Report Prepared by Tom Copeland for the April 3, 2013 Meeting with IRS Tax Court Official
Jeannie and Robert Peoplesvs. IRS Commissioner
Background
This is a report I mailed to the IRS before our first meeting on April 3, 2013. It summaries the issues in dispute, our position and the position of the IRS Appeals officer.
I believe it's important to make it as easy as possible for the IRS to accept the position you are defending. Therefore, I sent the report below to the Tax Court official several weeks before we were prepared to meet. I wanted him to see exactly what the differences were between what we wanted and what the Appeals officer had allowed. I wanted him to be ready to settle the case when we met.
I summarized the issues and positions and then presented our argument for each issue on separate pages.
Along with the report you see below I also submitted a printout for supplies and repairs that showed by month each item, the date purchased, the store it was purchased from and the amount of the purchase. This represented 20-30 additional pages of information. I also included copies of all the receipts for these items (hundreds of them) on a flash drive.
The number of hours Jeannie worked was very unusual: 8,571 hours in 2008 and 8,156 hours in 2009. She cared for 27 children in 2008 and 36 children in 2009, and worked practically 24 hours a day, 52 weeks a year. Fortunately, she kept attendance records to show this was the case. I felt that we were in a strong position to defend her hours because of her records and because the Appeals officer hadallowed her to claim 8,156 hours in 2009.
Supplies
Peoples Position IRS Position
2008 $32,197 $5,589
2009 $33,258 $5,631
Repairs/Maintenance
Peoples Position IRS Position
2008 $13,770 0
2009 $12,610 0
Business Use of theHome Percentage
2008 Peoples Position IRS Position
7,027 hours on tax return = 80% 7,027 hours = 80%
Current position: 8,571.5= 97.8%
2009 Peoples Position IRS Position
7,027 hours on tax return = 80% 8,156 hours = 93.1%
Current position: 8,156 = 93.1%
Food Expenses
Peoples Position IRS Position
2008 $25,342 $22,412
2009 $31,075 $30,047
Depreciation
Peoples Position IRS Position
2008 - $13,779 $1,907+ $874
2009 - $9,767 0
House Depreciation
Peoples Position IRS Position
Use 2.564% 2.461%
Advertising
2009 Peoples Position IRS Position
$158 $0
Supplies
Peoples Position IRS Position
2008 $32,197 $5,589
2009 $33,258 $5,631
Supplies were originally added to food and claimed as cost of goods. The IRS broke them out.
Mrs. Peoples prepared a summary report for supplies that breaks down these expenses by month (attached). She has receipts for all of her supply expenses. She originally put her supply receipts into a “supplies” folder. She presented this folder with receipts to the auditor. She later scanned her receipts into her computer. We have attached these scanned receipts (scanned in chronological order) on a flash drive. The scanned receipts are broken into 9 files for 2008 and 9 files for 2009. Each file contains receipts in chronological order from back to front.
Mrs. Peoples took off any personal items from these receipts. In some cases Ms. Peoples did not count sales tax in her totals.
Examples of supplies: diaper wipes, paper products, toys, bath mats, booster seat, candles, batteries for toys, puzzles, latches, blankets bug killers, child locks, extension cords, dust mop and pans, aprons, air freshener, bleach cleansers, disinfectants, floor cleaner, scouring pads, soap, sponges, stain removers, storage containers, toothpaste and brush, washcloths, wastebaskets, etc.
Some of the receipts show vendors that might not seem like stores where supplies would be purchased: Ground Round (this receipt was from Walmart and was incorrectly labeled); Bed Bath and Beyond (kitchen utensils, cookware), Bath and Body Works (hand soap, lotion for children), JC Penny(dress up clothes), B&C Pool and Spa (swimming pool chemicals, net), Old Navy (socks for day care children).
These supplies are all “ordinary” and “necessary” under IRS Code Section 162. The IRS Child Care Provider Audit Technique Guide makes it clear that family child care providers are entitled to deduct many household items that are used for both business and personal purposes. It cites two examples of lawn and laundry expenses in which a provider is entitled to deduct the business use of home percentage of the cost.
Mrs Peoples is requesting that their business use of home percentage be applied to her supply total.
Repairs and Maintenance
Peoples Position IRS Position
2008 $13,770 0
2009 $12,610 0
Mrs. Peoples prepared a summary report for repairs that breaks down these expenses by month (attached). She has receipts for all of her repair expenses. She originally put her repair receipts into a “repairs” folder. She presented this folder with receipts to the auditor. She later scanned her receipts into her computer. We have attached these scanned receipts (scanned in chronological order) on a flash drive.
Mrs. Peoples took off any personal items from these receipts. In some cases Ms. Peoples did not count sales tax in her totals.
Examples of repairs: carpet cleaning, lawn maintenance, pest control, poison stickers, recover furniture, repair of electronics, salt for soft water softener, service contracts, window shades, etc.
These supplies are all “ordinary” and “necessary” under IRS Code Section 162. Mrs. Peoples wants repairs claimed on Form 8829 and the business use of home percentage applied.
Business Use of the HomePercentage
2008 Peoples Position IRS Position
7,027 hours on tax return = 80% 7,027 hours = 80%
Current position: 8,571.5= 97.8% IRS Form 4594 (3/29/11)
2009 Peoples Position IRS Position
7,027 hours on tax return = 80% 8,156 hours = 93.1%
Current position: 8,156 = 93.1% IRS Form 4594 (3/29/11)
You have records indicating that taxpayer cared for children in her home for 8,571.5 hours in 2008 and 8,156 hours in 2009. The IRS appeals officer allowed taxpayer to claim 8,156 hours for 2009. It is not clear to us why a similar number of hours were not allowed for 2008. There was no difference in how taxpayer kept her records and she conducted her business in the same manner.
On her 2008 and 2009 tax return, Mrs. Peoples entered 7,027 hours because that is what she entered on her 2007 tax return. At the time of the audit, she went back to her attendance records to more carefully identify these hours.
Mrs. Peoples is basing the hours she is claiming on her monthly attendance sheets (attached – these are the same records she used for her food expenses) where she marked the attendance hours for each child, on each day.
In 2008 and 2009 she recorded each day each child’s daily attendance on a monthly attendance form. This is the record we present for 2009. In preparation for her audit she took her 2008 report and entered on a new attendance form the times each child was in attendance for each day. This is why the reports for 2008 and 2009 look different. After entering this information for 2008 she decided it was too much work to repeat this for 2009. She then threw away her original 2008 attendance report. On the 2009 report the hours are listed for each child and their normal time at her home. Theinformation on the 2009 report was entered in 2009. Her schedule in 2009 is consistent with her schedule for 2008.
Mrs. Peoples prepared a monthly summary of the hours she worked (based on her daily attendance record) and prepared a report (Exhibit E – 2008-2009 Hours for Year – attached).
Mrs. Peoples cared for 27 children in 2008 and 36 children in 2009. In 2008 she cared for 12 children between the approximate hours of 6am-5pm Monday-Friday. She cared for 8 children between the approximate hours of 5pm-11:30 pm Monday - Friday. She cared for 1 child from 11pm-8am Monday-Friday. She cared for one child 4am-2:30pm Monday-Friday. She cared for 4 children 8pm-3pm the next day at least five days a week (including Sundays). She cared for 2 children 7pm Friday-7pm Sunday. Her 2009 schedule was similar.
In other words, Mrs. Peoples worked almost 24 hours a day, seven days a week caring for children. We did not include any hours she spent on other business activities in her home (cleaning, activity preparation, etc.) because there were so few hours when she didn’t have children in her home.
Mrs. Peoples had help caring for these children from her husband, sister-in-law and her own children. In 2008 Bradley was 13, Luke was 12, Shana was 17 and Chelsey was 16.
IRS Authorities
Although Mrs. Peoples is caring for children much longer than most other family child care providers, there is no IRS rule that prohibits her from claiming these hours.
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….”
Mrs. Peoples is licensed by the state of Pennsylvania (see attached). As such, she meets the qualifications to claim home office expenses under Section 280A(c)(4).
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 expensesattributable 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.”
Section 280A was added to the code by the Tax Reduction and Simplification Act of 1997 (Pub. L. 95-30, sec. 306(a), 91 Stat.126, 152). According to the Uphus and Walker v. Commissioner (T.C. Memo. 1994-71), “Section 280A(c)(4) was enacted to specifically exempt residences used inproviding day care from the ‘exclusive use’ requirements of section 280A(a).” Later it says, “Thus, the legislative history indicates that Congress enacted section 280A(c)(4) because it recognized the unique nature of home day-care providers.” In other words, the intent of the law was to distinguish familychild care providers from all other home-based businesses by making it easier for family child care providers to claim house expenses.
There is nothing in IRS Code Section 280A that limits the number of hours a child care provider may use her home for her business.
The IRS Child Care Provider Audit Technique Guide discusses the business use of home calculation in detail. It states, “The provider should record how the total hours the facility was used, was computed.” It then addresses the issue of counting hours spent on business activities after the day care children are not in the home. There is no discussion about how to count hours children are present, thus implying that there is no limit when counting these hours.
IRS Publication 587 Business Use of Your Home states, “To find the percentage of time you actually use your home for business, compare the total time used for business to the total time that part of your home can be used for all purposes. You can compare the hours of business use in a week with the number of hours in a week (168). Or you can compare the hours of business use for the year with the number of hours in the year (8,784 in 2012).” There is no discussion that limits the number of hours children may be in the home. When children are in the home, clearly the home is “used forbusiness.”
There is also no discussion of any limitation of the number of hours a home may be used to care for children in the Instructions to IRS Form 8829 Expenses for Business Use of Your Home.
IRS Revenue Rule 92-3 explains how a family child care provider should calculate her business use of home percentage. It states, “The second fraction is the total hours in the year that the day care business is operated (including substantiated preparation and clean-up time), divided by the total number of hours in a year.” The Revenue Ruling puts no limitation on the number of hours the home can be used for business purposes.
There is no question that a day care business is in operation when day care children are present in the home. Mrs. Peoples cared for 27 children in 2008 and 36 in 2009. This is a lot of children and a lot ofwear and tear on the home. She was paid for all the hours she provided child care.
There is no way to distinguish one hour of caring for children in the home from another hour. How does the hour 6am-7am differ from the hour 1am-2am? On what basis we can count the first hour but not the second hour?
Given the unusual circumstances of the number of children and the number of hours Mrs. Peoples worked in her home, we believe the hours she worked should be included in her business use of home calculation.
Depreciation
Peoples Position IRS Position
2008 - $12,983 $1,907 + $874
2009 - $12,983 0
The IRS allowed a depreciation deduction of $1,907 for appliances and $874 for furniture (See IRS report 4549). This was put on the 2008 Form 8829 under Other Expenses (allowing a deduction of $278). But the IRS doesn’t carry this forward and count this depreciation on the 2009 Form 8829.
Mrs. Peoples prepared a depreciation spreadsheet (attached) for 2008. The 2008 report shows $12,983 of expenses. Mrs. Peoples has receipts for all items claimed (attached).
Food Expenses
Peoples Position IRS Position
2008 $25,342 $22,412
2009 $31,075 $30,047
IRS Form 4549 (3/29/11)
Originally Mrs. Peoples lumped together her food and supply expenses under cost of goods. The auditor broke out this into two separate expenses: food and supplies.
Mrs. Peoples is using the standard meal allowance rule to claim food expenses.
The IRS auditor prepared two reports (2008 labeled as Page 261 and 262; 2009 labeled as Page 188 and 430 - attached) showing the number of meals/snacks served per child and the number of days in the year the child was in care. These reports undercounted the number of meals/snacks served. Theauditor did not follow Mrs. Peoples’s meal pattern. In addition, the 2009 IRS report (Page 188) uses an incorrect amount for the standard meal allowance rate for snacks. The correct 2009 amount is $.65.
Mrs. Peoples served breakfast between 7:30am and 9:00am (two different servings to different children), Morning snack 10:00am, Lunch 11:15-12:15, Afternoon snack 2:30-3:30, and Evening snack 8:30-9:30. This pattern was followed for both 2008 and 2009. Mrs. Peoples referred to her dailyattendance records to determine how many meals and snacks each child was served each day. A summary report was created for each year: 2008 Meals Totals and 2009 Meals Totals (attached).
The 2008 Meals Totals shows total food cost of $25,957 for 2008. Ms. Peoples’s attendance records (2008 and 2009 attached) show the number of days each month each child was in care. Mrs. Peoples’s Food Program monthly claim forms (attached) show the number of meals/snacks served to each childeach day.
2008 - In reviewing the Exhibit C chart we noticed that Tristen, Damian, Aaliyah and Tanner were served 4 snacks daily. IRS Revenue Ruling 2003-22 states that no more than 3 snacks per day may be claimed when using the standard meal allowance rule. Therefore, we have subtracted one snackper day for these children:
Tristen ($.61 snack x 296 days) = $181
Damian ($.61 snack x 296 days) = $181
Aaliyah ($.61 snack x 298 days) = $182
Tanner ($.61 snack x 116 days) = $71
Total: $615
$25,957 - $615 = $25,342
For Drew and Jaron the meals/snacks counted are for 50 weekends that they were in care.
In 2008 Mrs. Peoples’s son Luke was included in the meal totals for two months. During thistime he was reimbursed by the Food Program for these meals and snacks. Mrs. Peoples included as income the amounts received from the Food Program for Luke, so we wiped out this income by included his meals in these totals. IRS Publication 587 says, “Do not include payments or expenses for your own children if they are eligible for the program. Follow this procedure even if you receive a Form 1099-MISC, Miscellaneous Income, reporting a payment from the sponsor.”
2009 - Mrs. Peoples prepared the 2009 Meals Totals that shows total food cost of $31,532. Upon examination of this chart we noticed that Mrs. Peoples used the 2010 standard meal allowance rate, rather than the 2009 rate. We have adjusted these numbers on this report and come up with a new total of $31,075.
Advertising
2009 Peoples Position IRS Position
$158 for a sign advertising her business $0
IRS Form 4549 (3/29/11)
This is a sign attached to a 4x4 inch posted that was installed in her front lawn. The IRS disallowed the expense by saying it’s was sign on a box trainer used by her son for racing a motorcycle. This is not the case.
Attached is the receipt with the name of Mrs. Peoples’s business “Little Peoples Childcare” is on it. Also attached is a photocopy of the sign. The name of the child care business is on the sign and the phone number on the sign corresponds to Mrs. Peoples’s phone number as shown on theirtax return.
Tom Copeland - www.tomcopelandblog.com
