T.C. Memo. 1998-411
UNITED STATES TAX COURT
SUSAN L. BAY, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 16877-96. Filed November 16, 1998.
Garry M. Cox, for petitioner.
Lisa K. Hartnett, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
CARLUZZO, Special Trial Judge: This case was heard pursuant
to the provisions of section 7443A(b)(3) and Rules 180, 181, and
182. Unless otherwise indicated, section references are to the
Internal Revenue Code in effect for the years 1993 and 1994.
Rule references are to the Tax Court Rules of Practice and
Procedure.
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Respondent determined deficiencies in petitioner's 1993 and
1994 Federal income taxes in the amounts of $3,370 and $1,196,
respectively. The issue for decision is whether certain
miscellaneous itemized deductions attributable to a grantor trust
are subject to section 67(a).
FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
Petitioner filed timely 1993 and 1994 Federal income tax returns.
She resided in Omaha, Nebraska, at the time the petition was
filed.
Petitioner is a grantor and beneficiary of the Jay Newlin
Trust (the trust). The trust was created on December 11, 1976,
in order to preserve financial security for the grantors, more
efficiently manage their investments, and gain financial
advantages for the beneficiaries. Although certain restrictions
apply to distributions of corpus, for Federal income tax
purposes, the trust is what is commonly referred to as a grantor
trust. See generally sections 671 through 679.
During the years at issue, the trust corpus was valued at
approximately $200 million, of which petitioner's interest was
approximately 2.9 percent. The trust was administered by three
trustees, none of whom had any expertise in the management of a
large investment portfolio. In order to assist them in making
financial and other investment decisions, the trustees retained
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investment management companies, accountants, and attorneys. The
trust paid or incurred the expenses related to such services.
Petitioner's proportionate shares of these expenses amounted to
$19,274 for 1993 and $28,984 for 1994.
In computing her taxable income for each year in issue,
petitioner elected to itemize her deductions. On Schedules A
included with her 1993 and 1994 Federal income tax returns,
petitioner claimed her proportionate shares of the trust expenses
as "Other Miscellaneous Deductions" as detailed below:
1993 1994
Misc. expenses $19 $9
Rent expense 106 374
Investment fees 10,335 15,323
Travel expense 36 1,066
Investment custodial fees 2,683 3,494
Professional fees 6,080 1,701
Telephone expense --- 64
Atty. and acct. fees --- 6,836
Other depreciation 15 117
Total 19,274 28,984
In the notice of deficiency, respondent reduced the totals
of the above deductions by 2 percent of petitioner's adjusted
gross income for the appropriate year, made other computational
adjustments, and determined the deficiencies here in dispute
accordingly.
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OPINION
The dispute between the parties centers around the
application of section 67. In support of the adjustments
reducing the amounts of the deductions attributable to the trust,
respondent relies upon section 67(a), which states:
SEC. 67(a). General Rule.--
In the case of an individual, the miscellaneous
itemized deductions for any taxable year shall be allowed
only to the extent that the aggregate of such deductions
exceeds 2 percent of adjusted gross income.
Petitioner argues that section 67(e) controls, which states, in
relevant part:
SEC. 67(e). Determination of Adjusted Gross Income in
Case of Estates and Trusts.--
For purposes of * * * [section 67] the adjusted
gross income of an estate or trust shall be computed in
the same manner as in the case of an individual, except
that
(1) the deductions for costs which are paid or
incurred in connection with the administration of the
estate or trust and which would not have been incurred
if the property were not held in such trust or estate,
and
(2) * * *
shall be treated as allowable in arriving at adjusted
gross income. * * *
According to petitioner, the expenses that gave rise to the
deductions attributable to the trust were paid or incurred in
connection with the administration of the trust. Relying upon
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O'Neill v. Commissioner, 994 F.2d 302 (6th Cir. 1993), revg. 98
T.C. 227 (1992), and pointing out the fiduciary obligations
imposed upon the trustees, petitioner contends that the expenses
would not have been incurred if the property were not held by the
trust. Under petitioner's theory of the case, because pursuant
to section 67(e) the expenses are taken into account in computing
adjusted gross income, the provisions of section 67(a) are not
applicable.
We turn our attention first to the status of the trust for
Federal income tax purposes. In petitioner's brief, as a general
criticism of respondent's position, and with reference to the
trust restrictions on the distribution of corpus, petitioner
states: "[respondent] fails to note that in the instant case
although the form of * * * [the trust] is that of a grantor's
trust, in substance it is similar to an irrevocable trust or
mutual fund." According to petitioner, we should consider the
trust as other than a grantor trust. Petitioner's reliance upon
section 67(e) and O'Neill v. Commissioner, supra, is consistent
with treating the trust as other than a grantor trust. However,
such treatment is inconsistent with the stipulation of facts, in
which petitioner agreed not only that the trust "is a grantor
trust", but further, in apparent reliance upon section 671, that
"each item of income and expense [of the trust] is reported
individually by the grantor". Considering the trust as other
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than a grantor trust is also inconsistent with the manner in
which petitioner reported the items of income and deductions
attributable to the trust on her 1993 and 1994 Federal income tax
returns. Furthermore, the restrictions on the distribution of
trust corpus, do not, as petitioner suggests, remove the trust
from the provisions of section 671. See sec. 677. The trust is
a grantor trust, and the positions of the parties will be
considered accordingly.
Contrary to petitioner's argument, section 67(e) does not
and cannot apply to grantor trusts.1 Because the items of income
and deductions are passed through to the grantor, the adjusted
gross income of a grantor trust, in effect, is not a viable
notion either conceptually under the relevant statutory scheme,
or for reporting purposes. Pursuant to section 671, petitioner,
as a grantor of the trust, is required to include in the
computation of her taxable income, the items of income,
deductions and credits of the trust that are attributable to her
proportionate share of the trust. See sec. 1.671-4, Income Tax
Regs. This, in fact, is what she did on her 1993 and 1994
Federal income tax returns. These items are treated as though
received or paid by her, instead of by the trust. Sec. 1.671-
1
Consequently, we need not address the controversy between
the parties regarding whether the type of expenses here in
question would not have been incurred but for the fact that the
property was held in trust. See O'Neill v. Commissioner, 994
F.2d 302 (6th Cir. 1993), revg. 98 T.C. 227 (1992).
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2(c), Income Tax Regs. Because the deductions here under
consideration constitute "Miscellaneous Itemized Deductions"
within the meaning of section 67(b), the provisions of section
67(a) are applicable.
The applicability of section 67(a) is further supported by
section 67(c), which prohibits the indirect deduction through a
pass-through entity of amounts which would not be allowable as a
deduction if paid or incurred directly by an individual. The
trust is a "pass-through entity". See sec. 1.67-2T(g)(1)(i),
Temporary Income Tax Regs., 53 Fed. Reg. 9878 (Mar. 28, 1988).
As stated in sec. 1.67-2T(b)(1), Temporary Income Tax Regs., 53
Fed. Reg. 9877 (Mar. 28, 1988), "the [sec. 67(a)] limitation
applies to the grantor * * * of a grantor trust with respect to
items that are paid or incurred by a grantor trust and are
treated as miscellaneous itemized deductions of the grantor". If
the expenses were directly paid or incurred by petitioner, the
amounts of the deductions would have to be reduced in accordance
with section 67(a). Petitioner cannot deduct a greater amount
merely because the deductions were passed through to her from the
trust.
Accordingly, we hold that section 67(a) is applicable to the
deductions attributable to the trust, and respondent's
adjustments in this regard are sustained.
In order to reflect the foregoing,
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Decision will be
entered for respondent.