L.W. Cooper Law Offices

Tax Update: U.S. Supreme Court Hears Oral Arguments on Statute of Limitations Circuit Court Split

2012-01-19T12:51:00.000-05:00

Much ofthe discussion during oral arguments on United States v. Home Concrete &Supply LLC before the U.S. Supreme Court Jan. 17 centered on the controversialTreasury Department regulations through which the Internal Revenue Servicesought to negate the impact of several recent court rulings (United States v.Home Concrete & Supply LLC, U.S., No. 11-139, argued 1/17/12).

Theregulations at issue provide that the extended six-year assessment period foromissions from gross income applies to tax shelter transactions involvingoverstatements of basis. Theregulations, promulgated after the Internal Revenue Service lost several U.S.Tax Court cases on the issue, have been unpopular among many tax practitionersand attacked by taxpayers as unconstitutionally retroactive because Treasuryapplied it to all tax years for which the assessment period was still open.

However,at some points during the oral arguments, the justices seemed dismissive ofmany of the concerns raised by the taxpayers in challenging the regulation. Forexample, Justice Antonin Scalia said he was not sure the presumption againstretroactivity applied to the regulation.

HomeConcrete is an appeal of a U.S. Court of Appeals for the Fourth Circuit findingthat the use of a tax shelter transaction that operated by overstating thetaxpayer's basis in goods sold did not constitute an omission from gross incometriggering the extended limitations period. The ruling deepened an existingcircuit split on the issue. Continue to check back to our blog for coverage on this issue.

IRS Repoens Offshore Voluntary Disclosure Program

2012-01-11T14:30:00.001-05:00

The IRSyesterday announced that it has reopened its offshore voluntary disclosureprogram. Check out these links to learn more:

IRS: IRS Offshore Programs Produce $4.4 Billion To Date for Nation’s Taxpayers; Offshore Voluntary Disclosure Program Reopens

Bloomburg: IRS Gives U.S. Citizens Chance to Come Clean

Forbes: New IRS Offshore Amnesty Announced

Reuters: IRS Revives Offshore Tax Dodger Forgiveness

Wall Street Journal: IRS Reopens Limited Amnesty for Offshore Accounts

Section 6038D is Alive

2011-12-21T16:16:00.003-05:00

Yesterday the IRS issued the final Form 8938 and accompanying instructions for reporting foreign financial assets under the Hiring Incentives to Restore Employment Act (HIRE). In essence, the new IRS form and instructions implements the compliance requirements of Section 6038D and has commonly been referred to as FATCA. The new form will be filed beginning with the 2011 tax return disclosing covered assets. A copy of the final form and instructions can be obtained by clicking of the links below.

http://www.irs.gov/pub/irs-pdf/f8938.pdf

http://www.irs.gov/pub/irs-pdf/i8938.pdf

If you have any questions regarding a potential FATCA reporting obligation, feel free to contact this Office.

Money Matters: LWC on the Radio!

2011-12-07T16:21:00.000-05:00

Check out Lindsey's latest radio show below! As you know, Lindsey is a regular contributor to the Money Matters radio show, which airs Saturday mornings on FM 94.3 here in Charleston. Be sure to tune in.

Increasing the Burden: FATCA Reporting Requirements for 2011

2011-11-14T13:13:00.000-05:00

In addition to foreign account disclosures filed through FBAR reports, taxpayers now carry the additional burden to disclose additional financial assets held outside of the United States when they file their annual tax return. The Foreign Account Tax Compliance Act (FATCA) requires taxpayers holding foreign financial assets with an aggregate value exceeding $50,000 to report information about these assets on a new Form 8938 beginning with their 2011 taxable year tax return. Failure to report these assets timely means big trouble: A penalty of $10,000.00 and additional penalties up to $50,000 for willful failure after IRS notification. Underpayments of tax relating to the undisclosed foreign accounts will be subject to a penalty of 40 percent of the tax owed, plus other additional penalties such as the substantial understatement penalty. In sum—do not ignore this new disclosure requirement!

FATCA further imposes a burden on your foreign financial institutions (FFI) themselves. In order to adequately monitor your offshore assets, these institutions must directly report certain information about financial accounts of U.S. taxpayers to the IRS. Indeed, these financial institutions will police potential violators of the new law. If you do not provide information to the IRS on your foreign assets, your financial institutions will do it for you.

To facilitate these disclosures, FATCA “invites” all FFIs to enter into a contract. Pursuant to this contract, the FFI agrees to identify accounts held by US persons and provide the IRS information regarding those accounts and their owners. To facilitate the transfer of this sensitive information, FFIs must also require their customers to sign a waiver permitting the FFI to release such information to the IRS. A 30% withholding tax is deducted from payments related to U.S. sources to foreign financial intermediaries which do not enter into a contract with the IRS and to recalcitrant account holders who do not sign a waiver. In other words, the FFI is going to turn over the information to avoid the 30% withholding.

The IRS’ definition of a “foreign financial institution” includes your typical bank—savings and depository banks, commercial banks, credit unions, and thrifts. It also includes broker-dealers, trust companies, custodial banks, and entities acting as custodians for employee benefit plans, entities trading in securities, mutual funds, and hedge funds. Essentially, if you hold assets in an offshore account, your account information will end up in the hands of the IRS.

The definition of “you” is also extensively defined in the new code sections. You, a U.S. taxpayer, are featured as an all inclusive definition with only exceptions explicitly provided. Exceptions to the definition include publicly traded corporations, tax-exempt organizations or individual retirement plans, several types of trusts and banks. The information disclosed to the IRS shall include your name, address, social security number, account number, account balance/value, gross receipts and gross withdrawals/payments from the account, and any “further information as requested by the IRS.”

FATCA impositions are in addition to, not in replacement of, any FBAR requirements you may be subject to. FBAR requires United States persons to disclose offshore assets if they had a financial interest in, or signatory authority over, at least one financial account outside of the United States if the aggregate value of the accounts exceeds $10,000 at any time during the calendar year. FBAR, unlike your FATCA form, is not filed with your tax return but must be received by the IRS on or before June 30 of the year in which your return is due.

These new requirements may result in hefty fines if you fail to comply. Be sure to discuss these FBAR and FATCA requirements with your accountant or tax attorney to see if you must report.

IRS CIRCULAR 230 NOTICE: Internal Revenue Service regulations generally provide that, for the purpose of avoiding federal tax penalties, a taxpayer may rely only on formal written advice meeting specific requirements. Any tax advice in this message, or in any attachment to this message, does not meet those requirements. Accordingly, any such tax advice was not intended or written to be used, and it cannot be used, for the purpose of avoiding federal tax penalties that may be imposed on you or for the purpose of promoting, marketing or recommending to another party any tax-related matters.

Money Matters: LWC on the Radio!

2011-10-05T16:14:00.000-04:00

Listen to LWC's latest radio show which aired September 11th below. You can catch LWC's show Saturday mornings on News Radio FM 94.3.

Tax Update: U.S. Supreme Court to Review Statute of Limitations Circuit Court Split

2011-09-28T17:14:00.003-04:00

In two previous blog posts, we discussed the hot issue of whether an overstatement of basis triggers an extension of the three year statute of limitations for assessing tax. The U.S. Court of Appeals for the Fourth Circuit, where our humble state resides, previously ruled in Home Concrete & Supply, LLC v. U.S. that a partnership’s overstatement of its basis did not constitute an “omission” subject to the six year statute of limitations for tax assessment. The Fourth Circuit, along with the Federal and Ninth Circuits and the U.S. Tax Court all held that an overstatement of basis does not trigger the extended period of time to assess tax. However, both the Fifth and Seventh Circuits found differently, providing that the six year statute of limitation does apply, resulting in a confusing circuit court split. The circuit disparity primed the issue for arguments in front of the Supreme Court.

While petitions for certiorari were filed in connection with opinions of the Fourth, Seventh and Federal Circuits, the Supreme Court granted the petition relating to Home Concrete & Supply. The government’s brief is due November 14, and the case will likely be heard early next year with an opinion issued by July. We will keep you updated with the latest.

LWC on the U.S. Peace Corps

2011-09-26T10:24:00.001-04:00

LWC discussed his two-year service in the Peace Corps in today's issue of The Post & Courier.

To read the article, check out the link below:

Post & Courier: Peace Corps turns 50

LWC on President Obama's Tax Proposal

2011-09-19T10:47:00.002-04:00

"I was quoted in the Washington Post on September 16th in Karen Hube's article about the President's new tax proposal. This proposal is very important from a tax perspective to many people whom I consider to be the upper middle class in America and doesn't really tax the truly wealthy."

Click Here for The Washington Post

If you'd like to read the proposal, see the link below.

Click Here for a Section by Section Analysis of the American Jobs Act of 2011

Additional articles quoting LWC on Obama's tax plan:

Obama Fires Up the Debate Over Who Is Wealthy-- The Fiscal Times

Couples Earning $250K/Yr Aren't "Millionaires and Billionaires Abusing Tax Loopholes"-- Business Insider

Money Matters: LWC on the Radio!

2011-09-07T09:19:00.000-04:00

Listen to Lindsey's August show below:

Money Matters: LWC on the Radio!

2011-08-05T15:08:00.000-04:00

Check out Lindsey's latest radio show below:

Freedom for the Innocent: IRS Relaxes Innocent Spouse Relief Qualifications

2011-07-26T10:06:00.000-04:00

The IRS, in a dramatic announcement yesterday, finally repealed the regulations prohibiting the consideration of an application for innocent spouse relief made more than two years after the IRS’ initial attempt at collection. The new rule permits taxpayers to apply for innocent spouse relief at any time during the statute of limitation for the collection of a tax liability, which usually lasts 10 years.

Pursuant to Section 6015 of the Internal Revenue Code, a taxpayer may seek relief from joint and several liability associated with filing joint returns in certain circumstances. Under subsection (f), a taxpayer could seek equitable relief from understatements and underpayments when relief is not otherwise available. This section allows the IRS broad power to reduce or eliminate certain penalties when an appropriate case presents itself. However, this relief was dramatically limited by the Treasury Regulations, which placed a two-year window in which a taxpayer may seek such relief.

As part of the announcement, the IRS also stated that previously rejected applications for innocent spouse relief would be reconsidered, as long as the taxpayer re-files the IRS Form 8857 and the collection statute of limitations for the tax years involved has not expired. Taxpayers with cases currently in suspense will automatically fall under the new rule and do not need to reapply. Further, the IRS will not apply the two year limitation in pending litigation, and may suspend collection on certain judgments.

If you believe you may qualify for relief pursuant to the innocent spouse rules, download and file IRS Form 8857 found at http://www.irs.gov/pub/irs-pdf/f8857.pdf.

Accrued Taxes During Bankruptcy Not Included in Bankruptcy Estate: Tenth Circuit Joints in Circuit Court Split

2011-07-19T15:11:00.002-04:00

Last month we told you about the circuit court split involving the understatement of basis. This month, the Tenth Circuit joined in a split regarding whether taxes incurred during the sale of certain farm assets during a Chapter 12 bankruptcy proceeding are part of the Bankruptcy estate, or are instead incurred by a debtor personally, outside of the protections of the bankruptcy. The court held in U.S. v. Dawes that federal income taxes resulting from the sale of farm assets are not incurred by a Chapter 12 bankruptcy estate.

The facts of the case did not fare well for the taxpayers. Mr. and Mrs. Dawes had a history of not paying their income taxes; specifically, they pled guilty to the crime for taxes due in 1981, 82, and 83. They also failed to pay their taxes for the years 1986, 87, 88 and 1990. This caused the IRS to seek and obtain a judgment for the unpaid tax. The judgment also found that the Daweses had fraudulently conveyed certain assets in an effort to avoid the IRS and other creditors. After the judgment was obtained, the IRS notified the Daweses that it intended to seize certain assets. Before it could, the couple filed Chapter 12.

During the bankruptcy, the Court permitted the Daweses to sell several tracts of farm land to pay off debt, which created certain income tax liabilities. These new tax liabilities were incorporated into their plan for reorganization, which sought to place them in the category of unsecured debt, paid only to the extent funds might be available after priority claims were satisfied.

The Dawses hoped to take advantage of Section 1222, which provides that certain claims otherwise entitled to priority payment (such as claims filed by the IRS), but which are owed to the government as a result of the sale of farm assets, are downgraded to unsecure claims and deemed eligible for discharge. They argued that because the federal income taxes at issue are owed to the IRS as a result of a farm asset sale and were “incurred by the estate,” they may be treated as general unsecured claims.

The issue- whether income taxes flowing from the sale of a farm asset during a Chapter 12 bankruptcy are taxes “incurred by the estate and so subject to downgrade and discharge—is the subject of a circuit court split. The Eighth Circuit says yes; the Ninth says no. The United States Supreme Court granted certiorari on June 13th. Considering the split, the Tenth Circuit found that the taxes incurred due to the sale of the property were the individual liability of the debtor, not of the bankruptcy estate. As such, the Dawses were not allowed to take advantage of Section 1222 and discharge the owed tax.

Do not fail to consider the tax consequences of certain property transfers if you are seeking bankruptcy protection under Chapter 12. The Fourth Circuit has not decided the issue so be sure to discuss this potential problem with your Bankruptcy attorney.

NY Judge Fails to Recognize Lap Dance as Art

2011-06-16T14:56:00.000-04:00

Earlier this month, a New York court ruled that entertainers at strip clubs are subject to sales tax, and their performances are not considered choreographed artistic performance eligible for tax exemption. In 2005, “Nite Moves,” an adult establishment in Latham, New York, was audited by the state Division of Taxation and assessed close to $125,000 in sales tax and interest. The club argued that its performances constituted art, and therefore fell within an exception found in the state’s tax code and were not subject to the tax. The state’s assessment was upheld in a unanimous decision by the court.

The nine-page ruling cited numerous elements of tax case law and went into extreme detail defining dramatic or musical arts, choreography, and analyzed whether Nite Moves qualified as a “place of amusement.” At the hearing, the club presented testimony from a cultural anthropologist, who researched exotic dance, visited the club and viewed DVDs of the dancers’ performances. She stated that the shows at Nite Moves, and the lap dances performed in private rooms, were “unequivocally live dramatic choreographic performances.”

The court disagreed. It found that dancers were not required to have formal training, instead relying on videos or tips from other dancers to learn their moves. It ruled that the dances offered at the club did not constitute “’live dramatic or musical arts performances’ within the meaning of the statute.”

So if you are heading up to New York for some adult entertainment, remember to bring some extra George Washingtons to pay your sales tax.

Money Matters: LWC on the Radio!

2011-06-16T14:54:00.000-04:00

Lindsey's latest appearance on Money Matters is uploaded below:

Listen to Lindsey's radio show below which originally aired in May:

Insurance Policy Holders & Demutualization= IRS Tax Refund

2011-05-16T14:04:00.000-04:00

Originally published in the November/December 2008 issue of South Carolina CPA Report, below check out an article discussing the tax implications of insurance company demutualization:

Millions of people and entities own insurance policies in one form or another. And if you owned a policy in the late 1990s or the early 2000s, your ownership may entitle you to a tax refund.

In the not so distant past, many insurance companies were owned by the policy holders who were entitled to receive company dividends and vote. These were called "mutual insurance companies.” USAA, for example, retains this current corporate structure. But many of these mutual insurance companies restructured themselves from policy holder owned to stockholder owned in the late 1990s and the early 2000s.

As part of the restructuring, individuals who owned policies were distributed new stock in the insurance companies when it transformed to a publicly owned company. This transformation from policy holder owned into publicly owned is called "demutualization.”

In the past, the IRS required that taxpayers, who received stock as part of a demutualization, pay capital gains tax on the 100 percent of the value of the stock when it was sold. But a recent court decision shot down the IRS's position and, in fact, said that the taxpayer owed no tax at all. This decision has widespread ramifications for individuals, professional associations and business entities that owned insurance policies.

Some of the largest insurance companies - in America demutualized in the last decade, including MetLife Inc. and Prudential Financial Inc. Between MetLife and Prudential alone, there were approximately 22 million policyholders at the time oftheir demutualization that occurred in 2000 and 2001, respectively. Indeed, when this tax treatment issue was shared with a South Carolina accountant, he advised that the one of the largest malpractice coverage providers in South Carolina for accountants was Prudential. No doubt, millions of individuals and entities received stock in insurance companies as a result of demutualization. More importantly, if the stock was sold, these individuals and entities paid tax on the sale. As it turns out, it appears that no tax was owed.

In August 2008, the Court of Federal Claims issued a decision in Fisher v. United States. The court held that tax is only owed on the sale of the demutualization stock to the extent that the sale proceeds exceed the cost basis in the taxpayer's policy. Because the stock was sold for $31,759 and the taxpayer had paid over $194,000 in premiums, the cost basis in the policy far exceeded the proceeds from the sale of the stock. As such, no taxable event occurred, and no tax was owed.

Let us review certain issues that could, affect a taxpayer's ability to receive the benefits of this decision. The ability to claim refunds by filing amended returns is limited to those claims filed within three years of filing the income tax return for the year in which the sale of the stock occurred, or two years after payment of the tax—whichever is longer.

If a taxpayer timely filed and paid, they are effectively limited to filing claims for refund for the 2005 to 2007 tax years, unless an agreement to extend the statue of limitations was entered into. If enough money is at issue, the taxpayer may consider bringing an action under the Tucker Act that provides for a six year statute of limitations. Please note that South Carolina follows the Federal Law for timely filing claims for refund, and refunds for South Carolina income tax should be available as well. As Certified Public Accountants whether practicing in public or private practice, this ruling has potential for great refunds. No need to make unintended gifts to the IRS.

NOTE: The opinion in Fisher was subsequently affirmed on appeal. See 333 Fed. Appx. 572 (Fed. Cir. Oct 09, 2009).

By Lindsey W. Cooper Jr., Esq. and Robert Baldwin, CPA, PFS, AEP.
Both authors work in Charleston, SC, at the Law Offices of L.W. Cooper Jr., LLC, and Baldwin and Associates LLC, respectively. Robert Baldwin is a former president of SCACPA.

Easy Money for Easements No More

2011-05-06T13:41:00.000-04:00

With over 700 registered properties in an area which covers the majority of the peninsula on which it’s located, Charleston is one of several cities in the country protected by city, state, and federal law through its designation as “historic.” Beginning in the 1930’s, the city of Charleston drafted and enacted city ordinances aimed at preserving the architectural importance of these historic neighborhoods.

In furtherance of this aim, Charlestonians wishing to further protect the significance of their homes have begun donating historic easements to organizations such as the Preservation Society of Charleston, which alone holds over 75 exterior easements in the city. While these easements preserve the cultural significance of these buildings, they also offer an attractive tax incentive for home owners: charitable deductions. However, with a recent wave of U.S. Tax Court decisions restricting charitable tax deductions for conservation easements, this added incentive may all but disappear.

Charitable Deductions for Conservation Easements

The Internal Revenue Code provides tax incentives for individual seeking to make charitable donations, which may cover monetary contributions to your local church or dropping off clothing at Goodwill. While subject to limitations, Section 170 allows taxpayers to deduct the amount of charitable contributions they make within the taxable year on their tax returns. Section 170(f)(3)(B)(iii) specifically extends this deduction to donated “qualified conservation contributions,” which is defined as a contribution of a qualified real property interest, to a qualified organization exclusively for conservation purposes. It is this simple definition that is getting taxpayers in hot water.

A “qualified real property interest” is further defined as “a restriction (granted in perpetuity) on the use which may be made of the real property.” The Code clarifies that a contribution shall not be treated as “exclusively for conservation purposes” unless the conservation purpose is protected in perpetuity. Therefore, Congress made it clear that in order to receive the tax benefit of your contribution, the easement must essentially exist and be protected forever. But what about properties which are mortgaged?

While protecting an easement in perpetuity sounds great, technical problems arise when a bank holds a first priority mortgage on the property. The Treasury Regulations attempted to provide a loophole for this situation by providing that banks may subordinate its rights in the property to the rights of the organization to enforce the conservation purposes of the gift in perpetuity. Sounds easy enough, but, here is where it gets tricky.

The Regulations further require that, at the time of the gift, the property owner must agree that the donation of the easement gives rise to a property right, immediately vested in the donee organization, with a fair market value that is at least equal to the proportionate value that the perpetual conservation restriction at the time of the gift bears to the value of the property as a whole at that time. Simplified, the easement must immediately vest a property right in the organization holding the easement which shall be enforceable against all third parties. This property right and the perpetuity requirement are two essential provisions of the charitable contribution which the IRS recently started to scrutinize.

Kaufman v. Commissioner

Enter Kaufman. In 1999, Lorna Kaufman purchased property located in Boston’s South End historic district with the help of a home loan with Washington Mutual. In 2003, Kaufman granted a façade easement to the National Architectural Trust (NAT) while seeking the benefit of a federal tax deduction. In order to satisfy the requirements relating to mortgaged property, Washington Mutual executed a Lender Agreement whereby it agreed to subordinate its rights to that of NAT for the purpose of carrying out the easement in perpetuity. However, the agreement also provided that the bank would have priority to all insurance proceeds and all proceeds of condemnation until the mortgage is paid in full. An appraisal occurred and the Kaufman’s took over $220,000.00 of deductions on their 2003 and 2004 returns relating to the donation of the façade easement.

The Tax Court disallowed the Kaufman’s deductions in their entirety for failing to meet the provisions of Treas. Reg. §1.170A-14(g)(6)(i) and (ii)—the crucial rule requiring an immediately vesting property right. The bank retained priority to all insurance and condemnation proceeds of the property by virtue of the Lender Agreement, precluding any right of NAT to its proportionate share. Therefore, the façade easement failed as a matter of law to comply with the enforceability-in-perpetuity requirements of Treasury Regulation § 1.170A-14(g)(6).

The implications of this case are staggering. What Kaufman tells us is that if a property is subject to a mortgage, and the property owner wishes to donate an easement and take a tax deduction, the bank must agree to waive its rights to the portion of the property covered by the easement. With banks in trouble and homes under water, these financial institutions will be hard pressed to forego any proceeds it may be entitled to pursuant to a mortgage. Without this subordination, your federal tax deduction will be challenged and disallowed. While some homeowners may be able to satisfy Kaufman’s requirements, or if they own their property outright, there is still a more difficult Tax Court holding to swallow for us Charlestonians.

1982 East, LLC v. Commissioner

The opinion in 1982 East was issued just one week after Kaufman. In 1982 East, an entity purchased property in 2002 in New York City’s Metropolitan Museum Historic District, making it subject to the city’s landmark and zoning laws. As in Kaufman, the property was subject to a mortgage held by Wachovia and the property owners sought to grant a façade easement to NAT. In order to donate the easement seemingly compliant with the Tax Code, Wachovia entered into a Lender Agreement featuring the same language as that in Kaufman. The entity completed an appraisal and took a $6.5M charitable deduction on its 2004 partnership return relating to the donation of the easement.

The Tax Court found that the Kaufman holding prevented the entity from taking the charitable deduction on its return. The façade easement was not protected in perpetuity because the organization did not obtain a vested property right as required by Treas. Reg. §1.170A-14(g)(6).

The Tax Court went further in its holding to determine that the easement also failed to meet the provisions of I.R.C. §170(h)(4). This section provides that the definition of “conservation purpose” for purposes of the façade easement means “the preservation of an historically important land area or a certified historic structure.” The Court stated that the entity’s deduction also depended on whether the transfer of the donated property in fact preserved the subject property, regardless if the provisions of Treas. Reg. §1.170A-14(g)(6) were met.

The Court found that it did not. New York City law made it unlawful for the entity to alter the subject property unless the Landmarks Preservation Commission approved it. Because local law and the rules of the Landmarks Preservation Commission preserved the subject property, not the rights which NAT possessed pursuant to the easement, the easement failed to meet the requirements of I.R.C. §170(h)(4).

Charleston, like many other historically significant towns, created their own ordinances and Board of Architectural Review to govern and manage the proposed alteration of historically significant properties. These properties are protected by these provisions regardless of whether a façade or any other type of conservation easement is given to charity. The Court in 1982 East found that any additional protections provided by the grant of an easement to such an organization are not meaningful enough to meet the requirements of the Tax Code. It does not “preserve a historically important structure” because the laws of the City of Charleston already protect it. People in this city who live under these BAR restrictions may not be able to take a charitable deduction on their federal returns if they choose to grant an easement on their property.

These two Tax Court opinions nearly eliminate any incentive for a homeowner to donate a preservation easement on their property. While the taxpayers in Kaufman and 1982 East were not subject to penalties for their erroneous deductions due to the Court’s first impression of the issue, future taxpayers will not be so lucky. Taking such a deduction may result in not only the disallowance of your deduction, but also accuracy related penalties and penalties for the substantial understatement of income tax, plus interest.

Of course, nothing prevents you from donating an easement out of the goodness of your heart. Just don’t plan on feeling the benefits in your wallet.

Money Matters: LWC on the Radio!

2011-04-26T16:06:00.000-04:00

Check out Lindsey's first radio show on Money Matters, which originally aired in February of this year, hosted by Rick Durkee on Saturday mornings on Charleston News Radio 94.3 FM.

Check out Lindsey's second show, which aired in March of 2011:

Check out Lindsey's most recent show, which aired in April:

Update: U.S. Tax Court Sides with Fourth Circuit on Statute of Limitations Circuit Court Split

2011-04-26T14:28:00.000-04:00

On April 5^th, we gave you the gritty details on the Fourth Circuit’s side of the Circuit Court split when it comes to the issue of the statute of limitations and the overstatement of basis. Yesterday, the United States Tax Court handed down its ruling in Carpenter Family Investments, LLC v. Commissioner of Internal Revenue which serves another blow to the IRS.

Like the Fourth Circuit, the Tax Court ruled that the general three year statute of limitations for assessing tax applies when a taxpayer is determined to have overstated his basis. The facts in this case centers on the sale of shares of stock by an Oregon-based partnership. In 2000, the partnership sold certain shares of stock and reported a modest gain of just over $6,000.00. The partners timely filed its 2000 joint income tax return and properly reported the gain from the sale of stock. In October 2008, the IRS issued a final partnership administrative adjustment (FPAA) asserting that the partnership had participated in transactions that artificially stepped-up the inside basis, resulting in an omission from gross income pursuant to Sections 6229 and 6501 of the Internal Revenue Code and application of the extended six-year statute of limitations for assessing the unpaid tax. According to the IRS, the partnership adjustment was timely. The taxpayers begged to differ.

The Tax Court ruled in favor of the partnership and found that Colony v. Commissioner, the 1958 Supreme Court case, controlled. The Tax Court also relied on the Ninth Circuit’s interpretation of Colony in Bakersfield Energy Partners, L.P. v. Commissioner, decided in 2009. See 568 F.3d 767. In the U.S. Tax Court and Ninth Circuit Court of Appeals, the standard three year statute of limitations applies to the assessment of tax when a taxpayer is found to have understated basis.

Based on the Circuit discrepancies in interpreting the statute and case law, we may soon see a petition for certiorari granted by the U.S. Supreme Court. We will continue to keep you updated.

Apples and Oranges: The IRS Targets the Misclassification of Contractors.

2011-04-21T15:52:00.000-04:00

As reported in the ABA Journal, the Internal Revenue Service will randomly audit 6,000 businesses over the next three years to determine whether they misclassified workers as independent contractors when they should be treated as employees for tax purposes. When properly classified, using independent contractors as opposed to employees allows businesses to escape unemployment, Social Security and Medicare taxes and overtime pay.

These benefits may not outweigh the risk. If a business is caught misclassifying workers, they will be subject to taxes, interest and penalties after a lengthy and expensive audit. Determining whether a worker is an employee or independent contractor for tax purposes is a fact intensive inquiry involving the weighing of (count ‘em) twenty factors. Some factors may be more important than others in the context of the services the individual is performing. Because there is no cut and dry test, the audit process can get heated.

What triggers a potential IRS audit of your business? Issuing the same individual a W-2 and a Form 1099. The most common scenario occurs when retiring employees cuts back on hours and, as a consequence, are changed to contractor status. While this is not against the rules per se, be careful—if your new independent contractor is performing the same exact job and holds the same duties and responsibilities as they did during their “employment,” the classification could be challenged.

A great way to protect yourself is to put it in writing. Draft up an independent contractors agreement setting forth your contractor’s duties and detailing policies and procedures. This way you will have a concrete agreement to show the IRS when they knock on your door.

If you have questions on whether your workers may be classified as employees rather than independent contractors, talk to your tax attorney, financial adviser or Certified Public Accountant.

Money Matters: LWC on the Radio!

2011-04-21T14:53:00.000-04:00

To check out the New York Times article on why people pay taxes, visit:

http://economix.blogs.nytimes.com/2011/04/06/why-people-pay-income-taxes/

The Best Part of Being Rich? The Audit.

2011-04-06T15:35:00.001-04:00

According to the IRS’ recently released statistics, the percentage of taxpayers who were audited in 2010 increased in every category of AGI above $500,000 compared to a year earlier. The most dramatic increase came in the $10M income bracket, of which 18% of individual earners of $10M or more suffered through audits in 2010 compared to only 11% in 2009. For individuals earning between $500,000 and $1M, audits increased from 2.8% to 3.4%.

While the total number of audits skyrocketed in recent years, at least 70% of all individual examinations by the IRS are conducted through correspondence rather than an agent. Some audits, however, involve detailed scrutiny and can run some taxpayers upwards of tens of thousands of dollars in CPA and legal defense fees.

The increase in affluent audits could be a result of IRS Commissioner Doug Shulman’s “wealth squad”, formally known as the IRS’ Global High Wealth Industry group, created in 2009. Coupled with the formation of the wealth squad was an IRS announcement providing limited amnesty for taxpayers with hidden offshore accounts.

How can you head off a possible audit? Consider over-disclosure. Speak with your CPA about providing more than the minimum-required information when disclosing a potentially audit-triggering transaction.

And the Fighting Continues: Fourth Circuit Ruling Deepens Circuit Court Split

2011-04-05T13:50:00.000-04:00

In February of this year, the Fourth Circuit reversed the District Court for the Eastern District of North Carolina and held that a partnership’s overstatement of its basis did not constitute an “omission” subject to the six-year statute of limitations for assessment. Based on a United States Supreme Court case decided in 1958, (when the country used a different tax code) the Fourth Circuit found that an adjustment made in 2006 for a 1999 tax return was untimely. The Fourth Circuit now joins the Federal and Ninth Circuits in so holding.

The case, Home Concrete & Supply, LLC v. U.S., involves two shareholders of a corporation who sought financial planning advice to reduce any tax liability generated by the sale of the business. The taxpayers formed an LLC and inflated the outside basis in the partnership by contributing short sale proceeds of Treasury Bonds. Assets from the corporation were transferred to the LLC and, after another few transactions, the business ended up reporting a modest $69K gain from the sale of the business.

The components of the transaction were reported to the IRS on its 1999 tax return. The IRS failed to initiate its investigation until June 2003, and a Final Partnership Administrative Adjustment (FPAA) was issued on September 7, 2006, which decreased the taxpayers’ reported outside bases in the LLC to zero, resulting in a substantial increase in taxable income. The IRS argued that the partnership was formed solely for the purpose of tax avoidance by artificially overstating the basis of the partnership interest. The entity made its tax deposit and filed a refund suit in the Eastern District of North Carolina pursuant to the argument that the six-year statute of limitations does not apply to an overstatement of basis.

The IRS argued that the six-year statute of limitations applies because Home Concrete “omitted from gross income an amount properly includable therein” which exceeded 25% of the amount of gross income stated in Home Concrete’s 1999 tax return, which triggers the extended statute of limitations under I.R.C. §6501(e)(1)(A).

The District Court issued partial summary judgment in favor of the IRS, stating that when a taxpayer overstates basis and, as a result, leaves an amount out of gross income, the taxpayer “omits from gross income an amount properly includable therein” as required under I.R.C. §6501(e)(1)(A). The taxpayers appealed.

The Fourth Circuit found that Colony, Inc. v. Commissioner, a Supreme Court case decided in 1958, was controlling. In Colony, the IRS alleged that a taxpayer understated the gross profits on the sales of certain lots of land as a result of having overstated the basis of the lots. It argued that its assessments were timely under I.R.C. §275, the predecessor to Section 6501. In 1954, Congress recodified former Section 275 at Section 6501(e)(1)(A) and added several subjections. Save for the additions, the language of the two remains the same. The Colony Court found that the application of the extended statute of limitations found in Section 275 is limited to situations in which specific receipts or accruals of income items are left out of the computation of gross income. An understatement of gross profits based on the overstatement of basis does not fit within this narrow class and therefore, the six-year statute of limitations does not apply.

The Fourth Circuit followed Colony accordingly. It found that Section 651(e)(1)(A)’s special extended statute of limitations applies solely to situations where a taxpayer omits or fails to report some income receipt or accrual in his computation of gross income. It does not apply to general errors in computation that may arise from other causes. The Fourth Circuit joined the Federal and Ninth Circuits in holding that an overstatement in basis does not result in an omission from reported gross income.

This holding comes in stark contrast to the January 2011 holding of the Seventh Circuit in Beard v. Commissioner. In Beard, the Seventh Circuit held that the six-year statute of limitations does apply to an overstatement of basis, reversing the lower court. The Seventh Circuit joins the Fifth Circuit in so holding. See Phinney v. Chambers, 392 F.2d 680 (5th Cir. 1968), cert. denied, 391 U.S. 935.

The Fourth Circuit’s holding provides some transactional flexibility for individuals and businesses who intend on selling businesses or property. We will continue to follow the circuit court rulings on this issue and keep you updated with new information as it become available.

Money Matters: LWC on the Radio!

2011-03-19T09:39:00.001-04:00

Check out the IRS statistics at this link:

http://www.irs.gov/taxstats/article/0,,id=102174,00.html

Check out the IRS Internal Revenue Manual at this link:

http://www.irs.gov/irm/part4/index.html

There’s No Such Thing As A Free Lunch . . . or Donut.

2011-03-18T15:57:00.001-04:00

Winning prizes isn’t as much fun as it used to be. Last year, Bob Choate of Houston, Texas won a year’s supply of coupons for a free donut or a dozen donut holes and a free cup of coffee. A delicious treat, so it seemed. But his smiles turned into tears when the IRS issued a Form 1099 to Mr. Choate for the value of the free loot. How much? $927.61.

Under the Internal Revenue Code, prizes and awards are subject to tax based on their fair market value. If prizes are valued at more than $600, donors are required to issue a Form 1099 to the lucky winner. For Bob, this means he will pay tax based on an 83 cent donut, plus $1.25 for donut holes and a $1.25 cup of coffee for 365 days.

Next time you “win” something, ask about who will be footing the tax bill before you decide to accept.

Money Matters: LWC on the Radio!

2011-02-04T15:44:00.000-05:00

Beginning this month, be sure to catch Lindsey W. Cooper Jr. on the “Money Matters” radio show on News Radio 94.3 FM. Money Matters covers issues relating to financial planning, retirement, accounting, and the IRS. Mr. Cooper’s first show will air Saturday, February 26^th at 9:00a.m., and he will be taking listeners through the IRS audit process. Be sure to tune in and ask your questions!

Preparing for a Preparer

2011-01-27T09:21:00.000-05:00

With April 15^th just around the corner, everyone should be thinking about getting their documents together and getting ready to file. As stated in our previous blogs, most individuals and businesses choose to hire a return preparer to complete their IRS filings. Remember- just because you do not personally prepare your return does not mean you are not responsible for the information on it. To diminish the possibility of errors and audits, taxpayers need to be mindful in selecting a return preparer. Here are a few pointers from the IRS when selecting an individual or firm:

1. Check the person’s qualifications. Ask if the preparer is affiliated with a professional organization that provides its members continuing education classes and a code of ethics. Membership in such an organization forces the individual to comply with certain rules and holds them to a higher standard than Joe Schmo, whose personal code of ethics may not measure up.

2. Check on the preparer’s history. Check with the Better Business Bureau and state boards of accountancy or state bar associations to check licensure status and disciplinary filings. If you are checking out an “enrolled agent,” you can look them up with help from the IRS Office of Professional Responsibility.

3. Find out about their service fees. Avoid preparers who base their fee on the percentage of your tax refund. Also be weary of individuals who claim they can obtain larger refunds than others.

4. Make sure the tax preparer is accessible. You may need to contact the preparer after the return is filed in case an issue arises or you are audited.

5. Provide all records and receipts needed to prepare your return. Most, if not all reputable preparers will request to see all receipts and documents and will ask questions in order to determine your income, eligibility for deductions, and tax liability.

6. Never sign a blank return. Enough said. Don’t do it.

7. Review the entire return before signing. Your signature swears under penalty of perjury that you believe the information is accurate and correct. So make sure you understand the information and ask questions if need be.

8. Make sure the preparer signs the form and includes their PTIN. A paid preparer must include this information on your return. Also make sure you receive a copy.

Following these tips will ensure you find a return preparer you are comfortable with and confident in.

Welcome to the Working World, Doc: Residents Experience the Fun of FICA

2011-01-18T16:04:00.000-05:00

Earlier this week, the Supreme Court unanimously decided that medical residents are not “students” and are instead “workers” for purposes of determining whether the institutions they work for should pay Social Security and Medicare taxes.

Mayo Foundation for Medical Education & Research v. United States focused on the Federal Insurance Contributions Act (FICA) exemption for students who work for the educational institutions in which they are enrolled. In December of 2004, the U.S. Department of the Treasury declared that medical residents did not qualify for this exemption and should instead be treated as employees for FICA purposes due to the full-time nature of their job. The Mayo Clinic, along with other institutions who employ medical residents, began paying their share of FICA taxes in 2005, but later separately sued the federal government for a refund. They argued that medical residents are students because their employment is educational in nature. The institutions won on the district court level but the decision eventually was overturned on appeal.

Chief Justice John Roberts’ opinion declared that the Treasury Department did not err in concluding that medical residents who work long hours and resemble career employees in other ways are the types of employees that Congress planned to participate in the Social Security system. Residents in the Mayo Clinic’s residency program examine and diagnose patients, prescribe medication, recommend treatment plans, and perform certain procedures under the supervision of more senior residents and attending physicians. In 2005, the Clinic’s residents received annual stipends ranging between $40K and $56K, and were also given health insurance, malpractice insurance, and paid vacation. While residents are required to attend weekly lectures and take written exams, the bulk of their 50 to 80 hour work week is spent attending to patients. The Court rejected the Clinic’s contention that the IRS should apply a case-by-case inquiry into the activities that each resident undertakes each day in order to evaluate whether the exemption should apply.

While the Court’s decision has a large impact on the medical community, the decision also impacts the way accountants and other tax professionals read the Internal Revenue Code. For many years, Courts and practitioners were conflicted on the amount of deference to give tax regulations, revenue rulings, and other published agency guidance. The history of opinions coming out of the U.S. Tax Court even shows it often granted more weight to opinions of the district courts and the Court of Federal Claims rather than to treasury regulations. However, with the ruling in Mayo Foundation, the proper weight to give agency guidance is settled with the Court clearly holding that the Chevron doctrine applies to all statutes, including those found in the Internal Revenue Code.

In Chevron, U.S.A., Inc. v. Natural Resources Defense Counsel, Inc., 467 U.S. 837 (1984), the Courts set a two-step method for interpreting statutes subject to regulatory interpretation:

1. Is the statute ambiguous? If not, proceed no further and decide the case based solely on the statutory language.

2. If the statute is ambiguous, is the agency interpretation reasonable? If so, the courts should defer to the agency interpretation.

For some reason, many tax lawyers and even judges did not acknowledge that Chevron applied to tax regulations. However, the Court’s ruling could mean bad news for taxpayers; the history of Chevron shows that its citation almost always strengthens the administrative agency’s (here, the Internal Revenue Service) case.

While the long term effects of the implementation of the Chevron doctrine to tax may not be known, Mayo Foundation will most certainly have an immediate impact on medical students and the hospitals who employ them.

Clear as Mud: Americans Spend 6.1 Billion Hours Attempting to Comply with the Tax Code

2011-01-07T15:54:00.000-05:00

This week, the National Taxpayer Advocate Nina Olson released her annual report to Congress detailing the major issues taxpayers face in complying with Internal Revenue laws. Among them: Filing taxes takes too long, costs too much money, and is extremely overwhelming for taxpayers. Ms. Olson’s report analyzed IRS data to conclude that taxpayers and businesses spend 6.1 billion hours a year complying with tax-filing requirements, exhausting valuable time better spent elsewhere. Another major issue: the use of tax liens. The number of liens filed by the IRS has increased 550% over the last decade, which causes significant consequences for consumers. Tax liens are reported on credit reports making some taxpayers unable to obtain a mortgage, lease, car insurance, or credit card. Liens may even affect employment prospects.

Ms. Olson’s analysis also found that the tax code has grown to over 3.8 million words as of February 1, 2010, compared to the 1.4 million words reported in 2001. The increasing complexity of the tax code has also forced more Americans to seek out CPAs, enrolled agents, and software programs such as TurboTax. According to a recent IRS study, the median individual taxpayer spent $258 in 2007 for tax prep compared to $220 spent in 2000. This cost increases exponentially when tax returns contain errors due to the complexities and are audited, forcing individuals to again seek out professional assistance.

Ms. Olson’s entire report to Congress may be found at http://www.taxpayeradvocate.irs.gov/Media-Resources/Annual-Report-To-Congress-Full-Report.

Merry Christmas from the IRS!

2010-12-23T10:48:00.000-05:00

On December 20, 2010, the IRS bestowed the most thoughtful Christmas gift on the American public: Publication 17, “Your Federal Income Tax.” This revised edition totals 295 pages of information aimed at guiding you through the tax code in order to successfully file your income tax returns this spring.

So snuggle up by the fire this winter with your free copy of Publication 17, available at http://www.irs.gov/pub/irs-pdf/p17.pdf.

Good Riddance to 2010: Tax Tips for the Close of the Year

2010-12-17T09:30:00.000-05:00

The holiday season—it conjures up thoughts of family and friends, fruitcake, champagne and resolutions. For you small business owners, it also means the close of another tax year and the beginning of the April 15^th panic. In order to smooth the transition to 2011, Barbara Weltman for the Wall Street Journal offers some steps to complete before you watch the ball drop:

Bring your books up-to-date: Before you can start tax planning, it is essential to know whether your business made or lost money this year. This will also save you time come April 15^th.

Consider a retirement plan: Ms. Weltman notes that profits may be sheltered in an IRS-qualified retirement plan. For tips and ideas on whether you may qualify and what plan may be best for you and your business, talk to your accountant or financial advisor. Remember—to get the benefit this year, the retirement accounts must be set up by December 31^st.

Health insurance: Some business owners who pay for their health insurance may deduct it, but only as a personal expense and not a business expense. However, for 2010, if you are self-employed you may use the premiums to offset the amount of net earnings used to calculate your self-employment tax.

Give to charity: Charitable contributions are tax deductible within the limits allowed by law. For owners of a C-corporation, charitable deductions are limited to 10% of taxable income. For 2010, there is no phase-out of itemized deductions for high-income taxpayers. This is limited to business owners who record business income on personal returns (e.g., owners of LLCs or S-corporations). Check out IRS Publication 78 for information on whether your entity may qualify.

Upgrade equipment: There are great tax options in 2010 for deducting or expensing new equipment. If your business made money this year, you can elect first-year expensing for the cost of the equipment up to $500,000. If your business lost money, you can rely on 50% bonus depreciation to write off half the cost.

To read Ms. Weltman’s entire article, visit www.wsj.com.

$1.00 of Taxes= $1.17 Worth of Government Spending

2010-12-13T17:57:00.000-05:00

The Wall Street Journal recently published an article discussing the repercussions of higher taxes. In the late 1980s, Richard Vedder and Lowell Gallaway of Ohio University authored a paper for the congressional Joint Economic Committed (known as the $1.58 study). This study found that for every new dollar of new taxes raised, more than one dollar was spent by Congress. The research was updated in 2010 and not much has changed. Using statistical analyses that factor in inflation, wars, and business-cycle fluctuations, the new research shows that over the entire post-WWII era, each dollar of new tax resulted in $1.17 of new spending.

To see the full article, visit www.wsj.com.

Things to Remember When Choosing A Tax Controversy Lawyer: Experience, Experience, Experience!

2010-12-08T13:22:00.000-05:00

With the economy on edge and deficits arising at unprecedented rates, the federal and local revenue agencies have gotten creative, and aggressive, in finding new sources of revenue. Obviously, the government raises money through taxation, and the pace of taxpayer audits are rising in an attempt to capture the optimal amount of tax. If you become faced with the prospect of an IRS or state audit, and may have issues within the tax return, your best bet is to retain a tax controversy attorney with knowledge of IRS policies and procedures to represent your interests.

A tax controversy lawyer is much different from your accountant, estate planner, or transactional lawyer. An experienced tax controversy lawyer can provide advice on responding to IRS requests for information to limit the breadth and scope of the audit to the auditor’s central issues, which in turn will reduce costs. If issues are not resolved favorably during the audit, a tax controversy lawyer can guide you through the appeals process, and, most importantly, posture your case appropriately for litigation, if the need arises. Indeed, most pure tax lawyers have very little appetite or experience for a true adversarial matter entailing litigation.

So what should you be looking for in a tax controversy lawyer?

1. K.I.S.S. – Keep It Simple Stupid. The critical broad question is “How long have you been practicing law?” Experience usually means something.

2. Check Background - Ask the attorney if he or she has ever worked for the Internal Revenue Service, the Department of Justice, Tax Division or other government revenue agency. Again, specific experience with the government pertaining to tax controversy is a very valuable attribute in selecting a tax attorney. Working for “the other side” provides a leg-up for you as a client because of your attorney’s familiarity with IRS practices and strategies. Most tax controversy lawyers have not worked for the other side.

3. Litigation Experience – If you know that an audit issue may lead to further controversy, check to make sure your attorney has experience litigating tax cases either in Federal District Court or Tax Court. Experience in court is a must. Most tax lawyers are not litigators.

If you wish to discuss your tax controversy issue, please feel free to contact our Office and schedule a consultation. This Office usually does not charge for initial consultations if they are kept to 30 minutes or less.

Supplementing FBAR: New 2011 Foreign Asset Disclosure Requirements

2010-12-03T14:09:00.000-05:00

On March 18, 2010, the President signed into law the Hiring Incentives to Restore Employment (HIRE) Act that contains a provision that changes and supplements the FBAR filing requirement. Section 511 of the HIRE Act added Section 6038D to the Internal Revenue Code which requires individual taxpayers with an aggregate balance of more than $50,000 in “specified foreign financial assets” to file a disclosure statement with his or her income tax return. 26 U.S.C. §6038D. While an FBAR filing is only required to be filed for individuals who had financial interest in or signature or other authority over any foreign financial accounts if the aggregate value of these financial accounts exceeds $10,000 at any time during the calendar year, the new code section defines a "specified foreign financial asset" to include ownership of: (1) any financial account maintained by a foreign financial institution; (2) any stock or security issued by a non-U.S. person; (3) any financial interest or contract held for investment that has a non-U.S. issuer or counterparty; and (4) any interest in a foreign entity. The broad language makes the Section 6038D filing requirement more applicable than the FBAR filing. Some taxpayers will be required to file both next year.

Unlike FBAR information, which originates under Section 31 of the United States Code and is normally not permitted to be verified against a tax return or tax information due to privacy and disclosure concerns, the new provision under Section 6038D has none of these restrictions. This change allows the IRS to use its arsenal of tools and resources to verify the information reported.

The minimum penalty for failing to submit the required disclosure pursuant to Section 6038D is $10,000, which increases by $10,000 for each 30-day period following receipt of notification of your failure to file from Treasury, with the maximum penalty being $50,000. There is a 90-day grace period following notification from the Treasury before the additional $10,000 penalties accrue. The penalty may be waived if the taxpayer is able to demonstrate that the failure to file was due to reasonable cause. Furthermore, the HIRE Act amends Section 6662 to make the underpayment penalty applicable to understatements attributable to undisclosed foreign financial assets. For such understatements, the penalty imposed by Section 6662 is 40 percent, rather than the normal penalty of 20 percent.

IRS Commissioner Doug Shulman called Section 6038D “the next big thing” in international tax compliance and enforcement. He further noted that the President has authorized funding to hire 1600 new people for the IRS’ international operations over the next two years. (“Tax From the Top: Q&A With IRS Commissioner Doug Shulman,” Journal of Accountancy, April 2010, page 16.) The reporting requirements are effective beginning in the 2011 taxable year. The IRS is eager to find assets abroad so remember to disclose these foreign assets or risk incurring a hefty IRS fine.

New Duty Imposed on IRS: Find My Address!

2010-11-23T16:24:00.000-05:00

This office believes a recent Fifth Circuit Court of Appeals opinion may have a broad impact on the policies and procedures of the Internal Revenue Service. As explained below, the IRS may have a duty to perform due diligence when corresponding with taxpayers through the mail.

The Fifth Circuit Court of Appeals reversed a Tax Court decision that an individual’s petition challenging the IRS’s denial of innocent spouse relief was untimely because it was filed more than 90 days after the IRS issued its determination. The Fifth Circuit reinstated the case because it found the IRS was on notice that its determination was sent to the wrong address. The Fifth Circuit found that the IRS has a duty to search for taxpayer’s correct addresses when sending correspondence. Because the taxpayer acted within 90 days of receiving the determination at her correct address, the petition was timely.

The taxpayer in this case was Pamela R. Terrell who received an assessment for over $660,000 in unpaid taxes. She filed a Request for Innocent Spouse Relief (Form 8857) on September 20, 2006 with the IRS pursuant to section 6015 of the Internal Revenue Code. Under Section 6015(e)(1)(A), the Tax Court has jurisdiction over an individual’s request for innocent spouse relief if a petition is filed at any time after the earlier of the date: (a) the IRS mails a notice of its final determination of relief available to the individual, or (b) 6 months after the date the request is made, and, in either case, not later than the close of the 90^th day after the date the IRS mails its notice of final determination.

After Ms. Terrell submitted the Form 8857, she moved. The IRS mailed two notices of determination to her old address denying relief and notifying Ms. Terrell she had 30 days to request a review from IRS Appeals. The US Postal Service returned both notices as undeliverable. After the IRS did not receive a request to review, it mailed to her old address a Notice of Final Determination on April 6, 2007 denying innocent spouse relief and stating she had 90 days to petition the Tax Court for review. This notice was also returned to the IRS as undeliverable.

On April 11, 2007, Terrell filed her 2006 tax return listing her new address. After it received the returned Notice of Final Determination, the IRS searched its database and found her new address from her filed tax return. The IRS then re-mailed the Notice of Final Determination to her new address. She then filed a petition with the Tax Court on July 13, 2007.

The Tax Court dismissed the petition because it was not filed within 90 days of the date of the Notice of Final Determination- April 6, 2007. It held that Terrell had not carried her burden of demonstrating that the Notice was not sent to her “last known address.” The Court stated Ms. Terrell had to file her petition by July 5, 2007, and because she did not file until July 13, 2007, it lacked jurisdiction to hear her claim. Ms. Terrell appealed.

The Fifth Circuit held that, absent a subsequent, clear and concise notification of an address change, the IRS may consider the address on the taxpayer’s most recently filed return as her “last known address.” But this does not dispense with the requirement that the IRS must use reasonable diligence to determine the taxpayer’s address in light of all relevant circumstances.

In this case, when the IRS sent its Notice of Final Determination on April 6, 2007, it should have already known that Terrell’s address on file was incorrect because three separate mailings had been returned as undeliverable. Although the IRS had not received clear and concise notification that her address had changed, the Fifth Circuit found that the IRS could not rely on a lack of notification once it was on notice that its address on file was incorrect.

Because the IRS failed to take any steps to determine Ms. Terrell’s address after receiving the undeliverable mail and before mailing the Notice, the Fifth Circuit found that the IRS did not exercise reasonable diligence. It noted the IRS could have done a search through the Department of Motor Vehicles, contacted Ms. Terrell’s employer, searched using her social security number, or undertaken any number of actions that might have revealed her new address.

The Court went on to hold that because the Notice was not sent to her “last known address,” the Notice was null and void. The statutory petition period began only when the IRS re-sent the Notice to Ms. Terrell’s correct address on May 14, 2007. Because Ms. Terrell filed her petition within 90 days of this date, the Tax Court erred in finding itself without jurisdiction to hear the merits.

To read the complete opinion, see Terrell v. Commissioner of Internal Revenue, ---F.3d ---, 2010 WL 4276021 (5th Cir., November 1, 2010).

Economic Substance: A Strict Diagnosis

2010-11-09T11:26:00.000-05:00

The new Health Care and Education Reconciliation Act of 2010 passed this year may have some very unhealthy consequences for unwitting small businesses and individual taxpayers in the form of strict liability tax penalties. With close to 150 million federal income tax filers in the country, taxpayers are given no comfort in the revelation that Congress enacted yet another strict liability penalty for transactions that lack “Economic Substance.” The weight of the Economic Substance penalty is sure to be borne by small businesses and individuals, not the large corporations that can afford the costs of engaging in controversy with the IRS.

With the enactment of the strict liability penalty, the IRS apparently seems unable to learn from its past mistakes. Section 6707A was enacted to impose strict liability for the failure to disclose and report tax shelters to the IRS. Although the penalties reaching $300,000 per year were intended for large corporations, Section 6707A victimized many small businesses for attempting to do good deeds such as establishing employee benefit plans. Laura Saunders, Small-Business Owners Fret Over Large IRS Fines, The Wall Street Journal, September 19, 2009 at B1.

As word spread of the damage being caused to small businesses by Section 6707A’s strict liability, senators and congressmen from around the country pleaded with the IRS to cease its imposition. What resulted was a moratorium on the collection of the penalty until Congress created a solution. Letter from Max Baucus, Chairman, Senate Committee on Finance, Charles Grassley, Ranking Member, Senate Committee on Finance, John Lewis, Chairman, House Committee on Ways & Means, and Charles W. Boustany Jr., Ranking Member, House Committee on Ways & Means, to Douglas H. Shulman, Commissioner, Internal Revenue Service (June 12, 2009) (available at the U.S. Senate Committee on Finance website). Even the National Taxpayer Advocate Nina Olson accused the fine of being unconstitutional in her yearly report. Taxpayer Advocate Service, 2008 Annual Report to Congress, vol. 1, p. 421. Congress has not fixed 6707A’s unintended damages but, nonetheless, the IRS marches forward with strict liability penalties for transactions that it unilaterally deems to lack economic substance.

By way of reference, a strict liability penalty is one for which there exists no reasonable cause defense under Section 6664. Even if the taxpayer had a reasonable basis for the position by relying on a tax professional in good faith and discloses the transaction to the IRS, the penalty still applies. See 26 U.S.C. §6707A(a); Health Care and Education Reconciliation Act of 2010, Pub. L. No. 111-152, 124 Stat. 1029 (to codify “economic substance” at 26 U.S.C. §7701(o)(1)). Thus, the only defense is to convince the IRS that the transaction in fact has economic substance. Good luck.

In theory, the IRS’s stated policy is against strict liability. Policy Statement 20-1 provides that the “Service will demonstrate the fairness of the tax system to all taxpayers by … providing every taxpayer against whom the Service proposes to assess penalties with a reasonable opportunity to provide evidence that the penalty should not apply; giving full and fair consideration to evidence in favor of not imposing the penalty, even after the Service’s initial consideration supports imposition of a penalty; and determining penalties when a full and fair consideration of the facts and the law support doing so.” Perhaps Congress should reexamine the IRS stated policies when deciding whether to enact strict liability penalties that strip the taxpayer’s right to full and fair consideration. In addition, the penalties are not insignificant.

The Economic Substance penalty is 20 percent of the taxpayer’s understatement if the transaction is disclosed and 40 percent if the transaction is not disclosed under Section 6662. In addition, the Section 6662A penalty is also stacked on top of it, which is another 20 percent. Health Care and Education Reconciliation Act of 2010, Pub. L. No. 111-152, 124 Stat. 1029 (to be codified at 26 U.S.C. §6662(b)(6)).

If a potential 60 percent penalty is not daunting enough, the economic substance doctrine is one of the most fluid and facts-and-circumstances based “test” in the Code and is a judicially created vehicle whose standard varies from circuit to circuit. In general, the Economic Substance Doctrine stands for the idea that anticipated tax benefits from a transaction may be denied, even if the transaction completely complies with the technical aspects of the Internal Revenue Code, if the transaction otherwise does not result in a meaningful change to the taxpayer’s economic position other than a reduction in federal income tax. See Rice’s Toyota World, Inc. v. Comm’r, 752 F.2d 89 (4th Cir. 1985); see also ACM P’ship v. Comm’r, 157 F.3d 231 (3d. Cir. 1998). The codification does not provide further clarity.

Section §7701(o) states that “[i]n the case of any transaction to which the economic substance doctrine is relevant, such transaction shall be treated as having economic substance only if (A) the transaction changes in a meaningful way (apart from Federal income tax effects) the taxpayer’s economic position, and (B) the taxpayer has a substantial purpose (apart from Federal income tax effects) for entering into such transaction.” The only defined term relating to Section 7701(o) is “economic substance doctrine,” which is defined as the “common law doctrine [under which certain tax treatment may be disallowed if the transaction does not have economic substance].” Simply adopting a common law doctrine that varies from circuit to circuit implants ambiguity in the statute.

Congress also failed to define terms such as “transaction to which the economic substance doctrine is relevant”; “changes”; “meaningful way”; “taxpayer’s economic position”; and “substantial purpose.” The codification provides no further assistance in determining any red flags that may trigger a transaction’s disallowance. In fact, Congress seems to have codified the judicial doctrine and inserted some new, undefined terminology that will keep the litigation lively.

The issue with the application of the Economic Substance doctrine is that it is usually applied to transactions that occurred many years ago, and then the IRS makes a decision to aggressively attack the transaction. One such transaction of late would be stock loan transactions consisting of non-recourse loans individuals and businesses took on a stock portfolio. Many taxpayers’ advisors agreed with the loan treatment under the Internal Revenue Code. Even though law existed to support the loan treatment and the taxpayer did actually transfer stock to the lending entity, the courts agreed with the IRS that the transactions lacked economic substance. Nagy v. United States, Slip Copy, 2009 WL 5194996 (Dec. 22, 2009). These taxpayers would be subject to a 60 percent penalty because the loan proceeds would not have been disclosed on the return, and the return preparer may be subject to preparer penalties.

In the future, what could keep the IRS from taking the position that the discounts related to the transfer of Family Limited Partnership interests funded with stock, bonds and other liquid assets lack economic substance? I am sure that every tax practitioner could think of a client who engaged in a transaction in the past that may lack economic substance.

By codifying this ambiguous, strict liability economic substance penalty, Congress is undoubtedly placing an insurmountable burden on small businesses and individuals. The IRS will not consider any documentation, CPA’s advice, tax opinions or other facts and circumstances that could support a reasonable cause defense before imposing this penalty. There is no defense to this penalty on the administrative level unless you can convince the IRS that the transaction does have economic substance. Should the IRS remain unconvinced, the only option left is to litigate the economic substance issue, which is a fact intensive and expensive process, especially when facing the litigation resources of the United States. Jasper L. Cummings, Jr., Making Litigation Complex, Tax Notes, June 28, 2010.

Congress seems intent on implementing harsher and harsher penalties to raise revenue at the expense of small businesses and individual taxpayers.

Check out this article on the web, along with other publications from South Carolina Tax Reports Fall 2010.

As If You Should Have to Ask: “Plain Writing” Rule Becomes Law

2010-10-21T09:34:00.000-04:00

“Huh?” has become the typical response of people who receive and are forced to read notices, pamphlets, and other government published materials. IRS notices alone can cover several pages, front and back, with relatively no instructions. Much to our relief, President Obama signed the Plain Writing Act of 2010 into law on October 13, 2010.

The law requires the federal government to write its documents in simple, easy to understand language. The law itself defines “plain writing” as writing that is clear, concise, well-organized, and follows other best practices appropriate to the subject or field and intended audience. “Americans lose time and money because government instructions, forms, and other documents are too complicated,” Senator Daniel Akaka of Hawaii, the bill’s co-sponsor said. “The Plain Writing Act will require agencies to write documents which are clear, well organized, and understandable, leading to fewer customer service questions and increased compliance, making the government more efficient.”

One possible hiccup in the mandate: no punishment. Each federal agency is stuck with the task of training and educating its employees on what constitutes “plain language,” and agency heads will issue annual reports on compliance. However, there is no provision in the law for its violation.

Here are two examples of changes already made:

The Department of Health and Human Services took a six-page article and replaced it
with a single brochure:

Before
The Dietary Guidelines for Americans recommends a half hour or more of moderate physical activity on most days, preferably every day. The activity can include brisk walking, calisthenics, home care, gardening, moderate sports exercise, and dancing.

After
Do at least 30 minutes of exercise, like brisk walking, most days of the week.

The Medicare Beneficiary Services took standard correspondence and cut it down to two sentences:

Before

Investigators at the contractor will review the facts in your case and decide the most appropriate course of action. The first step taken with most Medicare health care providers is to reeducate them about Medicare regulations and policies. If the practice continues, the contractor may conduct special audits of the provider’s medical records. Often, the contractor recovers overpayments to health care providers this way. If there is sufficient evidence to show that the provider is consistently violating Medicare policies, the contractor will document the violations and ask the Office of the Inspector General to prosecute the case. This can lead to expulsion from the Medicare program, civil monetary penalties, and imprisonment.

After

We will take two steps to look at this matter: We will find out if it was an error or fraud. We will let you know the result.

For other comparisons and examples of the new “plain writing,” visit www.plainlanguage.gov.

Strapped for Cash? Try Checking Out Your Old Tax Returns.

2010-10-13T09:37:00.000-04:00

In a recent article featured in the Wall Street Journal, attorney Barbara Weltman discussed how old tax returns still have value. Individuals and businesses can seek to amend past returns in order to receive tax refunds. Reviewing old tax returns may also serve as a reminder to take other deductions or carryovers on this year’s return. For business owners, here are some important things to check when reviewing your old returns:

· Home Office Deductions: The deduction for home office expenses cannot exceed the gross income from the home office activity in any taxable year. However, any excess may be carried forward and used to offset gross income at any time in the future.

· Net Operating Losses (NOLs): Losses relating to your business that are not used on a current year’s tax return may be carried back for two years and carried forward for up to 20 years.

· Tax Credits: Tax credits as a part of the general business credit (meaning the overall limitation of a combination of business credits) may be carried back for one year and forward for up to 20 years. This year, small businesses may carry back credits for up to five years.

These are just a few of the ways you can squeeze more pennies out of your tax return. For the complete article, visit www.wsj.com.

Changes for Small Businesses under the Small Business Jobs Act of 2010

2010-10-05T16:05:00.000-04:00

As mentioned in our September 30^th blog, President Obama’s Small Business Job Act contains many new tax breaks and incentives for businesses. Below is a highlight of some of these new provisions.

· Enhanced Small Business Expensing (Section 179 Expensing). To help small businesses quickly recover the cost of capital outlays, small business taxpayers can elect to write off these expenditures in the year they are made instead of recovering them through depreciation. Under the old rules, taxpayers could generally expense up to $250,000 of qualifying property—including machinery, equipment and software—placed in service in during the tax year. This annual limit was reduced by the amount by which the cost of property placed in service exceeded $800,000. Under the Small Business Jobs Act, the $250,000 limit is increased to $500,000 and the investment limit to $2,000,000 for tax years beginning in 2010 and 2011. The Small Business Jobs Act also makes certain real property eligible for expensing. Thus, for property placed in service in any tax year beginning in 2010 or 2011, the $500,000 amount can include up to $250,000 of qualified leasehold improvement, restaurant and retail improvement property.

· Extension of 50% Bonus First-Year Depreciation. Before the Small Business Jobs Act, Congress allowed businesses to rapidly deduct capital expenditures of most new tangible personal property placed in service in 2008 or 2009 by permitting the first-year write-off of 50% of the cost. The Small Business Jobs Act extends the first-year 50% write-off to apply to qualifying property placed in service in 2010 (as well as 2011 for certain aircraft and long production period property).

· Boosted Deduction For Start-Up Expenditures. The Small Business Jobs Act allows taxpayers to deduct up to $10,000 in trade or business start-up expenditures for 2010. The amount that a business can deduct is reduced by the amount by which startup expenditures exceed $60,000. Previously, the limit of these deductions was capped at $5,000, subject to a $50,000 phase-out threshold.

· General Business Credits of Eligible Small Businesses for 2010 Get Five-Year Carryback. Generally, a business's unused general business credits can be carried back to offset taxes paid in the previous year, and the remaining amount can be carried forward for 20 years to offset future tax liabilities. Under Small Business Jobs Act, for the first tax year of the taxpayer beginning in 2010, eligible small businesses can carry back unused general business credits for five years instead of just one. Eligible small businesses are sole proprietorships, partnerships and non-publicly traded corporations with $50 million or less in average annual gross receipts for the prior three years.

· General Business Credits of Eligible Small Businesses Not Subject to AMT for 2010. Under the AMT, taxpayers can generally only claim allowable general business credits against their regular tax liability, and only to the extent that their regular tax liability exceeds their AMT liability. A few credits, such as the credit for small business employee health insurance expenses, can be used to offset AMT liability. The Small Business Jobs Act allows eligible small businesses to use all types of general business credits to offset their AMT in tax years beginning in 2010.

· Deductibility of Health Insurance for the Purpose of Calculating Self-Employment Tax. The Small Business Jobs Act allows business owners to deduct the cost of health insurance incurred in 2010 for themselves and their family members in calculating their 2010 self-employment tax.

· Cell Phones No Longer Listed Property. This means that cell phones can be deducted or depreciated like other business property, without onerous recordkeeping requirements.

· S-Corporation Holding Period for Appreciated Assets Shortened to Five Years. Generally, a C corporation converting to an S corporation must hold onto any appreciated assets for 10 years or face a built-in gain tax at the highest corporate rate of 35%. The 2010 Small Business Jobs Act temporarily shortens the holding period of assets subject to the built-in gains tax to 5 years if the 5th tax year in the holding period precedes the tax year beginning in 2011.

· New Tax Break for Long-Term Contract Accounting. The Small Business Jobs Act provides that in determining the percentage of completion under the percentage of completion method of accounting, bonus depreciation in 2010 is not taken into account as a cost. This prevents the bonus depreciation from having the effect of accelerating income.

· Limitation on Penalty for Failure to Disclose Certain Reportable Transactions. The Small Business Jobs Act generally limits the Section 6707A penalty to 75% of the decrease in tax resulting from the transaction, retroactively to penalties assessed after Dec. 31, 2006. Minimum and maximum penalties apply.

· Revenue Raisers. These tax breaks come at a cost. To mention a few of these unfavorable provisions, information reporting will generally be required for rental property expense payments made after Dec. 31, 2010, and increased information return penalties will be imposed.

Entrepreneurs Can Escape Capital Gains

2010-09-30T15:37:00.000-04:00

As a part of the Small Business Bill signed into law on September 23^rd, section 1202 of the Internal Revenue Code will be amended to provide for an exclusion of capital gains on small business qualified stock held for more than five years. In sum, certain investors in startup companies will pay no tax on the disposition of the stock. Indeed, the current administration is providing a huge tax break to entrepreneurs looking for an exit strategy.

In order to qualify, the stock must be held by the taxpayer by January 1, 2011. So if you already own the stock don’t worry. But if you are contemplating the startup of a new company, closing the transaction and issuing the stock within the next three months will provide for 100% exclusion on capital gains and an exclusion from the alternative minimum tax on these gains if the stock is sold after five years.

Additionally, the exclusion is available for taxpayers who received eligible stock from its original issuance, and the corporation meets the requirements that it actively conducts a qualified trade or business and its aggregate gross assets do not exceed $50 million. To be considered a “qualified” corporation, it must be a C-corporation other than a (1) DISC; (2) a regulated investment company; (3) a real estate investment trust; (4) a real estate mortgage investment conduit; (5) a financial asset securitization investment trust; (6) a cooperative; or (7) a corporation electing the Puerto Rico and possessions tax credit.

More limitations are written into the code section, including the requirement that the corporation use at least 80% by value of its assets in the active conduct of a qualified trade or business. While the requirements may seem overwhelming, entrepreneurs seeking funds now have an excellent marketing tool to entice investors. And for investors, this might be the incentive to finally write that check. President Obama estimated that the measure would drive “capital to as many as one million small firms across America.” President Obama might be right about this excellent benefit.