Posts Tagged ‘Section 409A’

Tax Roundup, 11/5/15: Congress, the H.R. consulting specialists! And: Zombiecare?

Thursday, November 5th, 2015 by Joe Kristan

20130113-3Maybe Congress makes a poor compensation committee. Some years ago, Congress decided that it knew how executives should be compensated better than corporation boards of directors. The Omnibus Budget Reconciliation Act of 1993 limited public company deductions for executive compensation to $1 million per year, per executive, except for “performance based” compensation.

Victor Fleischer says it’s past time to get Congress off the compensation committee in The Executive Paycheck Myth (via the TaxProf):

In my view, the obsession with pay-for-performance is overkill. A risk-averse executive seeking the quiet life — if indeed such a person ever existed — would not climb the corporate ladder today. The labor market for executives already rewards those who act over those who stand on the sidelines. A risk-averse executive will soon find himself out of a job and unable to find a new one.

Yet the tax code operates as if we need a special incentive to encourage risk-taking. Section 162(m) was enacted in 1993. Instead of reining in executive pay, the tax code sprinkles holy water on high-risk, high-reward compensation plans. To qualify for the deduction, companies must use instruments like stock options and performance share plans with asymmetric payout structures — lots of upside, no downside — that encourage excessive risk-taking.

I don’t really think 162(m) was passed to encourage risk taking. If you take the Senate committee report at its word, it was passed to cut executive pay:

Recently, the amount of compensation received by corporate executives has been the subject of scrutiny and criticism. The committee believes that excessive compensation will be reduced if the deduction for compensation (other than performance-based compensation) paid to the top executives of publicly held corporations is limited to $1 million per year.”

Congress arbitrarily decided $1 million was the maximum appropriate pay for running a business with market capitalization in the billions. But it left an out for “performance-based compensation.” Stock options are part of the “performance-based compensation,” so naturally option packages became a big part of executive packages.

Prof. Fleischer makes the case for repeal:

There’s a strong case for simply repealing Section 162(m). We don’t need the tax code to encourage chief executives to give up the quiet life.

Congress might even consider flipping Section 162(m) upside down for investment banks and other large financial institutions where excessive risk-taking creates large social costs.

Would Wall Street executives suddenly become timid and risk-averse, regressing to the fabled quiet life? I doubt it. The forces of the labor market will continue to produce executives who take risks, and boards will probably continue to structure pay that rewards them generously.

Repealing 162(m) would be a good start. A good next step would be to repeal Sec. 409A, a moral-panic set of restrictions enacted as a result of the Enron scandal that now functions mostly as a malpractice trap for attorneys and a potential disaster for employees whose employers inadvertently fail its baroque requirements.

Related: 409A: the worst single tax provision of the Bush era; Congress, meet unintended consequences




Kevin Williamson, Obamacare Is Dead. But it still walks the earth.  Zombies are a bad thing to have around.

Bob Vineyard, The Problem With Obamacare (Insureblog). “OK, in case you missed it, the healthy people are not buying coverage, but the sick ones are.”



Jason Dinesen, Taxation of Railroad Retirement Benefits

Paul Neiffer, Social Security Potpourri. ” If you live less than age 80, then starting at age 62 will pay the most.  If you live past age 80, then waiting to age 70 is usually the best.”

Russ Fox, Time Running Out on the Miccosukee Tribe’s Battle with the IRS. “Indeed, I’m all for fighting the IRS when they’re (imho) wrong. However, fighting quixotic battles when you are wrong isn’t a good idea.”

TaxGrrrl, Members Of Congress Speak Out Against Private Tax Debt Collections.

Robert Wood, If Clinton Foundation Fails To Amend Its Taxes, ‘What Difference Does It Make?’ “In general, and subject to timing constraints, one can correct tax mistakes by filing amended returns. However, sometimes the IRS views amended tax returns as too little too late.”

Del Wright, Section 6676 – the Problem Penalty (Procedurally Taxing). “Section 6676 provides generally that an erroneous claim for refund on an income tax return is subject to a 20% penalty, based on the ‘excessive amount’ of the penalty, i.e., the amount by which a taxpayer’s claim for refund exceeds the allowable claim.”

Peter Reilly, Taxing The Virtual World.  “The actions of third parties creating a secondary market in all those things in contravention of the terms of service turned World of Warcraft into a hybrid economy.”


Jack Townsend, Not Your Ordinary U.S. Taxpayer With Foreign Accounts. “The press release narrative is a bit cryptic, but states the key points — he cheated and lied to his estranged spouse and then to others including a court and federal agents.” When your drive with a carful of cash from Alaska to Panama and back results in a Department of Justice press release, that’s a good sign that it went awry.




Jeremy Scott, A Look Back at the Most Interesting Part of Bowles-Simpson (Tax Analysts Blog).

As a tax reform plan, Bowles-Simpson has been superseded by former House Ways and Means Chair Dave Camp’s H.R. 1, which also hasn’t garnered much support. But Camp didn’t really consider the most interesting part of the 2010 proposal: the elimination of the preference for capital gains.

Unless either ordinary gain rates come way down or corporation double taxation is eliminated, eliminating capital gain preferences strikes me as an awful idea.


Joseph Henchman, Voters in Five States Decide Tax-Related Ballot Initiatives (Tax Policy Blog). Coloradans voted to let the state keep an unexpected Marijuana tax windfall, but Ohio rejected an odd pot legalization scheme.

Howard Gleckman, Tax Reform Is Possible, But It Won’t be Easy (TaxVox). “As Breaux put it,’You’ve got to be able to sell it to members of Congress who don’t know the difference between a balance sheet and a tax return.'” Because that would get you a majority.

TaxProf, The IRS Scandal, Day 910.

Jenice Robinson, Tax Cut Crazy Talk (Tax Justice Blog). To the CTJ folks, that would be pretty much all tax cut talk.


The Critical Question. Are Sellers of Cheap Pizza Tax Scofflaws? (Jim Maule, Going Concern).

News from the Profession. Proposal Would Let Retired CPAs Take Their Three Letters Off Into the Sunset (Caleb Newquist, Going Concern).



Tax Roundup, 10/23/15: Tax Court dispenses with pot dispensary deductions. And: IRS scam call, captured on tape!

Friday, October 23rd, 2015 by Joe Kristan

Accounting Today newsletter visitors: click here to go directly to the rental loss story


Cannabis leaf image via Wikimedia Commons under Creative Commons license.

Cannabis leaf image via Wikimedia Commons under Creative Commons license.

Deductions get stoned. Not in a good way. Attitudes towards marijuana have changed a lot in the last 33 years. A recent Gallup Poll shows that 58% of respondents favor weed legalization. But a tax provision enacted in 1982 continues the Reefer War with full vigor, as the operators of a legal California medical marijuana dispensary learned yesterday.

Section 280E, enacted early in the Reagan Administration, is one of the more clear provisions of the income tax. It reads in full:

No deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedule I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.

Marijuana remains a Schedule I controlled substance under federal law, despite its growing legalization at the state level. That means the only deduction allowed to state-legal weed dispensaries and dealers is their cost of goods sold — their direct cost of their inventory. No rent, salaries, benefits, security, depreciation, or any of the other obvious costs of doing business can be deducted.

Canna Care, Inc., a California dispensary, claimed about $870,000 in business deductions over a three-year period. The Tax Court explains (my emphasis, ditations omitted):

Petitioner argues that its actions cannot be considered “trafficking” for purposes of section 280E because its activities were not illegal under California law. Petitioner claims that this conclusion is supported by memoranda issued by the Department of Justice (DOJ) on October 19, 2009, and August 29, 2013, and guidance issued by the Financial Crimes Enforcement Network (FinCEN) on February 14, 2014.

We have previously held the sale of medical marijuana pursuant to California law constitutes trafficking within the meaning of section 280E… DOJ memoranda and FinCEN guidance released after the years at issue that represent exercises of prosecutorial discretion do not change the result in this case. Petitioner regularly bought and sold marijuana. This activity constitutes trafficking within the meaning of section 280E even when permitted by State law.

The taxpayer also argued that its business activities weren’t entirely about marijuana, and that at least some of the activities should therefore be deductible. The Tax Court said that the taxpayer’s evidence wasn’t sufficient to make that case:

Aside from the sale of medical marijuana, petitioner’s only other source of income was the sale of books, T-shirts, and other items. On the basis of the evidence presented, we cannot determine what percentage of petitioner’s income was from the sale of medical marijuana and what percentage was from the sale of other items. Because of the parties’ stipulation, we find that the sale of medical marijuana was petitioner’s primary source of income and that the sale of any other item was an activity incident to its business of distributing medical marijuana.

No deductions. Victory for IRS.

The Moral: Sometime in the next few years I suspect weed will either cease to be a controlled substance or Section 280E will be amended to allow legal pot sellers to deduct their expenses. Until then, dealers will need to mark up their product a lot to cover the taxes on phantom income. If they have other business activities, they need keep records sufficient to separately track the non-pot profits.

The other moral: Don’t use the tax law to do anything other than measure income and collect taxes. Special carve-outs, whether punitive or beneficial, linger long after the moral panic surrounding their enactment passes. In addition to Section 280E, we remain stuck with other moral panic tax provisions. These include Section 409A, enacted in the Enron panic but punishing ordinary businesses and non-profits trying to compensate their employees, and FIRPTA, enacted to combat the threat of Japanese buying up our precious golf courses. The Japanese have moved on to other things, but FIRPTA still clobbers U.S. real estate buyers who fail to realize they need to withhold taxes on purchases from non-U.S. sellers.

Cite: Canna Care, Inc., T.C. Memo 2015-206.

Related: Russ Fox, Up In Smoke, Again. For more on taxes in the early ’80s, TaxGrrrl has Back To The Future: Taxes Now & Then.


Ed Brown’s fortress-house sells at auction, reports The winning bid was $205,000, though the story makes it appear that the winning bidder may also need to pay some accumulated property taxes.


buzz 20151023-1

It’s Friday, so celebrate with fresh Buzz from Robert D. Flach. Year-end planning, IRS inflation adjustments, and the S corporation vs. partnership conundrum figure prominently.

William Perez reports on the updated 401(k) Contribution Limits.

Tony Nitti, IRS Redefines ‘Husband’ And ‘Wife’ In Response to Landmark Same-Sex Marriage Decisions.

Caleb Newquist, Company Accused of Being ‘Pharmaceutical Enron’ Doesn’t Appreciate the Sentiment (Going Concern).

Robert Wood, Stock Options 2.0: Twitter CEO Gives His Own Stock To Employees

Peter Reilly, IRS Should Be Asking For Cooperation Not Volunteering. “Audits of non-compliant taxpayers will have them “busted” which is unpleasant, whereas non-compliant taxpayers not being audited make the rest of us feel like chumps.”

Kay Bell, As Ryan gets ready to take on House Speaker role, Ways & Means members jockey for tax-writing chairmanship




TaxProf, The IRS Scandal, Day 897. Administration partisans urge continued political administration of the IRS, as they needed the encouragement.

Alan Cole, This Bill to Repeal Obamacare Taxes Would Grow the Economy (Tax Policy Blog). Just eliminating the ridiculous and costly paperwork of the ACA would be an economic boost.


Ever wonder what it sounds like to get a phone call from a scammer claiming to be from IRS? Well, you are in luck! A scammer was kind enough to leave a message on my phone at home, which I recorded and uploaded to the link in this sentence.  I believe it is typical of the recorded-message version of the scam, telling me that the IRS “is filing a lawsuit against you” and telling me to call a number to “get more information on this case file.”

The IRS does not call you to tell you they are suing you. They use the old-fashioned U.S. Postal Service, and if they can’t find you, they will use genuine U.S. Marshals to serve you papers. Believe me, if the IRS is after you, you will know you have a problem, and that knowledge won’t come over the phone.



Thoughts on a more business-friendly tax law

Tuesday, November 27th, 2012 by Joe Kristan

I was asked yesterday how the tax law could be made more friendly to small business.  Here is how I answered the question (with some slight editing for clarity in the morning).  I would love readers to chime in via the comments, or for other bloggers to respond in their own posts.

There are a thousand things that could be done, but they fall into just a few categories:

1- Don’t try to micromanage business decisions through the tax law.
2- Remove big penalties for foot-fault violations.
3- Make it easy for non-compliers to come into compliance.
4- Don’t treat the business as a social service agency.
5- Make mistakes matter less through lower rates.
6- Whatever you do, make it simple.
If you have a tax law with fewer special favors to industries (green jobs and so on) you can lower the rates for everyone.  If somebody makes an honest mistake, they shouldn’t get clobbered, especially if they can identify and correct the mistake on their own.  And if rates are lower, there’s less incentive to cheat or make solely tax-motivated decisions.
For example:  Obamacare has a health-care credit for tax credit small (under 25 full-time equivalent) employers.  It is very complicated, requires careful compliance with non-discrimination rules, and phases out as you grow.  It violates rule 1 by micromanaging the compensation structure of a small business.  It violates rule 4 by making the business the provider of a welfare benefit.  It violates rule 6 by being almost incomprehensibly complex.
The deferred comp rules in the tax law (Section 409A) are a great example of bad law.  Enacted to keep Enron from doing what it had already done, it applies as well to every business, long after Enron is a memory.  If you violate a very complex set of deferred comp rules, the employee – and every employee in the plan – can be hit with an income tax and a 20% excise tax on his deferred comp balance — even though he might never receive it.  It violates every rule above, except (maybe) rule 4. 
A tax law that followed these would be much easier to obey and much more business-friendly.

The best way to fix it is to kill it

Monday, February 13th, 2012 by Joe Kristan

A North Carolina tax professor gets the Section 409A deferred compensation rules:

This [article] … describes the legislative calamity that is


409A: compliance or bust

Monday, September 20th, 2010 by Joe Kristan

Richard Meisner at 409A Dismay notes a law review article explaining why the 409A deferred comp rules — the worst tax enactment since I got into the business in 1984 — is such awful policy:

The author argues, however, that in Section 409A Congress nonetheless overreacted, creating a statute whose overbreadth and penalty structure imposed its own societal cost (in the form of compliance and transaction expenses) that possibly outweighs the cost of the tax abuse the section was designed to correct. More generally, he argues that “binary,” high-risk enforcement schemes, where the only two possible taxpayer states are full compliance and ruinous noncompliance, lead to inefficient results and are bad tax policy.

The only thing more puzzling than the enactment of 409A is the absence of any significant Congressional efforts to repeal it.


Offshore compliance amnesty: A 99.7% Failure?

Tuesday, March 23rd, 2010 by Joe Kristan

Last year’s big foreign account amnesty was an enormous bust, argues international tax lawyer Phil Hodgen:

. I take that position based on a simple fraction. Its numerator is the number of people who have done the voluntary compliance for undisclosed foreign accounts. The denominator is the number of people who should do it.

The nominator in the fraction is 14,700 [participants in the amnesty]…


Out with the old

Tuesday, January 20th, 2009 by Joe Kristan

The people have spoken. Execrable Section 409A is the worst single tax provision of the Bush 43 era:
The write-in vote was for bonus depreciation.
Today starts a whole new era of bad tax policy!


409A: the worst single tax provision of the Bush era

Thursday, January 8th, 2009 by Joe Kristan

William Drennan, a law prof at good old Southern Illinois University-Carbondale, is exactly right about the execrable Section 409A deferred compensation rules:

Albert Einstein said “the hardest thing in the world to understand is the income tax.” The new nonqualified deferred compensation rules are a testament to Einstein’s brilliance. The new rules will fail to achieve their statutory purpose, will create traps for the unwary, and should be repealed retroactively.

Indeed they should. It won’t happen, though, until somebody actually tries to enforce the section by imposing current tax, plus a 20% penalty, on income never received by employees as a result of a careless mistake made by an employer in administering the byzantine Section 409A rules. If the IRS ever gets serious about enforcing this mistake, it will make the efforts to get relief from the incentive stock option AMT rules look like a minor matter.
Meanwhile, small businesses, non-profits, and even school districts have to deal with this horribly-concieved response to the Enron and Worldcom scandals by shooting the remaining horses after one escaped the barn. That’ll teach Ken Lay a lesson.
Via the TaxProf.