Not All Pay Is Treated Equally

In March of this year I was assigned a case for a member who received a notice from the IRS. It was a CP2000 Automated Under Reporter Notice. She had received $81,514 for performing a fellowship for a nonprofit research organization, and the IRS now claimed that the income was subject to self-employment tax. She was being assessed an additional tax liability of $12,323, including penalties and interest.

This was the perfect case for me, as I had recently learned about a 1960 IRS ruling (revenue ruling 60-378) and a 1987 notice (notice 87-31 [1987-1 CB 475]) in which the court held that fellowship and scholarship grants should not be treated as income "derived from a trade or business" for self-employment tax purposes unless teaching or other services are a condition of receiving the award. Armed with this knowledge, I asked the taxpayer the appropriate questions to ensure that she met the qualifications summarized in the court case. I was happy to learn that she had not been required to perform teaching or other services. I asked her to get a letter from the organization attesting to her participation in a non-profit fellowship research program. This was the document we needed to prove our case that she was not subject to SE tax.

Once I obtained the letter along with the member’s Form 1099-MISC, I wrote a response quoting the court ruling in my argument. On July 02, 2015, I received notification that the inquiry was closed with no change to the taxpayer’s original return. Needless to say, the member was extremely relieved and grateful for our service.