Robert Robertson owns a small business. The business is not incorporated and therefore, the net income or loss is reported on Robert’s tax return on Schedule C. Robert’s business involves the purchase of rare religious icons from the Middle East and selling them to religious organizations in the United States. It is the type of business that has significant travel expenses and significant client relations expenses.
In 2015, the Internal Revenue Service completed their audit of his tax returns for 2010 through 2012. Robert had to agree to an extension of time for the Internal Revenue Service to complete some of these audits. The ultimate assessment issued by the Internal Revenue Service disallowed many business deductions taken in those tax returns and reclassified certain losses which he had taken as active losses to passive losses for which there was no offsetting passive income. The tax assessment was substantial for Robert.
On January 28, 2015, in addition to paying the deficiency and assessed penalties, Robert paid $18,000 in interest on the tax owed. He calculated that of the $18,000 in interest, $11,000 was attributable to his lost business expenses and resulting higher sole proprietorship income and $7,000 was attributable to the reclassification of his other losses to passive losses.
Can Robert deduct (1) the deficiency, (2) the penalties and/or (3) all or any portion of the interest expense in the year of payment? (If his business had been incorporated, the answer may not be the same.)
Should he be able to deduct any of these amounts in a conceptual sense?
Thoughts: Section 162 IRC, Section 163 IRC, Regulation 1.163-9T, Kikalos v. Comm. 84 AFTR 2d 99-5933
Please answer in memo form. Thanks
