The opinion
IN THE OREGON TAX COURT
MAGISTRATE DIVISION
Corporate Excise Tax
UNIVERSAL EDI CORP., )
)
Plaintiff, ) TC-MD 120373D
)
v. )
)
DEPARTMENT OF REVENUE, )
State of Oregon, )
)
Defendant. DECISION
Plaintiff appeals Defendant’s Notices of Proposed Adjustment and/or Distribution, dated
March 1, 2012 and March 7, 2012, for tax years 2007, 2008 and 2009. A trial was held in the
Oregon Tax Mediation Center, Salem, Oregon on March 12, 2013. Andre Roode (Roode),
President, Universal EDI Corporation, appeared and testified on behalf of Plaintiff. Celita Holt
(Holt), Senior Tax Auditor, Oregon Department of Revenue, appeared and testified on behalf of
Defendant.
Plaintiff’s Brief (pages 1 through 11) and Exhibits 1 through 6 and Defendant’s Exhibit
B, page 17, and Exhibit G pages 2 and 15-16, and Exhibits I, L, M, O, R, S and W1 were
received without objection.
Defendant filed a Motion for Protective Order on February 22, 2013, stating that
“[b]ecause Defendant’s exhibits contain protected information exempt from public disclosure
under the public records law, Defendant requests that all exhibits in this case be segregated from
the file and not disclosed to the public under a Protective Order authorized by ORS 305.430(3).
Defendant’s Motion for Protective Order is granted with respect to Defendant’s Exhibits that
were admitted.
1
Defendant exchanged additional exhibits, but they were not offered as evidence.
DECISION TC-MD 120373D 1
I. STATEMENT OF FACTS
The parties stipulated:
“a. [Plaintiff] provided transaction processing services (orders, invoices,
etc.) to businesses in 5 time zones
“b. Processed time-sensitive transactions in its data center
“c. Competed against large national firms which operated data centers
around the clock
“d. Had premises at 130 SW Woods St where the data center was located
and all work was performed
“e. Had one full time employee
“f. Offered more than 5 software products and related services which are
unique to the firm
“g. Was not required to have a written contract for rent.”
(Ptf’s Brief at 4.) During tax years 2007, 2008 and 2009 Plaintiff recorded its books and records
on a cash basis.
Roode testified that
“[i]n order to compete against large and well-funded national firms we have to
offer unique solutions – which requires proprietary software. * * * This
struggling corporation’s customers obviously require it to run a 24 hour data
center, 365 days per year. Doing that without having its one full-time employee
living on the premises is clearly not practical.”
Roode testified that his “bed is 12 feet from a server.” Roode referenced Exhibits 1 and 2,
testifying that “processes * * * run at all hours of the day and night – translating and transmitting
transactions from large corporations such as Target, Wal-Mart, Home Depot, Kroger, Amazon,
etc. All of which obviously process and transmit transactions around the clock, year-round.”
(Ptf’s Brief at 5.) Roode testified that Plaintiff “qualifies for a section 119 lodging deduction.”
In Plaintiff’s Brief, Roode stated “that the corporation did not pay these Rent amounts during the
tax years in question – it simply did not have the resources to do so – it is also true that since
DECISION TC-MD 120373D 2
then both the corporation and the recipients have filed amended returns to the IRS & the Oregon
Dept. of Revenue showing these Rent figures.” (Id. at 6.) Roode stated in his Brief that he paid
for repairs and maintenance, utilities and business premises insurance for Plaintiff’s data center
(which was his personal residence) and all of those expenses should be deductible by Plaintiff.
Holt stated that Plaintiff did not submit any evidence showing that the amended federal
income tax returns for tax year 2007, 2008 and 2009 were received by the Internal Revenue
Service and the “1040X she reviewed for one year adjusted Plaintiff’s income for royalties, but
not rent.” Holt testified that the Oregon Department of Revenue did not accept Plaintiff’s
amended state income tax returns. She referenced Exhibit R, stating that the Lease Agreement
between Plaintiff and Roode was not entered into until June 2011 and stated that the terms of the
tenancy began January 1, 2007, was renewable annually, and annual rent was $18,000. (Def’s
Ex R at 1.) Holt disputed that the rental expense is an “ordinary and necessary expense,” stating
there is no evidence showing that “24-7 coverage” is “necessary.”
Roode testified that Plaintiff is entitled to a deduction for meals paid to its employee. In
his Brief, Roode wrote:
“Meals on the Business Premises are allowed based on the specific
language in 26 USCS § 199 when the meals are provided for a substantial
noncompensatory business reason. The fact that [] an employee is on call is
specifically mentioned as such a reason in the Treasury Regulations.”
(Ptf’s Brief at 6.2) Roode concluded that “[g]roceries are deductible according to UNITED
STATES COURT OF APPEALS In Jacob v. US (1974)” and are a “direct operating cost.” (Id.
at 6-7.)
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2
Plaintiff incorrectly cites to the United States Code and failed to include a reference to the edition cited. It
is unclear if Plaintiff intended to cite the official United States Code, or is citing an unofficial source.
DECISION TC-MD 120373D 3
Roode testified that Plaintiff is entitled to claim “compensation to officers.” In his Brief,
Roode wrote:
“While it is true that the corporation did not actually spend these
Compensation amounts during the tax years in question, it is also true that since
then the corporation has filed and paid all the State and Federal payroll-related
reports, paid all the payroll taxes, and all the penalties and interest due to late
payment and late filing of payroll reports. Also, the recipient has not only paid
taxes on these Wages, but also penalties and interest due to late payment of taxes.
To roll back all those transactions at this point is both onerous and unreasonable.
The tax code specifically allows deductions if there are matching receipts which
have been reported, and on which taxes have been paid, see 26 USCS § 267. Also
see § 167(a)(1) which provides that the taxpayer’s business expenses shall include
a ‘reasonable allowance’ for salaries and other compensation.”
(Ptf’s Brief at 7.) Holt testified that because the salaries were not paid in 2007, 2008 and 2009
Plaintiff is not entitled to the deduction in those years, citing Internal Revenue Code section 461
and ORS 305.217.
Roode testified that Plaintiff is entitled to claim a deduction for automobile mileage.
Even though a contemporaneous log was not maintained, Roode testified that
“[w]here records are incomplete or documentary proof is unavailable, it may be
possible to establish the amount of the expenditures by approximations based on
reliable secondary sources of information and collateral evidence. * * * Direct
operating costs obviously include the cost of groceries, and the cost of procuring
those groceries – in other words trips to the supermarket. There is no dispute that
these trips were made – they are all documented on reliable secondary sources of
information.”
(See Ptf’s Brief at 8, Exs 4, 5, 6.) Holt testified that the odometer reading for the reported
corporate vehicle was “adjusted” to reflect the disallowance of mileage reported to Troutdale,
Banks and Sherwood and mileage reported to Trader Joe’s and Safeway was substituted. (See
Def’s Ex O.) She testified that it appears Plaintiff is claiming “actual mileage” and “a mileage
allowance,” referencing Defendant’s Exhibits B, page 17, and M.
Roode testified that he is entitled to royalties for the software he is allowing Plaintiff to
use. In his Brief, Roode stated:
DECISION TC-MD 120373D 4
“While it is true that the corporation did not pay these Royalties amounts
during the tax years in question – it simply did not have the resources to do so – it
is also true that since then both the corporation and the recipients have filed
amended returns to the IRS & the Oregon Dept. of Revenue showing these
Royalties figures. More importantly, the recipients have not only paid taxes on
these amounts, but also penalties and interest due to late payment of taxes. To
roll back all those transaction at this point is both onerous and unreasonable. The
tax code specifically allows deductions if there are matching receipts which have
been reported, and on which taxes have been paid, see 26 USCS § 267.”
(Ptf’s Brief at 9.) Roode testified that he has copyrights on the software. Holt disputed the
applicability of Internal Revenue Code section 267 to Plaintiff, a “cash basis taxpayer.”
Roode testified that Plaintiff is entitled to claim a deduction for office supplies. Roode
testified that “the numbers provided above were paid during the tax year.” (See Ptf’s Brief at
10.) Holt testified that she does not agree that the amount claimed by Plaintiff was substantiated,
citing Defendant’s Exhibit L, page 15, and noting that the “amended return” claimed less than
the total without explaining the difference.
Roode disputed Defendant’s proposed adjustment of constructive dividend. (Ptf’s Brief
at 11.) He wrote:
“The real-world annual costs of running a business such as this in an arm’s
length manner are approximately $235,000 (Total Deductions + Reasonable
Salary) as can be seen from the above table. [A “table” was not included.] The
corporation’s capital and cash flow during these tax years clearly could not
possibly cover those ordinary and necessary expenses, and therefore its expenses
had to be subsidized. To impute Constructive Dividends is such a situation makes
a mockery of the concepts of fairness and justice.”
In response, Holt cited Internal Revenue Code sections 301 and 316 and her audit report. (Def’s
Ex G at 15-16.)
II. ANALYSIS
“The Oregon legislature intended to make Oregon personal income tax law identical to
the Internal Revenue Code (IRC) for purposes of determining Oregon taxable income, subject to
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DECISION TC-MD 120373D 5
adjustments and modifications specified in Oregon law. ORS 316.007.” Ellison v. Dept. of Rev.,
TC-MD No 041142D, WL 2414746 at *6 (Sept 23, 2005) (citations omitted).
The threshold issue before the court is whether Plaintiff can claim deductions for
expenses when it did not actually disburse funds in payment of the expense to be claimed as a
deduction. Under the cash receipts and disbursements method of accounting, amounts
representing allowable deductions shall, as a general rule, be taken into account for the taxable
year in which paid. Treas Reg § 1.461-1(a)(1). It is well established by case law that a cash
method taxpayer cannot pay an amount by executing a note. See e.g., Baltimore Dairy Lunch v.
U.S., 231 F2d 870, 875 (8th Cir 1956) (salary paid by note did not give rise to current deduction).
A check does constitute payment.
In the case before the court, there was no evidence of payments (by check or cash) by
Plaintiff for the claimed expenditures in 2007, 2008 and 2009. Roode testified that none of the
claimed deductions for compensation, rent, royalties, office supplies, mileage, meals, insurance
and repairs and maintenance were paid by Plaintiff in the tax years at issue. Roode testified that
Plaintiff “simply did not have the resources to do so.”
Roode alleges that if he is willing report the amounts claimed by Plaintiff as income on
his personal return Plaintiff should be entitled to claim the deductions even if there were no
payments. In effect, Roode concludes that the doctrine of constructive receipt springs forth the
corollary of constructive payment. Case law states that “what may be income to the one, may
not be deductible payment to the other.” Citizens Federal Savings & Loan Ass’n v. Comm’r, 30
TC 285, 292 (1958) , acq 1958-2 CB 4. In Vander Poel, Francis & Co v. Comm’r, 8 TC 407
(1947), the Tax Court held that a cash basis taxpayer could not deduct salary constructively
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DECISION TC-MD 120373D 6
received by its officers, stating that constructive payment did not follow from constructive
receipt.
Roode incorrectly concludes that Internal Revenue Code section 267 is applicable to the
facts of this case, stating: “The tax code specifically allows deductions if there are matching
receipts which have been reported, and on which taxes have been paid, see 26 USCS § 267.”
IRC § 267(2)3 states:
“If –
“(A) by reason of the method of accounting of the person to whom
the payment is to be made, the amount thereof is not (unless paid)
includible in the gross income of such person, and
“(B) at the close of the taxable year of the taxpayer for which (but
for this paragraph) the amount would be deductible under this
chapter, both the taxpayer and person to whom the payment is to
be made are persons specified in any of the paragraphs of
subsection (b),
then any deduction allowable under this chapter in respect of such amount
shall be allowable as of the day as of which such amount is includible in
the gross income of the person to whom the payment is made (or, if later,
as of the day on which it would be allowable, but for this paragraph.)”
Internal Revenue Code section 267 specifically states that if, by reason of the payee’s accounting
method, the payment is not includible in the payee’s gross income (unless paid), and at the close
of the payer’s taxable year in which payment would be deductible, the payor and payee are
considered related under section 267, then no deduction is permitted to the payor. There is no
provision that Internal Revenue Code section 267 limits a deduction of a payment between
related taxpayers if the related parties are using the same method of accounting. Plaintiff
submitted no evidence that it and Roode are not using the same method of accounting or that
3
All references to the IRC are to 2007. Because the appeal involved multiple tax years governed by
different IRC editions, the court will, for ease of reference, cite to the 2007 edition. There are no material
differences between the editions applicable to the tax years at issue.
DECISION TC-MD 120373D 7
Plaintiff and Roode are related taxpayers under section 267. There is no evidence supporting a
conclusion that Internal Revenue Code section 267 is applicable to this case.
Plaintiff disputes Defendant’s proposed constructive dividend adjustment. Plaintiff
submitted no evidence showing that Defendant’s proposed adjustment is in error. Plaintiff’s
claim that such an adjustment “makes a mockery of the concepts of fairness and justice” was not
substantiated with documentation or applicable tax law.
III. CONCLUSION
After careful review of the testimony and evidence, the court concludes that Plaintiff
cannot claim a deduction for expenses in 2007, 2008 and 2009 when funds (e.g., cash or check)
were not disbursed. Now, therefore,
IT IS THE DECISION OF THIS COURT that Plaintiff’s appeal is denied.
IT IS FURTHER DECIDED that Defendant’s Motion for Protective Order is granted
with respect to Defendant’s Exhibits that were admitted.
Dated this day of May 2013.
JILL A. TANNER
PRESIDING MAGISTRATE
If you want to appeal this Decision, file a Complaint in the Regular Division of
the Oregon Tax Court, by mailing to: 1163 State Street, Salem, OR 97301-2563;
or by hand delivery to: Fourth Floor, 1241 State Street, Salem, OR.
Your Complaint must be submitted within 60 days after the date of the Decision
or this Decision becomes final and cannot be changed.
This Decision was signed by Presiding Magistrate Jill A. Tanner on May 21,
2013. The court filed and entered this Decision on May 21, 2013.
DECISION TC-MD 120373D 8