In Reza Zia-Ahmadi, et ux., et al. v. Commissioner, TC Summary Opinion 2017-39 the taxpayers was the principal of Sound Diagnostic (a C corporation) which provided ultrasound services to medical offices and clinics throughout southern Colorado. Sound Diagnostic entered into professional service agreements with three medical clinics (professional service agreements) in 2009 and 2010. Under the professional service agreements, Sound Diagnostic contracted to provide ultrasound machines and “licensed medical professionals” qualified to perform echocardiography, cardiovascular, and vascular ultrasound services in the medical field of cardiology.
Generally, C corporations are taxed at graduated income tax rates. If, however, a C corporation is a qualified personal service corporation under IRC §448(d)(2), it will be taxed at a flat 35% income tax rate. IRC §11(b)(2).
A C corporation will be treated as a qualified personal service corporation if two tests are satisfied: (1) a function test and (2) an ownership test. IRC §448(d)(2)(A) and (B).
The court found that as the 100% principals of the company and the company employees the taxpayers met the ownership test.
The main issue was the Function Test. The requirements of the function test are met if substantially all of the corporation's activities involved the performance of services in one of the following qualifying fields: health, law, engineering, architecture, accounting, actuarial science, performing arts, or consulting.
[T]he performance of services in the field of health means the provision of medical services by physicians, nurses, dentists, and other similar health-care professionals. The performance of services in the field of health does not include the provision of services not directly related to a medical field, even though the services may purportedly relate to the health of the service recipient. For example, the performance of services in the field of health does not include the operation of health clubs or health spas that provide physical exercise or conditioning to their customers.
Sound Diagnostic asserts that its employees do not perform services in the field of health because employees who operate the ultrasound equipment (sonographers) are not required to be licensed in Colorado, do not provide direct treatment services to patients, and do not make healthcare decisions.
The Court has held that the scope of the qualifying fields under IRC §448(d)(2) does not turn on State licensing laws citing Kraatz & Craig Surveying, Inc. v. Comm’r, 134 T.C. 167, 181 (2010). Rather, whether a service is performed in one of the qualifying fields “is to be decided by all relevant indicia, including the text of the statute, its legislative history and regulations, application of the normal meaning of the term `health'***and examination of services historically regarded as within the qualifying field.”
Sound Diagnostic proposes a narrow interpretation of the term “health”. The Tax Court previously rejected taxpayers' overly restrictive arguments in defining the various services listed in the IRC §448 temporary income tax regulations. Rainbow Tax Serv., Inc. v. Commissioner, 128 T.C. 42 (2007) (holding that the taxpayer's definition of accounting services was overly restrictive).
The court noted that the temporary income tax regulations do not so narrowly construe the requirements of the function test under IRC §448(d)(2). Rather, the phrase “field of health” includes services provided by healthcare professionals that are directly related to a medical field. See IRC §1.448-1T(e)(4)(ii).
The court cited the two year training which the taxpayer had to undergo to administer an ultrasound.
The court ruled that sonographers are more similar to physicians and nurses than to health club or health spa employees. Therefore, the taxpayer, in performing the ultrasound activities as a sonographer, was a healthcare professional.
Under IRC §448 a C corporation which is a personal service corporation can use the cash method even if their gross receipts exceed $5,000,000. That's the good news. The bad news is the result reached here; as a C corporation it earnings are taxed at the highest corporate rate.