How to handle this?

[cientax]

Have a client that has had only one restaurant for past four years (husband and wife). They opened a second restaurant with another couple (husband & wife) without them telling me before going into business with them. Only after they started operating did they tell me. They did have some sort of written agreement but I never saw it. Once they told me that they opened their second restaurant and explained to me how they were operating, I told that that it was not going to work out. They didn't believe and continued on. Guess what, they were only open about four months then had to close. About two months into this second venture the other couple quit and demanded payments from the sales. Before they opened they had to buy all the equipment for the restaurant but when the restaurant closed they left all the equipment in the building since they had no place else to take and didn't try to sell it to recover some of the expense.

After the other couple quit they demanded payments from the sales. This was supposedly in the agreement. Again, I never saw the agreement. My client refused to pay them and they were then sued and they hired an attorney. They had to borrow the money to pay the other couple and are having to repay the loan (without interest). This all happened between August and November 2007. I just got MOST of the receipts and invoices for all of the expenses at the second restaurant yesterday. But still no agreement. This would have been reported on a 1065 but!!!!!

How and where would I deduct any of these expenses if deductible? Sch-C?

[JohnH]

I'd tell them we are dead in the water until I see the agreement.

There's no factual basis on which to make any reporting decisions right now.

[kcjenkins]

Clearly they did have a partnership, since the other couple was able to recover in court. That judgment must have been based on the partnership relationship. So I think you have to do a 1065, and the other couple's payments would properly be shown as GP from the partnership. Which may help your clients balance their losses a bit.

I think you need to see the court decision, as that should help you determine the relationship, as ruled on by the court. Which is a good basis for determining the 'partnership agreement', if it was not in writing. Which it did not have to be, to be valid and legal.

[cientax]

Clearly they did have a partnership, since the other couple was able to recover in court. That judgment must have been based on the partnership relationship. So I think you have to do a 1065, and the other couple's payments would properly be shown as GP from the partnership. Which may help your clients balance their losses a bit.

I think you need to see the court decision, as that should help you determine the relationship, as ruled on by the court. Which is a good basis for determining the 'partnership agreement', if it was not in writing. Which it did not have to be, to be valid and legal.

KC,

I have never filaed a 1065 or other return without a taxpayer identification number. There is no communication between the two couples and I'm certain that my client won't be able to acquire their ssn. What or how is the K-1 to be filed and issued in this case? Have never been in this situation!

[BulldogTom]

KC,

I have never filaed a 1065 or other return without a taxpayer identification number. There is no communication between the two couples and I'm certain that my client won't be able to acquire their ssn. What or how is the K-1 to be filed and issued in this case? Have never been in this situation!

How were they able to get a business license? Did they just use all of the original restaurant license, EIN, State tax EIN, etc? How did they file PR tax returns?

You need more documentation. Lots of it. You need the original agreement and the court decision.

Here is a wild idea, run it like a sole proprietorship and send the other couple a 1099. THIS IS NOT A GREAT IDEA, IT IS A REVENGE IDEA. Don't think too hard about this one, because it has payroll penalty implications that might make everything worse.

Tom

Nashville, TN (for 1 more day)

[kcjenkins]

KC,

I have never filed a 1065 or other return without a taxpayer identification number. There is no communication between the two couples and I'm certain that my client won't be able to acquire their SSNs. What or how is the K-1 to be filed and issued in this case? Have never been in this situation!

There had to be some documentation of the new business, because towns want Privilege tax, payroll records need to be reported, etc. If that was all done only under the original numbers, there should still be some numbers in the files on the other people. If there is not any way to get SSNs now, then I would still file 1099s for them, as 'subcontractors', using 'refused' in the box for SSN. But I bet that somewhere they have some paperwork where they have those numbers, because the other couple had to have some way to prove in court that they had a right to some of the income. Look to the court records, talk to the attorney your clients used, etc.

[BulldogTom]

KC,

If you are going to send them a 1099 and open up the subcontractor/employee issues, why not send them a K-1 instead? If you don't have the ss for the 1099, you don't have it for the k-1 either, but you can still send it in with name and address. Seems like the cleaner way to proceed.

I still think they can get it from the attorney, but I would put the income and deductions on a K-1 for the part of the year they were in partnership, and then go with a Sch C for the period after the partnership ended.

Just thinking out loud.

Tom

[kcjenkins]

The K-1, with GP for the amounts they had to pay them, was my first choice, too, Tom. Only if they operated totally under their own Sch C EIN would I use the 'subcontractor' route. But I would do that if I thought I had no other option, and I would not let payroll issues be a factor, since they have the court case to prove that those people considered themselves entitled to a share of revenue. And that is an indicator of self employment, not a position that would support the 'employee' argument. At least, that is my thinking on it.

[joelgilb]

I tend to agree with KC, that you most likely have a partnership. Note that you do not need a partnership agreement to create a partnership. Uniform Partnership Act, which has been adopted by every State in some form or another becomes their partnership agreement and governing rules if they do not or choose not to draft one.

From what you have indicated in your fact pattern, they fall under this act and therefore must file a 1065. You should look at the agreement they wrotethough as it may change the fact pattern. I never trust clients to tell me what is in a document as they generally don't have a clue. Also agree that you need to see the Court Order, so you can see what theory they recovered under.

At this point it odes not look like you really have enough facts to make a decision.

[cientax]

I tend to agree with KC, that you most likely have a partnership. Note that you do not need a partnership agreement to create a partnership. Uniform Partnership Act, which has been adopted by every State in some form or another becomes their partnership agreement and governing rules if they do not or choose not to draft one.

From what you have indicated in your fact pattern, they fall under this act and therefore must file a 1065. You should look at the agreement they wrotethough as it may change the fact pattern. I never trust clients to tell me what is in a document as they generally don't have a clue. Also agree that you need to see the Court Order, so you can see what theory they recovered under.

At this point it odes not look like you really have enough facts to make a decision.

I talked to my client yesterday and now he tells me there is no written agreement but says he has the court docuements and is bringing them in today, I hope. They had no employees at this site because the other couple were supposedly the waiter and waitress but did put in their 50% contributions in cash to start up. They did use the tax ID numbers from my client which the state allowed for sales tax purposes but he had to put up a $500 bond to do this. We now have to apply for a new EIN for partnership in order to file the 1065 which is no problem.

I just wanted some input on this because this is what I was thinking I had to do, file the 1065 instead reporting it all on Sch-C. Another question I had was, can my client deduct the attorney fees they paid in this situation? The attorney fees were very minimal. Also, if they abondoned the restaurant equipment that they bought, can they stilll deduct them? We're not looking a revengement here, just want to do what's right.

[JohnH]

I'm still trying to figure out if a partnership ever existed (even an informal one), based on the info you've presented. I'm wondering of the other two parties actually loaned money to a sole proprietor, rather than having made an investment in a partnership.

I suggest that partly because you imply that a judge made some sort of decision against your client. It would seem to me that most courts would tell a partner that they just made a bad investment and aren't entitled to restitution (unless they've been wronged or misled in some significant manner), whereas they might be entitled to repayment of a loan.

Meanwhile, I'm sticking to my original suggestion that you do nothing until you see the documents. If there was a written agreement at the outset, you need to see it. If there was a court proceeding, you need to see what the judge decided and what was the basis for the decision. If this didn't go to court, the attorney correspondence should have laid out a clear argument for why they needed to repay money. And after all is said & done, even a court decision or attorney settlement might be right on the law but wrong with respect to the tax treatment.

Why is your client so reluctant to give you documentation that clearly exists? Don't mean to be critical of your client, but your experience with them thus far is beginning to explain why they had trouble with their "partners", "lenders", "employees" (or whatever the relationship with the other people was). First there was a writtne agreement or some sort and now there isn't? It's time for a reality check here.

If you try to do something from a tax standpoint before getting that info, you're just creating paper snowflakes.

[cientax]

I'm still trying to figure out if a partnership ever existed (even an informal one), based on the info you've presented. I'm wondering of the other two parties actually loaned money to a sole proprietor, rather than having made an investment in a partnership.

I suggest that partly because you imply that a judge made some sort of decision against your client. It would seem to me that most courts would tell a partner that they just made a bad investment and aren't entitled to restitution unless they've been wronged i some manner, whereas they might be entitled to repayment of a loan.

Meanwhile, I'm sticking to my original suggestion that you do nothing until you see the documents. If there was a written agreement at the outset, you need to see it. If there was a court proceeding, you need to see what the judge decided and what was the basis for the decision. And after all is said & done, even the court decision might be right on the law but wrong with respect to the tax treatment.

Why is your client so reluctant to give you documentation that clearly exists? DOn;t mean to be critical of your client, but your experience with them thus far is beginning to explain why they had trouble with their "partners", "lenders", "employees" (or whatever the relationship with the other people was). If you try to do something from a tax standpoint before getting that info, you're just creating paper snowflakes.

One of my problems is having to go back and look at the sales tax reports that were filed with sales reported from both locations on the same form. The sales from both locations was reported on the same report for each month because the state allowed this to happen. I didn't agree with this, but this is the way the state wanted it reported for sales tax purposes even though this could have been considered a partnership instead of sole proprietorship. He operates his first location as sole prop because it's only he and his wife that operate the first location. My client still hasn't showed up with the court documents. I always tell him to call in advance of coming in but he never does. Once he called me when he showed up at my office only to find that I was on vacation in FLORIDA and I told him I wouldn't be in for another ten days, then he asked if could be at the office within 30 minutes and he'd wait for me. I live in TEXAS!

[JohnH]

Have you considered that this excercise may be the equivalent of rearranging the deck chairs on the Titanic?

[GeneInAlabama]

One of my problems is having to go back and look at the sales tax reports that were filed with sales reported from both locations on the same form. The sales from both locations was reported on the same report for each month because the state allowed this to happen.

How can 2 separate entities file a sales tax report on the same form? Sounds like the so called partnership was just an extension of his first restaurant which is a sole proprietorship. Like everyone else has said, I wouldn't do ANYTHING until I saw the court papers.

[JohnH]

This string has reinforced one of my operational biases.

I'm going to stick to my long-standing policy of refusing to do accounting & tax work for restaurants.

[cientax]

How can 2 separate entities file a sales tax report on the same form? Sounds like the so called partnership was just an extension of his first restaurant which is a sole proprietorship. Like everyone else has said, I wouldn't do ANYTHING until I saw the court papers.

This has really gotten to where it has p$$d me off with this client. Not only did I advise him not to do this, but just because he never calls in advance of coming in and never makes appointments and just shows up some times. I usually just work on an appointment schedule. But that they just brought in the receipts and invoices for the expenses for this second restaurant which I am considering of filing 1065 and not only because I think It should be reported on 1065 but the losses would to too large for the Sch-C if we were to report it there. I don't like showing losses on businesses because it makes ME look bad. I usually turn away new business clients that say that have losses before the paperwork is done. I don't know how the state comptrollers office allowed this to happen other than they just wanted the $500 bond. I'm not doing anything until he brings in the court docuements and any other revelent information. That's why I came here again to see if I could get some good advice from others which have helped tremdously. Thank you all for your input and please continue advising on this issue and thread.

Now if only I could get some help on the New Mexico Issue! Cause I'm lost there.