Taxpayers' Lodging Expenses Allowed; New York Apartment Was Not Tax Home.
(Parker Tax Publishing January 4, 2015)

The Tax Court held that a couple performing consulting services throughout the Northeast could deduct lodging expenses arising from a New York City apartment because they had no principle place of employment and their tax home was their permanent residence in Mississippi. McClellan v. Comm'r, T.C. Memo. 2014-257.

The victory on the lodging expense issue was the only bright spot for the taxpayers in a case where the Tax Court rejected a number of other claimed deductions (e.g., home office, meal and entertainment, capital loss carryover, NOL carryover) for lack of substantiation.

Background

In 1998, Oliver and Cecile McClellan created BCMC, a consulting business for call centers. From 1998 until 2004, the Mississippi residents engaged in multiple business activities, including a real estate business, a general consulting business, and writing books. In 2004 BCMC entered into a working arrangement with Messages, Inc., which was the flagship company of a consortium of call centers based throughout the United States.

Beginning in 2004, Messages, Inc. rented to the McClellans a two-bedroom apartment in New York City for $1,000 per month. The McClellans occupied only one bedroom of the apartment. Various independent contractors hired by Messages, Inc. occupied the second bedroom and shared common space with the McClellans for approximately one-third of each year. Living in the New York City apartment permitted the McClellans to work on site at the various call center locations assigned to BCMC for consulting services. The McClellans provided services to not only Messages, Inc., but also to a consortium of other call centers located in 12 cities throughout the Northeastern United States.

The McClellans continued to own a single-family home in Gulfport, Mississippi that they had purchased in 1994 and had used as their principal residence since 2001. They spent approximately 20 percent of their time at their Gulfport home, and continued to pay mortgage principal and interest and other expenses associated with the residence while staying in New York City.

On their 2006, 2007, and 2008 tax returns, the McClellans deducted rent and other expenses associated with the New York City apartment on Schedule C, along with a wide array of other expenses attributed to BCMC.

In 2012, the IRS issued a notice of deficiency rejecting the rent deduction and almost all of the McClellans' other Schedule C deductions. In its notice, the IRS allowed just $6,879 of the $372,003 in deductions claimed.

Analysis

At trial, the IRS argued on most issues that the McClellans had failed to provide evidence that the claimed expenses had actually been incurred. The Tax Court sided with the IRS across the board, disallowing a myriad of expenses for lack of substantiation. The court rejected the McClellans' claim that that their tax records were destroyed by Hurricanes Katrina and Rita in 2005 and Hurricane Gustav in 2008, because they failed to provide proof of such destruction.

With respect to the lodging expenses, the IRS took a different approach, arguing that New York City was the McClellans' tax home during each year at issue, thereby rendering the outlays for the expenses for the New York City apartment nondeductible personal expenses. The McClellans countered that their tax home was in Gulfport, Mississippi, not New York.

Code Sec 162(a)(2) permits taxpayers to deduct traveling expenses, including amounts expended for lodging and meals, if such expenses are:

(1) ordinary and necessary;

(2) incurred while away from home; and

(3) incurred in the pursuit of a trade or business.

In order to deduct travel expenses a taxpayer generally must show that he or she was away from home overnight when the expenses were incurred (U.S. v. Correll, 389 U.S. 299 (1967)). The Tax Court has held that for purposes of Code Sec. 162(a)(2) a taxpayer's "home" is generally the vicinity of the taxpayer's principal place of employment (Mitchell v. Comm'r, 74 T.C. 578 (1980)). When a taxpayer accepts temporary work in a place away from his residence, he may deduct the living expenses incurred at the temporary post of duty because it would not be reasonable to expect him to move his residence under such circumstances (Tucker v. Comm'r, 55 T.C. 783 (1971)).

The Tax Court found that between 2006 and 2008, the McClellans had no principal place of employment and their tax home was their permanent residence in Mississippi. In reaching this conclusion, the court pointed to the fact that the couple provided services to Messages, Inc. on a temporary basis, and provided services for multiple other businesses during the same time period. Additionally, while the record did not indicate where the McClellans stayed while providing consulting services in the 12 different northeastern cities, the court deemed it was fair to assume it was not Mississippi. The court found further support that the New York apartment was not the McClellans' tax home because the couple was required to share that apartment with other independent contractors.

The IRS additionally argued that the McClellans' lodging deductions should be disallowed as their work assignments from Messages, Inc., were indefinite rather than temporary within the purview of the flush language in Code Sec 162(a), which provides that a "taxpayer shall not be treated as being temporarily away from home during any period of employment if such period exceeds 1 year." The Tax Court disagreed, as it did not find it appropriate to group all of the McClellans' work assignments from separately owned call centers to form one period of employment. Rather, the court viewed each of the work assignments as a separate period of self-employment, concluding that the work assignments away from Gulfport did not exceed the 1-year threshold.

Thus, because of its findings that the McClellans maintained a permanent residence in Mississippi and had no principal place of employment, the Tax Court held that Mississippi was the couple's tax home during 2006 through 2008 and they were entitled to deduct lodging expenses totaling $42,593.

For a discussion of lodging expenses and related deductions, see Parker Tax ¶ 91,105. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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