There’s an interesting problem with the limitation on the deduction for taxes on Schedule A that led to a recent discussion on Twitter among tax professionals.[1] 

We’ve likely all heard the comment that a deduction for state and local taxes is limited on Schedule A to no more than $10,000 ($5,000 for a married individual filing a separate return), so that real estate taxes imposed on raw land a taxpayer was holding for appreciation would be trapped by the $10,000 cap along with their other state and local taxes.

The taxpayers in the case of Garcia v. Commissioner, TC Summary Op. 2018-38, recognized that expenses related to litigation that arose from an investment in stock in Randgold & Exploration Co., Ltd. (R&E) they had made would only be deductible as IRC §212 expenses.  They also recognized that a deduction under that provision would be a miscellaneous itemized deduction subject to the 2% floor imposed on all such deductions in the year in question and not deductible at all in computing their alternative minimum tax liability.

The taxpayers also were aware that if such expenses were an ordinary and necessary trade or business under IRC §162 that was incurred in the trade or business other than that of being an employee, the entire amount of the expense would be deductible in computing their adjusted gross income.  As well, the entire amount would also reduce their alternative minimum taxable income.

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