Taxpayer is an Indiana business in the medical industry. As
the result of an Indiana adjusted gross income tax ("AGIT") audit
covering the tax years 2007 and 2008 ("Audit Years"), the Indiana
Department of Revenue ("Department") determined that Taxpayer had
over-reported its net operating losses ("NOLs") dating back to 1994.
This determination resulted in a reduction of available NOLs but did not result
in assessments of additional AGIT for the Audit Years.
…
Taxpayer protests the Department's reduction of NOLs as
Taxpayer claimed them for the tax years 1994-2008. The Department based its
determination on the fact that Taxpayer included lease payments which it had
not actually made in its loss calculations. Taxpayer was and is a wholly-owned
subsidiary of a hospital ("Parent"). Parent leased physicians to
Taxpayer, but Taxpayer could not provide documentation to establish that it had
actually paid the lease amounts to Parent. The fact that Parent paid the
physicians without being paid by Taxpayer formed the basis of the Department's
adjustments. Taxpayer protests that Parent "contributed" the amount
of lease payments not made by Taxpayer to Taxpayer's business, thereby
constituting capital contributions to Taxpayer. Taxpayer cites to several
federal court cases in support of its position.
...
Taxpayer believes that I.R.C. § 162(a) supports its position
that the physicians' salaries are properly deductible on the basis that those
salaries were incurred during the years at issue even if Taxpayer did not pay
them in those years. The Department does not agree with this conclusion since
the expenses in question were never paid by Taxpayer. Parent paid the
physicians and Taxpayer was supposed to pay Parent a leasing fee for the
physicians' services. Taxpayer never paid parent those leasing fees.
The Department is not convinced Taxpayer may rely on I.R.C.
§ 162. As I.R.C. § 162(a) plainly states:
There shall be allowed as a deduction all the ordinary and
necessary expenses paid or incurred during the taxable year in carrying on any
trade or business, including–(1) a reasonable allowance for salaries or other
compensation for personal services actually rendered.
The Department refers to Black's Law Dictionary, 768 (6th ed. 1990),
which defines "incur" as: To have liabilities cast upon one by act or operation of
law, as distinguished from contract, where the party acts affirmatively. To
become liable or subject to, to bring down upon oneself, as to incur debt,
danger, displeasure and penalty, and to become through one's own action liable
or subject to.
Next, the Department refers to Black's Law Dictionary, 577
(6th ed. 1990), which defines "expense" in relevant
part as: That which is expended, laid out or consumed. An outlay;
charge; cost; price. The expenditure of money, time, labor, resources, and
thought. That which is expended in order to secure benefit or bring about a
result.
After reviewing these two definitions, the Department
concludes that Taxpayer does not qualify for the deduction found under I.R.C. §
162. Taxpayer did not "incur" or pay the amounts at issue since it
neither had liabilities cast upon it by act of law nor became liable or subject
to debt, etc., as provided by contract. While there was a physician services
agreement between Taxpayer and Parent, that agreement does not provide for
conversion of amounts due from Taxpayer to Parent into capital contributions.
Taxpayer did not make physician lease payments to Parent, therefore Parent
incurred a loss. Also, Taxpayer had neither an outlay, charge, cost, or price,
nor did it have an expenditure of money, time, labor, resources, or thought.
Taxpayer did not make physician lease payments, therefore Taxpayer had no
"expense." I.R.C. § 162 requires that a taxpayer have expenses paid
or incurred in order to claim a deduction. Taxpayer had neither.
Taxpayer also refers to several Federal-level sources in
support of its position that it is entitled to include payments which it agreed
to make to Parent, but which it did not actually make, in its NOL calculations.
In Specialty Restaurants Corp. & Subs v. Comm'r of Internal Revenue, T.C.
Memo 1992-221, 1992 WL 73543 (U.S. Tax Ct. 1992), the United States Tax Court
considered the status of payments made by a parent entity to the pre-business
opening operations of its subsidiaries. The court wrote:
Furthermore, creation of the subsidiaries provided distinct
advantages, including limited liability and compliance with State liquor laws.
The choice of the advantages of incorporation to do business requires the
acceptance of tax disadvantages. Commissioner v. National Alfalfa Dehydrating and
Milling Co., 417 U.S. 134, 142 (1974); Moline Properties, Inc. v. Commissioner,
supra. Consequently, the expenses in question were not properly deductible by
the parent corporation, but represented a contribution to the capital of the
subsidiaries. Accordingly, Specialty and its subsidiaries must be taxed as
separate entities, and the expenses in question can only be deducted by the
subsidiaries, if at all.
Id. 3-4. (Emphasis added).
...
Taxpayer believes that this supports its claim that its
non-payments of physician licensing fees to Parent constitute capital
contributions by Parent to Taxpayer. Taxpayer is incorrect. As the court
explained, the only reason the parent entity's expenses were considered capital
contributions was that its subsidiaries had not commenced business operations.
If the subsidiaries had been open for business, the amounts in question would
have been, ". . . deducted by the subsidiaries, if at all." Id. at 4.
In the instant case, Taxpayer is the subsidiary and was open
for business. Therefore, the lease payments would have been expenses for
Taxpayer. Parent leased physicians to Taxpayer, but Taxpayer did not pay the
lease fees due to Parent. Since Taxpayer did not incur expenses, Taxpayer may
not deduct those amounts as losses.
Finally, Taxpayer states that the Department may not adjust
its NOLs beyond the federal provisions. In Alemasov v. Comm'r, T.C. Memo.
2007-130, 2007 WL 1484527 (U.S. Tax Ct., 2007), the court reviewed the
petitioner's claim that business expenses shown on petitioner's tax return were
paid or incurred during the taxable year and that the expenses were
"ordinary and necessary" to the petitioner's business under I.R.C. §
162(a). Id. at 2. In reviewing petitioner's claims, the court noted that any
deductions are a matter of legislative grace, and the petitioner had the burden
of proving entitlement to any claimed deduction including the burden of
substantiation. Id. In the instant case, the Department reviewed the deductions
taken by Taxpayer and determined that they were not "incurred"
"expenses" for Taxpayer's business, as required by I.R.C § 162(a),
thus those amounts were not properly deducted from Taxpayer's federal AGIT as
provided by I.R.C. § 63(a).
Taxpayer refers to several other sources in support of its
protest, but the Department finds them equally unpersuasive. The Department
finds no provision in the Internal Revenue Code which provides for a party to
claim payments which were never made as losses. Since Taxpayer was unable to
refer to any source which states that a taxpayer is eligible to claim a loss on
payments which were never made, the Department's original net operating loss
adjustment was correct.
