A recent decision by the Eleventh Circuit Court of Appeals may have implications when determining eligibility under the new recovery startup business ERC available starting in the third quarter of 2021. Congress has authorized up to $100,000 in refundable tax credits for eligible new businesses.
IRC Section 3134(c)(5)(A) as added by the American Rescue Plan Act provides that the first step in defining a recovery startup business is any employer “which began carrying on any trade or business after February 15, 2020.” Since the eligibility is in part driven by this specific date, there will inevitably be some new businesses for whom determining the date on which they began to carry on a trade or business will have a material impact.
In Provitola, et al v. Commissioner, the taxpayer claimed business expense deductions in years before they manufactured or marketed their product. The IRS argued that the expenses occurred before the business commenced operations, and the expenses should rather be considered start-up expenses. The Court sided with the IRS because the business had not yet (1) attempted to market or sell a product, (2) made any sales, or (3) made its website public. The Court of Appeals then upheld the lower court and in part of their decision noted:
“The determination of when a trade or business begins presents a question of fact requiring an examination of all the relevant facts. Stanton, 399 F.2d at 330. An active or existing trade or business is generally one that is ‘perform[ing] those activities for which it was organized,’ not simply taking steps in preparation to perform those activities. Richmond Television Corp. v. United States, 345 F.2d 901, 907 (4th Cir. 1965), vacated on other grounds, 382 U.S. 68 (1965); see also Jackson v. Comm’r of Internal Revenue, 864 F.2d 1521, 1526 (10th Cir. 1989) (‘Taxpayers’ activities in this case clearly did not rise to the level of a functioning business, and taxpayers did not perform the ultimate activity for which their business was organized — attempting to sell player/recorders.’).”
New businesses that began somewhat prior to February 15, 2020 should evaluate if their actual commencement of a trade or business might in fact have occurred after that date based on the criteria outlined in this decision.