Old bills cash basis LLC tax payer

Have a cash basis rental real estate taxpayer. One of the partners is seeking reimbursement for various expenses and management fees. He claims he paid for these expenses himself years ago and was never reimbursed from the LLC. The expense were never submitted to the LLC or claimed by the LLC on tax returns.

The reason this is coming up now is the building is being sold and he is trying to get money from the other members. The other members are questioning the expenses. The operating agreement does not address the issue of member reimbursements.

My question is the LLC able to claim these expenses now even though they are years old? The LLC is on the cash basis and would be paying the member this year.

I don't want to get hung up if the expenses are legit or if he should be reimbursed. The court is going to decide those issues. Just looking if the LLC can take a tax deduction for old expenses. Thanks

One of the partners is seeking reimbursement for various expenses and management fees. He claims he paid for these expenses himself years ago and was never reimbursed from the LLC. The expense were never submitted to the LLC or claimed by the LLC on tax returns.[...] Just looking if the LLC can take a tax deduction for old expenses. Thanks

The partner should have claimed UPE in the year expenses were paid. As a cash-basis taxpayer, I don't see how the partnership can deduct in the current year expenses that were in fact paid "years ago".

On the other hand, the partnership can deduct the cost of a legal settlement.

The partner should have claimed UPE in the year expenses were paid. As a cash-basis taxpayer, I don't see how the partnership can deduct in the current year expenses that were in fact paid "years ago".

To deduct as UPE, isn't it a requirement that the partnership/operating agreement specifically requires the partner to incur the expenses and pay for them personally?

McLAUCHLAN v. COMMISSIONER (TC Memo 2011-289)

To deduct as UPE, isn't it a requirement that the partnership/operating agreement specifically requires the partner to incur the expenses and pay for them personally?

Yes, I forgot about that in the context of the OP.

On the other hand, the partnership can deduct the cost of a legal settlment

True, but the OP specifically said to disregard that aspect of the scenario.

On the other hand, the partnership can deduct the cost of a legal settlement.

If they are able to deduct the legal settlement then in fact they would be deducting the expenses because the expenses are part of the settlement?

If they are able to deduct the legal settlement then in fact they would be deducting the expenses because the expenses are part of the settlement?

That's one way of looking at it, but not for tax purposes.

The difference is, to deduct a legal settlement they actually have to go through some kind of court proceeding, which they might well win. In any case, the legal settlement wouldn't be deductible until paid.

If they thought they could deduct the old expenses in the current year, they might be tempted to skip the legal proceeding in favor of making a payment and just getting it behind them. But if that were possible, then wouldn't it be one of the greatest tax loopholes of all time? If it were possible, couldn't every business just shift taxable income between tax years at will, simply by claiming an owner wasn't reimbursed in the past but the business wants to take a deduction now for prior year expenses it didn't deduct in the year paid? This could most easily be exploited by sole proprietors, even more so than partners.

If this were a corporation with a non-accountable reimbursement plan, I suppose a current year reimbursement would be fine, but it would also be taxable income to the officer/employee, something I'm pretty sure the partner in the OP does not want.

I agree with you it could be abused just in the way you describe.

They are currently going through the court system. I was hoping if they were unable to take a tax deduction it might help sway the judge into not giving the other member the reimbursement or at least reducing the amount as they would be losing the tax benefit.

Thanks for your help on this greatly appreciated

But if that were possible, then wouldn't it be one of the greatest tax loopholes of all time? If it were possible, couldn't every business just shift taxable income between tax years at will, simply by claiming an owner wasn't reimbursed in the past but the business wants to take a deduction now for prior year expenses it didn't deduct in the year paid?. Interesting thought, but, while I haven't looked lately, if these UPE are of the type that would usually be covered by an accountable plan, don't those plans have some sort of time-limit requirements?

This could most easily be exploited by sole proprietors, even more so than partners.. Sole proprietorship isn't an entity, right, so how would that work? Plus, in a partnership context, wouldn't it mess with the sharing percentages?

I was hoping if they were unable to take a tax deduction it might help sway the judge into not giving the other member the reimbursement or at least reducing the amount as they would be losing the tax benefit.. Until I saw this, I thought this was solely a tax question, i.e., that you as preparer would be objective and not have a conflict of interest. Be careful.

Before you mentioned hoping for a particular result, I was thinking the following:
An expense of even a closed business is sometimes deductible in a later year. So, is this general rule, from McKinsey,

An expense, otherwise deductible under section 162 or section 212, may remain so even though the business or the income-producing activity out of which it arose has since terminated. See, e.g., Kornhauser v. United States [1 USTC ¶ 284], 276 U.S. 145 (1928); Flood v. United States [43-1 USTC ¶ 9259], 133 F. 2d 173, 178-179 (1st Cir. 1943); Dowd v. Commissioner [Dec. 34,430], 68 T.C. 294, 301-302 (1977); Burrows v. Commissioner [Dec. 34,430], 38 B.T.A. 236, 238 (1938). However, deductibility in such a situation is premised on a showing that the expenses sought to be deducted are directly connected with or proximately resulted from the taxpayer's since-terminated business or income-producing activity. Kornhauser v. United States, supra at 153; Flood v. United States, supra at 178.

,
overridden by McLAUCHLAN, even if, say, they timely amend the operating agreement, as allowed by reg. 1.761-1(c), to make the prior years' expense(s) deductible upon reimbursement,

(c) Partnership agreement. For the purposes of subchapter K, a partnership agreement includes the original agreement and any modifications thereof agreed to by all the partners or adopted in any other manner provided by the partnership agreement. Such agreement or modifications can be oral or written. A partnership agreement may be modified with respect to a particular taxable year subsequent to the close of such taxable year, but not later than the date (not including any extension of time) prescribed by law for the filing of the partnership return. As to any matter on which the partnership agreement, or any modification thereof, is silent, the provisions of local law shall be considered to constitute a part of the agreement.

. Also, https://www.thetaxadviser.com/issues/20 ... ments.html