John D. and Karen Beatty v. Commissioner , 106 T.C. No. 14 ( 1996 )

106 T.C. No. 14UNITED STATES TAX COURT
JOHN D. AND KAREN BEATTY, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent.
Docket No. 8273-94. Filed April 17, 1996.
P, an Indiana county sheriff, was required by State
statute to provide meals to the prisoners incarcerated in
the county jail. The costs of providing the meals were
borne by P. P received a meal allowance from the county on
a per meal basis at a specified rate established by the
State. P claims that he provided the meals to the county
prisoners as an independent contractor, and reported the
meal allowances received and costs incurred on a Schedule C.
R contends that P provided the meals to the county prisoners
as an employee of the county and must deduct such costs on a
Schedule A as employee business expenses. Held: The costs
of the meals constitute costs of goods sold and are taken
into account in the determination of P's gross income.
Consequently, under the circumstances of this case, it makes
no difference for Federal income tax purposes, whether P
provided the meals to the prisoners as an independent
contractor or county employee.
Stephen E. Arthur and Ronald M. Soskin, for petitioners.
Ronald T. Jordan, for respondent.
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DAWSON, Judge: This case was assigned to Special Trial
Judge Lewis R. Carluzzo pursuant to the provisions of section
7443A(b)(4) and Rules 180, 181, and 183.1 The Court agrees with
and adopts the Special Trial Judge's opinion, which is set forth
below.
OPINION OF THE SPECIAL TRIAL JUDGE
CARLUZZO, Special Trial Judge: Respondent determined a
deficiency in petitioners' 1991 Federal income tax in the amount
of $3,627. All of the issues that result from adjustments made
in the notice of deficiency have been resolved by the parties.
The issues that remain in dispute were raised in two amendments
to answer filed by respondent in connection with her claim for an
increased deficiency in the amount of $15,062. The primary issue
argued by the parties is whether petitioner John D. Beatty, as
the elected sheriff of Howard County, Indiana, provided certain
services to the county as an employee of the county or as an
independent contractor. This issue will sometimes be referred to
as the classification issue. The alternative issue, raised by
petitioner, is whether the costs of the meals constitute costs of
goods sold and are taken into account in determining petitioner's
gross income.
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the year in issue. All
Rule references are to the Tax Court Rules of Practice and
Procedure.
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FINDINGS OF FACT
Some of the facts have been stipulated and are so found.
The stipulation of facts and the exhibits attached thereto are
incorporated herein by this reference. During the year in issue,
petitioners were husband and wife and filed a joint Federal
income tax return. At the time the petition was filed,
petitioners resided in Greentown, Indiana. References to
petitioner are to John D. Beatty.
In 1986, petitioner was elected for a 4-year term, to
commence in 1987, to the position of county sheriff for Howard
County, Indiana. In 1990, petitioner was reelected to a second
4-year term which commenced in 1991. Prior to being elected
county sheriff, petitioner had been employed by Howard County in
various positions, including deputy sheriff, since 1971.
In addition to other responsibilities, a county sheriff in
the State of Indiana is required to take care of the county jail
and the prisoners incarcerated there. Ind. Code Ann. section 36-
2-13-5(a)(7) (Burns 1989).2 Included in this statutory
obligation is the sheriff's duty to feed the county prisoners,
which a county sheriff is required to do at his or her expense.
In return for feeding the county prisoners, a county sheriff is
entitled to receive a meal allowance from the county at a rate
not to exceed a statutory maximum amount per meal. Ind. Code
Ann. section 36-8-10-7 (Burns 1989). The specific allowance per
References to Indiana statutes are to the versions in
effect for the year in issue.
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meal is determined on an annual basis by the State Examiner of
the Indiana State Board of Accounts. Id. For the year 1991,
this amount was $1.05 per meal.
Beginning in 1987, petitioner assumed responsibility for a
prisoner meal program (the program) that had been established by
one of his predecessors several years earlier. Petitioner
continued to operate the program as it had been operated in the
past, making no substantive changes to the administration of the
program. The program was managed by a kitchen supervisor/cook
who was an employee of, and paid by, Howard County. The kitchen
supervisor/cook was responsible for preparing menus, ordering
food and supplies from vendors, receiving and inspecting
deliveries of food and supplies, cooking meals, serving meals to
prisoners, and keeping account of the number of meals served to
prisoners.
The number and the nutritional quality of meals served to
county prisoners were governed by standards established by the
Indiana Department of Corrections. The sanitary quality of the
kitchen facilities, food preparation techniques, and the food
provided to county prisoners were subject to standards imposed by
the Howard County Department of Health. Petitioner's duties in
connection with the program included approving menus, paying
vendors, and signing the required claim forms necessary to
receive payment of the meal allowances.
In order to receive the meal allowances, petitioner, on a
monthly basis, provided the county auditor with a statement
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listing the names of prisoners incarcerated in the jail and the
number of meals served to each prisoner. Once the statements
were certified as correct by the county auditor, the governing
Board of Commissioners authorized payment to be made to
petitioner. Because he was not required to do so, petitioner did
not provide the county auditor with substantiation or
verification of the actual costs incurred in feeding county
prisoners. Pursuant to the Indiana statutory scheme in effect
during the year in issue, petitioner was entitled to retain the
difference between the meal allowances he received from the
county for feeding the county prisoners and the costs he incurred
to do so.
In 1991, as county sheriff, petitioner received a $30,566
salary that was appropriately reported as wages on petitioners'
1991 Federal income tax return.3 In addition to his salary,
petitioner also received $109,952 as meal allowances from Howard
County for providing meals to the prisoners incarcerated in the
county jail.
Petitioner reported the $109,952 as gross receipts on a
Schedule C included with petitioners' 1991 Federal income tax
return. The Schedule C reflected that petitioner incurred cost
of goods sold in the amount of $68,540. It appears from the
Schedule C that the entire amount of the cost of goods sold was
composed of purchases made during the year, a conclusion that is
There is no dispute that the salary paid to petitioner as
county sheriff was paid to him as an employee of Howard County.
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also supported by reasonable inferences drawn from petitioner's
testimony. After reducing the gross receipts by the cost of
goods sold, petitioner computed his gross profit and gross income
from the prisoner meal program to be $41,412 and reported that
amount on the appropriate lines of the Schedule C. Because no
expense deductions were claimed on the Schedule C, $41,412 was
also reported as net profit. Petitioners included this $41,412
amount in the amount reported as business income on line 12 of
Form 1040 of their 1991 Federal income tax return.
OPINION
In her amendments to answer respondent has taken the
position that petitioner improperly reported the meal allowances
as income from a trade or business separate and apart from his
employment as Howard County sheriff. According to respondent, by
providing meals to the county prisoners, petitioner was
discharging a duty imposed upon him as a county employee, not as
the proprietor of a separate trade or business. Consequently,
respondent contends that the $109,952 received by petitioner as
meal allowances should be considered additional compensation paid
to petitioner as an employee of Howard County, and includable in
his income as such. Respondent further contends that any costs
incurred by petitioner in connection with the program should be
considered employee business expenses, deductible only as
miscellaneous itemized deductions on petitioners' Schedule A.
Respondent goes on to argue that if the meal allowances are
considered additional employee compensation, and the costs
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petitioner incurred in connection with the program are deductible
as employee business expenses, the provisions of section 67 (2-
percent floor on miscellaneous itemized deductions) and section
55 (alternative minimum tax) result in the increased deficiency
now claimed by respondent.
Petitioner maintains that he did not receive the meal
allowances in return for services provided to Howard County as an
employee, but rather as an independent contractor. According to
petitioners, the income and costs attributable to the program are
properly reportable, and were properly reported, on a Schedule C.
As an alternative, petitioners also argue that even if the meal
allowances were received by petitioner "in an employee capacity,
only the net profit earned * * * constituted gross income."
Although the parties paid some attention to the alternative
position advanced by petitioners, almost the entire record and
major portions of the briefs relate to the classification issue.
In their respective briefs, the parties discussed at length the
relevant factors that are usually considered in resolving such
issues. Judging from the way that the issues were framed and the
arguments presented, it is clear that the parties expect that the
classification issue must first be resolved before petitioners
correct 1991 Federal income tax liability can be determined.4
In her opening brief, respondent framed the classification
issue as follows:
Whether petitioner, John D. Beatty, as Sheriff of Howard
County, Indiana, was an employee for purposes of I.R.C.
sections 62 and 67, thereby subjecting his trade or business
expenses for 1991 to the two percent floor for miscellaneous
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The parties have proceeded in this case upon the apparent
assumption that the costs petitioner incurred in connection with
the program constitute, within the meaning of sections 62 and
162(a), either trade or business expenses (if the classification
issue were resolved in petitioners' favor), or employee business
expenses (if the classification issue were resolved in
respondent's favor). After carefully considering their arguments
in the context of the record, it would appear that the parties'
views of the forest have been blocked by the trees.
Both parties have ignored the simple fact that petitioner
did not claim any section 162(a) deductions with respect to the
program. Petitioner did report cost of goods sold on the
Schedule C. However, the elements included in a computation of a
taxpayer's cost of goods sold do not fall within the category of
expenses deductible pursuant to section 162(a).5
itemized deductions or, as contended by petitioner, he was
self-employed with respect to the services he performed as
Sheriff of Howard County related to the prisoner meal
program. If petitioner was self-employed his expenses
associated with the prisoner meal program are deductible on
Schedule C.
Although petitioners did not expressly recite specific issues in
their opening brief, see Rule 151(e)(2), it is clear from a
review of their brief that petitioners agree with respondent's
statement.
We do not rely exclusively on petitioner's Schedule C to
establish the amount of the cost of goods sold incurred by
petitioner in connection with the program. As a general rule we
regard the treatment of an item on a return as little more than
the taxpayer's claim with respect to the item. See Roberts v.
Commissioner, 62 T.C. 834, 837 (1974); Seaboard Commercial Corp.
v. Commissioner, 28 T.C. 1034, 1051 (1957). In this case the
parties have stipulated that petitioner incurred costs in the
amount reported as costs of goods sold, and respondent has
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This Court has consistently held that the cost of goods sold
is not a deduction (within the meaning of section 162(a)), but is
subtracted from gross receipts in the determination of a
taxpayer's gross income. Max Sobel Wholesale Liquors v.
Commissioner, 69 T.C. 477 (1977), affd. 630 F.2d 670 (9th Cir.
1980); Sullenger v. Commissioner, 11 T.C. 1076, 1077 (1948); see
sec. 1.61-3(a), Income Tax Regs. With respect to the
determination of petitioners' 1991 Federal income tax liability,
the critical question is not how petitioner must treat deductions
allowable under section 162(a) after the classification issue has
been resolved, but rather what petitioner's gross income from the
program was in the first instance.6
Limiting our inquiry in this manner, the parties' arguments
with respect to the classification issue and treatment of the
related section 162(a) deductions simply have no application
because no such deductions were claimed. Because section 162(a)
deductions are not involved, and because the parties agree that
the tax imposed by section 1401 (additional tax imposed upon
earnings from self-employment) is not applicable, it makes no
offered neither evidence nor argument that petitioner has
improperly included such costs in the computation of the reported
cost of goods sold.
Petitioners touched upon this concept in their alternative
argument. However, their position that only the net profit
petitioner earned from the program is includable in their gross
income, as a general proposition of law, is simply incorrect.
Furthermore, their argument was not based upon the proper
treatment of cost of goods sold, but rather upon case authority
that, for the reasons contained in respondent's reply brief, does
not support the argument.
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difference in this case whether petitioner reports the income
from the program as an independent contractor or as an employee
of Howard County. Consequently, we decline to address the
question whether petitioner acted as an employee or independent
contractor of Howard County with respect to the program. Under
the circumstances of this case, such a distinction gives rise to
no Federal income tax consequences.
As we view the case, the determination of petitioner's 1991
gross income from the program is all that is necessary to resolve
the controversy between the parties, and that income is easily
determined. It is $41,412, computed by subtracting cost of goods
sold from the gross receipts petitioner received with respect to
the program. That was the amount petitioner was required to
report, and did report, on his 1991 Federal income tax return.
To reflect the foregoing and the settled issues,
Decision will be entered
under Rule 155.