Dora Benson was a nurse before she cashed in a winning $10,000,000 lottery ticket in April 2000. With a small part of her winnings, she bought a building in downtown Denver to honor her deceased mother.
The building played host to a wide array of activities, from a Christian reading room to an office to reflexology treatments. Benson also used her newfound financial freedom to become a mortgage loan broker, and started providing loan services out the building. Benson, however, failed to broker a single mortgage, nor did she charge for the reflexology treatments she provided.
In 2002, in an attempt to “formalize” her various pursuits, Benson formed an S corporation to house her mortgage lending and reflexology activities. Unfortunately, she never actually filed a corporate return; rather, she simply reported the substantial losses generated from the activity each year on her Schedule C.
The IRS denied Benson’s 2009 loss of $26,000, claiming that Benson’s activities were “hobbies” under the meaning of IRC Section 183. There’s no need to rehash the “hobby loss” rules here, as we’ve discussed them ad nauseam; simply reading this post should give you all the background you need.
As you’ll see, typically the courts examine the nine regulatory factors designed to determine whether an activity is a for-profit business (in which case a loss may be recognized from the activity), or a hobby (in which case expenses can only be deducted to the extent of profits). In Benson, however, the court neglected to examine the factors before concluding that Benson’s activities were not entered into for profit, but rather were hobbies. And why was the Tax Court able to take such a shortcut?
Because they’d seen it all before. Benson had previously been in front of the Tax Court on the exact same issue with regards to her 2002 and 2003 tax years, and the court had concluded then that the activities were hobbies.
Because the only thing that had changed since then was the formal incorporation of the activities — and that formality was negated by Benson’s failure to actually recognize the corporation’s existence by filing a corporate tax return — the court reached the same conclusion with regards to Benson’s 2009 tax year and again denied the deduction.