TaxProf Blog

Editor: Paul L. Caron, Dean
Pepperdine University School of Law

Monday, June 11, 2018

Lesson From The Tax Court: What Makes Tax Law Complex

Tax Court (2017)Tax reminds me of the children’s poem that starts “I have a little shadow.” Tax is the shadow (sometimes not so little) that follows all of us throughout life. Put another way, every activity in life throws a tax shadow. And life is not simple. I submit that much of tax complexity is a reflection of life’s complexity, including people’s relationships with one another. And we all know how relationships can get complicated. Last week’s case of Joseph Engesser v. Commissioner, TC Summary Opinion 2018-29 (June 4, 2018), not only illustrates this idea, but it also shows how certain parts of the Tax Code’s complexity hits lower income taxpayers particularly hard. They must deal with one of the gnarliest tax issues in the Code: §152, the section that defines who is a dependent.

Mr. Engesser had a relationship with Ms. Cerice Anthony. It was complicated. They lived together in an apartment, from 2006 to early 2014. They were not married. During that time they had a child, H.E. In early 2014 Ms. Anthony moved out, into her mother’s apartment nearby. There she stayed for the remainder of the year.

The nut of the case is where H.E. lived. It is not entirely clear where the child lived in 2014: with Mr. Engesser or with Ms. Anthony. Perhaps the child lived in both apartments at different times. It was complicated, especially since Mr. Engesser worked as a custodian at Middlesex County College from 3:30 pm to 11:30 pm. When he did so, H.E. stayed with Mr. E.’s parents. He claims he picked H.E. up after work. Really? Assume a 30 minute commute and you are waking your kid up at midnight just to take “home”? Maybe. Maybe you or I would not do that, but uncountable are the ways of how folks structure their lives and relationships. That is, however, what Mr. E. testified to and so let’s accept that: H.E. goes to sleep in at the Gramps house and wakes up in Dad’s apartment. I’ll come back to this point shortly because it complicates the question of H.E.’s “abode.”

Both Mr. Engesser and Ms. Anthony claimed H.E. as a dependent on their Form 1040s for 2014. I do not understand how they did this, since the IRS is supposed to have filters to catch double-counting a single SSN. But double-counting can happen in different ways. Catching it is complicated. But the IRS caught Mr. Engesser and disallowed his claim that H.E. was his dependent. He petitioned the Tax Court and drew Judge Colvin.

H.E.’s status as a dependent affected Mr. Engesser’s ability to claim four tax benefits: (1) head of household filing status (resulting in a lower tax rate than for individuals filing singly); (2) an additional personal exemption for H.E. as a dependent; (3) the child tax credit (CTC); and (4) the earned income tax credit (EITC).

For Mr. Engesser to successfully claim these benefits, he had to prove that H.E. met either the requirements in §152(c) to be his “qualifying child” or the requirements in §152(d) to be his “qualifying relative.” He could get all four benefits if H.E. was his qualifying child. If H.E. was not his qualifying child but was his qualifying relative, he would not be entitled to the CTC and his EITC would either be lower or eliminated. But he would still be entitled to his head of household filing status and dependency deduction for H.E.

In Tax Court, as on his return, Mr. Engesser went for the “qualifying child” status. For that to happen, he had to prove he met five tests:

1. §152(c)(1)(A): Relationship test: H.E. had to have one of several specific relationships to Mr. Anthony, including being a child of his;
2. §152(c)(1)(B): Abode test: H.E. had to have “the same principal place of abode” as Mr. Anthony “for more than one-half of such taxable year”;
3. §152(c)(1)(C): Age test: H.E. had to be under 17 in 2014 or, if over 17, H.E. had to be a qualified student;
4. §152(c)(1)(D): Support test: H.E. must not have been self-supporting (providing more than one-half of H.E.’s needed support for the year); and
5. §152(c)(1)(E): Joint return test: H.E. must not have filed a 2014 joint return (other then only for the purpose of claiming a refund).

The most complicated of these tests is probably the Abode Test. And that’s the test the IRS said Mr. Engesser could not meet. It conceded all the others. But the IRS said that Mr. E. had not shown that his apartment was H.E.’s “principle place of abode” for more than half of 2014.

Complicating matters further was the separation of Mr. Engesser and Ms. Anthony. That triggers the special rule in §152(e). The special rule kicks in when “the child receives over one-half of the child’s support during the calendar year from the child’s parents ... (iii) who live apart at all times during the last 6 months of the calendar year.” And what is that special rule? Why, it is the rule that the “custodial parent” gets to claim the child as a dependent unless the custodial parent “signs a written declaration ... that such custodial parent will not claim such child as a dependent.” The non-custodial parent can then claim the child as a dependent if the non-custodial parent submits that written declaration with their tax return. Naturally, the IRS has created a form for the custodial parent to use as a “written declaration.” That is Form 8332. Submitting that form simplifies life for everyone. But here neither parent submitted a From 8332.

The special rule in §152(e) requires a determination of who is the “custodial parent.” Notice that §152(e) applies regardless of whether the parents were ever married. And this concept of “custodial parent” is where the complexity curve takes a sharp upturn. That is because state court judges often award “custody” for state law purposes to one or the other parent, or else grant “joint custody” to both parents. And state court judges tend to think they can control federal tax because they can award custody. That is not correct. But it complicates matters for the taxpayers who now have to work with two concepts of custody: a state concept and a federal concept.

The concept of “custodial parent” for §152(e) purposes is a federal tax law concept, governed by federal law. In particular, Treas.Reg. 1.152-4(d)(1) says that the “custodial parent” is the parent “with whom the child resides for the greater number of nights during the calendar year.” And how do you know with whom a child “resides”? The regulation says “a child resides with a parent for a night if the child sleeps — (i) At the residence of that parent (whether or not the parent is present); (ii) In the company of the parent, when the child does not sleep at a parent's residence (for example, the parent and child are on vacation together).”

Are you getting dizzy yet? Even in this basic definition, the regulation needs an example (given in the parenthesis) to illustrate the idea. When you then go and read the regulation you see just how complicated it gets. This is not a reflection on the IRS or on the tax law. It’s just a reflection of life. For example, what if the custodial parent has a night shift job? Here’s the answer given in §1.152-4(d)(5), in the form of an exception to the “greater number of nights” rule: “If ... due to a parent's nighttime work schedule, a child resides for a greater number of days but not nights with the parent who works at night, that parent is treated as the custodial parent. On a school day, the child is treated as residing at the primary residence registered with the school.” Section 1.152-4(f) goes on to give 20 examples of how the concept of “custodial parent” should be applied.  Wow.  And those examples do not begin to exhaust the fact-patterns to which this rule must be applied.

Notice that the regulation’s concept of “custodial parent” requires parents to prove where the child slept most of the nights! Who keeps track of that? It's hard enough to get your clients to keep track of car mileage for goodness sakes.  But who even knows they have to track where their children are sleeping amid all the turmoil and confusion of separation and adjustment and then readjustment of living arrangements. Just imagine Mr. Engesser saying “Sorry, H.E., you cannot go sleep with Mom tonight because that would give her enough nights to make her the custodial parent for federal tax purposes.” No.  He actually testified that he let H.E. go to Mom's for one or two days whenever Mom asked.  And that brings me back to Mr. Engesser’s work schedule. Recall he was a custodian at a local community college whose shift ended at 11:30 at night. Does that make him a “parent who works at night”? For purposes of counting where H.E. “sleeps” at night does it matter where H.E. starts to sleep (Mr. E.’s parents) or finishes sleeping (Mr. E.’s apartment). It’s complicated.

At least Mr. Engesser did not have the complication of a local court order in 2014. There was no operative court order in the year at issue. But in 2015 he initiated a custody proceeding in Superior Court of New Jersey and the court awarded joint custody to Mr. E. and Ms. Anthony. The 2015 court order also created a complication for future years because the state court judge did what a lot of state court judges do: tried to establish the federal tax consequences of its order. In this case, the 2015 court order said that Mr. Engesser could claim H.E. as a dependent for 2016 and all even number years and Ms. Anthony could claim H.E. in 2015 and all odd number years.

Further, Mr. Engesser did not have the complication of trying to prove where H.E. spent the “greater number of nights” in 2014. That is because neither the IRS attorney nor Judge Colvin apparently thought §152(e) applied here. Instead, they just looked at the basic §152(c) “Abode test.” Writes Judge Colvin: “petitioner is entitled to prevail ... if H.E. had the same principal place of abode as petitioner for more than one-half of 2014.”

I am not sure why the Court ignored §152(e), especially when the Court noticed that neither Mr. E. nor Ms. A had filed a Form 8332. I think the correct statement would be “petitioner is entitled to prevail if we find petitioner to have been the custodial parent for 2014 and we will so find if petitioner can show that H.E. spend the “greater number of nights” with petitioner than with Ms. Anthony.

But I could well be wrong because ... it’s complicated!  I am happy to be instructed on that point by any wise reader. 

Even without the complication of a local court order for 2014 and even without the complication of having to show where H.E. laid his or her head to rest for all or part of each night in 2014, Mr. Engesser had a complicated path to proving that his apartment was H.E.’s “principal place of abode” for more than half of 2014.

Mr. Engesser’s representative, Howard Chernoff—-who appears to be a CPA and who possibly was the one who prepared the 2014 return (?)—-took the most direct approach to proving the Abode test: he put Mr. Engesser on the stand. Mr. E’s basic testimony seemed pretty solid to Judge Colvin and it was that H.E. lived with him throughout 2014. The IRS attorney did not shake that testimony on cross. In addition, Mr. E. produced some scattered documentary evidence that supported his oral testimony. Perhaps most important were (1) a 2015 document from a H.E.’s pediatrician’s office that said the office records showed H.E.’s address was Mr. E.’s apartment as of November and December 2014; and (2) a letter from H.E.’s school showing that H.E. lived with Mr. E. as of August 2015. On that record, Judge Colvin decided that, as a matter of fact, H.E.’s principal place of abode was with Mr. Engesser for more than half of 2014.

As is true in most of these cases, the evidence was scattered and contained conflicting implications. In other words, it was complicated! For example, there was a December 2014 Post Office change of address form that showed H.E. changing addresses from Ms. Anthony’s apartment to Mr. Engesser’s apartment. That implies H.E. was not living with Mr. E. before December 2014. It is also not inconsistent with the letter from the Pediatrician’s office or the school, both of which were post-dated in 2015. Judge Colvin wrote that he was ignoring that form, however, because he did not know who filed it or why. It could be that whomever filed the form thought that the Post Office was erroneously treating Ms. Anthony’s apartment as H.E.’s address when H.E. was all along living in Mr. Engesser's apartment.  The reasons people do things are complicated and without testimony to explain the document, Judge Colvin was reluctant to make inferences from it in light of credible testimony from Mr. E.  So, bottom line, Mr. E. won. 

I am always bemused when people complain about the needless complexity of the Tax Code.  Sure, it's complex.  Figuring whether H.E. was Mr. Engesser’s “qualifying child” is complex.  But much of the tax law's complexities simply reflect life's complexities, as this case illustrates.  Further, notice that Mr. E. was a custodian (and he eventually lost that job).  He's not a wealthy taxpayer.  Yet he must deal with this complexity himself or else find resources to pay for help.  Some boast that the EITC is so much more efficient than the welfare system it replaced.  But that is, I submit, a false efficiency because the initial administrative costs of the program have been shifted from the state to taxpayers.  Further, it leaves taxpayers to the mercies of that huge—and mostly unregulated—set of tax return preparers.  I leave that subject for a different day, a different Lesson From The Tax Court. 

Coda: The tax treatment of H.E. will continue to shadow Mr. Engesser for multiple tax years and will grow only more complicated in later tax years thanks to the state court order and whatever changing circumstances bring in his life. For example, while the state court order cannot control the proper tax treatment, it can control parties’ behavior. That is, in a year where the state court order says that Ms. Anthony can claim H.E. as a dependent, Mr. Engesser needs to sign a Form 8322 to allow her to do that, if H.E. is still sleeping in his apartment for the greater number of nights. If he does not give Ms. A. the From 8322, then she cannot claim H.E. as a dependent regardless of what the state court order says. But, at the same time, Mr. A. will arguably be in violation of the state court order!

Bryan Camp is the George H. Mahon Professor of Law at Texas Tech University School Thereof.

Bryan Camp, New Cases, Tax | Permalink


Fortunately, this won't be a problem for the years 2018 to 2025. The TCJA suspends exemptions for those years.

Posted by: Julian Block | Jun 11, 2018 7:30:37 AM

@Julian, Do you think it might still matter for (1) EITC determinations and (2) CTC determinations and (3) filing status and perhaps (4) education tax credits and also maybe (5) medical expense deductions?

Posted by: Bryan Camp | Jun 11, 2018 12:27:26 PM

Just one more illustration of why we need to get rid of every deduction and credit on page 2 of Form 1040. Dependency issues make corporate tax seem easy by comparison.

Posted by: Dale Spradling | Jun 12, 2018 6:46:18 AM

Bryan, small update. Last paragraph should state Form 8332 (not 8322). Nice article and highlights the difficulty us practitioners have explaining this mess to our clients.

Posted by: John Roth | Jun 12, 2018 7:31:44 AM

You write, 3. §152(c)(1)(C): Age test: H.E. had to be under 17 in 2014 or, if over 17, H.E. had to be a qualified student;
I believe this is an incorrect interpretation of the age requirements of a qualifying child .

(3) Age requirements
(A) In generalFor purposes of paragraph (1)(C), an individual meets the requirements of this paragraph if such individual is younger than the taxpayer claiming such individual as a qualifying child and—
(i) has not attained the age of 19 as of the close of the calendar year in which the taxable year of the taxpayer begins, or
(ii) is a student who has not attained the age of 24 as of the close of such calendar year.
(B) Special rule for disabled
In the case of an individual who is permanently and totally disabled (as defined in section 22(e)(3)) at any time during such calendar year, the requirements of subparagraph (A) shall be treated as met with respect to such individual.

Posted by: morris abraham | Jun 14, 2018 4:04:22 PM

@morris; right you are! And thank you for posting the entire section on the age requirement. I was trying to keep it simple

Posted by: Bryan Camp | Jun 14, 2018 7:11:38 PM