Lose Once, Lose Twice, Lose Thrice
New York is known as a “bad” state for recreational gamblers. The recent case In the Matter of Kathleen Karlsberg nicely—or perhaps not so nicely—illustrates this notion via application of NY Tax Law section 615(f).
On her 2003 New York State resident tax return, Ms. Karlsberg reported $155,500 in gambling winnings and $155,500 in gambling losses. Filing as a recreational gambler, she itemized her gambling losses. Section 615(f) reduced her total NY itemized deductions by 25% (from $163,157 to $122,368) because her adjusted gross income exceeded $150,000.
On her 2004 tax return, she reported $817,825 in gambling winnings and $817,825 in gambling losses. Her total NY itemized deductions were reduced by 50% (from $819,642 to $409,821) because her adjusted gross income exceeded $525,000. In fact, the itemized deduction limitation produced a NYS tax liability exceeding her entire amount of non-gambling income from the year.
Like all recreational gamblers who file NYS income tax returns, Ms. Karlsberg wasn’t too happy about the NYS limitation on deducting gambling losses; a limitation beyond that imposed by the Internal Revenue Code. But instead of merely accepting the harsh result, she filed amended NYS tax returns for both years in order to increase her itemized deductions by disregarding application of section 615(f), and thus she claimed she was due a refund from each year.
To comprehend the absurdity of this maneuver, one needs to understand the basics of filing an amended return. To amend a 2010 NYS return, for example, a NY resident would file a 2010 Form IT-201-X. One must file a hard copy of the return; NYS (and the IRS) does not accept amended returns electronically. Upon receipt, NYS almost certainly will examine Line 83, Reason(s) for amending your return. A couple of common reasons for filing an amended return include inadvertent omission of an income item or a federal change. Ms. Karlsberg’s reason, however, was anything but common: She believed gambling losses were not subject to the section 613(f) limitation, despite several NYS court decisions clearly holding otherwise.
Of course, NYS disallowed her claims for refund, and the parties ended up in court. Ms. Karlsberg presented these arguments:
- 1. The doctrine of federal conformity prohibits NYS from limiting the itemized deduction of gambling losses beyond the extent imposed by the Internal Revenue Code; and
- 2. Publication 140-w does not specifically state that the limitation on NYS itemized deductions based upon AGI applies to gambling losses.
She lost on the first point because section 615(f) explicitly reduces all itemized deductions based on AGI, while federal law excepts only certain items from the reduction of itemized deductions. She lost on the second point because the statute is binding, and a publication issued by the NYS Department of Taxation and Finance is not.
Lose once, lose twice. Actually, the taxpayer lost three times in this case: (1) Decision by the Administrative Law Judge; (2) Affirmation on appeal to the Tax Appeals Tribunal; and (3) Affirmation on a second appeal to the Appellate Division of the Third Judicial Department. I strongly suspect the taxpayer won’t gamble on another appeal to the Court of Appeals to learn whether the phrase “Fourth Time’s a Charm” produces a winning wager. The odds aren’t high.
As a final note, for the 2011 and 2012 tax years, NYS has further exacerbated its treatment of recreational gamblers. Well, rather successful ones. If the taxpayer’s AGI exceeds $10 million, the NYS itemized deduction is limited to 25% of the federal itemized deduction for charitable contributions.