Argument for a 98% Time-Space Percentage

I represented Cathy Ross in her IRS audit appeal to U.S. Tax Court. On February 24, 2014 I sent a letter to the IRS Tax Court officer arguing that Cathy’s 98% Time-Space Percentage should be accepted. See the supporting statement below sent to accompany this letter.

The Appeals officer had only allowed 56%.

In addition to the statement below, I also sent the Tax Court officer the following documents to support our position: copies of Cathy’s child care license (showing she was allowed to provide 24 hours care), a sample signin/sign out sheet, copies of parent contracts showing child attendance, statements by three parents confirming that their child was in attendance overnight, two photos of the front and back of the home supporting our space claim, and a drawing of the upper and lower levels of her home showing each room.

 

James T. and Cathy P. Ross
Business Use of the Home Percentage

2009 Ross Tax Return            IRS Position
8,592 hours  = 98%                 56%

2010 Mrs. Ross’s Position      IRS Position
8,592 hours  = 98%                  56%

Time Percentage
Mrs. Ross provides 24 hour a day child care, seven days a week. Upon arrival at her home, each parent is required to sign in their child and to sign them out upon leaving. These daily sign-in sheets were kept for her licensor from the Maryland Department of Human Education. After her licensor conducts unannounced inspections and has passed this inspection, Mrs. Ross discarded the sign-in/out sheets.

Mrs. Ross has a child care license from the state of Maryland which lists her hours as 24 hour care. A copy of her license is enclosed.

Attached is a signup sheet Mrs. Ross used in June 2013. This is the exact form she used in 2009 and 2010 except it contains the words “Cathy’s Care.” Notice that the first child is Riley Wilson who is dropped off at 10:17pm and picked up at 7:30am. This is consistent with his hours of care for 2009 and 2010 (see below).

Mrs. Ross made a note on her monthly calendar anytime she did not have a child in her care and kept this information for her tax preparer. At the end of the year she rounded up that number to the closest day. So, for 2009 she recorded that she did not care for children 155.5 hours and she rounded that up to 168 hours (7 days at 24 hours a day). In 2010 she was closed for 160.5 hours and rounded this up to 168 hours as well. For both 2009 and 2010, the total number of hours in the year was 8,760. After subtracting 168 hours, her total hours were equal to 8,592 (8,760 – 168 = 8,592). Because she was caring for children practically every hour of the year she did not report the hours she spent on paperwork, cleaning, and other child care activities.

Here are some documents to support her hours:

1) A copy of one of her contracts with parents for 2009 and 2010 and a copy of the last two pages of the contracts with parents showing the hours their child was to arrive and depart:

2009
E. S. – Tuesday/Wednesday/Thursday – 6:30am – 4:30pm
X.N. – (September – December) 7:30am Monday – Friday – departure (varies daily)
G.W.– Monday – Friday 7:30am – 4:30pm
J.T.– (Summer) 7am – 5pm – Monday – Friday
L.S. – (June – August) Monday/Thursday – 7:30am – 12:30pm
J.K. – Friday/Saturday – 6pm – 8am; Sunday – Thursday (days vary) 6:00pm – 11pm
A.M. – Schedule varies
R.W. – Sunday – Thursday – 10:30pm – 7:30am
M.M. – Days vary, drop-in care 7:00am – 5:00pm
R.W. – Friday 7:30am – 5:30pm
S.B. – Tuesday/Wednesday – 8:15am – 5:00pm
M.M.– Tuesday/Wednesday/Thursday – 8:30am – 4:30pm
N.P. – Monday/Wednesday/Friday – 7:30am – 5:00pm
G.S. – Monday – Friday – 7:15am – 3:30pm
A.G. – Monday – Friday – 9:00am – 5:30pm
R.M. – Monday – Friday 7:00am – 5:00pm
F.S. – Monday – Friday 7:00am – 5:30pm

2010

E.S. – Tuesday/Wednesday/Thursday – 6:30am – 4:30pm
S.B. – Tuesday/Thursday – 8:00am – 5:00pm
X.N. – (January – February) 7:30am Monday/Friday – departure (varies daily); (March – June) 7:30am Monday – Friday – departure (varies daily)
C.K. – Wednesday/Friday – 9:00am – 5:30pm
R.B. – Monday – Friday 7:30am – 5:30pm
G.W. – Monday – Friday – 7:15am – 4:30pm
J.K. – Friday/Saturday – 6pm – 8am; Sunday-Thursday (days vary) 6pm – 11pm
A.M. – Schedule varies
R.W.– Sunday – Thursday – 10:30pm – 7:30am
S.B. – Monday – Friday – 8:00am – 5:00pm
N.P. – Monday/Wednesday/Friday – 7:30am – 5:00pm
J.D. – Monday – Friday – 7:30am – 5:30pm
F.S. – Monday – Friday 7:00am – 5:30pm

Note: On the weekdays (4pm-11pm) either Juelz Kurdi or Andrew Meserve was always present each day. Sometimes they were both present on the same day.

2) A statement signed by three parents indicating the hours their child was in care in 2009 and 2010.
M.J., mother of R.W. – Sunday – Thursday – 10:30pm – 7:30am
J.G., mother of J.G. – Sunday – Thursday – 6:00pm – 11:00pm (days varied); Friday/Saturday – 6:00pm – 8:00am
M.Y., mother of A.M. – Monday – Friday (days varied) – 5:30pm – 11:00pm; Saturday/Sunday – 8:00am – 6:00pm

Space Percentage
Attached is a drawing of the two levels of Mrs. Ross’s home that she submitted to the Maryland Department of Human Services. She used all of the rooms in her home on a regular basis for her business.

First level
Living room – Children enter this room when first arriving. This is where their individual cubbies are located and where they read books, do puzzles and other quiet/transitional activities. Infants spend the majority of their waking hours in this room as their playroom. The room is used seven days a week from 6am to midnight.

Playroom – This room is used exclusively by daycare children seven days a week. This is where children have circle time, blocks, dramatic play, music, housekeeping, etc. Older children nap in this room from noon – 3pm. Andrew slept in this room from 8:00pm-11:00pm Monday through Thursday.

Kitchen – This room is used seven days a week to prepare and serve three meals and three snacks each day. Children use the room for arts and crafts, small group activities and small manipulative play. Mrs. Ross also stores extra curriculum in the room.

Laundry room – This room is used daily to wash children’s clothes, blankets, etc. It is also used to store food and outdoor toys.

Bathroom – This room is used every day by the children. Diapers and baby wipes are also stored here.

Stairs/closet/utility closet – Parents and children use the stairs to enter the home. The front closet is used to store sleeping bags for the children to use for daily naps, emergency bag for field trips, dress-up clothes and field trip t-shirts. The utility closet contains cleaning supplies, washer, dryer, freezer, vacuum cleaner and food storage. Therefore, all of these areas where used by her business on a daily basis.

Second level
Stairs/hallway – Day care children walk up the stairs and down the hallway seven days a week.
Bedroom #1 – This room is used by the daycare children for napping from 9:00am-11:00am and from 1:00pm-3:00pm Monday through Friday. In addition, Juelz uses the room from 8:00pm-11:00pm Monday through Friday.

Bedroom #2 – This room is used for infant/toddler napping from 9:00am – 11:00am and 1:00pm-3:00pm Monday through Friday. Mrs. Ross also uses this room as an office where she has her desk, computer, printer and child care files. Mrs. Ross uses this room in the evenings and weekends to do her paperwork and print out materials for her business.

Bedroom #3 – This room is used exclusively for her business. Riley and Juelz use this room to sleep overnight seven days a week. It is used for napping from 9:00am-11:00am and 1:00pm-3:00pm by infants and toddlers. It is also used to store curriculum, crafts, books, toys and other child care materials that are rotated into the child care playroom downstairs as well as holiday decorations and school supplies. Extra clothes, coats, blankets and supplies are stored in the closet.

Master bedroom – This room is used for napping from 9:00am-11:00am and 1:00pm-3:00pm Monday through Friday. Extra supplies and books are stored in the walk-in closet. This room is also used by children in the night who have sleeping issues and is used to conduct business telephone calls. Mrs. Ross cared for 18 children in 2009 and 14 children in 2010. It is reasonable that she used all of the bedrooms for napping.

Bathroom – This room is used by the children when they are upstairs.

Time-Space Percentage
In a July 19, 2012 letter to Mr. and Mrs. Ross, IRS Appeals Officer George Poskitt offered his own methodology for calculating the business use of the home.

His formula uses the fact that only one or two children are present during the evening hours to calculate a business use percentage based on the assumption that these children are not using all of the rooms in the home during the evening.

This self-created formula has no basis in law or any IRS authority. In fact, it is directly contrary to all IRS authorities.

What is the proper way to calculate the business use of a family child care home?

The answer is spelled out in IRS Code Section 280A(4), IRS Revenue Ruling 92-3, Tax Court case Uphus and Walker vs. IRS Commissioner, IRS Publication 587 Business Use of Your Home and the IRS Child Care Provider Audit Technique Guide.

IRS Code Section 280A(4)(A) states, “Subsection (a) shall not apply to any item to the extent that such item is allocable to the use of any portion of the dwelling unit on a regular basis in the taxpayer’s trade or business of providing day care for children….”

IRS Code Section 280A(4)(C) states, “If a portion of the taxpayer’s dwelling unit used for the purposes described in subparagraph (A) is not used exclusively for those purposes, the amount of the expenses attributable to that portion shall not exceed an amount which bears the same ratio to the total number of the items allocable to such portion as the number of hours the portion is used for such purposes bears to the number of hours the portion is available for use.”

Revenue Ruling 92-3 states, “If a room is available for day care use throughout each business day and is regularly used as part of A’s routine provision of day care (including a bathroom, an eating area for meals, or a bedroom used for naps), the square footage of that room will be considered as used for day care throughout each business day. A day care provider is not required to keep records of the specific hours of usage of such a room during business hours. Also, the occasional non-use of such a room for a business day will not disqualify the room from being considered regularly used.”This language is repeated in the IRS Child Care Provider Audit Technique Guide.

Tax Court case Uphus and Walker vs. IRS Commissioner states, “Consistent with the Senate report, we have found that regular basis test is met where the taxpayer is able to establish that the business use is continuous, ongoing or recurring.” This language is repeated in the IRS Child Care Provider Audit Technique Guide. The Uphus and Walker cases also explicitly reject the idea that family child care providers must use rooms in their home exclusively for their business to be able to claim home office expenses.

IRS Publication 587 Business Use of Your Home states, in referring to a room used for naps, “Although she did not keep a record of the number of hours the room was actually used for naps, it was used for part of each business day. Since the room was available for business use during regular operating hours each business day and was used regularly in the business, it is considered used for daycare throughout each business day.”

Available for use means it’s not restricted to personal use outside of day care hours. An example of this would be if a bedroom, used for children’s naps during the day, was locked and not available for business use outside of nap time.

All of these documents, as well as IRS Form 8829 Expenses for Business Use of Your Home, are consistent in their description of how a family child care provider is to calculate the business use of her home percentage:

Space Percentage
First, child care providers are told to enter the number of square feet their home is used on a regular basis on Form 8829, line 1. The definition of regular use is “continuous, ongoing or recurring.” We have presented evidence above that all of the rooms in Mrs. Ross’s home meet this definition.

Let’s look at two examples.

Mrs. Ross uses her kitchen to prepare multiple meals and snacks each day, Monday – Friday. Based on the above IRS authorities, her kitchen was “available for day care use throughout each business day and is regularly used” as part of her routine provision of day care. She does not lock the door to her kitchen and make it unavailable for her business during any part of the week. Therefore the square footage of her kitchen can be considered as used for day care throughout each business day. (See Revenue Ruling 92-3)

IRS regulations do not require that she use a room for business purposes 5 or 7 days a week for it to be considered regularly used for her business. Therefore, if she used her kitchen only Monday – Friday, she would still be able to count it as regular use. IRS regulations also do not state that she must use a room a specific number of hours each day for it to be considered regular use. Courts have allowed home office deductions for a real estate developer who used a phone in his office for 2 hours each evening (Green v. Commissioner, Dec. 38,858, 78 T.C. 428, 1982) and a newspaper editor who used his home office on average for one business phone call per night (Frankel v. Commissioner, Dec. 41,018, 82 T.C. 318, 1984). In those two cases the taxpayer had to meet the exclusive use test to claim home office expenses. If they can claim a room is used “regularly and exclusively” (see Form 8829, line 1) based on this amount of business use, certainly Mrs. Ross can claim her rooms are used regularly when they are used for several hours each day (at least), seven days a week for business purposes. The IRS cannot have a higher standard for a child care provider claiming a room as regular use than all other taxpayers claiming a room used exclusively for their business.

When Mrs. Ross uses her kitchen on Saturday and Sunday it increases, not decreases her business use. Therefore, our case is even stronger in that she uses her kitchen on a regular basis for her business seven days a week and is therefore entitled to enter the square footage of her kitchen on Form 8829, line 1.

Let’s use one of her bedrooms as the second example. She uses her son’s upstairs bedroom for naps Monday – Friday. Under the standard of Revenue Ruling 92-3, this room is clearly used regularly for business (“a bedroom used for naps”). She also uses the same bedroom each evening (Monday – Sunday) for children to sleep. This additional business use does not change the fact that the bedroom is used regularly throughout the week. In fact, it makes it even easier to claim that it is used regularly. Therefore, she is entitled to enter the square footage of this bedroom on Form 8829, line 1. Whether she uses a bedroom 4 or 5 or 7 days a week, or 2 hours a day or 5 hours a day doesn’t matter.

Revenue Ruling 92-3 states, “Also, the occasional non-use of such a room for a business day will not disqualify the room from being considered regularly used.” In other words, Mrs. Ross doesn’t have to use a room every day of the week for it to be considered “regularly used.” Because Mrs. Ross uses each room in her home seven days a week while caring for 18 (2009) and 14 (2010) children she is clearly using each room on a regular basis for her business.

The Appeals officer, Mr. Poskitt, told us that he accepted the fact that Mrs. Ross used all of the rooms in her home on a regular basis during the hours of 6am to 6pm, Monday through Friday. This affirms that Mrs. Ross is entitled to claim all of the square footage of her home on Form 8829, line 1.

Time Percentage
Second, child care providers are told to enter the number of hours their home is used for business purposes on Form 8829, line 4. We have provided evidence above that Mrs. Ross cares for children 8,592 hours a year in her home. There is no doubt that when day care children are in her home, her home is being used for business purposes. Therefore, she is entitled to enter 8,592 hours on Form 8829, line 4.

Mrs. Ross is entitled to claim the hours she cares for children from 7:30 am-5:30pm Monday through Friday, as well as the hours she cares for children weekday evenings, and on Saturdays and Sundays. Nothing in the IRS documents describe a limitation on the number of hours she may work in her home caring for children. I recently won a Tax Court case (Jeannie Peoples vs. IRS, St. Paul Office, May, 2013) where she was allowed to claim a business use of home percentage of 93% based on caring for children round the clock.

Mrs. Ross is in compliance with her state child care licensing rules when she cares for children overnight and on weekends. Nothing in the IRS documents say she must have children present in each room a specific number of hours each day (either for 5 days a week or 7 days a week) for these hours to count. When a child spends one hour of time in her home, regardless of how many rooms she is in, she is entitled to count this one hour on line 4.

Mr. Poskitt told us that he did not have to follow the directions from Revenue Ruling 92-3 because that case involved “regular” child care providers, not those who cared for children overnight. He also indicated that caring for only one or two children overnight and on weekends is subject to different rules. I asked him for a copy of any such written rules, but did not receive any.
His position seems to be that a family child care provider cannot count a room as used regularly for her business unless a child is in the room. This is contradicted by the Uphus vs. Walker case, in which the court stated, “The issue is whether the area in question is regularly used in the operation of the taxpayer’s day-care business, not whether or not the children are present in that area. Neilson v. Commissioner [Dec. 46,301], 94 T.C. at 10 (taxpayer allowed to consider time spent in clean-up and preparation when determining number of hours day care is operated).”

Since I have already established that all the rooms in the home are regularly used for business purposes, based on the presence of children during the hours of 6am-6pm Monday through Friday (which has not been challenged), the IRS cannot now argue that some of the rooms are not regularly used during other times of the day. The regular use test looks at the entirety of a week to determine if the business use of a room is “continuous, ongoing or recurring” (Uphus and Walker). It does not say it must be used continuously 24 hours a day, or 7 days a week. It says, “continuous, ongoing or recurring.” (emphasis added)

Mr. Poskitt’s formula makes it impossible for a child care provider to follow the directions and fill out Form 8829. The instructions to this form make no allowance for his formula.
There is an IRS document that might have provided some support for Mr. Poskitt’s formula: IRS National Office Technical Advice Memorandum (index No: 280A.04-00, Control No.: TR-32-271-90, dated March 15, 1991). The memorandum states that family child care providers can only count hours they are actually using each room when calculating their business use of home percentage. The memorandum describes how child care providers must track how many hours each room was used on each day of the year. However, this memorandum was specifically overruled by the issuance of Revenue Ruling 92-3.

Therefore, this formula should be rejected as a basis for determining the business use of Mrs. Ross’s home.



Categories: IRS and IRS Audits, Record Keeping & Taxes, Time-Space Percentage

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