IRS Loses Battle with Entrepreneurs

A recent Tax Court decision held that investors in certain businesses could deduct losses associated with those businesses against salary and investment income. This decision goes against a long-standing position taken by the IRS that such losses could only be deducted against future profits of that particular business, which in many cases prevented the investor in the business from ever using the deductions. Although the decision specifically applies to investors in limited-liability companies and limited partnerships and benefits those who actively work in several businesses, it should have a broad application to many business investment situations.

The following example will show the benefit of this decision. Assume that an investor in several businesses earns $150,000 in salary from his main job. He also is an investor in another business which experiences a $75,000 loss for the year. Based upon the previous IRS position, the investor would have taxable income of $150,000 but based upon the Tax Court decision, the investor would only have taxable income of $75,000 since the losses from the other business would be deducted from the investor’s salary. This should turn out to be a significant tax benefit for investors and will encourage more individuals to invest in start-up and recently formed businesses. Keep in mind that the IRS may appeal this ruling. If you have any questions about how this decision might affect your tax situation, please contact our office.

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