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The contracts are noncancellable and nonrefundable, but can be
transferred to a subsequent buyer if within the contract period
and petitioner is notified. The home warranty contracts do not
cover damage from certain events such as fire, flood, storm,
neglect or other acts of God. They are intended to insure
against inoperation from normal wear and tear.
Petitioner does not directly repair or replace any failed
appliance or covered system. Rather, petitioner has contracted
with a network of independent contractors and technicians to make
the repairs.
Petitioner reported as income 1/12 of the income received
for each month a contract was in effect during a taxable year.
It also incorporated a half-month convention for the month in
which the contract was sold. For example, if a 1-year contract
was sold in July of year 1 for $240, $10 would be recognized as
income for July and $20 would be recognized for each month from
August through December of year 1. Thus, from the $240 received
by petitioner in year 1, it would report $110 ($10 + $20 x 5).
The remaining $130 would be deferred until year 2. In year 2,
petitioner would recognize $20 for each month from January
through June and $10 for July. ($20 x 6 + $10 = $130) A similar
method was used for the 6-month mobile home contracts.
In addition to the above, petitioner deducted as an "other
deduction," an amount of 20 percent of the premiums it
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Last modified: May 25, 2011