Welcome back, tax pros! In Expenses, Part I, we looked at the framework for business deductions and some common categories of expense for writers. I know some of you might have been frustrated by the lack of a clear-cut list for all your deductible business expenses, but that’s not how the Code works. It’s up to every business owner to determine—within allowable parameters—what is ordinary, necessary, and of reasonable cost in order to successfully run their company.
To help solidify this concept, let’s review a Tax Court case that is infamous in accounting circles for, well, reasons that will become obvious.
RALPH LOUIS VITALE v. COMMISSIONER
T.C. Memo. 1999-131
Facts of Case:
- Ralph Vitale wrote a novel about two men who travel to Nevada to visit brothels
- To conduct research, Vitale made many trips to Nevada and visited legal brothels as a customer
- Vitale made detailed notes of his visits to and interviews with the prostitutes, but kept little other records of administrative expenses.
The IRS contended that Vitale’s expenses were not “ordinary and necessary,” and that he lacked proper documentation of those expenses. The IRS also contended that Vitale was not in the business of being an author, but we’re only looking at the expense piece today.
The years in question were 1993 and 1994 (Oh, grunge…) and Vitale’s listed expenses were as follows:
| 1993 | 1994 | |
| ADVERTISING | – | 100 |
| COMMISSIONS AND FEES | 40 | 80 |
| OFFICE EXPENSE | 420 | 600 |
| SUPPLIES | 150 | – |
| TRAVEL | 4,230 | 9,195 |
| MEALS AND ENTERTAINMENT | 2,520 | 786 |
| UTILITIES | – | 657 |
| OTHER EXPENSES | 7,830 | 12,099 |
| TOTAL | 15,190 | 23,517 |
The Other Expenses category for 1993 was $4,350 for the publication of his brothel book and $3,480 in cash payments to prostitutes. In 1994, Other Expenses included payments for a computer, furniture, membership dues, more prostitute interviews, some tuition, and sponsorship of a race car team.
Vitale kept receipts for his travel expenses to Nevada, but couldn’t provide any documentation or testimony during trial to substantiate the other expenses. For the prostitute interviews, he had no receipts of the cash payments but did have account statements to support the credit card payments made for “out calls” in 1994. Vitale also kept a detailed log of the interviews he conducted with the prostitutes and noted which ones he ultimately used in his book.
The Tax Court’s Decision
First, the Court ruled that Vitale demonstrated sufficient profit motive and was in the business of being a writer. As such, he was entitled to deduct all ordinary and necessary expenses that would help his business succeed. The Court observed, however, that “deductions are strictly a matter of legislative grace, and (Vitale) bears the burden of providing supporting evidence to substantiate the deductions.” Since he did not provide any such evidence, the Court prohibited all of his unsupported deductions, granting Vitale only a deduction of $400 for both 1993 and 1994 for estimated office expenses.
Vitale did document his travel expenses and submitted his published book as evidence of the direct product of those expenses. The Court—and this is the part that shocked everyone in the US accounting world—allowed Vitale a deduction for his documented travel expenses. Based on his interview log, Vitale used three-fifths of his interviews in his novel. The Court used this percentage to allocate his travel expenses as 3/5 business and 2/5 personal, and allowed a 60% deduction of his travel expenses for the years in question.
And no, that didn’t include payments to the prostitutes. Despite the documentation Vitale maintained, and the undisputed fact that these interviews were necessary for him to write the book, the Court found these expenses inherently personal. Deductions for personal, living, or family expenses are never deductible, no matter how directly related they are to a taxpayer’s occupation.
“We find that the expenditures incurred by petitioner to visit prostitutes are so personal in nature as to preclude deductibility,” concluded the Court.
You can read the entire Tax Court opinion here.
The Vitale case is often referenced for having set limits on the deductibility of business expenses, and I hope you’ve found a few useful takeaways.
❍ Thoroughly document and substantiate your expenses
❍ Recognize the distinction and prorate between business and personal costs
❍ Some expenses, no matter how relevant to your work, are inherently personal. (Also titled: Don’t deduct payments to prostitutes.)
In the last section of the #TaxAdviceforWriters series, I’ll get into miscellaneous tax topics, including sales tax, tax planning vs. tax evasion (yes, there’s a difference), and the effects of the Tax Cuts and Jobs Act.
This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting services. Presentation of the material does not create a tax-professional-client relationship. The material is provided on an “as is” basis and is accurate and true to the best of my knowledge, but no representation or warranties of any kind are given about the material, and there may be errors, inaccuracies or omissions.
