Sunday, December 4, 2011

Does Cohan Still Rule ?

This was originally published on PAOO on November 24th, 2010.


If you have been here before you might note that a case from 1930 does not quite qualify as a recent development. I was in Manhattan for a seminar, though, and one of my rituals is to visit the statue of George M. Cohan, the inspiration for the "Cohan rule". The Court gave an excellent rationale for the rule:

In the production of his plays Cohan was obliged to be free-handed in entertaining actors, employees,and, as he naively adds, dramatic critics. He had also to travel much, at times with his attorney. These expenses amounted to substantial sums, but he kept no account and probably could not have done so. At the trial before the Board he estimated that he had spent eleven thousand dollars in this fashion during the first six months of 1921, twenty-two thousand dollars, between July first, 1921, and June thirtieth, 1922, and as much for his following fiscal year, fifty-five thousand dollars in all. The Board refused to allow him any part of this, on the ground that it was impossible to tell how much he had in fact spent, in the absence of any items or details. The question is how far this refusal is justified, in view of the finding that he had spent much and that the sums were allowable expenses. Absolute certainty in such matters is usually impossible and is not necessary; the Board should make as close an approximation as it can, bearing heavily if it chooses upon the taxpayer whose inexactitude is of his own making. But to allow nothing at all appears to us inconsistent with saying that something was spent. True, we do not know how many trips Cohan made, nor how large his entertainments were; yet there was obviously some basis for computation, if necessary by drawing upon the Board's personal estimates of the minimum of such expenses. The amount may be trivial and unsatisfactory, but there was basis for some allowance, and it was wrong to refuse any, even though it were the traveling expenses of a single trip. It is not fatal that the result will inevitably be speculative; many important decisions must be such. We think that the Board was in error as to this and must reconsider the evidence.

I have a special attachment to the Cohan rule, because I am the last person to become a partner in the firm of Joseph B. Cohan and Associates. As young staff when we learned about the Cohan rule we thought it had been named after Joe or perhaps his son Herb. Well it is possible that we had our own variation. Legislation and perhaps technology have eroded the Cohan rule. My visit to the shrine, though, made me want to see how the rule has done in the last year.

Constantine Sakkis, et al. v. Commissioner, TC Memo 2010-256

Both of these deductions are typical of the type of expenses usually incurred with rental property, and are subject to the Cohan rule allowing us to estimate. We must, however, have some basis upon which to make the estimate. Vanicek v. Commissioner, 85 T.C. 731, 742-43 (1985). There is nothing in this record to help us estimate these “triple-net” expenses, so we disallow them. For the interest expense, however, we have a copy of the all- inclusive note which indicates equal ownership of the property by the Sakkises and Tsakoyiases as well as repayment terms for the loan. We find Sakkis credible that the interest rate was kept at 10 percent after the first 10-year period. We therefore allow the entire $11,149.50 as a rental expense on Schedule E.

Sharon L. Griffin v. Commissioner, TC Memo 2010-252

Sharon Louise Griffin worked part time as a videotape operator and technician. But, if her returns are to be believed, she operated nine businesses in her spare time, grossing $2,876,957 during 2001-2003, but ending up in the red each year. She doesn't contest her receipt of income, but disputes the Commissioner's disallowance of her claimed expenses and other deductions.

We need not apply the Cohan rule at all if the evidence presented by the taxpayer is insufficient to identify the nature of or estimate the extent of the expense.

Keith J. Fessey v. Commissioner, TC Memo 2010-191

Section 274(d) overrides the Cohan rule with respect to section 280F(d)(4) “listed property” and thus specifically precludes the Court from allowing automobile expenses on the basis of any approximation or the taxpayer's uncorroborated testimony.

Myrtis Stewart v. Commissioner, TC Memo 2010-184
Taxpayer/longtime IRS examiner/real estate investor was denied claim to deduct as bad debt 2 years of mortgage payments she made on property that co-investor sold without her knowledge in year before those at issue: taxpayer, whose testimony and records were confused and unclear, didn't show that debt became worthless during years at issue, that she sustained some other loss on property, or what her basis was.

Neither the items' fair market values nor their bases can be determined from the record with any degree of certainty. Therefore, we cannot apply the Cohan rule to determine a reasonable allowance for the theft losses. Consequently, petitioner is not entitled to her claimed theft losses, and [pg. 1095] respondent's determinations in that respect are sustained.

Sandra L. Bennett v. Commissioner, TC Memo 2010-114

The documents Ms. Bennett did keep were largely insufficient—even under the Cohan rule, and all the more under section 274(d), where it applies—to substantiate most of the deductions she claims.

Theodore M. Green, et ux. v. Commissioner, TC Memo 2010-109

The record provides no satisfactory basis for estimating the amounts of petitioners' transportation costs that may have been used for trips to the doctor's office as opposed to the hair stylist. Consequently, the Court will not apply the Cohan rule to estimate the amounts of petitioners' transportation costs that may constitute medical expenses.

Mahmoud M. Soltan, et ux. v. Commissioner, TC Memo 2010-91

If a taxpayer establishes that an expense is deductible but is unable to substantiate the precise amount, we may estimate the amount, bearing heavily against the taxpayer whose inexactitude is of his own making (the “Cohan rule”). Cohan v. Commissioner, 39 F.2d 540, 543-544 [8 AFTR 10552] (2d Cir. 1930). The taxpayer must present sufficient evidence for the Court to form an estimate because without such a basis, any allowance would amount to “unguided largesse.” Williams v. United States, 245 F.2d 559, 560-561 [51 AFTR 594] (5th Cir. 1957); Vanicek v. Commissioner, 85 T.C. 731, 742-743 (1985).

Section 165(a) allows a deduction for “any loss sustained during the taxable year and not compensated for by insurance or otherwise.” The Soltans have failed to substantiate the amount or character of any loss. Under these circumstances the Soltans are not entitled to a deduction under section 165(a). Accordingly, we allow no net operating loss deduction to either petitioner for any tax year at issue. We sustain the IRS's deficiency determinations in the notices of deficiency for all of the tax years at issue.

Philip A. Lehman, et ux. v. Commissioner, TC Memo 2010-74

Married couple was denied carryover deductions for NOLs husband purportedly sustained in connection with his tavern-restaurant: taxpayers didn't show that husband actually sustained NOLs in years stated or that such carried over to and were available in years at issue/ weren't absorbed in intervening years. Taxpayers' claims, that husband operated tavern at loss through certain years but that records regarding same were later destroyed by flood, and that as result, their deductions should be allowed pursuant to Cohan rule for estimating deductions despite missing records, were rejected; even Cohan rule required some basis for reasonably estimating taxpayers' claims, which basis was wholly lacking here given foregoing and that only things taxpayers submitted in support of their position were returns, which themselves couldn't establish losses, or self-serving testimony.

Kristine J. Wolfgram v. Commissioner, TC Memo 2010-69

Testimony alone, without corroborative evidence, does not satisfy the requirements of section 274(d), and thus the Cohan rule is inapplicable.

Edralin A. Pagarigan v. Commissioner, TC Summary Opinion 2010-167

An expenditure of $726 seems reasonable for completing a course of study. Nonetheless, the lack of substantiation and the inexactitude are of petitioner's own making. Therefore, to avoid unguided largesse, we hold that under the Cohan rule petitioner is entitled to deduct $363 for the course in 2005, which is one- half of the amount that she claimed

Kelly L. Madsen v. Commissioner, TC Summary Opinion 2010-151

Madsen provided the Court only with worksheets that listed the amounts of work clothes expenses; she did not include any receipts. Her worksheets fail to identify the particular type of each item of work clothing she purchased, and at trial she was able to identify only two items of work clothing as purchased during the tax years at issue. Her testimony thus did not clarify what the items of work clothing listed in the log actually were. But we find her worksheets contain reasonable figures for work clothes expenses and also find her records for the other expense items “more readily lending themselves to detailed record-keeping” to be reliable and accurate within the meaning of the regulation. Therefore, applying the Cohan rule as reflected in the regulation, we hold that she is entitled to a deduction for work clothes under section 162 in the amounts reflected on her worksheets, $797 for 2004 and $1,442 for 2005.

David R. Holland v. Commissioner, TC Summary Opinion 2010-132

At trial, petitioner succinctly set forth his position as well as his understanding of what this case is all about: *** I did run construction. I did have expenses. I don't have records of them expenses, but I did work this construction all year long, and I had the expenses. I don't know of any job that you have no expenses for. Just because I don't have the records of it is what this is all about.

Like petitioner, we are not aware of “any job that you have no expenses for.” But that truism does not abide, because a taxpayer is required to maintain records sufficient to substantiate deductions claimed by the taxpayer on his or her return

Although we found petitioner to be a credible individual, his testimony, standing alone, is no substitute for what section 274(d) demands. Thus, except for the allowance described in the immediately preceding paragraph, we are obliged to sustain respondent's determination disallowing the deduction claimed by petitioner for “Form 2106” and cellular phone expenses.

Expenses Subject to the Cohan Standard

Finally, the deduction in issue includes expenses for work gloves ($550) and safety boots ($150). Neither of these items is subject to strict substantiation; rather, both are subject to the more liberal Cohan standard.

Given petitioner's profession, we can well appreciate that safety boots are a necessity, as are work gloves. But while we understand that work gloves wear out or are misplaced and need to be replaced, $550 strikes us as a bit much, at least in the absence of any documentary evidence. Accordingly, without regard to the 2-percent floor on miscellaneous itemized deductions, see sec. 67(a), we allow $150 for safety boots and $300 for work gloves. See Cohan v. Commissioner, 39 F.2d at 543-544. Respondent's determination to the contrary is not sustained

Asif Hafeez v. Commissioner, TC Summary Opinion 2010-109

A passenger vehicle is listed property under section 280F(d)(4) subject to strict substantiation under section 274(d). The rule in Cohan does not apply to expenses relating to listed property, which generally includes any passenger automobile. Secs. 274(d)(4), 280F(d)(4)(A)(i); Sanford v. Commissioner, supra at 827-828; Seidel v. Commissioner, T.C. Memo. 2005-67 [TC Memo 2005-67]. However, the term “passenger automobile” does not include any vehicle used by the taxpayer directly in the trade or business of transporting persons for compensation or hire. Sec. 280F(d)(5)(B)(ii); sec. 1.280F-6(c)(3)(ii), Income Tax Regs. Therefore the town car that petitioner purchased is not listed property, and the expenses related thereto are subject to the Cohan rule.

Willie J. Moore, et ux. v. Commissioner, TC Summary Opinion 2010-102

I gave Mr. Moore the full treatment in a previous post. Suffice it to say he did not breathe new life into the Cohan rule.

Ian Menzies, et ux. v. Commissioner, TC Summary Opinion 2009-196

The Court believes petitioner incurred unreimbursed vehicle expenses related to his work for Porter and Titan during 2005. However, the Court may not estimate vehicle expenses under Cohan. See Sanford v. Commissioner, supra; Rodriguez v. Commissioner, T.C. Memo. 2009-22 [TC Memo 2009-22] (the strict substantiation requirement of section 274(d) precludes the Court and taxpayers from approximating expenses); sec. 1.274-5T(a), Temporary Income Tax Therefore, we must sustain respondent's Regs., supra. determination.

In Conclusion

The Cohan rule is not dead, but it is of limited use. Ironically, it is in the area that Cohan had difficulty with, travel and entertainment, that it is of no use. It's fine to give your regards to Broadway, but it would be wiser if you kept better records than the famous producer. Perhaps the photo below gives you a more complete picture:


Not surprisingly I'm not the first tax blogger to pay a tribute to George. Here is one done a little while ago by Robert Flach of The Wandering Tax Pro.

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