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TAX COURT GIVES CLASS-ACTION MAGNATE AND DAY-TRADER A MULLIGAN

May 12, 2006

Remember the glorious days of the 5,000 point NASDAQ, when grown men quit their jobs to spend their afternoons with Ameritrade and Maria Bartiromo?

Most of those day traders ended up learning an unpleasant fact about the tax law: capital loss deductions are limited. Normally you can only deduct your capital losses to the extent of your capital gains, plus $3,000. By dint of hard work, careful study of the markets, and a frantic trading pace, many day traders lost lots more than that.

For such occasions, the tax law has an obscure but handy out: the "Section 475(f) election." Taxpayers who make this election have to "mark to market" all of their securities held at year end, taking into account all of their unrealized gains and losses each December 31. More importantly, such taxpayers also must treat their stock gains and losses as ordinary. That means income is taxed at regular rates, but losses are fully deductible.

A LAWYER FINDS OTHER WORK

After winning a big class action lawsuit in 1999, Birmingham, Alabama attorney L.S. "Lanny" Vines decided he'd had enough of law. He closed up his law practice, opened up accounts with DLJDirect and Ameritrade, and got busy with the market in the fall of 1999.

His new career wasn't as successful as his law practice. By April 14, 2000, when margin calls forced the liquidation of his trading accounts, Mr. Vines had lost $25,196,151.54. While that amount would carry forward indefinitely, he would have to live 8,398 more years to use those losses at the rate of $3,000 per year.

Considering all this, it's not surprising that Mr. Vines extended his 1999 return. He got to chatting about his trading woes with a friend of his, who told him how the Sec. 475(f) election could enable him to take these losses as ordinary. Unfortunately for Mr. Vines, the IRS rules governing the election, Rev. Proc. 99-17, required the election to be filed by April 15, 2000.

The tax law has a mulligan for late filed elections called "Section 9100 relief." Taxpayers can ask the IRS to accept a late election, and the IRS is to grant the relief if:

1. The taxpayer acts reasonably and in good faith, and

2. The interests of the Government will not be prejudiced by granting relief.

Mr. Vines hired Caplin & Drysdale to ask for the Section 9100 relief. The IRS decided its "interests" would be prejudiced, and it denied the relief.

TAX COURT: IRS IS OUT OF BOUNDS

The Tax Court yesterday ordered the IRS go grant the Section 9100 relief. The Tax Court seemed to rely largely on the fact that Mr. Vines made no trades after he applied for the relief, his tax advisor didn't tell him about Section 475(f) (in fact, didn't know about it), and he applied for the relief as soon as he learned about Section 475.

Petitioner did not realize any gains or suffer any further losses between the time he should have filed his section 475(f) election and the date he actually filed the election. Petitioner will be entitled to no more than he would have been entitled to had he filed his section 475(f) election by the date prescribed in Rev. Proc. 99-17, supra, which is precisely the purpose of section 9100 relief: to "permit []taxpayers that are in reasonable compliance with the tax laws to minimize their tax liability by collecting from them only the amount of tax they would have paid if they had been fully informed and well advised."

And so what's Mr. Vines up to? He returned to the embrace of his jealous mistress:

High-profile trial lawyer Lanny Vines has returned to full-time practice after an 18-month sabbatical.

A Magic City native and plaintiffs' attorney known for consumer class-actions and catastrophic injury cases, Vines is building a new litigation department at Birmingham's Gorham & Waldrep PC, whose primary clients are companies and government agencies.

Vines, 62, retired in September 2000 after spending six years on a nationally watched insurance fraud case. He shuttered Emond & Vines, the firm he founded with Cliff Emond in 1966, although he continued working on several of its cases from home.

"I got burned out," says Vines, a former president of the Alabama Trial Lawyers Association. "But I overreacted by retiring. I was miserable, missing my jealous mistress, the law."

Awww...

The Moral? Day trading is dangerous, but if you have a Section 475(f) election, you can at least get your tax losses. And if you miss a deadline for a tax election, you may get a mulligan if you act quickly when you find out about it.

Cite: L.S. Vines, 126 T.C. No. 15.

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