claim it as a credit against the new york income_tax on their personal returns any excess_credit that remains after reducing an individual’s income-tax liability may be carried over or partially refunded id subsec k the maineses are partners in huron and shareholders in endicott and their businesses responded to the incentives new york gave them huron qualified for the qeze real_property tax the ez investment and the ez wage credits and endicott interconnect’s business likewise qualified it for the ez investment and the ez wage credits from to huron deducted local property-tax payments on its fed- eral returns-specifically on form_8825 rental real_estate income and expenses of a partnership or an s corporation- reducing the amount of income reported to the maineses on their schedules k-1 partner’s share of income deductions credits etc on their new york income-tax returns forms it-201 the maineses claimed no state withholding or estimated_tax pay- ments but for they wiped out half their state income- tax_liability with nonrefundable state credits not at issue in this case and the other half with part of the refundable ez credits for and they wiped out their entire state income-tax liability with nonrefundable state credits thus for tax years to they had actually paid no state income taxes but having done just what new york wanted the maineses reaped a bountiful harvest of the new york ez credits for this period and because they had little to no state income-tax liability in these years for the credits to offset the refundable credits led to large refund payments from new york to the maineses discussion the parties disagree about none of these facts and both have moved for summary_judgment their dispute is instead about whether these excess refundable state-tax credits are taxable_income under federal_law it is a novel and purely legal question this case is one of eleven related but unconsolidated cases filed by new york residents arising from disputes about the federal tax treatment of maines v commissioner a tax benefits state-created legal interests and federal characterization we begin with an introduction to the tax_benefit_rule the need for this rule lies in our system of taxing income on an annual basis the world doesn’t come to an end and then begin again on january every year so courts early on had to figure out what to do when a transaction looked one way at the end of a tax_year but looked different in a later year the classic example is a bad-debt deduction imagine a taxpayer who writes off the principal of a loan in date because his debtor can’t pay but then in september his debtor wins the lottery and repays the debt no bad-debt deduction here because the debt turned out not to be bad but what happens if we move the hypothetical forward six months the taxpayer writes off the loan in date nothing changes before the end of the year so the taxpayer is entitled to claim a bad-debt deduction see sec_166 but the debtor wins the lottery in date and repays the debt remember that in this second hypothetical the taxpayer was getting a deduction for unrepaid principal the return of principal is generally not includible in taxable_income see eg 115_f2d_875 9th cir aff ’g 40_bta_72 and the taxpayer-from the perspective of the end of his tax year-quite properly took a bad-debt deduction but before taxes isn’t he economically in the same position as the tax- payer in the first hypothetical of course he is and the tax-benefit rule is how tax law squares the hypotheticals to reach the same result-more or less it tells us to look at the subsequent event in these hypotheticals the unexpected repayment of a loan and ask if that event had occurred within the same taxable_year would it have foreclosed the deduction see 460_us_370 if yes the subsequent event is taxable these credits though maybe not exactly-a taxpayer may find himself in different tax brackets in different years for example the rule is thus one of those odd bits of tax law that began in common- continued united_states tax_court reports easy enough in the bad-debt case-if the debtor in the second hypothetical had won the lottery in just like the debtor in the first hypothetical the taxpayer would have been repaid and not entitled to a bad-debt deduction now let’s move on to state-tax refunds as all federal tax- payers who itemize their deductions learn a state income-tax refund has to be added to one’s federal taxable_income in the year it’s received if one took a deduction for state income-tax payments for a preceding year the logic is pretty straight- forward imagine a taxpayer who pays dollar_figure in state income taxes in year his state acting with unimaginable speed sends him a dollar_figure refund just before the stroke of midnight on new year’s eve his state income-tax deduction is dollar_figure now imagine another taxpayer who pays dollar_figure but who gets his refund only in year under the tax-benefit rule he gets the dollar_figure deduction on his year tax_return but has to include the dollar_figure refund in his year income roughly equal cases get treated roughly equally but what if someone who doesn’t itemize in year gets a refund in year the answer in that case is that he does not have to include his state income-tax refund on his year return see 136_tc_341 ndollar_figure stating that state-tax refunds are not income unless the taxpayer claimed a deduction for them-for example by itemizing for the previous year aff ’d sub nom esgar corp v commissioner 744_f3d_649 10th cir he got no deduction in year for the state_income_tax that he paid so he got no federal tax_benefit and without a federal tax ben- efit he doesn’t have to bear a federal tax burden on a refund he receives in year see eg 40_bta_333 holding that so long as petitioner law fashion in caselaw in the early days of the income_tax it was unclear if the rule was valid but then our predecessor the u s board_of tax ap- peals upheld the application of the rule in see 16_bta_886 and the fifth circuit commented soon thereafter that the rule was a principle that seems to be taken for granted 50_f2d_158 5th cir aff ’g 20_bta_45 the rule since then has become partially codified see sec_111 and is now settled as a background principle for a history of the development of the tax-benefit rule see generally boris i bittker stephen b kanner the tax_benefit_rule ucla l rev and patricia d white an essay on the conceptual founda- tions of the tax_benefit_rule mich l rev maines v commissioner neither could nor did take a deduction in a prior year any amount he receives the next year is not then includable in his gross_income revrul_79_315 1979_2_cb_27 now we can edge toward the real facts in this case the maineses stipulated that they took no deduction on their fed- eral income-tax returns for the years at issue for state_income_tax paid in the preceding year they argue that their credits under the ez program are just like excess state income-tax withholding-they point out that the credits that new york gave them are defined by state law to be overpay- ments of state_income_tax they argue that they are like our nonitemizing hypothetical taxpayer which means that they got a big state income-tax refund that they don’t have to include in their federal taxable_income we have to agree with the maineses in part they are cor- rect that new york calls these payments credits and that new york says these credits are overpayments of state_income_tax but in truth the maineses didn’t pay this amount in state_income_tax so the key question in this case becomes whether a federal court applying federal_law has to go along with new york’s definition the maineses understand the importance of this question and they argue that if new york state tax law calls these payments overpayments we have no power to call them something different they point to cases like 363_us_509 quoting united after claiming at first that they never deducted new york real-property taxes on their federal income-tax returns the maineses admitted that this was incorrect-they never deducted new york real-property taxes person- ally but huron did on its federal return one might think this would mean the maineses’ receipt of the qeze credit for real_property_taxes would trigger the tax-benefit rule the maineses argue however that because the new york tax code labels the qeze credit for real_property_taxes credit as a credit against state income tax-and any refund of that credit as a refund of state income tax-we should instead focus on their federal deduction of state_income_tax according to them because the credit is nominally a refund of state_income_tax its receipt can’t trigger the tax- benefit rule for them because they never claimed a deduction for payment of new york state_income_tax on their federal returns n y tax law sec j mckinney labeling the empire zone investment_credit refunds overpayments id subsec bb labeling the qeze credit for real_property_taxes refunds overpayments id subsec k labeling the empire zone wage credit refunds overpay- ments united_states tax_court reports states v bess 357_us_51 where the supreme court held that federal tax law ‘creates no property rights but merely attaches consequences federally defined to rights created under state law ’ in 528_us_49 citing 309_us_78 the court explained that we look first to state law to determine what rights the taxpayer has in the property the government seeks to reach then to federal_law to deter- mine whether the taxpayer’s state-delineated rights qualify as ‘property’ or ‘rights to property’ within the compass of the federal_tax_lien legislation that is state law creates legal rights and interests federal_law designates how those rights or interests will be taxed see id the commissioner does not challenge these cases and he also agrees that new york law labels the credits as income_tax credits and excesses or surpluses as overpayments of state_income_tax for state-tax purposes but is a state’s legal label for a state-created right binding on the federal govern- ment here begins the disagreement the maineses contend that new york’s tax-law label of these excess ez credits as overpayments is a legal_interest that binds the commissioner and us when we analyze their taxability under federal_law the commissioner warns that if this were true a state could undermine federal tax law simply by including certain descriptive language in its statute to use lincoln’s famous example if new york called a tail a leg we’d have to con- clude that a dog has five legs in new york as a matter of federal lincoln and the proclamation of emancipation in reminiscences of abraham lincoln by distinguished men of his time allen thorndike rice ed harper bros publishers available at https archive org details cu31924012928937 law see george w julian we have to side with the commissioner and lincoln on this one calling the tail a leg would not make it a leg id our precedents establish that a particular label given to a legal relationship or transaction under state law is not nec- essarily controlling for federal tax purposes see morgan u s pincite 138_tc_395 federal tax law looks instead to the substance rather than the form of the legal interests and relationships established by state law see 511_us_224 maines v commissioner our decision in 74_tc_925 aff ’d without published opinion 659_f2d_1058 2d cir supports this in buffalo wire works we had to determine the character of condemnation payments made by the city of buffalo to the taxpayer under new york law condemnation awards included compensation_for land building and fixtures-and a court had to deter- mine the compensation_for the value of fixtures by calcu- lating the cost of moving them id pincite the irs argued that this meant that part of the condemnation_award was a reimbursement for moving_expenses taxable in the case under the tax-benefit rule because the taxpayer had pre- viously deducted the moving_expenses and not a payment entitled to nonrecognition treatment as an amount that was involuntarily converted into similar_property see sec_1033 any gain from a condemnation_award is not recognized if the money is reinvested in a similar_property we had to figure out whether the condemnation_award for the taxpayer’s fixtures should be treated for purposes of federal income_taxation as reimbursement of moving_expenses or as money into which property has been con- verted buffalo wire works t c pincite and we con- cluded that regardless of state-law labels the economic reality of the payments showed them to be the latter id pincite we have to draw the same distinction here the maineses have a legal_interest in the giant credits that new york law entitles them to those credits were paid to the maineses and nothing we say undermines new york’s decision to make them but federal tax law has its own say in how to charac- terize those payments under the code under new york law to qualify for the ez investment_credit a taxpayer must own a business that places in service qualified_property in a note that the rest of our opinion in buffalo wire works dealt with the tax-benefit rule we held that because none of the money was actually compensation_for moving_expenses the taxpayer did not have a recovery_of previously deducted moving_expenses buffalo wire works t c pincite this was before the supreme court later invalidated the recovery test for the tax-benefit rule and replaced it with the fundamentally incon- sistent test 460_us_370 hillsboro does not affect our analysis in buffalo wire works regard- ing state-law labels for federal tax purposes united_states tax_court reports designated empire zone to qualify for the ez wage credit a taxpayer must own a business that has full-time targeted employees who receive qualified ez wages neither credit is in substance a refund of previously paid state taxes deducted under federal_law they are just transfers from new york to the taxpayer-subsidies essentially the qeze real_property tax_credit is different tax- payers receive a qeze real_property tax_credit only if their business qualifies as a qeze and pays eligible real-property taxes and-this is important-the amount of this credit cannot exceed the amount of those taxes actually paid the refundable portion of this credit is indeed a tax refund-it is in substance a refund of previously paid property taxes even if new york labels it a credit against state income taxes and this means that our analysis of the ez investment and wage credits will be different from our analysis of the qeze real_property tax_credit b the ez investment and wage credits sec_61 defines gross_income as all income from whatever source derived payments that are undeniable accessions to wealth clearly realized and over which the tax- payers have complete dominion are taxable_income unless an exclusion applies 348_us_426 sec_61 is meant to extend to the full measure of congress’s taxing power and we have to construe exclusions from income narrowly 515_us_323 citing 504_us_229 souter j concurring receipt of tax deductions or credits that just reduce the amount of tax a taxpayer would otherwise owe is not itself a taxable_event for the investor has received no money or other ‘income’ within the meaning of the internal_revenue_code 478_us_647 but what happens when those deductions or credits lead to a state income-tax refund greater than the taxes actually paid both parties point us to tempel where we stated that the amount of a state-tax credit that reduces a tax_liability is not an accession to wealth under sec_61 tempel t c pincite both parties agree with this the parties dis- agree on what tempel says about refundable portions of maines v commissioner credits tempel involved the tax treatment of the sale of transferable colorado state-tax credits that the taxpayers received for a donation of a qualified_conservation_easement id pincite colorado allowed conservation_easement recipients to use their credits to receive a limited refund up to dollar_figure provided that the state had exceeded certain colo- rado constitutional tax-collection limits id pincite we held that the mere receipt of these credits was not an accession to wealth but that gain realized from selling them to a third party was capital_gain id pincite the opportunity to receive dollar_figure under certain cir- cumstances made the credits potentially refundable however and this creates confusion and disagreement between the parties the maineses point to the potential refund and argue that tempel held that the receipt of potentially refund- able credits was not income to the taxpayer this is true but it misses the issue in this case in the year in which the tax- payers in tempel received and sold their credits colorado made it impossible for them to receive a refund id pincite- stating there is no evidence that petitioners sold credits they could have otherwise used to receive a refund we also stated it was apparent that the transferred state tax_credits never represented a right to receive income from the state while reiterating that credits are not an accession to wealth as long as they are used to offset or reduce the donor’s own state tax responsibility id pincite n thus far from sug- gesting that refunded portions of credits aren’t income we noted that the credits in tempel never led to cash refunds and emphasized that it is only the reduction of tax_liability that is not income to the taxpayer the maineses are right that their ez investment and wage credits are distinct from the credits we discussed in tempel-the maineses did not receive cash in hand from selling them to a third party but we don’t see much of a dif- ference between the maineses’ investment and wage credits and those colorado credits that we held taxable in tempel the key distinction-as we held in tempel-is that a non- taxable credit is one that must be used to offset or reduce the taxpayer’s tax_liability with refundable portions of tax_credits taxpayers may receive cash payments in excess of their tax_liability united_states tax_court reports we therefore hold that this excess portion that remains after first reducing state-tax liability and that may be refunded is an accession to the maineses’ wealth and must be included in their federal gross_income under sec_61 for the year in which they receive the payment or are entitled to receive the payment unless an exclusion applies see secs and there is no exclusion from federal_income_tax simply because a payment comes from a state government see 434_us_77 whether cash payments designated as meal allowances to state police troopers are excludable under sec_119 35_f3d_93 2d cir taxpayer claiming an exclusion from income bears the burden of proving that his claim falls within an exclusionary provision of the code 111_tc_339 ndollar_figure holding taxpayers seeking an exclusion from income must bring themselves within the clear scope of the exclu- sion there is also no federal exclusion simply because an amount takes the form of a tax_refund for state purposes it is only the potentially refundable excess_credits that must be included in gross_income and under the doctrine_of constructive receipt this is the case whether or not the maineses elect to receive the excess or carry it forward the regulations say that even if income is not actually reduced to a taxpayer’s possession it is constructively received by the taxpayer if it is somehow made available to him so that he could draw on it if he wanted sec_1_451-2 income_tax regs we have formulated this concept by saying that a tax- payer recognizes income when the taxpayer has an unquali- fied vested right to receive immediate payment 96_tc_814 income is not constructively received if the taxpayer’s right to control it is subject_to substantial limitations sec_1_451-2 income_tax regs here there were excess tax_credits left after the maineses reduced their liability the maineses had a clear right to receive a percentage of this excess as a direct pay- ment and there were no limits on the maineses’ ability to receive these payments we must therefore hold that the maineses have constructively received income equal to what they could have received as a direct payment even if they in fact chose not to do so maines v commissioner the maineses also argue that the excess portion of the refundable state-tax credit is a return_of_capital and thus not income see s pac co v lowe 247_us_330 the return or recovery -of-capital doctrine makes nontaxable the repayment of an initial outlay for example someone who buys stock for dollar_figure and sells it for dollar_figure pays tax only on the dollar_figure gain the maineses cite various revenue rulings and general counsel memoranda in support of their claim but none of them justifies income exclusion in the present situation see revrul_78_194 1978_1_cb_24 revrul_70_86 1970_1_cb_23 i r s gen couns mem date citing i r s gen couns mem date the revenue rulings and the general counsel memo- randa analyze situations where states refunded property taxes or rent payments that had not provided earlier tax benefits in other words their facts were just like those of a taxpayer who paid state taxes but didn’t itemize and there- fore never benefited from the payments the general counsel memoranda frame these payments as a return_of_capital rather than a tax_refund because some of the recipients were renters and therefore never directly paid property_tax for them the payments were a refund of rent expenses i r s gen couns mem and because rent payments are not deductible the state refund was not for a previously deducted item and there was no tax-benefit issue thus rather than standing for some escape from the tax-benefit rule the memoranda clarify that such payments were tax-free returns of capital only because they restored a prior expense that had provided no previous tax_benefit see id in this case it’s unclear if the maineses claim the credits are a tax-free return_of_capital because they are a return of property_tax a return of income_tax or some other return_of_capital their argument fails regardless the maineses didn’t pay any income_tax to new york in and therefore the credits can’t be a return of state_income_tax they did pay property_tax through huron but they also benefited by deducting those payments through huron this means the credits can’t be a tax-free return_of_capital and while the amount of the investment credits takes into account the costs of acquiring and improving real_estate which are undoubtedly capital expenses the authoritie sec_144 united_states tax_court reports that the maineses cite involve the return of previously non- deducted property_tax and rent payments and do not suggest that payments like those at issue in this case are also a tax- free return_of_capital this argument is in any event also underdeveloped on a summary-judgment motion-neither party presented any evidence for instance of whether the maineses already received some tax_benefit such as depre- ciation deductions for their capital outlays on real_property the maineses also contend that their credits are exclud- able from their taxable_income as welfare the commissioner has long held that certain payments from social-benefit pro- grams that promote the general welfare are not includible in gross_income see revrul_2005_46 2005_2_cb_120 cer- tain payments promoting general welfare are excludable but disaster-relief payments to businesses are not excludable to qualify for the general-welfare exclusion a payment must be made from government funds promote the general welfare generally based on need and not be compensa- tion for services id grants from welfare programs that don’t require recipients to show need have not qualified for the general-welfare exclusion see 88_tc_1293 denying the exclusion for payments from a facade grant program when the taxpayer only had to show ownership and building code compliance to qualify critics of programs like new york’s might call them cor- porate welfare but that’s just a metaphor-the credits that new york gave to the maineses were not conditioned on their showing need which means they do not qualify for exclusion from taxable_income under the general-welfare exception see also eg revrul_2005_46 holding that state grants for expenses_incurred by businesses that agree to operate in disaster areas are not excludable under the general-welfare exclusion we therefore hold that portions of the excess ez invest- ment and wage credits that do not just reduce state-tax liability but are actually refundable are taxable_income c the qeze real_property tax_credit the maineses’ qeze real_property tax_credit is different because it was limited to the amount that huron had actu- ally paid in real-property taxes as we’ve already discussed maines v commissioner the tax-benefit rule and sec_111 are what we use to answer this question under that rule and that section a taxpayer is allowed to exclude a refund from his income if but only if he never got the benefit of a corresponding deduc- tion for an earlier year the parties agree that huron paid property taxes in and that it deducted these taxes on its federal returns see sec_164 on its forms huron deducted prop- erty taxes from its gross_receipts to arrive at its net real- estate income huron then calculated the maineses’ distribu- tive share of its net real-estate income and reported it to the maineses on their schedule_k-1 the maineses reported this amount on their form_1040 on the line for partnership income because huron had deducted its property_tax to cal- culate its net real-estate income the amount of net real- estate income passed through to the maineses was smaller than it would have been had property_tax not been deducted this decreased amount of passthrough income led to a smaller taxable_income reported by the maineses on their individual return and thus smaller tax_liability this decreased tax_liability is a benefit to the maineses and their receiving a cash refund of these previously deducted taxes is fundamentally inconsistent with the previous deduction-the distributive_share of the passthrough qeze real_property tax_credit that belonged to and was claimed by the maineses even though it was huron that paid the under- lying property_tax at the entity level see supra note because the cash refund is fundamentally inconsistent with huron’s previous deduction the tax-benefit rule applies this means that any refundable portion of the qeze real prop- erty tax_credit that remained after first reducing the maineses’ state income-tax liability is taxable as income the exclusionary aspect of the tax-benefit rule under sec_111 does not apply here to the extent that the decreased pass-through income from huron reduced the maineses’ fed- eral tax_liability it is of no consequence that it was huron that paid and deducted the property taxes while it is the maineses who are recall that whether or not the maineses choose to receive the refund- able portion of the credit they are in constructive receipt of it and there- fore must include it in their gross_income united_states tax_court reports receiving the refundable_credit the maineses needn’t have been the ones that personally claimed the earlier deduction if their tax-free receipt of the credit is fundamentally incon- sistent with the earlier tax treatment in 101_tc_35 we faced a similar situation when a c_corporation deducted interest_expenses before changing to an s_corporation and passing through recovered interest_expenses to its shareholders although the corporation initially claimed the deduction we held that the tax-benefit rule required inclusion of the recovered expenses by s_corporation shareholders because tax-free recovery_of those expenses was fundamentally inconsistent with the pre- vious deduction that lowered the corporation’s income id pincite in reaching this conclusion we noted that sec_111 is not limited to cases where the same person receives both the deduction in the earlier year and the recovery in the later year id pincite n an appropriate order will be issued f taxation of a c_corporation is under subchapter_c of the code c cor- porations which include most large corporations do pay tax at the cor- porate level unlike s_corporations