Taxpayer Refuses to Accept Incorrect IRS Determinations and Wins in Tax Court
By Jeffrey M. Glassman on January 22, 2025
-
Jeffrey M. Glassman
View Bio
Sometimes IRS auditors make mistakes. Sometimes those mistakes need to be challenged administratively with the IRS Independent Office of Appeals (“Appeals”). And when the mistakes remain unresolved after Appeals proceedings, litigating in court sometimes is necessary. That is a lot of “sometimes.” But another one is warranted to point out that sometimes taxpayers who keep advancing legitimate arguments can be vindicated. This is one of those times—and an IRS conclusion that a taxpayer underreported its income by more than $500,000 was rejected by the United States Tax Court.
In the recent case of Aboui v. Commissioner, the Tax Court addressed several issues, including whether a taxpayer who owned several car dealerships through an S Corporation correctly reported gross income on his tax return.
As background, during an IRS examination, if the IRS determines that a taxpayer’s books and records are not adequate, the IRS will sometimes use one of several methods to reconstruct the taxpayer’s income. One of those methods is a “bank deposit analysis.”
In a bank deposit analysis, the IRS will generally assume that all money deposited to a taxpayer’s bank account is taxable unless the taxpayer can show that the deposits are not taxable or that the taxpayer previously reported that deposit as income on a tax return. For example, loan proceeds or gifts would not usually be taxable to the borrower or recipient, respectively.
The taxpayer in Aboui used a hybrid method of accounting where gross receipts from car sales were reported on an accrual basis and expenses were reported on a cash method. During the IRS examination, the IRS determined that the taxpayer should instead use a cash basis method of accounting for everything, essentially concluding that the taxpayer’s hybrid method of accounting was inappropriate. The Tax Court disagreed.
The Tax Court found that the taxpayer’s method of accounting clearly reflected income. The IRS is legally required to respect a taxpayer’s chosen method of accounting when it clearly reflects income. Therefore, the Tax Court rejected the IRS’s exam conclusions. To reach that point, the Tax Court considered testimony from the IRS auditor and testimony from the taxpayer. The taxpayer had good explanations—which the Tax Court found credible—for why the bank deposits significantly exceeded the business’s actual gross income.
In addition, the Tax Court rejected the IRS’s determination that the taxpayer should be liable for penalties. The Court concluded that the taxpayer maintained substantial records, provided those records to his accountant, and reasonably relied on the accountant to prepare the business and personal tax returns.
This case is a good example that sometimes it is worth continuing to seek vindication when your position is correct. The IRS can be a formidable adversary, but taxpayers can most certainly prevail.
If you have any questions about this article or any civil or criminal tax matter, you can contact me at jglassman@meadowscollier.com or 214-749-2417.
In the recent case of Aboui v. Commissioner, the Tax Court addressed several issues, including whether a taxpayer who owned several car dealerships through an S Corporation correctly reported gross income on his tax return.
As background, during an IRS examination, if the IRS determines that a taxpayer’s books and records are not adequate, the IRS will sometimes use one of several methods to reconstruct the taxpayer’s income. One of those methods is a “bank deposit analysis.”
In a bank deposit analysis, the IRS will generally assume that all money deposited to a taxpayer’s bank account is taxable unless the taxpayer can show that the deposits are not taxable or that the taxpayer previously reported that deposit as income on a tax return. For example, loan proceeds or gifts would not usually be taxable to the borrower or recipient, respectively.
The taxpayer in Aboui used a hybrid method of accounting where gross receipts from car sales were reported on an accrual basis and expenses were reported on a cash method. During the IRS examination, the IRS determined that the taxpayer should instead use a cash basis method of accounting for everything, essentially concluding that the taxpayer’s hybrid method of accounting was inappropriate. The Tax Court disagreed.
The Tax Court found that the taxpayer’s method of accounting clearly reflected income. The IRS is legally required to respect a taxpayer’s chosen method of accounting when it clearly reflects income. Therefore, the Tax Court rejected the IRS’s exam conclusions. To reach that point, the Tax Court considered testimony from the IRS auditor and testimony from the taxpayer. The taxpayer had good explanations—which the Tax Court found credible—for why the bank deposits significantly exceeded the business’s actual gross income.
In addition, the Tax Court rejected the IRS’s determination that the taxpayer should be liable for penalties. The Court concluded that the taxpayer maintained substantial records, provided those records to his accountant, and reasonably relied on the accountant to prepare the business and personal tax returns.
This case is a good example that sometimes it is worth continuing to seek vindication when your position is correct. The IRS can be a formidable adversary, but taxpayers can most certainly prevail.
If you have any questions about this article or any civil or criminal tax matter, you can contact me at jglassman@meadowscollier.com or 214-749-2417.
