The Masters deduction, also known as the Augusta exemption, is a provision of the U.S. tax code (section 280A(g)) that offers homeowners the opportunity to earn income from renting out their homes for a short period of time. This deduction is particularly popular among residents of Augusta, Georgia, who take advantage of the influx of visitors during the annual Masters golf tournament.
According to the IRS, homeowners can rent out their properties for 14 days or less without having to report the income on their tax returns, as long as their home is not their primary place of business.
This tax benefit is not exclusive to Augusta residents. Individuals living in areas that host similar crowd-drawing events can also make use of this deduction. For instance, homeowners in New Orleans during Mardi Gras or in cities hosting events like the annual motorcycle festivals in Sturgis, South Dakota, and Laconia, New Hampshire, can take advantage of this provision. Essentially, any event that puts strain on the local hotel supply can be an opportunity for homeowners to benefit from this deduction.
A recent tax case sheds light on the limitations of this provision. The case involved an S Corp. that owned multiple Planet Fitness gym franchises in Louisiana. The three individuals behind the S Corp. were doctors and medical workers residing in Mississippi. They faced challenges coordinating meetings to discuss their gym operations and therefore devised a plan for their S Corp. to pay them rent for using their residences as meeting spaces. They intended to deduct this expense on their personal income tax filings.
The S Corp., called Planet, did pay the franchisees rent for the times they used their homes for business meetings; however, a revenue agent reviewed their returns and found that they had overbilled and were unable to provide sufficient evidence for many of the claimed meetings. As a result, the agent disallowed most of the deductions that the S Corp. members had claimed, a decision upheld by the court.
It is important for taxpayers to understand the limitations and requirements associated with the Masters deduction. While it can provide a valuable tax benefit for individuals renting out their properties during popular events, it is essential to keep accurate records and be able to substantiate the claimed deductions. Failure to do so can lead to deductions being disallowed by the IRS.
Key Takeaways from Case Study on Renting Homes
Although most homeowners may not directly relate to the details of the case, it serves as a reminder that the IRS is likely to examine such situations closely. For those considering the deduction for renting their homes, it is crucial to document and defend the actual rental activities and ensure that the rates charged align with market standards.
The U.S. Tax Court reiterated that even if an expense is ordinary and necessary, it can only be deducted if it is reasonable in amount. In the specific Mississippi S Corp. ruling, the court found that while the petitioners did hold meetings at their residences, they failed to provide convincing evidence of the business conducted during these meetings. As a result, they were unable to justify the significant deductions they sought.
Lack of Professional Appraisal
One key flaw in the petitioners’ case was their failure to obtain a professional appraisal of their homes’ rental value for business purposes. Instead, they relied on their own estimate. This discrepancy raised doubts about the credibility of their claims.
Discrepancy in Rental Rates
The petitioners set their rental rates at $3,000 to $4,000 per meeting. However, when the revenue agent investigated their claims, he deemed $500 to be a reasonable market rate. Consequently, the court disallowed a significant portion of the deductions requested by the petitioners, allowing only $16,500 out of the total $290,900 claimed.
Tax Savings Scheme Alert
The court decision implies that the petitioners attempted to utilize a tax savings scheme through distributing earnings to themselves via rent payments, claiming excessive rent deductions, and excluding this rent from their gross income. The court considered the revenue agent’s allowance of $500 per meeting to be generous, dismissing the contention that it was unreasonably low.
In summary, this case study serves as a reminder that homeowners seeking deductions from renting their homes must ensure that their rental activities are well-documented, their deductions are reasonable, and their rental rates align with market standards.