Trade Or Business 4

FINAL COPYRIGHT 2015 LGUTEF TRADE OR BUSINESS 4 Definition of a Trade New Business Models or Business ��110 and Nontraditional Selected Provisions for Trades Occupations ��132 or Businesses . 118 Trade or Business References �� 134 Learning Objectives Introduction After completing this session, participants will be This chapter updates the 2004, 2006, and 2014 able to perform the following job-related actions: National Income Tax Workbooks chapters on “Trade ✔✔ Understand the differences in the definition or Business.” of trade or business among various provisions This chapter is motivated by new business in the Internal Revenue Code models in the online and “sharing” economy. Independent sellers using eBay, Amazon, and ✔✔ Apply the proper definition of trade or other online platforms; the popularity of flea business to the tax provisions that use that markets and antique and peddler malls; and ser- term vices such as Uber, Lyft, and Airbnb raise issues ✔✔ Apply the not-for-profit rules of I.R.C. § 183 including ✔✔ Calculate a taxpayer’s self-employment ■■ the consequences of there being no trade or income business, ■■ ✔✔ Explain the effect of a tax home on a SE tax issues under I.R.C. §§ 1402 and 162, taxpayer’s deduction of travel expenses ■■ deducting trade or business travel expenses, and ✔✔ Claim start-up expenses on a taxpayer’s income tax return ■■ acceptance of cryptocurrencies such as Bitcoin. ✔✔ Apply the tax rules for trades or businesses to new business models such as selling goods or The “Trade or Business References” section services on the Internet at the end of this chapter lists the many sections of the Internal Revenue Code that provide benefits © 2015 Land Grant University Tax Education Foundation, Inc. 109 FINAL COPYRIGHT 2015 LGUTEF for or impose limitations on a trade or business activity, but there is no one all-encompassing statutory explanation of the term trade or business. Common law developed by the courts provides the definition in a piecemeal fashion. DEFINITION OF A TRADE OR BUSINESS No one definition of the term trade or business applies to all tax law provisions. Neither the Internal Revenue Code nor the regu- Court Decisions lations attempt a general definition oftrade or business. Many Internal Revenue Code and Treasury In Flint v. Stone Tracy Co., 220 U.S. 107 (1911), regulations sections state that “for the purpose of the Supreme Court affirmed that a management this section, trade or business has the same mean- corporation was engaged in business for pur - ing as described in section 162, trade or business poses of a federal excise tax imposed on the prof- expenses.” This would be convenient if I.R.C. its of business corporations. The opinion states, § 162 contained a definition of trade or business, “We think it is clear that corporations organized but it does not. for the purpose of doing business, and actually As a result, practitioners must look to IRS rul- engaged in such activities as leasing property, col- ings and to case law. Determinations of whether lecting rents, managing office buildings, making business expenses are deductible have often investments of profits, or leasing ore lands and begun with determining whether a trade or busi- collecting royalties, managing wharves, dividing ness even exists. Although the determination is profits, and in some cases investing the surplus, essentially a facts and circumstances test (which are engaged in business within the meaning of gives rise to inconsistent results), some factors this statute.” apply across the board. A trade or business exists In a more recent case, the Supreme Court held only if the taxpayer has a profit motive and, for that a full-time gambler was engaged in a trade some provisions, a degree of involvement in the or business for purposes of deducting business activity. Individuals who have a trade or business expenses from AGI. In reaching this decision, the generally report income and expenses on Sched- Court held that offering goods or services to the ule C (Form 1040), Profit or Loss From Business public is not an absolute prerequisite to qualify- (Sole Proprietorship), or Schedule F (Form 1040), ing an activity as a trade or business. It noted that Profit or Loss From Farming, for individual when a taxpayer “devotes his full-time activity to taxpayers. gambling, and it is his intended livelihood source . basic concepts of fairness . demand that his activity be regarded as a trade or business” [Com- Factors Indicating There Is missioner v. Groetzinger, 480 U.S. 23 (1987)]. In Groetzinger the Supreme Court also dis- a Trade or Business tinguished a trade or business from investment activities: Because facts and circumstances determine whether or not there is a trade or business, this Of course, not every income-producing section reviews cases that illustrate how the courts and profit-making endeavor constitutes determine whether or not a trade or business a trade or business. The income tax law, exists. It also explains the rules under I.R.C. § 183 almost from the beginning, has distin - that limit the deduction of expenses for an activ- guished between a business or trade, on ity that is not engaged in for profit. the one hand, and “transactions entered into for profit but not connected with . business or trade,” on the other. See Rev- enue Act of 1916 . We accept the fact that to be engaged in a trade or business, 110 INTRODUCTION FINAL COPYRIGHT 2015 LGUTEF the taxpayer must be involved in the considered in the three Tax Court cases discussed activity with continuity and regularity next. and that the taxpayer’s primary purpose When expenses are incurred during a tax for engaging in the activity must be for year in preparation for the resumption of a trade income or profit. A sporadic activity, a or business at some indefinite future date, they hobby, or an amusement diversion does are not attributable to a trade or business cur - not qualify. rently carried on by the taxpayer and therefore are not deductible. A lawyer who maintained an inactive private law office in another state Investment Activity Distinguished while performing services only as a federal gov- Continuity of an activity is only one factor that ernment employee could not deduct the law distinguishes trade or business activities from office expenses. The Tax Court held that he was investment activities. The type of economic activ- “attempting to maintain an asset from which his ity or involvement of the taxpayer in the enter- future income would be derived” and that main- prise was the focus of two earlier US Supreme taining “a foundation for the future” does not Court cases that drew a line between business constitute carrying on a trade or business [Owen v. activity and production of income. Commissioner, 23 T.C. 377 (1954)]. In Higgins v. Commissioner, 312 U.S. 212 (1941), But the temporary cessation of a trade or 4 the court concluded that even when extensive business does not preclude a finding that a tax- time is devoted to oversight of a personal invest- payer was carrying on a trade or business dur - ment portfolio, the activity is not carrying on a ing that hiatus. In Haft v. Commissioner, 40 T.C. trade or business. Although an activity may be 2 (1963), a long-time costume jewelry salesman disqualified as a business because it is conducted continued to contact and entertain buyers dur- sporadically, the “extent, continuity, variety and ing a period when he didn’t have a relationship regularity” of an activity is not by itself a suffi- with a manufacturer. However, he was actively cient reason for treating the activity as a business. seeking another position that would allow him to “No amount of personal investment management continue to service the same customers. The Tax would turn those activities into a business,” the Court distinguished Haft’s position from Owen court held. The taxpayer could not deduct as and held that he didn’t cease to be in a trade or business expenses the portion of his employees’ business merely because he temporarily had no salaries and other expenses related to manage- merchandise to sell during a reasonable period ment of his stocks and bonds. of transition. It compared him to a worker who The court followed its own Higgins decision is temporarily unemployed and continues to pay a few months later in a case dealing with deduc- union dues while looking for another job. tion of trustee fees, City Bank Farmers Trust Co. Whether the absence from the trade or busi- v. Helvering (Commissioner), 313 U.S. 121 (1941). ness is temporary or indefinite is significant, the The trustee of two testamentary trusts was held Tax Court held in Schnelton v. Commissioner, T.C. not to be carrying on a business when “the trustee Memo. 1993-264. Before rejecting a home office [was] limited in its investments and cautioned in deduction on more specific grounds, the court effect to be a safe investor rather than a partici- noted that “a taxpayer may be entitled to claim pant in trade or business.” The court also noted business deductions for carrying on a trade or that the trust incurred “no expenses of conduct- business even though unemployed at the time the ing business other than the collection of coupons expenditures are incurred. An important factor in and mailing bonds” and a “negligible amount for determining whether a taxpayer is still in a trade transfer stamps or notary fees.” or business during a period of unemployment is whether the taxpayer’s absence from the trade or Temporary Hiatus business is temporary or indefinite.” When an activity has been established as a business, expenses incurred during a temporary hiatus may still be deductible in the year they are paid or incurred.

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