Friday, August 31, 2007

Tax Attorney: Trading stocks can be a "business"

Even though the investor in this case did not qualify as having been engaged in a business, the Court outlined the standards it uses in determining whether the person's stock activities is a business activity.

Stanley C. Cameron v. Commissioner.Dkt. No. 21726-05 , TC Memo. 2007-260, August 30, 2007.[Appealable, barring stipulation to the contrary, to CA-10. --

Investors and traders. --
A taxpayer's stock, option and futures trading activities did not rise to the level of a trade or business; therefore, the expenses he incurred were not business expenses. The taxpayer also failed to establish that his expenses were incurred for the production of income. During the two years at issue, there were only two months during which the taxpayer conducted trading activity on more than ten days. The taxpayer's trading activities were not frequent, regular or continuous enough to cause the taxpayer to be in the trade or business of being a trader; instead, he was an investor. Moreover, during one of the years, the taxpayer collected unemployment insurance, which further demonstrated that he was not in a trade or business. The taxpayer's deduction of "continuing education" expenses for supplies, books, software, online services, and costs of travelling to and attending classes and seminars was denied because he did not demonstrate that these expense were incurred for the production of income. The seminar and class expenses were also disallowed under FINDINGS OF FACT
Some facts have been stipulated and are so found. The stipulated facts and the exhibits submitted therewith are incorporated herein by this reference. Petitioner resided in Colorado Springs, Colorado, when his petition was filed.
Petitioner holds a bachelor's degree in accounting and began investing in the stock market in 2001. In 2002, he developed software as an employee of Analysts International and was paid wages of $28,543. In January 2002, he suffered severe injuries from a car accident which left him unable to work for 4 months. In August 2002, he received a settlement of $71,553 (after the payment of legal fees and other expenses) as to the accident. Afterwards, he ceased his employment and began trading in the market to a greater extent. He purchased software and opened brokerage accounts to enable him execute trades quickly.
Petitioner's 2002 trading activity was conducted through Datek, a brokerage subsequently acquired by Ameritrade. In 2002, petitioner made 46 purchases totaling $26,108 and 14 sales totaling $17,004. At the close of 2002, his brokerage account was worth $11,774. On a Schedule D, Capital Gains and Losses, attached to his 2002 Federal income tax return, petitioner reported that he had realized a $2,127 capital gain from 11 sales. As reported, six transactions had a holding period of less than 61 days, and three of the transactions had a holding period of less than 31 days. The holding periods of the remaining 2 of the 11 transactions were not available. The proceeds received on each of the transactions ranged from a high of $5,739 to a low of $529.
Petitioner also included with his 2002 tax return a Schedule C, Profit or Loss from Business, reporting that he had a sole proprietorship named "Cameron Enterprises", the principal business of which was "Cameron Trading". The 2002 Schedule C reported that the business had received gross income of ($18), after taking into account $59 for cost of goods sold reported as a withdrawal for petitioner's personal use.1 The Schedule C reported that the business paid $200 for "office expenses", $28 for "supplies", and $12,211 for "continuing education". Petitioner's 2002 tax return reported that petitioner was entitled to deduct the $12,457 business loss (negative $18 of gross income less the sum of $200, $28, and $12,211) to arrive at his gross income.
In 2003, all of petitioner's trading activity was conducted through Datek/Ameritrade, OptionsXpress, and Trade Station Securities, Inc. In 2003, petitioner made 109 purchases totaling $79,409 and 103 sales totaling $89,204. His brokerage account at the end of 2003 was worth $10,287, and his futures account was worth $2,541. On his 2003 Schedule D, he reported 65 sales totaling $88,799. He also reported on Form 6781, Gains and Losses from section 12562 contracts marked to market. Petitioner held 30 futures contracts for 1 to 30 days. He held 21 futures contracts for 31 to 60 days. He held seven futures contracts for 60 to 90 days. He held seven futures contracts for 91 to 180 days. Petitioner's 2003 Schedule C for Cameron Enterprises reported that its "principal business or profession" was "SERVICE MARKET TRADI". The Schedule C reported no income from the business and expenses totaling $8,797. The expenses consisted of $959 for travel, $6,043 for continuing education, and $1,795 for "ongoing services". Also in 2003, petitioner reported receiving unemployment compensation of $11,971.
During the years at issue, petitioner did not conduct trades 5 days a week. Of the years at issue, there were only 2 months in which petitioner conducted trading activity on more than 10 days. On the days he was not conducting trades, petitioner was maintaining a cash position.
Petitioner's continuing education expenses for 2002 and 2003 were attributable to his attending seminars related to his trading activities. These expenses consisted of amounts spent on supplies, books, journals, computer software, online services, classes, seminars, travel, and meals.
Respondent determined in the notice of deficiency that the $200 and $28 expenses deducted for 2002 were deductible under section 162(a). Respondent argues that petitioner did not trade his securities in a trade or business and, to the extent that his expenses are deductible, they are deductible as "below the line" deductions pursuant to 3
In determining whether a taxpayer's trading activities constituted a trade or business, courts have distinguished between "traders" and "investors". Moller v. United States , 721 F.2d 810, 813 (Fed. Cir. 1983); see also Levin v. United States, 220 Ct. Cl. 197, 597 F.2d 760, 765 (1979). Management of securities investments, regardless of the extent and scope of such activity, is seen as the work of a mere investor, "not the trade or business of a trader." Estate of Yaeger v. Commissioner, supra at 34; see also Whipple v. Commissioner, 373 U.S. 193, 202 (1963); Higgins v. Commissioner, supra at 217; Paoli v. Commissioner, supra; Beals v. Commissioner, T.C. Memo. 1987-171. This result is the same notwithstanding the amount of time the individual devotes to the activity. Mayer v. Commissioner, supra. Even "full-time market activity in managing and preserving one's own estate is not embraced within the phrase `carrying on a business,' and * * * salaries and other expenses incident to the operation are not deductible as having been paid or incurred in a trade or business." Commissioner v. Groetzinger , supra at 30. Instead, an investor's expenses may be deductible under 4 As to the first requirement, we find petitioner's trading activity was not substantial. Courts consider the number of executed trades in a year and the amount of money involved in those trades when evaluating whether a taxpayer's trading activities were substantial. See, e.g., Mayer v. Commissioner, supra; Paoli v. Commissioner, supra. In Paoli, the Court held trading activities were substantial when the taxpayers traded stocks or options worth approximately $9 million. In Mayer, the Court considered over 1,100 executed sales and purchases in each of the years at issue there to be substantial trading activity. Trading activity was found to be insubstantial when a taxpayer executed at most 83 purchases and 41 sales in one year and 76 purchases and 30 sales in the second year. Moller v. United States , supra at 813.
In 2002, petitioner's trading activity consisted of 46 purchases and 14 sales. In 2003, he completed 109 purchases and 103 sales. During the years at issue, petitioner did not trade 5 days a week. Of the years at issue, he traded on more than 10 days in a given month only twice. We also note that petitioner's collecting unemployment compensation during 2003 further undermines his argument that he was engaged in a trade or business during that year. We conclude that petitioner was not engaged in a trade or business of trading securities during the years at issue and thus that his expenses related to his trading activities are not deductible under section 274(h)(7), which disallows any deduction under Decision will be entered for respondent.1 With the exception of this $59 withdrawal, the Schedule C reports no item for cost of goods sold.2 Unless otherwise indicated, section references are to the Internal Revenue Code, and Rule references are to the Tax Court Rules of Practice and Procedure.3 Under sec. 7491, and we find that section is inapplicable to this case.4 In contrast to trade or business expenses, a taxpayer's investment-related expenses that are deductible under sec. 67(a) and do not reduce alternative minimum taxable income.

Alvin S. Brown, Esq

Tax attorney

703 425-1400 ex 106

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