On appeal from the Tax Court of New Jersey, Docket No. 007221-2005, whose opinion is published at 25 N.J. Tax 573 (Tax 2011).
The opinion of the court was delivered by: Reisner, J.A.D.
FOR PUBLICATION WITHOUT THE APPROVAL OF THE APPELLATE DIVISION
Submitted November 1, 2011 -
Before Judges Reisner, Simonelli and Hayden.
The opinion of the court was delivered by
During the tax years 2000, 2001 and 2002, Daniel Schulmann used his personal funds to pay commissions that two S corporations, UAK Management Corp. and TSK Franchise Systems, Inc., were contractually obligated to provide to instructors at Tiger Schulmann karate schools.*fn2 The corporations did not report those commissions as expenses on their corporate business tax returns. Instead, Schulmann and his wife deducted the commission expenses from the S corporation income that they reported on their personal income tax returns. The Division of Taxation disallowed the deductions. In a published opinion, Judge Mala Narayanan affirmed the Director's determination. Shulmann v. Dir., Div. of Taxation, 25 N.J. Tax 573 (Tax 2011). We affirm substantially for the reasons stated in Judge Narayanan's cogent opinion. We add these comments.
As the Supreme Court recognized in Smith v. Director, Division of Taxation, 108 N.J. 19, 32 (1987), New Jersey's Gross Income Tax Act (GIT Act) was not based on the federal Internal Revenue Code (I.R.C.), and therefore the GIT Act prohibits certain deductions that the I.R.C. allows.
We disagree that the Legislature patterned the New Jersey Gross Income Tax Act on the Internal Revenue Code. . . . The federal income tax model was rejected by the Legislature in favor of a gross income tax to avoid the loopholes available under the Code. For example, the Code taxes all income, from whatever source derived, except income expressly exempted from tax. I.R.C. § 61. On the other hand, the Gross Income Tax Act only taxes expressly identified classes of income. The Code taxes all income on a net consolidated basis. The Gross Income Tax Act taxes some income on a net basis and other income on a gross basis. The Gross Income Tax Act establishes "categories" of income against which the cross-netting of losses is barred. No such device is included in the Code.
[Ibid. (emphasis added).]
We agree with the Tax Court that Schulmann may not deduct payments made out of his S corporation income as a business expense under N.J.S.A. 54A:5-1(b) (net income from the operation of a business). Income from an S corporation is a separate income category, under N.J.S.A. 54:5-1(p), and Schulmann cannot "cross-net" an alleged business expense against his S corporation income.
The [GIT] Act imposes taxes on distinct and separate categories of income. N.J.S.A. 54A:5-1. Since income is taxed on a category-by-category basis, the Act expressly prohibits the netting of income and losses among the different categories. N.J.S.A. 54A:5-2; Walsh v. Director, Div. of Taxation, 15 N.J. Tax 180, 184 (Tax 1995); and Marrinan v. Director, Div. of Taxation, 17 N.J. Tax 47, 51 (Tax 1997).
The Act provides only one category for the reporting of Subchapter S corporation income, N.J.S.A. 54A:5-1(p), which provides for taxation of the "[n]et ...