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ELLETT, VEVA M. (TRU) (2012)

Topic Code: C012 Capital Gains Deduction          Document Reference: 12201046

June 11, 2012

 

 

 

Veva M. Ellett (Deceased)

C/O Margaret Houseman

1724 7th St.

Perry, IA  50220

 

RE:   Veva M. Ellett (Deceased)

         Docket No.  2010-200-1-0148

         Individual Income Tax Protest

         Department Number 2010123700691

 

Dear Ms. Houseman:

 

The Review Unit of the Iowa Department of Revenue has considered your protest.  After reviewing the facts and evidence presented and the laws which apply to your protest, the Review Unit denies your protest for the following reasons:

 

For the years 2006 and 2007, Veva Ellett filed her Iowa individual income tax returns claiming the Iowa capital gains deduction for the investment income she received from Wells Fargo and Edward Jones.  The Department reviewed Ms. Ellettís 2006 and 2007 Iowa returns and determined that she was not entitled to claim the capital gains deduction for the capital gains she received on her investments.  An assessment was issued by the Department on January 13, 2010.  A protest was filed to the Departmentís assessment on March 24, 2010.  Based on the factual background concerning Ms. Ellettís health, the Review Unit has determined that the protest should be reinstated.

 

The issue in this matter is whether the instructions in the Departmentís tax booklets for 2006 and 2007 are written in such a manner as to confuse the public and cause them to take deductions to which they are not entitled.  The specific instruction in question relates to line 23 on the Iowa returns dealing with the capital gain deduction.  That instruction is as follows:

 

LINE 23.  This is a 100% deduction of qualifying net capital gains realized in 2006.  Capital gains from the sales of stocks, bonds and investment property do not qualify of the capital gains deduction even if sold the lineal descendants of the owners of the property.

 

The instruction for line 23 in the 2006 and 2007 instruction booklet also advises taxpayers that there is additional detail on the Departmentís website regarding the capital gains deduction.  The detailed instructions on the Departmentís website now specifically identify those capital gains which would qualify and not qualify for the capital gain deduction as follows:

 

Qualifying capital gains result from the sale of the following:

  1. Real property used in a business in which the taxpayer materially participated for 10 years prior to the sale, and which has been held for a minimum of 10 years immediately prior to its sale.
  2. A business in which the taxpayer was employed or in which the taxpayer materially participated for 10 years and which has been held for a minimum of 10 years immediately prior to its sale. The sale of a business means the sale of all or substantially all of the tangible personal property or service of the business which is intangible personal property such as client lists, goodwill, patents, trade names, and similar items. This means that the sale of the assets of a business during the tax year must represent at least 90% of the fair market value of all of the tangible personal property of the business on the date of sale of the business assets. Sale to an individual who is a lineal descendent of the taxpayer eliminates the requirement for material participation.
  3. Cattle and horses used for breeding, draft, dairy or sporting purposes and held for 24 months by the taxpayer who received in excess of 50% of his or her gross income from farming and ranching. Sale to an individual who is a lineal descendent of the taxpayer eliminates the requirement to have in excess of 50% of gross income from farming and ranching.
  4. Breeding livestock, other than cattle and horses, held for 12 months by the taxpayer who received in excess of 50% of his or her gross income from farming or ranching. Sale to an individual who is a lineal descendent of the taxpayer eliminates the requirement to have in excess of 50% of gross income from farming and ranching. Note: The cattle, horses, and other livestock that are excluded from taxation are the sales of the same classes of livestock that qualify for capital gain treatment under section 1231 of the Internal Revenue Code.
  5. Timber held by the taxpayer for more than one year. Timber includes evergreen trees, such as Christmas trees, that are more than six years old at the time they are cut and sold for ornamental purposes. ďTimberĒ means timber that qualifies for capital gain treatment under section 1231 of the Internal Revenue Code.

 

Non-Qualifying Capital Gains.

Capital gains from the sales of stocks, bonds, and investment property do not qualify for the capital gain deduction even if sold to lineal descendants of the owners of the property. Non-farm rental property may qualify. The Federal guideline applies for determining material participation for investment property. Capital gains from the sale of real property held for 10 or more years for speculation, but not used in a business, do not qualify for the deduction.


Departmental rule 701 IAC 40.38, also provides guidance in determining what capital gains qualify for the capital gains deduction.  A copy of Departmentís extended instructions for line 23 and a copy Departmental rule 40.38 are attached for your review.

The Review Unit finds that the assessment was correct. Your position relies on the Departmentís instructions for completing the tax return.  We found that you are not the only one that made this mistake, so our instructions now clarify that these types of capital gains do not qualify for the deduction as shown above.  In any event, the instructions are not controlling.  Our review of this case must follow the law and the administrative rules adopted by the legislature.  See Iowa Code § 422.7(21) and rule701 IAC 40.38.  Long ago the courts determined that exemption statutes are to be narrowly construed, with all doubt resolved in favor of the tax agency.  There is nothing in the statute or the rule that implies your investment income qualifies for the deduction.  This deduction is generally for the sale of a business, and the sale of real property and tangible personal property used in a business.  While the specific facts of your case have not been litigated, guidance can be found in the Iowa Supreme Court case of Ranniger v. Iowa Department of Revenue, No. 11 / 06-0761. 

 

The issue in this protest was addressed in the case In the Matter of Margaret Houseman, Docket No. 09-20-1-0301 (2011).  In that case, you accepted the Review Unitís determination.

 

Please respond in writing by July 13, 2012 whether you agree with the Review Unitís position.  If you agree, or choose not to pursue the protest, then your letter will serve as authority for the Review Unit to request the Director to close the protest. 

 

If you disagree with the Review Unitís position in this matter, then the Review Unit requests that you identify those areas of disagreement and provide documentation to support your position.  Upon receipt of your letter, the Review Unit will file an Answer, which will initiate the process for an administrative hearing on your protest.  A departmental attorney will be assigned to your protest at that time.

 

If no response is received by July 13, 2012, then the Review Unit will construe this inaction as failure to pursue the protest and will request dismissal of the protest pursuant to departmental rule 701 IAC 7.44(2).

 

If you have any questions regarding this matter, please do not hesitate to contact me.

 

Sincerely,

 

 

 

Dennis Schutt, Technical Tax Specialist

Policy and Communications Division

Audit Services Section

Telephone:    515-281-7994

Fax:              515-242-6040

Email:           Dennis.Schutt@iowa.gov