The tax loss carryback can result in some interesting math. The difficulties come in when one thinks about how to take one number, a loss, from a latter year, and apply that loss back to a former year.
This may sound simple enough. It is one number that is being carried back. That part is understandable. But what about the interaction of that one number on the carryback year tax return? That number feeds into the tax calculation for that carryback year tax return. What happens if the interaction of that one number on that carryback year triggers some other tax provision, say a loss in that year, then what? What if it triggers other limitations in that carryback year, resulting in even more tax savings for that year? Is the tax savings from the old year lost?
The court addressed this in Stein, LLC, v. United States, No. 2:13-03224. The United States District Court for the Western District of Louisiana addressed the question of whether refund claims stemming from loss carrybacks include computational adjustments in the carryback years. This isn’t an article only accountants can get into, this means real dollars. Those with carrybacks should be very interested in this topic, as their accountants may not be aware of the issue and this can result in the taxpayer losing out on those real dollars.
Contents
Facts & Procedural History
For this case, let’s just jump right into the IRS notice. The IRS issued a Notice of Deficiency to the taxpayer in the amount of $2,164,486 on June 20, 2013. This 2013 notice was issued for tax year 2008. So if the tax return for 2008 was filed in 2009, the IRS issued the notice four years after the tax return was due to be filed.
Now, before this, the taxpayer filed refund claims stemming from 2008 Go Zone deductions that were not included in his federal income tax return for 2008. This amended return created a tax loss carryback to tax year 2003. The loss was not fully used up in 2003, so it was carried forward to 2004, 2005, 2006 and 2007. This is how the NOL tax rules work. The loss is carried back to a specified year that Congress set out in the statute, and then if not used, the NOL carries forward to be used at some future year.
The IRS did not simply agree with the taxpayer’s amended return. The IRS processed it and issued a Notice of Disallowance in the amount of $2,450,861 on December 10, 2013. The taxpayer filed suit on the refund disallowance seeking a tax refund for tax years 2003 through 2008.
The Tax Litigation & Court Order
The court entered a judgment in the taxpayer’s favor for $2,164,486. This was the amount of the NOL carryback when factoring in the 2008 depreciation deduction. The IRS issued a check to Stein in the amount of $2,164,486 consistent with the court opinion.
The case did not stop there. The taxpayer then asked the court to correct its judgment to reflect a $2,450,861 refund, rather than a 2,164,482 refund. The taxpayer surmised that the amount should be higher as the loss carryback resulted in additional tax savings in the carryback years due to computational issues that were triggered by the NOL carryback.
The rules do allow the court to correct its order in some cases. Specifically, Federal Rule of Civil Procedure article 60(a) says that: “The court may correct a clerical mistake or a mistake arising from oversight or omission whenever one is found in a judgment, order or other part of the record. The court may do so on motion or on its own, with or without notice.”
Correcting an Order or Raising a New Issue?
The IRS did not see this as a mere correction. The IRS saw this as the taxpayer raising a new issue that was not part of the litigation.
The government argued that:
Stine’s motion to correct the judgment is an attempt to rewrite its complaint and motion for summary judgment to include claims for a refund of additional credits not litigated before this court. The government asks the court to deny the motion because (1) it is not a proper Rule 60(a) motion; (2) Stine’s claims for additional refunds were not litigated and not before the Court; (3) Stine did not meet its burden of proof that it is entitled to additional funds; and (4) Stine’s claims for 2003-2008 have been finally adjudicated.
The issue in the case was the 2008 Go Zone deductions. These deductions were not part of the litigation. The IRS was correct in that regard. The amount of the deductions did change, however, given the NOL carryback. The IRS’s position that the increased refund due to this adjustment was not allowable.
The court did not agree with the IRS. The court concluded that there was a mistake or inadvertent error in its judgment because it did not include the total amount of disallowed deductions (2008 Go Zone deductions) and the claims for years 2003 through 2007 predicated upon the loss carryback for the 2008 taxable year. Thus, the court concluded that the higher refund amount was allowable.
The Takeaway
The NOL rules can create complications. This case shows that computational adjustments in the NOL carryback year are at play for both the IRS and for taxpayers. Thus, as with this case, taxpayers should prepare computations for the carryback year and press the IRS for larger refunds in the carryback year when applicable. This is an easy issue to overlook, and one that many tax preparers may not be on the lookout for.
In 40 minutes, we'll teach you how to survive an IRS audit.
We'll explain how the IRS conducts audits and how to manage and close the audit.