Private clubs have just been handed a tax break by the U.S. Court of Appeals in Cincinnati, over the strong objections of the Internal Revenue Service. The ruling lets such clubs shield earnings on their investments from the tax that Congress imposed on such income in 1969.
Although all tax-exempt organizations have to pay taxes on profits from business operations that are unrelated to their basic charitable purposes, the tax code contains special rules for social clubs and employe recreation associations. The Cleveland Athletic Club did not challenge the provisions of the law that say it owes taxes both on its investment income and on the sales of food and drink to non-members. But it did take the IRS to court over how to figure the relationship between those two income sources.
The issue came to a head because once the club allocated all the direct and indirect costs attributable to the restaurant and bar service given non-members, it showed a loss on that "business." In 1975 and 1977, in fact, the loss on that operation was more than the earnings on the club's investment portfolio. In 1977, for example, it earned $39,915 on its investment and lost (after deducting $131,000 worth of overhead and maintenance expenses) $51,952 on serving non-members. As the club's accountants figured it, that not only meant that the club owed no taxes, but also the loss could be carried back and forward to reduce taxes on the net profits shown in 1976 and 1978.
But the IRS insisted that a social club has to treat each source of taxable income separately and cannot use the loss on one to offset the net from some other source. Basically, the IRS was looking at a social club the same way it would look at an individual. If you or I generate a little gross income from, say, buying, rehabilitating and then selling toy trains, we can't add up all our expenses in that line, show a "loss," and thereby reduce our income from other sources by that amount. We're doing the toy trading essentially as a hobby, not with the idea of making a profit, so our deductions can be no more than the gross income we generate in the undertaking. The IRS reasoned that -- because the Cleveland Athletic Club did not sell food and drink to non-members with the hope of generating a profit, but as an ancillary activity -- its deductions from those sales could be no greater than the gross income they generated.
The matter has never before been litigated, but the government persuaded the trial court in Cleveland to summarily reject the club's challenge. On Dec. 23, in Cleveland Athletic Club v. U.S., the appellate court not only said the trial judge was wrong, but also sent the case back to be decided summarily in favor of the club. Along the way, the judges also threw out the revenue ruling on which the IRS was relying, calling it "an improper interpretation" and therefore "without legal force and effect."
In other cases, courts ruled that:
*Colorado can give its ski areas special protection from liability suits. The state's Supreme Court upheld a 1979 statute that tried to shield resort owners from frivolous litigation by establishing the legal presumption that skiers themselves are responsible for most accidents and setting a tough standard of proof of negligence if an injured skier wanted to sue the operators.
Nonetheless, the bottom line is that injured skiers have a much harder time collecting from resorts than would injured golfers or skaters. That's reasonable, the justices ruled, in light of the great economic importance of skiing to Colorado. (Pizza v. Wolf Creek, Dec. 2)
*An insurance company has to pay for the defense of a customer against a suit for alienation of affection. The personal liability policy in question does not specifically mention such a suit, but it does promise coverage for suits for personal injuries, and says that includes claims "like" defamation of character and mental anguish. It's far from clear whether alienation of affection is "like" mental anguish, the U.S. District Court in Fort Smith, Ark., admitted, but it said that because the insurance company wrote the policy, any ambiguity should be construed in favor of the customer. (Smith v. St. Paul Guardian, Nov. 25)