THE TAX ATTIC with Jerry Coon

Obscure Code Sections

It seems that we have a slight problem in our tax system. This problem shouldn’t be a surprise to most of us. Prisoners are filing fraudulent tax returns, claiming various credits, and getting the refunds. On top of that, they are then arguing with the Internal Revenue Service about the validity of the claims once they are caught.

Jerry Coon

The National Association of Tax Professionals’ Research Department passed on to us a Tax Court case that recently was decided in favor of the IRS.

A Michigan prisoner, interred in one of our maximum security prisons since 1997, filed a 2007 tax return reporting wages earned of $15,640. This amount of wages resulted in him receiving Earned Income Tax Credit of $4,667. He was audited and the IRS disallowed the credit.

There is a special Code Section, 32(c)(2)(B), that says “no amount received for services provided by an individual while the individual is an inmate at a penal institution shall be taken into account” when calculating credits such as the Earned Income Tax Credit (EITC).

I’m not amazed that the prisoner in question didn’t know about this Code Section. Heck, there are plenty of unique little Code Sections that most of us don’t know about. I am amazed, though, that the prisoner chose to appeal the original auditor’s ruling. I’m quite sure the auditor pointed out and backed it up in writing that this Code Section existed. There really was nothing to appeal. Of course, the prisoner really had nothing to lose and it probably gave him something to do.

The Tax Court was not amused. They ruled that 32(c)(2)(B) does apply, as it should, and the prisoner not only wasn’t allowed to keep the EITC amount of $4,667 but he also owed an additional accuracy-related penalty assessed under Section 6662 in the amount of $933. At least common sense did apply in this situation.

The other credit that prisoners have claimed en masse has been the first-time homebuyer credit. That credit was either $8,000 for a first-time homebuyer or $6,500 for a long-time resident homebuyer. Evidently, $8,000 or $6,500 was enough money for prisoners to cheat to get. The IRS indicates they believe that overall there was a few billion dollars of fraudulent claims for these credits. Many of those claims were from prisoners.

Since it’s pretty tough for a prisoner to be a homebuyer of any sort, let alone a first-time homebuyer or a long-time resident homebuyer, I agree with them. One of the requirements of the credit is that the home has to be occupied as the primary residence of the claimant. That makes it even harder for a prisoner to comply.

The IRS has since modified the process in that a due diligence worksheet has to be completed and the closing documents have to be sent in with the claim. Now they are checking the claimants out before the check is issued. Now that makes sense.

Common sense, however, does not always apply in the world of taxes, especially when it comes to Michigan laws concerning when a property comes uncapped for purposes of Michigan’s taxable value.

In a recent Michigan Supreme Court case, Klooster V. Charlevoix, the Courts ruled in favor of Charlevoix. In this particular case, a mother and father bought land in Charlevoix in 1961. In 2004, the mother took her name off the title, so the father now solely owned the property. Subsequently, the father added one of his sons to the title. The father passed away in 2005, so the son now solely owned the property. The son then added his brother’s name to the title later in 2005.

The City of Charlevoix ruled that the property became uncapped when the son added the brother’s name to the title and in 2006 increased the taxable value by approximately $34,500. It did not increase when the father added the first son’s name to the title. It did not increase when the father died and the son took his father’s name entirely off the title. It did increase when the first son added his brother’s, the second son’s, name to the title.

Remember above when I stated there are plenty of obscure Code Sections that most of us don’t know about? Well, here’s another one. MCL 211.27a(7)(h) states that a transfer of ownership from the son to himself and his brother in joint tenancy was not exempted from uncapping. The Supreme Court applied 211.27a(7)(h) to this situation and agreed with the City of Charlevoix. The son should not have put his brother on the title. I’m sure that decision cost him a few thousand dollars every year in increased taxes.

What doesn’t make sense to me in this case is why a son can be added or both sons could have been added before father took his name off the title with no consequences. But adding the other son after the father took his name off has severe consequences. Where is the logic in this? The result is exactly the same but it ends up costing a lot of tax money to get that second son on the title later.

It might be a good idea to visit with Neil Blakeslee or your favorite attorney before adding or removing a name on a title. It might save you quite a few dollars. This is Jerry Coon signing off.

Jerry Coon is an Enrolled Agent. He owns
Action Tax Service in Rockford. Contact Jerry


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