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Tax
Court Upholds IRS Position of 'No Records, No Deduction'
by Yolanda Smulik-Roche and Roger C. Roche
In February of 1998, in a case
involving an unemployed gambler who failed to file timely returns for two years
and kept no records, the Tax Court ruled that the gambler could not deduct unsubstantiated
gambling losses. In addition the Tax Court upheld the IRS which had levied additional
amounts for failure to file on time and for the accuracy-related negligence
penalty. This increased the gambler's tax liability by 43%! In other words,
they threw the book at this gambler, who actually told the court that although
he maintained a gambling log for one of the years in question, it was not accurate
because it was "too time-consuming to [SNIP] make it precise". If
you are collecting W2-G's and not keeping accurate records, this very well could
be in your future.
The ruling in this case is not
a big surprise but what is interesting is that the Tax Court rejected the application
of the Cohen rule which allows an estimation of the amount of a valid deduction
on a tax return in the absence of records. We have written in this column in
the past about the Cohen rule and it is discussed in our book as a possible
means of claiming a deduction for losses without records, but as can be seen
from this case, these are NOT the circumstances under which the courts will
accept an estimation under the Cohen rule. Further examination of the facts
in this case presented below, will give you an idea of what is allowed and what
is not.
The general background in this
case was not disputed. The taxpayer, during the taxable years in issue, attended
the dog and horse racing tracks on a regular and frequent basis. During those
years, the taxpayer gambled on a full-time basis and was not otherwise gainfully
employed. At trial, the taxpayer did not introduce any books or records reflecting
his gambling winnings and losses nor remembers whether he maintained books or
records reflecting his gambling winnings and losses for the first year in question
(1989). Taxpayer maintained a gambling log for the other year (1992); however,
as stated earlier, such log was not considered accurate.
On his 1989 and 1992 Federal
income returns, the taxpayer identified his occupation as a professional gambler
and reported gambling winnings in the amounts of $29,978 and $140,830, respectively.
Of the $140,830 reported as gambling winnings on the 1992 return, $90,830 represent
winnings for which Forms W-2G were issued. The remaining $50,000 represent the
taxpayer's estimate of his winnings for that year. Although the record is not
perfectly clear, it would appear that the gambling winnings reported on the
1989 return represent only winnings for which Forms W-2G were issued. On Schedule
A of his 1989 and 1992 returns, taxpayer deducted gambling losses in the amount
of his reported winnings; i.e., $29,978 and $140,830, respectively. The taxpayer
filed his income tax returns for 1989 and 1992 in April 1994.
The IRS subsequently sent the
taxpayer a Notice of Deficiency. The IRS determined that there were deficiencies
in the taxpayer's Federal income taxes in the amounts of $5,422 and $39,312
for 1989 and 1992, respectively. Specifically, the IRS determined that taxpayer
failed to substantiate his gambling losses. Accordingly, the IRS disallowed
the gambling loss deductions claimed by taxpayer on Schedule A of his 1989 and
1992 returns. In the notice of deficiency, the IRS also determined that, for
1989 and 1992, taxpayer was liable for (1) additions to tax under section 6651(a)(1)
for failure to timely file income tax returns and (2) accuracy-related penalties
under section 6662(a) for negligence.
In its opinion the court reaffirms
the point of law that in income tax matters, the burden of proof is on you.
This taxpayer did nothing to prove that he had sustained losses, other than
his own testimony. The following excerpts from the case transcript highlight
the logic applied by the court. Please read on.
Respondent determined that
petitioner failed to substantiate deductions that he claimed for gambling
losses on his 1989 and 1992 income tax returns. Petitioner bears the burden
of proving error in respondent's determination. Specifically, petitioner bears
the burden of establishing that he sustained the gambling losses that he claimed
on his 1989 and 1992 income tax returns. Section 6001 requires taxpayers to
keep books and records adequate to substantiate their income and deductions.
See sec. 1.6001-1(a), Income Tax Regs. If the trial record provides sufficient
evidence that a taxpayer has incurred a deductible expense, but the taxpayer
is unable to adequately substantiate the amount of the deduction to which
he or she is otherwise entitled, the Court may, under certain circumstances,
estimate the amount of such expense and allow the deduction to that extent.
(Cohan v. Commissioner). However, in order for the Court to estimate the amount
of an expense, we must have some basis upon which an estimate may be made.
Without such a basis, any allowance would amount to unguided largesse.
We recognize that petitioner
must have sustained some losses in view of his substantial gambling activity.
However, we are reminded of petitioner's testimony that petitioner estimated
a portion of the gambling winnings reported on his 1992 return. Moreover,
the gambling winnings that were reported on the 1989 return appear to represent
only those winnings for which Forms W-2G were issued. Thus, we have no assurance
that petitioner reported all of his gambling winnings. This uncertainty, together
with the complete absence of any documentation or other credible corroborating
evidence concerning petitioner's gambling activity, precludes us from estimating
petitioner's alleged losses under the rule of Cohan v. Commissioner. Accordingly,
we hold that petitioner has failed to carry his burden of proof. Petitioner
is therefore not entitled to deduct any gambling losses for 1989 and 1992.
We hope that this gambler's experience
will motivate those of you who are not keeping records, to reconsider the ramifications
of your actions.
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Yolanda Smulik Roche, E.A.
and Roger C. Roche, E.A. are tax consultants specializing in the tax issues
that face professional and recreational gamblers, casinos and cardrooms. Their
firm, R.B.S. Tax Services, represents clients nationwide. Be sure to visit their
website http://www.rbstaxes.com
to learn more about their book, The TAX GUIDE for GAMBLERS
and how they can help you with your tax problems.
If you have a question
regarding the tax laws and regulations as they apply to gaming that you would
like answered in a future article, please email it to: questions@rbstaxes.com.
We will keep your identity confidential. If you would like to utilize our professional
services or order our book please call (800) TAX-7271, (Visa or M/C accepted).
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