Court Ruling Important in Hobby Law Tax Cases

A tax law attorney said May 5 that a recent federal appeals court decision expanded the number of arguments attorneys can make when trying to make a case that a client is running a horse operation as a business as opposed to a hobby.

Speaking at the National Conference on Equine Law Thursday at Keeneland in Lexington, Robert Webb of Frost Brown Todd said an April 15 decision by the U.S. Court of Appeals for the Seventh Circuit that overturned a U.S. Tax Court decision will prove significant. In that decision, the appeals court determined that Indiana horseman Merrill Roberts' efforts to acquire land in 2005 to build a Thoroughbred training center was a business and not a hobby, as the tax court had previously determined.

Webb noted that U.S. Tax Court has used nine factors to determine if an operation is a business or a hobby. Webb said Roberts' operation clearly qualified as a business under the current nine factors but Webb said a significant part of the recent appeals court decision is that it allows for attorneys, who previously were limited to argue only those nine points, latitude to present other factors.

Webb sees that new latitude coming from the appeals court decision that said no single factor is determinative in defining a hobby as opposed to a business, and its determination that the nine factors aren't necessarily the only factors that can be taken into account.

"This is an advocacy opportunity because the court can use its own factors," Webb said. "If you can come up with your own factors for your specific case, the Tax Court is now free to look at it."

The significance with a "hobby" versus a business is how a taxpayer can deduct expenses. With a hobby, expenses can only be deducted against hobby profits and not against any other income. A business can deduct all ordinary and necessary expenses paid or incurred during a taxable year.

The nine factors the IRS has used to determine whether a taxpayer is truly conducting a business: the manner in which the taxpayer carries on the activity (maintaining complete and accurate records); expertise of the taxpayer or his advisors; time and effort expended; expectation of asset appreciation; success in conducting similar or dissimilar activities; history of income and loss; amount of occasional profit; financial status; and, elements of personal pleasure or recreation.

Webb said those last two factors have proven difficult when rich horse owners try to make the case that their horse operation is a business. 

"Horse racing is fun; it's hard to deny that," Webb said. "The IRS doesn't like fun. They don't want you to have fun. They want you to work and pay taxes, especially if you're wealthy."

Webb said the appeals court decision may soften the final factor. He found it positive for those in the horse industry that the recent appeals court ruling specifically determined that in Roberts' case, "It may have been a fun business, but fun doesn't convert a business to a hobby."

"You can enjoy yourself at the racetrack and still be running a business," Webb said. "That's what the Seventh Circuit court is saying." 

Earlier in the morning, American Horse Council president Jay Hickey predicted that if supporters of legislation that would see the United States Anti-Doping Agency provide oversight of medication policy, testing, and enforcement in Thoroughbred racing do not build industry consensus, the bill has little chance of advancing.

Hickey, who was providing a federal legislative update at the conference, said a Horse Caucus briefing on the Thoroughbred Horseracing Integrity Act of 2015 conducted April 28 in Washington D.C. provided good information and drew a solid audience but he predicted lawmakers would be reluctant to support a bill without industry consensus. The legislation has support from The Jockey Club, Breeders' Cup, many industry leaders through the Water Hay Oats Alliance, and some racetracks, but the major horsemen's groups have opposed the legislation.

"The industry has no consensus; in fact it's almost animosity," Hickey said, adding that lawmakers are reluctant to take a position under that scenario. "They don't want to put their arm out there and risk getting it chopped off by the other group."

Hickey said until the industry reaches consensus on any federal legislation, the AHC will not take a position.

Bob Curran, speaking on behalf of the Coalition for Horse Racing Integrity which is trying to rally support for the legislation, said supporters agree that the legislation has a better chance of advancing with more industry consensus and efforts to build that consensus continue.

"Since its inception last May, the Coalition for Horse Racing Integrity has been constantly and proactively enlisting support for this legislation and that has included considerable interaction with horsemen's groups along the way," Curran said. "Last fall, for example, some representatives of horsemen and regulators joined coalition members on a multi-day, fact-finding visit to the United States Anti-Doping Agency office in Colorado Springs. More recently, the Congressional Horse Caucus in Washington, D.C., last Thursday provided the opportunity for various industry representatives to share their thoughts on the need for reform and we were glad that Eric Hamelback of National HBPA was there to give the HBPA perspective.

"From the time the coalition was launched by its four founding members [Breeders' Cup Ltd., The Humane Society of the United States, The Jockey Club, and the Water Hay Oats Alliance], several other racing organizations, even other breeds, have joined our effort. They all share our goal: the adoption of a national, uniform standard for drugs and medication in American Thoroughbred racing, and the granting of rulemaking, testing and enforcement oversight to an entity created by the U.S. Anti-Doping Agency."