Deductible Education Expenses

BY EDWARD J. SCHNEE

T he costs of attending college and graduate school continue to rise faster than the rate of inflation. However, if such expenses are tax deductible, this significantly reduces the net cost. A recent case explored the deductibility of education expenses.

Pieter Weyts is a citizen of Belgium. In June 1997 he graduated with a law degree from a university there. From June to August 1997 he worked in his father’s law firm. In August Weyts came to New York City to attend Columbia University School of Law. He received an LLM in corporate finance in May 1998. At that point he was advised to get a JD degree to increase his chances of obtaining employment. He enrolled in a joint JD/MBA program at Columbia and received one year’s credit for the work he had done for his LLM degree.

Weyts worked as a summer associate at Kelley Drye in 1999 and was admitted to the New York state bar in July. During the summer of 2000 he was employed as a summer associate at Davis Polk. He was paid for his work and also received three hours of education credit. Weyts deducted his education expenses on his 2000 tax return. The government denied the deduction.

Result. For the IRS. Education costs are deductible under IRC section 162 as ordinary and necessary expenses. However, a taxpayer must first establish that he or she is engaged in a trade or business. Weyts argued he was; the government disagreed.

Prior cases have established that employment as a law clerk before admission to the bar is not employment in a trade or business. In addition, admission to the bar is “not tantamount to being engaged in a trade or business of practicing law.” On the other hand, a short period of work after graduation with a JD degree and admission to the bar before enrolling in an LLM program is considered establishment of a trade or business. Weyts argued he fell within this last category.

The court disagreed. While working the summer after admission to the bar, Weyts was listed as a summer associate. He was unable to prove he was paid the same amount as regular new hires or that he was assigned the same work. Furthermore, he earned three hours of course credit. These factors were sufficient to overcome the presumption he was engaged in a trade or business as a result of having been admitted to the bar and working full-time at a law firm.

CPAs should advise taxpayers planning to get additional education to document that they have met the minimum education necessary for their field and to gain employment in a full-time paid position comparable to those who won’t be seeking further education. Specifically, a taxpayer should be able to prove he or she was paid the same as other employees and assigned comparable work. Positions as interns or summer associates probably will not be sufficient.

The court summarized its reasoning for denying the deduction by stating the “petitioner had an ‘uninterrupted continuity in his legal education.’” It is necessary to break the education cycle and engage in a trade or business before deducting education expenses. The fact the break is for only a short period of time will not deny the deduction. Still, an actual break must occur.

Pieter Weyts, TC Memo 2003-68.

Prepared by E dward J. Schnee, CPA, PhD, Hugh Culverhouse Professor of Accounting and director, MTA program, Culverhouse School of Accountancy, University of Alabama, Tuscaloosa.

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