Dean, 102 AFTR 2d 2008-6051 (9th Cir. 2008)

A vague recollection of time spent spelled doom for a taxpayer trying to convince the court that he materially participated in a partnership activity. On appeal, the taxpayer found the appeals court, which upheld the district court’s ruling, no less sympathetic. Here’s what happened.

Facts. Taxpayer Loren Dean was a 20 percent partner in Dean Securities, a family-run partnership. On his 1998 personal return, he deducted his pass-through partnership loss, which created a net operating loss (NOL) that he carried back to 1996. The IRS denied the refund claim from the NOL carryback.

IRS position. The IRS disallowed the 1998 partnership loss, saying Dean did not materially participate in the activity. The loss was suspended under the Section 469 passive loss limitations.

Taxpayer’s position. To claim a deduction for the pass-through loss, Dean needed to establish that he materially participated in the partnership’s business. He attempted to do so by showing he worked in the business for more than 500 hours, one of the tests allowed in the passive activity (Section 469) regulations. However, he had no records showing how much he actually worked. Instead, he stated:

“I think ’98 was still a pretty good year for getting to the office, and that would have — and if that recollection, which is my best recollection, is right, then that should be well over 500 hours, I mean, just doing the math in my head.”

His brother was no more precise stating that “it is my recollection that Loren Dean spent more than 500 hours in the Dean Securities office.”

Court ruling. Citing that there were no facts provided to support their statements, the District Court found Dean and his brother’s statements insufficient to conclude that he materially participated in the Dean Securities business. At the appellate level, the court agreed and reminded the taxpayer that while the regulations say any reasonable means can be used to establish that the 500-hour threshold has been exceeded, the courts have “uniformly held that the regulations do not permit a post-event ‘ballpark guesstimate’.”

From the Quickfinder Tax Tips Newsletter from the Tax & Accounting business of Thomson Reuters, December 2008. To subscribe to this informative monthly newsletter, visit quickfinder.thomson.com or click here.