Richard Harding is the sheriff of Howard County, Indiana. In addition to the usual law enforcement duties, the sheriff has the responsibility of maintaining the detention facility (i.e., county jail). Further, he must furnish meals for all prisoners in accordance with certain nutritional standards prescribed by the state. Although the sheriff must absorb the cost of the meals, the county provides a personal allowance. During the year, Sheriff Harding received a salary of $35,000 (as reported on a Form W-2 issued by Howard County). He spent $90,000 on prisoner meals and received meal allowances of $110,000. On his income tax return, he reported the salary as employee income, but listed the allowances and meals on a Schedule C. Thus, he treated himself as self-employed by claiming the cost of the meals as a deduction for AGI. Upon audit, the IRS determined that the Schedule C treatment was improper. Harding was not in a separate trade or business of providing meals, but was merely carrying out his employment-related duties. The costs of the meals are employee business expenses deductible only as miscellaneous itemized deductions on Schedule A. As such, they are subject to the 2%-of-AGI floor.
Is Sheriff Harding or the IRS correct? Why?