Tax Court

Revisiting the Hobby Loss Rules

When a case is styled Lee Storey, et vir., that is a hint that the story is about a lady.  The lady in Tax Court Memo 2012-115, issued last month, is quite interesting.

Lee Storey is a very successful attorney who has always had an interest in the arts.  (Reminds me of a lady I live with, whose biography would also be styled et. vir.)  A number of years into her marriage, she learned that her husband had been a performer with the “peppy” singing group Up With People.  (Seems like something you would know pretty early about your spouse; he must have not been too proud of his involvement with the group that has been parodied on The Simpsons and SouthPark.  I digress too much.)

When her children matured sufficiently to leave home and to allow her some free time, Mrs. Storey undertook a project of making the film “Smile ‘Til it Hurts:  The Up with People Story,” which had an initial working title of “Power and Passion: The Up With People Story” that had to be changed because internet searches for the title ended up at porn sites.  (Darn, I digress again.)   She started in earnest in 2005.  In the three years considered in the case – 2006-2008, it appears that she deducted over $750,000 in costs.  In 2010 she made her first revenue off of the project – $250.  At the time of trial, presumably in late 2011, she was still optimistic about someday making a profit.  The IRS challenged the deductions under Section 183 of Code, the hobby loss rules.

The Feds sure picked on the wrong lady.  Mrs. Storey was entirely business-like in her approach to film-making.  She took a sabbatical to attend a film school; she took an additional filmmaking course; she wrote a business plan; she hired a bookkeeper; she retained an accounting firm; she kept careful records; she bought appropriate filmmaker insurance; she hired experienced filmmakers to work on the project; she tirelessly promoted the film; she looked at different ways to create revenue.  Tax Court Judge Kroupa said that “her work product demonstrates time-consuming care and attention to detail.”  Judge Kroupa went on to analyze whether the movie-making was engaged in for profit using nine nonexclusive factors found at Regulation Section 1.183-2(b).  By my count, the IRS won one round, Mrs. Storey won five rounds, and three rounds were scored as draws.  Victory to Mrs. Storey.

The takeaway is that it is alright to do something you love and try to make a profit at it, even if you are ultimately unsuccessful (at least not yet at the time of trial).  Approach the project in a businesslike fashion and early in the endeavor document your path to profits.  Keep good records and use appropriate expertise.  Above all, don’t mess with Lee Storey.

Vance

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