Double Taxation: A Take On All Things Taxes

If you’ve never heard of Godwin’s Law, it’s the astute — and sadly, accurate — observation that given enough time, any discussion on an internet forum or online chat room will inevitably denigrate to the point where someone makes an ill-advised reference to Hitler or Nazi Germany.

Apparently, this principle is equally applicable to Tax Court briefs, as I’ve read a truly depressing amount of court cases in my time, and until yesterday I’d never seen the IRS and Tax Court compared to “those good law-abiding Germans who drove the trains to the death camps.” But Erik Thompson pulled it off, and shockingly, things didn’t go well from there.

Erik was a peaceful boy. As a youngster, he left rural Milan, Minnesota, to go to Stanford, where he earned three degrees. After graduation, he eschewed the material trappings of corporate life in favor of joining the Peace Corps for a mission to Micronesia, presumably to soothe local discontent resulting from Derek Zoolander’s near-assassination of the Micronesian prime minister.

After his father died, Thompson moved back to the States, became the big wheel at his home town bank, and bought a few rental properties to house some Micronesian immigrants that I’d like to imagine were concealed in his carry-on luggage and stowed neatly in the overhead compartment on his way back home. Once back on U.S. soil, Thompson also promptly ceased complying with this country’s tax laws.

In defense of his failure to file his tax returns, Thompson offered the following passionate — albeit misguided –defenses:

• He didn’t file returns for tax years 2004 and 2006 because he disapproved of the wars in Iraq and Afghanistan and didn’t want to fuel “the government’s killing machine,” which I believe is some sort of kick-ass hovercraft.
• As mentioned in the intro, Thompson also felt compelled to analogize working for the IRS with shuttling prisoners to a concentration camp. 
• He added, “You may be curious about my decision not to file; my actions are designed to call us back to the rule of law and stop the slaughter of innocents.”
• Lastly, and most formally, Thompson posited that paying his taxes would violate the Nuremberg Principles, which for those of you who aren’t up to speed on your mid-1940′s military tribunals, provided that compliance with the law would be no excuse for those tried if the conduct would be complicit in, for example, a crime against humanity.

The Tax Court quickly made short work of his “Nuremberg” defense, providing rather sternly that they did not accept Thompson’s claim that he was indirectly complicit in “crimes against humanity” by completing and mailing off his Form 1040. Which is quite the relief, or the guys at H&R Block would be facing some serious jail time.

The IRS — using information begrudgingly supplied by Thompson — was able to piece together tax returns for 2004 and 2006. After doing so, the IRS denied deductions on each return for Thompson’s investment interest expense and rental losses related to his Micronesian sweatshop hostel.

The bulk of Thompson’s 2004 investment interest deduction resulted from the carryover of interest expense that was limited on Thompson’s properly filed 2003 tax return.[1] Thompson argued that the fact the IRS accepted the 2003 return as filed “fixed” the amount of his interest carryover, and thus it should be accepted on his 2004 return, without Thomspon being required to substantiate the underlying expenses.

It’s a compelling argument, but ultimately the incorrect one. Tax returns don’t substantiate deductions or losses; they are nothing more than a statement of a taxpayer’s claims.[2] Thompson therefore couldn’t rely solely on his old return or his current say-so to prove the disputed amount. Because Thompson was unable to prove his interest expense amounts for 2003 or beyond, the Tax Court sustained the IRS disallowance.

For good measure, the Court denied Thompson’s rental losses — again on the basis of inadequate substantiation — and tacked on failure to file, failure to pay, and underpayment of estimated tax penalties, with the threat of a $25,000 frivolous argument penalty should Thompson ever feel inclined to liken the Tax Court to the Third Reich again.