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The Geithner rule only applies to Geithner

June 22, 2010

It's not often you get a laboratory experiment in the tax law. The Tax Court gave us one yesterday.

Treasury Secretary Timothy Geithner famously underpaid his taxes on his income from his days working at the International Monetary Fund. IMF employees don't have FICA and Medicare tax withheld from the paychecks, so they are supposed to treat the income as "self-employment" earnings, paying both employer and employee payroll taxes on the income.

Mr. Geithner's copy of TurboTax failed to flag this, and when it came up during his nomination hearings, he blamed the software. He paid his old taxes without penalty, which leads one to wonder: did he get a special deal because he's a big shot?

The scientists at the Tax Court have validated this hypothesis in a case involving IMF employee David Cameron Parker. From the Tax Court opinion:

The IMF sent, and petitioner received, Form W-2, Wage and Tax Statement (Form W-2), for his taxable year 2005. The IMF indicated in that form that it had not withheld Federal income tax or Social Security tax from the earnings that petitioner had received from the IMF during 2005.

Petitioner timely filed Form 1040A, U.S. Individual Income Tax Return, for his taxable year 2005 (2005 return). Petitioner used certain tax preparation software known as TurboTax in preparing that return.3 At all relevant times, including when he filed his 2005 return, petitioner was aware that the IMF had not withheld Federal income tax or Social Security tax from the earnings that he had received from the IMF during 2005 and that he had an obligation to report and to pay self-employment tax because the IMF had not withheld any Social Security tax for that year. Nonetheless, petitioner did not report any self-employment tax in his 2005 return.

Since blaming the software seems to have worked for Mr. Geithner, Mr. Parker gave it a go. The Tax Court didn't buy it, assessing penalties. But what about Mr. Giethner?

We shall address briefly petitioner's contention that the IRS granted "favorable treatment" in a case involving U.S. Secretary of the Treasury Timothy Geithner, which petitioner described as "incredibly similar" to the instant case. According to petitioner, "there should not be different, or favorable rules for the well-connected". The record in this case does not establish any facts relating to the case to which petitioner refers involving U.S. Secretary of the Treasury Timothy Geithner. In any event, those facts would be irrelevant to our resolution of the issue presented here. Regardless of the facts and circumstances relating to the case to which petitioner refers involving U.S. Secretary of the Treasury Timothy Geithner, petitioner is required to establish on the basis of the facts and circumstances that are established by the record in his own case that there was reasonable cause for, and that he acted in good faith with respect to, the underpayment for each of his taxable years 2005 and 2006 that is attributable to his failure to report self-employment tax.

Shorter Tax Court: The accuracy-related penalties of Sec. 6664 are for little people.

Update: The TaxProf has more. So does Peter Pappas.

Update II More on Geithner and little people, in response to a comment.

Cite: David Cameron Parker, T.C. Summ. Op. 2010-78

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This overlooks the fact that in Geithner's case the statute of limitations for assessing additional tax had expired. Geithner wasn't charged a penalty because at that point he had no obligation to pay the tax although he did. The statue of limitations for crediting his Social Security account have also expired so he will get no benefit from the taxes paid; Parker will.

Mr Parker is not alone; the IRS seems to have a target for US citizens under contract with the IMF who relied on Turbo Tax.

To Mr. Cash's point on Mr. Parker receiving benefit: combine the associated tax plus penalty to any distribution and any 8th grader who understands time value of money can tell you there is no benefit.

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