Court rules taxpayer cannot change facts to minimize tax

As is most often the case, the Tax Court has once again concluded that a taxpayer must suffer the tax consequences of the transaction he entered into – not the transaction he wished he had entered into – after the IRS pointed out the tax result. (Jess L. Miller v. Commissioner, TC Memo 2011-189, Aug. 9, 2011)

Jess Miller owned all the outstanding stock of an S corporation, JAM Pharmaceutical, Inc. By Dec. 31, 2002, Miller's adjusted basis in his JAM shares was $866,795. In an agreement dated Dec. 12, 2002, Miller agreed to sell 95 percent of JAM to his son for $95,000. Subsequently, Miller transferred most of his JAM shares to his son, but his son did not pay his father $95,000 or any other amount.

Miller filed a gift tax return for 2002, reporting a gift of JAM shares to his son on Dec. 31, 2002. Miller reported the value of the gift as $554,540 and a tax basis in the gifted shares of $824,056 (95 percent of Miller's total basis).

For 2003, JAM reported that Miller owned 5 percent of JAM's stock and that his share of JAM's ordinary income for 2003 was $18,308. JAM later filed an amended return, which reported a $55,519 loss for Miller – 5 percent of JAM's total loss. On examination, the IRS determined that JAM had $382,452 of ordinary income and that Miller's share was $19,123. In addition, the IRS determined that Miller had received $619,551 of distributions from JAM during 2003, $548,664 of which exceeded his basis in his JAM stock and was therefore taxable as long-term capital gain.

In the Tax Court, Miller argued that he didn't give the JAM stock to his son in 2002 (as was reported on his gift tax return) but, rather, sometime in 2003. Alternatively, he argued that his son paid the $95,000 purchase price through the distributions that Miller received from JAM during 2003.

The Tax Court concluded that, on Dec. 31, 2002, Miller made a gift of 95 percent of his JAM shares to his son, leaving him with a 5 percent interest and an adjusted basis of $51,661. Accordingly, in 2003 he received distributions from JAM in excess of his JAM stock basis, resulting in a long-term capital gain.

The court found that Miller could not, after learning of the tax consequences of having made a gift in 2002 rather than 2003, disavow his 2002 gift. The court also found that Miller's son did not pay the purchase price identified in the agreement, and Miller did not report a sale of JAM stock on his 2002 or 2003 tax return.

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