Posts Tagged ‘tax court’

Tax Roundup, 4/11/14. Why we extend. And: Tax Doctor, Tax Fairy?

Friday, April 11th, 2014 by Joe Kristan

4868Some folks just don’t like extensions.  Maybe they want their refund NOW.  Maybe they have never extended their return before, and they think it is somehow against the rules.  Some people believe an extension invites the IRS to come in and audit them.  And some people think they are just so special that they can bring in a complex return missing K-1s on April 10th and the preparers should just drop everything and get them filed somehow.

There isn’t much to do for the last category, except perhaps medication, or a thrashing by a crazed sleep-deprived preparer, but for more sensible folks, a basic understanding of extensions might help.

Extensions aren’t against the rules; the rules specifically provide for them.  Even in simpler times, tax administrators knew that it isn’t always possible for a busy person to put together all of the pieces of a tax return by April 15.

You still should pay up.  While extensions give you more time to file your tax return, they don’t give you extra time to pay.  The tax law asks you to estimate your tax liability and penalizes you  if you don’t have at least 90% of your taxes paid in by the April 15 deadline; the penalty is 1/2 percent per month.

Why bother with an extension if I can’t delay payment?    Probably the most important one is that if you are short of cash, the penalty for late payment on a return that you didn’t bother to extend is 5% per month — ten times the penalty for late payment on an extended return.  It forces you to at least take a stab at guessing your liability, helping you identify what pieces you have to gather to complete your extended return.  It also keeps you in compliance, and once you stop filing on time, it can be a hard habit to break.

But won’t it get me audited?  There’s no evidence that an accurate extended return filed during the extension period is any more likely to be audited than it would be filed on April 15.  The IRS selects returns based on what’s on them, now on whether they are extended.

There’s plenty of evidence that returns with errors are more likely to get extra IRS attention.  A return thrown together at the last minute is more likely to have errors than an extended return done during normal working hours by somebody who’s had some sleep.    For what it’s worth, I have extended my own return every year since 1991 with no IRS examination (knock wood).

Efile logoEfile logoe-file logoHow do I extend?  You file Form 4868 either on paper or electronically, along with any necessary payment, by April 15.  The IRS has more details here. It’s common to pay in enough to also cover your first quarter estimated tax payment with the extension.  It gives you some cushion in case you find more 2013 income while completing your return, and you can apply your return overpayment to your  2014 estimated tax when you do file your 2013 1040.

States have their own rules.  Iowa automatically extends your return without the need to file an extension form if you are at least 90% paid-in by the April 30 due date.  If you need to send them some money to get to 90%, you send it with Form IA 1040-V.

Our series of 2014 Filing Season Tips goes right through April 15.  Check back tomorrow for another one!

Russ Fox, Bozo Tax Tip #3: Be Suspicious!

 

tax fairyBelief in the Tax Fairy peaks at tax time.  The Tax Fairy is that magical sprite who will make all of your taxes go away painlessly while your sucker friends still send checks to the tax man.  It’s amazing what Tax Fairy adherents will believe.  Consider a Californian who worked as a software consultant.  He was put in touch with a “Tax Doctor” (my emphasis):

Early in 2006 petitioner’s friends recommended that he talk to the “Tax Doctor Corporation” (Tax Doctor) operated by a person representing himself to be Dr. Lawrence Murray (Murray). Petitioner spoke with Murray and members of Murray’s staff. Petitioner’s discussions with Murray and his staff consisted mostly of “a bit of a sales pitch”. They explained how they would handle his tax return preparation, what the tax savings would be, and the “structure” they would use.

Murray proposed setting up two corporations and preparing petitioner’s individual and corporate Federal income tax returns. Murray explained to petitioner that one corporation would be “operational” and the other would focus on “management”. Petitioner was unsure at trial which corporation was the operations entity and which was the management entity. Under the agreement with Murray petitioner would pay the Tax Doctor, as a fee for setting up the structure, the amount of the tax savings generated by the use of the structure. 

What could go wrong?

His C.P.A. told him that she was willing to incorporate his business activity but she would not do what the Tax Doctor had proposed because it was very aggressive. Petitioner, despite the advice of his C.P.A., decided to accept the proposal of the Tax Doctor.

I don’t need a CPA, I have a Tax Doctor!

Petitioner filed his 2006 Form 1040, U.S. Individual Income Tax Return, showing taxable income of zero. Nev Edel, one of the corporations the Tax Doctor formed for petitioner, filed a Form 1120, U.S. Corporation Income Tax Return, for the fiscal year ending (FYE) November 30, 2007. Nev Edel reported gross receipts of $285,785, total income of $291,669, and total deductions of $295,214. The largest single deduction was $237,600 for “contracted services”. Smoge Corp., the other corporation the Tax Doctor formed for petitioner, filed a 2006 Form 1120S, U.S. Income Tax Return for an S Corporation. Smoge Corp. reported total income of $186,640 and total deductions of $188,644. The largest single deduction was $172,166 for “contracted services”.

Somehow things went awry.

Murray was prosecuted and convicted in 2010 of Federal crimes associated with the preparation of his own returns and the returns of others.

This presumably led to IRS attention to our consultant’s returns, and a big assessment.  The taxpayer tried to avoid penalties because he relied on the Tax Doctor in good faith.  The Tax Court thought otherwise:

The advice of the C.P.A., who had no financial stake in the outcome of petitioner’s return positions, should have put petitioner on notice that additional scrutiny of Murray’s advice was required.

The moral?  If your tax professional, who does this for a living, says something is bogus, they just might be right.  And there is no Tax Fairy.

Cite: Somogyi, T.C. Summ. Op. 2014-33.

 

20140411-1William Perez, Six Things to Do Before April 15th

Kay Bell, What are ordinary & necessary business expenses? It depends

TaxProf, The IRS Scandal, Day 337.  More a boatload than a smidgen today.

That’s OK, you can just send me a gift card. Christopher Bergin, The Gift That Is Lois Lerner (Tax Analysts Blog):

Something bad happened here. And however bad her behavior, the problem isn’t Lerner. The problem is a culture that allows what she did to continue and that probably allows behavior that’s much, much worse.

Andrew Lundeen, What Could Americans Buy with the $4.5 Trillion They Pay in Taxes? (Tax Policy Blog).  A nice gift card, perhaps.

TaxGrrrl, House Committee Votes To Hold Lerner In Contempt, Others Push For Criminal Prosecution

Joseph Thorndike, How Dave Camp’s Failure Might Be Michael Graetz’s Victory (Tax Analysts Blog)

Peter Reilly, Clergy Out In Force To Defend Their Housing Tax Break   

Sports Corner: David Cay Johnston vs. Tax Girl on Twitter: PLACE YOUR BETS (Going Concern)

 

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Tax Roundup, 4/4/14: Your Honor, nobody follows that law! And: extenders advance.

Friday, April 4th, 2014 by Joe Kristan

20120801-2Maybe that wasn’t the best argument, under the circumstances.  Things went badly for a California man yesterday who tried to tell the Tax Court how things work in the real world.

The man had claimed $5,309 in vehicle expenses for his real estate sales business.  Vehicle and travel expenses are subject to the special rules of Section 274, which requires corroborating records of the amount, time, place and business purpose of travel expenses.  The judge found the taxpayer’s evidence wanting (my emphasis):

Petitioner provided his 2009 Mileage Chart and Itemized Categories documents, which appear to be reconstructions asserting the places he traveled to for business and the vehicle expenses he incurred in 2009. Petitioner, however, failed to provide any corroborating receipts or other records that substantiated the statements made in these two documents. Moreover, neither document identifies a business purpose for each trip, and both fail to show mileage. (While the Itemized Categories does have a handwritten note of “mileage for 2009 11,135″, this note alone does not substantiate the mileage of each trip or show how the mileage was allocated between business and personal use.) Additionally, the 2009 Mileage Chart provides a log for only three weeks for 2009 and fails to show the amount of each trip expense. Because petitioners failed to substantiate the claimed expenses as required by section 274(d), the vehicle expense deduction must be disallowed.

The IRS asserted negligence penalties for claiming an undocumented deduction.  The taxpayer tried to tell the judge that nobody does that stuff:

Petitioner did not argue reasonable cause or good faith. Instead, petitioner argued at trial that no one keeps records in accordance with the “IRS code”.

Well, OK, then, screw Section 274!  Well, no:

That argument is unpersuasive, and the section 6662(a) penalty will be sustained.

The IRS is serious about documenting business miles.  If you have them, keep a log, a calendar, or use a smart-phone app to record the time, place, cost and business purposes of your travels as you go.  If “no one keeps records in accordance with the ‘IRS code,’” no one is going to be happy with the results when they get audited.

Cite: Chapin, T.C. Summ Op. 2014-31

 

20130113-3Tax Extenders Legislation Advances in Senate (Accounting today):

 The Senate Finance Committee voted to revive almost all of the 55 tax breaks that expired Dec. 31, providing benefits for wind energy, U.S.-based multinational corporations and motor sports track owners.

Motor sports track owners have lots of friends in high places.

It’s not just motor sports lobbyists who did will in the Finance Committee.  Almost all
“expired” provisions of this lobbyist right-to-work vehicle were renewed, including the renewable fuel credits.  The only expiring provisions that actually expire are the credit for energy-efficient appliances and a provison for oil refinery property, so there remains some lobbying to do.

But wait, there’s more!  Tax Analysts reports ($link) that this Christmas in April bill includes a provision to “expand the research credit to allow passthroughs with no income tax liability to apply the credit, up to $250,000, to their payroll tax liability.”  It also would renew the reduction of the S corporation built-in gain tax “recognition period” at five years through 2015.

While the House still hasn’t acted on any of this, the passage of all of this stuff on a bipartisan basis would seem to indicate that something like this is likely to pass.  Still, Kay Bell thinks the House tax leadership may be reluctant to follow the Senate’s lead.

The reason Congress pretends these provisions are “temporary” is that under their rules, Congress can pretend that they will only cost as much as they will cost before they are renewed again, regardless of the probability that they will be renewed forever.  It’s the kind of accounting that would get us thrown in jail if we tried it with the IRS or SEC, but it’s just another Thursday in Congress.

Link: “Summary of Modified Chairman’s Mark.”

 

20091010-2.JPGKristy Maitre, E-Filed Return Rejected at Deadline? Don’t Panic

Paul Neiffer, Patronage Dividend Notices Can Be Sent by Email or Posted to a Website

Jason Dinesen, Accounting for the Work Opportunity Credit on an Iowa Tax Return 

TaxGrrrl, Taxes From A To Z (2014): T Is For Tip Income   

Leslie Book, ACA and Victims of Domestic Abuse (Procedurally Taxing)

Russ Fox, Yes, Online Poker Players Must Pay Taxes

 

TaxProf, The IRS Scandal, Day 330

William Perez, State and Local Tax Burdens as a Percentage of Income for 2011

Lyman Stone, Missouri Senate Passes Problematic Income Tax Cut Plan (Tax Policy Blog).  ”Missouri’s state Senate this week passed a $621 million tax cut including a 0.5 percentage point income tax reduction and a special carveout to deduct up to 25 percent of business income.”

Howard Gleckman, Two Ways to Fix the Corporate Income Tax: Internationalize it or Kill It. (TaxVox).  I vote “kill.”

 

There’s a new Cavalcade of Risk up!  At Insurance Writer. Don’t miss Insureblog’s contribution about how those making health care policy don’t know what they’re talking about.

 

20120906-1Corporate Welfare Watch:

Iowa city prepares to give mystery company millions. (Foxnews.com)  “West Des Moines city officials have cued up $36 million in local and state tax incentives for a company, but won’t tell its citizens who that company is.”

Iowa senator calls BS on attempt to limit tax credits for fertilizer plant (Watchdog.org)

Iowa View: From wind to solar, clean power is good for Iowa (Joe Bolkcom, Mike Breitbach).  Green corporate welfare is still corporate welfare.

 

News from the Profession: Deloitte Declares Weekends Are Not For Working, Unless You Are Working (Going Concern)

 

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Tax Roundup, 4/1/14: Two weeks to go edition. And: neglected spouses!

Tuesday, April 1st, 2014 by Joe Kristan


4868
April 15 is two weeks from today.  You should already be well along the way in getting your taxes done.  If you aren’t,  you need to get to work – and you should be pondering an extension.

Even an extension isn’t a free lunch.  As Trish McIntire explains below, extensions extend the filing deadline, not the payment deadline, so you need to have at least an idea of your current tax situation even to extend.

Start with your 2012 return.  Make sure you have all of the items you reported on that return — W-2s, K-1s, 1099s.  Then think through what might have changed since last year.  New kid?  New spouse?  Lose an old spouse?  Won the lottery?

Then pencil out a return, or hurry down to your preparer.  If your preparer tells you to extend, don’t fight it.  An extended return is not a “red flag” to the IRS.  And when figuring out how much to pay with your Form 4868, round up.  This time of year, it seems most surprises are the bad kind, so assume the worst.

 

20120511-2If you want to know what does work as a red flag for the IRS, the Tax Court yesterday had a good example:

Petitioner’s 2010 Form 1040, U.S. Individual Income Tax Return, was prepared by H and R Block. On Schedule C, Profit or Loss From Business, petitioner reported gross income of $1,274, office expense of $142, and car and truck expenses of $17,978, for a net loss of $16,846.

A schedule C with just a little income and a big loss caused mostly by car and truck expenses probably goes straight to the “audit me” bin, because the IRS knows that many taxpayers are like this one:

Although petitioner provided his 2009-10 mileage log, he nevertheless failed to provide any corroborating receipts or other records that substantiated the statements made in the log. Petitioner’s mileage log did not address the business purpose of each trip. Guessing as to where he may have gone in 2010, petitioner added the places of business travel to his log in 2012. The log was thus not contemporaneous, and the reconstruction was not reliable.

If you want to take car deductions, you need to keep track of them as you go, in a log, a calendar, or a smart-phone app.  Otherwise you, like the taxpayer in this case, won’t stand much of a chance against the IRS.

Cite: Houchin, T.C. Summ. Op. 2014-29.

 

20140401-1William Perez, Retroactive Charitable Donations for Typhoon Haiyan Relief:

Taxpayers can take a deduction on their 2013 tax return for cash donations made between March 26, 2014, and April 14, 2014, to charities providing disaster relief to areas impacted by Typhoon Haiyan.

Normally, charitable donations can be deducted only if the donation is made by the end of the year. But the recently enacted Philippines Charitable Giving Assistance Act (HR 3771) gives taxpayers the option of deducting donations for Typhoon Haiyan relief on their 2013 tax returns.

William explains what you need to do to claim the retroactive deduction.

TaxGrrrl, Taxes From A To Z (2014): Q Is For QDRO

Trish McIntireThe Annual Extension Post:

So what if you can’t get your return done in time to file by then? You can file an extension. It can be done electronically or by filing a paper Form 4868 by April 15th. And it does have to be postmarked or electronically filed by April 15th. After that time, the extension won’t help you.

Remember, an extended return does not attract IRS attention; a late or erroneous return does.

 

Kay Bell, America’s pastimes: Baseball, ballpark proposals and taxes

 

Ways and Means Chairman Dave Camp Won’t Seek Reelection (Accounting Today).  That can’t be a good sign for his misconceived tax reform plan.

Jeremy Scott, Fair Shot for Everyone’ Contains Details for No One (Tax Analysts Blog):

Setting a new low for lack of detail and specificity, Senate Democrats unveiled their “Fair Shot for Everyone” agenda last week. Only loosely a set of real proposals, the agenda is merely a series of talking points designed to distract voters from President Obama’s lagging approval numbers and the continuing unpopularity of the Affordable Care Act.

Not a glowing review.

Howard Gleckman, Should Tax Reform Be Sold on Values Instead of Economics?

 

20120906-1Paul Brennan, In Iowa, your taxes help corporations not pay theirs (Iowa Watchdog.org):

Of course, $950,000 isn’t much more than chicken feed to a company like Tyson, which posted $583 million in profits in 2013. It also doesn’t compare with the tens of millions of tax dollars the state paid out to big companies through the Research Activities Credit last year.

But it is probably enough to leave tax payers feel well and truly plucked.

Nobody notices a few missing feathers.

Des Moines Register, Branstad will sign Iowa Speedway tax break in Newton ceremony Wednesday.  Because NASCAR has better lobbyists than you do.

Tax Justice Blog, State News Quick Hits: State Lawmakers Not Getting the Message

 

BitcoinAlan Cole, Bitcoin’s IRS Troubles (Tax Policy Blog:

The price of the virtual currency Bitcoin has fallen to about $461 from a closing price of $586 last Monday. This decline of about 21% came in the wake of an IRS ruling that net gains from Bitcoin transactions will be taxed as capital gains.

Nobody wants a Schedule D item for every purchase.

TaxProf, The IRS Scandal, Day 328.  April Fools edition, unfortunately.

News from the Profession: The Forgotten Spouses of Public Accounting (Going Concern).  I’m sure mine is around here somewhere.

 

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Tax Court decision cuts 3.8% Obamacare Net Investment Income Tax for many trusts.

Friday, March 28th, 2014 by Joe Kristan

20120511-2The Tax Court reduced 2013 income taxes for a lot of trusts yesterday.  The court ruled that trustees can “materially participate” in rental real estate activities, and by extension in other activities.  If a taxpayer “materially participates” in an activity, it is not subject to the Obamacare 3.8% “Net investment Income Tax” on that activity’s income.

This is a big deal for trusts because they are subject to this tax at a very low income level — starting at $11,950 in 2013.  The IRS has said that it considers it nearly impossible for trusts to materially participate.  Yesterday’s decision flatly rejects the IRS approach.

The IRS had stated its position in a ruling involving an “Electing Small Business Trust,” which is a type of trust that can hold interests in S corporations — and which tend to get hit hard by the NII tax.  The IRS said that a president of the corporation who was also a trustee of the ESBT was participating in the business not “as trustee,” but as a corporation employee — and therefore the trust didn’t materially participate.  The Tax Court disagreed with IRS thinking yesterday:

The IRS argues that because Paul V. Aragona and Frank S. Aragona had minority ownership interests in all of the entities through which the trust operated real-estate holding and real-estate development projects and because they had minority interests in some of the entities through which the trust operated its rental real-estate business, some of these two trustees’ efforts in managing the jointly held entities are attributable to their personal portions of the businesses, not the trust’s portion. Despite two of the trustees’ holding ownership interests, we are convinced that the trust materially participated in the trust’s real-estate operations. First, Frank S. and Paul V. Aragona’s combined ownership interest in each entity was not a majority interest — for no entity did their combined ownership interest exceed 50%. Second, Frank S. and Paul V. Aragona’s combined ownership interest in each entity was never greater than the trust’s ownership interest. Third, Frank S. and Paul V. Aragona’s interests as owners were generally compatible with the trust’s goals — they and the trust wanted the jointly held enterprises to succeed. Fourth, Frank S. and Paul V. Aragona were involved in managing the day-to-day operations of the trust’s various real-estate businesses.

That would seem to put to rest the IRS “as trustees” catch-22.

The Tax Court decision doesn’t make the NII go away for all trusts.  Trusts with only “investment” income, like interest and dividends, are not helped by this decision.  Also, the decision by its terms only covers situations in which the trustee is materially participating in the trust activity; “We need not and do not decide whether the activities of the trust’s non-trustee employees should be disregarded.”  In this respect the Tax Court doesn’t go as far as a Texas U.S. District Court did it the Mattie Carter Trust case, which counted participation of trust employees in determining whether the trust materially participated in an activity.

Still, even with limitations, the case is a big taxpayer win.  It will especially help ESBTs avoid tax on operating income from S corporations when a trustee is also a corporation employee.  Also, while the case doesn’t say that non-trustee employees can give trusts material participation, it doesn’t rule it out, either.  That means bold trusts with employees that manage trust operations may be able to avoid the 3.8% tax, should the Tax Court adopt the Mattie Carter Trust approach.  Future litigation will have to settle the issue.  The IRS is also likely to appeal this case.

An aside: The IRS asserted its usual outrageously-routine 20% “accuracy-related” penalty — and it lost on its underlying argument.  In a just tax system, the IRS would have to write a check to the taxpayer for the amount of the asserted penalties whenever this happens.   The IRS assertion of penalties is far too routine, and should be reserved for cases in which the taxpayer is actually taking a flaky position, or doesn’t bother to substantiate deductions.  When it asserts a penalty and the taxpayer actually wins on the merits, the IRS loses nothing under current law.  Tax Analysts hosted a seminar yesterday on a Taxpayer Bill of Rights.  Any bill worthy of the name would have a “sauce for the gander” rule that would make the IRS — and even IRS employees — as liable as taxpayers are for flaky positions.

Cite:  Frank Aragona Trust et al. v. Commissioner; 142 T.C. No. 9

Related: Self-rental, business sales benefit from new Net Investment Income Tax regulations.

Also: Paul Neiffer, Taxpayer Victory in Frank Aragona Trust Case, on the implications for farm interests held in trust.

A summary of “material participation” rules is below the fold.

(more…)

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Tax Roundup, 1/28/14: Another Iowa ESOP debacle. And: soft skills!

Tuesday, January 28th, 2014 by Joe Kristan


20120920-3
Iowa gets all of the good bad ESOP cases.  
Thanks largely to the energetic work of a single ESOP evangelist in the 1980s and 1990s, Iowa has been treasure trove of cases involving faulty employee stock ownership plans.  The pinnacle of these cases may have been the Martin v. Feilen case, finding violations sufficient for the Eighth Circuit to rule that a district court “abused its discretion” by not banning the Iowa ESOP evangelist from doing any further ERISA work.

Iowa’s bad ESOP history got another chapter yesterday in Tax Court.  The ESOP involved a Rockwell, Iowa S corporation, which had an ESOP owner.  The non-ESOP shares were owned by the corporation’s sole employee and his wife.

So many things can go wrong with this sort of arrangement, and they all did — starting with Sec. 409(p).  Judge Kroupa explains (some citations omitted, emphasis added):

  Responding to perceived abuses, Congress in 2001 enacted section 409(p), which generally limits the tax benefits available through an ESOP that owns stock of an S corporation unless the ESOP provides meaningful benefits to rank-and-file employees.

There are significant tax consequences when an ESOP violates the section 409(p) requirements. For one, an excise tax equal to 50% of the total prohibited allocation is imposed. Sec. 4979A. Furthermore, the ESOP will not satisfy the requirements of section 4975(e)(7) and will cease to qualify as an ESOP. 

Those are pretty severe penalties.  So how do you violate Sec. 409(p)? Roth and Company alum Nancy Dittmer explains:

Section 409(p) is satisfied if “disqualified persons” do not own 50% or more of the S corporation’s “stock.” This stock includes allocated and yet-to-be allocated ESOP shares, synthetic equity of the S corporation, and any shares held directly in the S corporation. The ESOP shares and any synthetic equity are considered to be “deemed-owned” shares for purposes of Section 409(p).

In general, a disqualified person is any ESOP participant who owns 10% or more of the ESOP’s stock. 

20140128-1As our Rockwell taxpayer was the only employee of the S corporation and, by attribution, the only owner of the ESOP, he owned 100% of the shares.  Those of you who are good at math will realize that 100% exceeds 50%, and 409(p)’s excise tax and plan disqualification applies.

So things looked dark for the Rockwell ESOP.  Yet there was a glimmer of hope — not only was the ESOP screwed up, so was the S corporation.  The corporation had 2 classes of stock, which normally disqualifies an S corporation election.  If the corporation isn’t an S corporation, it can’t violate 409(p)!  Alas, Judge Kroupa decided here that two (OK, more than two) wrongs didn’t make a right:

     Petitioner represented to respondent that it qualified as an S corporation for 2002 when it filed its election to be treated as such. Respondent relied on this representation for 2002 because petitioner reported on its 2002 Form 1120S that it owed no income tax because of its electing to be treated as a passthrough entity under subchapter S. The statute of limitations on assessment now bars respondent from adjusting petitioner’s income tax liability for 2002. See sec. 6501(a).

Petitioner was silent regarding its desire to be treated as something other than an S corporation for 2002. Petitioner cannot avoid the duty of consistency, however, by simply remaining silent. Allowing silence to trump the duty of consistency would only encourage gamesmanship and absurd results. Therefore, we will treat petitioner as an S corporation for 2002 under the duty of consistency. 

This bundle of bad facts resulted in $161,200 in taxes and another $76,000 or so in penalties.

The moral?  In spite of media reports, it can be dangerous to game the ESOP rules to avoid tax on S corporation income.  There are many hazards and much legal complication.  If you want to have an ESOP, be sure to bring in a specialist.

Cite: Ries Enterprises, Inc., T.C. Memo 2014-14.

 

Me: IRS gives mulligan to elect portability for $5 million estate exclusion

Paul Neiffer, Not Too Late to Make Portability Election!  I have more here.

Kay Bell, Decoding your W-2

TaxGrrrl, Do You Need To File A Tax Return In 2014?   

 

TaxProf, The IRS Scandal, Day 264

Kyle Pomerleau, The U.S. Has the Highest Corporate Income Tax Rate in the OECD (Tax Policy Blog):

OECD corporate rates

And as Iowa has the highest corporate rate in the U.S., at 12%, we’re number 1!  In a bad way.

 

Robert D. Flach is right on time with your Tuesday Buzz!

 

Career Corner: Soft Skills Are For Pansies (Going Concern)

 

 

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Tax Roundup, 1/9/2014: She stole from me! And gave it to my kids! And: $10 pizza and tax show!

Thursday, January 9th, 2014 by Joe Kristan

20120511-2It’s a rare thief that applies her ill-gotten gains to pay for college for the victim’s children.  But a Texan filed a tax return claiming just that, and it ended up in a Tax Court case decided yesterday.

The taxpayer divorced Wife #1 in March 2005, marrying Wife #2 in May 2005.  The second marriage went downhill quickly, with ending in an August 8 2006 divorce.

In the summer of 2006, the taxpayer asked Wife #1 to help him with some personal issues, including an alcohol problem and financial issues arising from the divorce.  Somewhere along the way, $120,000 was transferred to Uniform Transfers to Minors Act account for the children of the marriage to Wife #1 under signature authority granted by the taxpayer to Wife #1.  Judge Cohen explains:

Petitioner expressed to [Wife #1] that he intended that the money be used for expenses related to their children’s education. During this conversation, petitioner also discussed his upcoming divorce from [Wife #2]. Petitioner suggested to [Wife #1], and later represented to an Internal Revenue Service agent, that he wanted to preclude {Wife #2′s] access to the funds.

The funds ended up being spent on for their kids’ schooling, but eventually the taxpayer had other needs:

In September 2008, petitioner was having financial difficulties. He attempted to obtain funds from the accounts that [Wife #1] had set up. He advised [Wife #1} that the $120,000 transferred to her in 2006 should have been put in revocable trusts rather than in the childrens' educational accounts.
 On June 19, 2009, petitioner filed a civil lawsuit against [Wife #1] related to the $120,000 transferred to the UTMA and section 529 accounts for their children and other matters. [Wife #1] asserted counterclaims in the lawsuit. In early 2010, the parties to the lawsuit entered into a settlement agreement. In the settlement agreement, petitioner and [Wife #1] acknowledged that the education accounts were the property of their children. [Wife #1] agreed to provide to petitioner biannual financial information related to the UTMA accounts. Petitioner and [Wife #1] released all claims against each other in the settlement agreement.

The judge weighed the word of the two spouses, and came down on the side of the one who hadn’t been to rehab:

We understand that former spouses are not objective witnesses in many instances, but we must reach a decision based on which version is more probable and which party has the burden of proof. In this instance, considering primarily the passage of time between the transaction and petitioner’s expressions of disagreement with [Wife #1]‘s handling of the transaction and the absence of contemporaneous corroboration of petitioner’s intentions, we conclude that the burden of proof has not shifted and that petitioner has not proven that a theft occurred.

The Moral?  It isn’t considered standard financial procedure to give your ex-spouse signature authority over your finances.  If you do, you should probably document it very carefully.  If you don’t like the results, it might be hard to convince the IRS and a judge that you’ve been wronged.

Cite: West, T.C. Memo 2014-2.

 

Iowa Businesses!  The deadline for claiming the commercial property tax credit enacted last year is January 15!  Details at the Iowa Department of Revenue.

 

TaxGrrrl, Filing Your Taxes Early? IRS Will Not Process Returns Before Opening Day.  And don’t try to file until you have your W-2s and 1099s.

William Perez, Requesting Form W-9 from Independent Contractors

Robert D. Flach ponders A VOLUNTARY RTRP DESIGNATION!  I don’t care for the idea, for the reasons Jason Dinesen explains, but would be fine with preparers banding together to develop their own privately-administered standards.  I have no faith in the IRS doing so fairly or effectively.

Scott Hodge, The Number of Millionaire Tax Returns Fluctuates Every Year (Tax Policy Blog)

million-dollar filers

And the population of the million-dollar filers turns over a lot.

Cara Griffith, The Recurring Question of Corporate Disclosure (Tax Analysts Blog):

My general objection to requiring the disclosure of corporate tax return information is that it seems unnecessary. State tax authorities and economic development commissions are already receiving a substantial amount of information about corporate taxpayers. They have the ability to do any type of analysis they choose. Given that the information is already available to those who can properly analyze it, why is it necessary to make it public?

Why not instead develop a database of which tax incentives are available, who has received them, and the benefits they provide? 

Excellent idea.

Tax Justice Blog, Will Basic Constitutional Rights Be the Next Casualty of Kansas’ Supply-Side Experiment?  Hard to see where that happens in this post.

Kay Bell, LBJ’s war on poverty, aided by the Earned Income Tax Credit.  Too bad 20-25% of it gets stolen or misapplied.

EITC error chart

TaxProf, The IRS Scandal, Day 245

 

Des Moinesiacs, listen up!  From Kathryn Smith at IMA:

Please join us for the annual ICN broadcast sponsored by the North Central Regional Council of Institute of Management Accountants on January 9, 2014.  Our speaker will Joe Kristan.  Mr. Kristan will be presenting the 2013 Income Tax Update.  If you have not heard Joe before you are in for a treat.  Joe mixes a little humor with a rather dry subject.  We will start broadcasting at 6:00 p.m. and be joined by locations in Dubuque, Cedar Falls, Cedar Rapids, Grinnell and Davenport.  This is one meeting you won’t want to miss.  Join the Des Moines Chapter at 5:30 p.m. for pizza and pop.  Cost is $10.

It’s at Iowa Public Television, 6450 Corporate Drive, Johnston.  And rest assured, if you do this stuff for a living, it’s not a dry subject!

Career Corner: I’ll Take “Things That Are Worse Than Failing The CPA Exam” For $500, Alex (Going Concern)

 

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Tax Roundup, 12/12/13: Take the $20 million edition. And: Grassley says extenders will pass in 2014.

Thursday, December 12th, 2013 by Joe Kristan

 

20131212-1Next time, take the cash.  A corporation decided a tax deduction from walking away from securities it had paid $98.6 million for would be worth more than the $20 million in cash it had been offered for them.  The Tax Court yesterday told them that they made a big mistake.

Gold Kist, Inc. bought the securities issued by Southern States Cooperative, Inc. and Southern States Capital Trust in 1999.  The issuers offered to redeem the securities from Gold Kist in 2004 for $20 million.  (Gold Kist was later acquired by Pilgrims Pride Corp, which inherited Gold Kist’s tax history.)

Gold Kist believed that it would get an ordinary loss deduction if it simply abandoned the securities, vs. a capital loss on the sale.  Ordinary losses are fully deductible, while corporate capital losses are only deductible against capital gains, and they expire after five years.    A $98.6 million ordinary loss would be worth about $34.5 million in tax savings, which would be worth more than $20 million cash and a capital loss, which can only offset capital gains, and only those incurred in the nine-year period beginning in the third tax year before the loss.

Unfortunately, the Tax Court found a flaw in the plan: Sec. 1234A.  It reads:

§ 1234A – Gains or losses from certain terminations
Gain or loss attributable to the cancellation, lapse, expiration, or other termination of—

(1) a right or obligation (other than a securities futures contract, as defined in section 1234B) with respect to property which is (or on acquisition would be) a capital asset in the hands of the taxpayer, or

(2) a section 1256 contract (as defined in section 1256) not described in paragraph (1) which is a capital asset in the hands of the taxpayer,

shall be treated as gain or loss from the sale of a capital asset. The preceding sentence shall not apply to the retirement of any debt instrument (whether or not through a trust or other participation arrangement).

The taxpayer said that Sec. 1234A didn’t apply, according to the court:

Petitioner’s primary position is that the phrase “right or obligation with respect to property” means a contractual and other derivative right or obligation with respect to property and not the inherent property rights and obligations arising from the ownership of the property. We disagree.

The taxpayer said the legislative history of the section supported their argument.  The Tax Court thought otherwise:

In our view Congress extended the application of section 1234A to terminations of all rights and obligations with respect to property that is a capital asset in the hands of the taxpayer or would be if acquired by the taxpayer, including not only derivative contract rights but also property rights arising from the ownership of the property. 

The taxpayer also said that if that’s what Congress meant, the IRS would have revised Rev. Rul. 93-80, which allows an ordinary loss on certain abandonments of partnership interests.  The Tax Court responded:

The ruling makes clear that, if a provision of the Code requires the transaction to be treated as a sale or exchange, such as when there is a deemed distribution attributable to the reduction in the partner’s share of partnership liabilities pursuant to section 752(b), the partner’s loss is capital. Rev. Rul. 93-80, supra, was issued four years before section 1234A was amended in 1997 to apply to all property that is (or would be if acquired) a capital asset in the hands of the taxpayer. As we previously stated, the Commissioner is not required to assert a particular position as soon as the statute authorizes such an interpretation, whether that position is taken in a regulation or in a revenue ruling. 

So it’s a capital loss only for the taxpayer.

Presumably the Gold Kist board didn’t decide to go for the ordinary loss on its own.  Somewhere along the way a tax advisor told them that this would work.  That person can’t be very happy today for advising the client to walk away from $20 million in cash.

Cite: Pilgrim’s Pride Corp, 141 TC No. 17.

 

Grassley-090507-18363- 0032Quad City Times reports Grassley predicts tax credits extensions, but not until 2014:

 There won’t be any extension before Christmas, Grassley predicted, but not because of political opposition to the credits. Based on past performance, he said, Congress will return after the New Year and approve four dozen or more tax credits.

“There are a lot of economic interests” represented in the tax credits, he said. Those interest groups collectively “put a lot of pressure on Congress to re-institute the credits.”

The delay, Grassley said, can be attributed to the ongoing discussion about “massive tax reform.”

Senator Grassley has more insight about what will happen than I do, but I can”t share his faith that the lobbyists will overcome Congressional dysfunction.  I had hoped any extenders would be included in the budget deal announced this week, and they weren’t.

Actually, I would prefer that the extenders not be extended at all rather than passed temporarily once again.   The whole process of passing temporary tax breaks is a brazen accounting lie.  Congressional budget rules score temporary provisions as if they will really expire, even when they have been extended every time they expire.  Once again, behavior that would lead to prison in the private sector is just another day in Congress.

 

Roberton Williams, Budget Deal Doesn’t Raise Taxes But Many Will Still Pay More:

The budget deal announced Tuesday wouldn’t raise taxes—members of Congress can vote for it without violating their no-tax pledges. But the plan will collect billions of dollars in new revenue by boosting fees and increasing workers’ contributions to the Federal Employee Retirement System (FERS). To people paying them, those higher fees and payments will feel a lot like tax hikes. 

 

David Brunori, States Should Just Say No to Boeing (Tax Analysts Blog):

Boeing is acting rationally — politicians are willing to give things away, and Boeing is willing to accept those things. But politicians should try saying no once in a while. Maybe we would respect them a little more.

Well, it would be hard to respect them less.

 

 

Source: The Tax Foundation

Source: The Tax Foundation

William McBride, Obama: Cut the Corporate Tax Rate to Help the Poor (Tax Policy Blog):

Indeed, cutting the corporate tax rate is probably the best way to increase hiring and grow wages. The President cited no studies to support this, because it is not really in dispute among economists. So why not cut the corporate rate, period, without any conditions or offsetting corporate tax increases elsewhere?

Corporate rate cuts would be a good thing, but don’t forget that most business income nowadays is reported on individual returns.

 

Joseph Thorndike, Congress Is Making a Bad Deal on the Budget, but One Republican Has a Better Idea (Tax Analysts Blog)

It’s amazing what passes for success in Washington these days. Budget negotiators on Capitol Hill have delivered a non-disaster, cobbling together a pathetic half-measure that pleases no one and accomplishes almost nothing.

True, it allows Democrats and Republicans to avoid abject failure, which is no small thing, given recent history. These days, just keeping the wheels from flying off qualifies as statesmanship.

Considering what happens when Congress “accomplishes” something (Obamacare, anyone?), let us praise them for doing as little as possible.

 

Robert D. Flach has wise counsel for clients:  PUT IT IN WRITING.

So if you have a tax question you want to ask your preparer, instead of picking up the phone submit the question in an email, with all the pertinent facts.  And if you receive a notice from the IRS or your state, mail it to your tax pro immediately.

Yes.

 

William Perez, Donating Appreciated Securities to Charity as a Year-End Tax Strategy

Paul Neiffer, Is it Time for an IC-DISC.  If you produce for export, an IC-DISC can turn some ordinary income into dividend income, taxed at a lower rate.

Tony Nitti, IRS The Latest To Send Manny Pacquiao To The Mat: Boxer Reportedly Owes $18 Million

Kyle Pomerleau, Senator Baucus’s Plan for Cost Recovery Heads in the Wrong Direction

TaxProf, The IRS Scandal, Day 217

Cara Griffith, Improving the Transparency of New York’s Tax Collection Process (Tax Analysts Blog)

Jack Townsend, Are Brady Violations Epidemic?  A federal appeals judge says prosecutors routinely withhold evidence that would help defendants.

 

News from the Profession: The PCAOB Is Grateful To The PCAOB For the PCAOB’s Work (Going Concern)

 

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Tax Roundup, 12/10/2013: Penalize everyone edition! And one for me, one from you.

Tuesday, December 10th, 2013 by Joe Kristan

 

20120511-2IRS: shoot first, let the Tax Court sort it out later.  One of the most annoying features of exams in recent years is the IRS habit of imposing penalties on almost every underpayment, regardless of the cause or the taxpayers’ history of good compliance.  It’s nice to see a case like one in the Tax Court yesterday that held the IRS went too far.

The taxpayer were a married couple with a 50-year unblemished compliance history.  The wife’s employer switched from issuing paper W-2s to downloadable versions for 2010.  She didn’t get the memo, if there was one, and left her wage income off the couple’s 1040.  The IRS computers noticed and issued a notice and penalty; the taxpayers double-checked with their preparer and immediately paid the extra taxes, but they balked at the 20% underpayment penalty.

The Tax Court pointed out (all emphasis mine):

     Petitioners regard their tax situation as fairly complex, as they receive income from multiple sources, including two subchapter S corporations that lease farmland out of State. Petitioners worry about their ability to prepare accurate tax returns; accordingly, for many years, including 2010, petitioners have hired a certified public accountant (C.P.A.) to assist them in the preparation of their returns.

Petitioners are aware of the importance of recordkeeping, and for many years they have maintained a system for keeping track of documents that will be needed to prepare their returns. Thus, when petitioners received in the mail a tax document such as a Form W-2, Wage and Tax Statement, Form 1098, Mortgage Interest Statement, Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., or Schedule K-1, Beneficiary’s Share of Income, Deductions, Credits, etc., they would briefly review it and then place it in a dedicated tax file, along with other tax-relevant documents that they collected throughout the year. In February or March petitioners would meet with their C.P.A. and furnish him with their tax file. Once the return had been prepared, petitioners would again meet with the C.P.A. to review the return.

So the taxpayers had a pretty good system in place to ensure compliance.  Yet the missing W-2 fell through the cracks — partly because their preparer thought the wife had retired.

     Petitioners’ failure to notice the absence of a Form W-2 for Mrs. Andersen was an oversight on their part. However, the oversight was at least partially understandable given both the number of petitioners’ tax documents and the fact that Mrs. Andersen never received from either her employer or her employer’s payroll agent a paper copy of a Form W-2, something that she had previously received throughout her career. Nor had Mrs. Andersen received notification from either of those parties that the payroll agent had discontinued issuing Forms W-2 in paper form in favor of making electronic copies available on the Internet.

Petitioners also failed to notice, when they reviewed their return with Mr. Trader, that Mrs. Andersen’s wages were not included on line 7. But when, as part of the review process, petitioners and Mr. Trader compared the 2010 return with the 2009 return, the parties noted the similarity of the amounts of income and the absence of any anomaly, thereby suggesting that no error had occurred. Indeed, the difference between the amounts of income reported on petitioners’ 2010 and 2009 returns was less than $1,000, or two-thirds of one percent of their 2009 income, a difference that would not ordinarily give rise to any suspicion that income had not been fully reported.

So the mistake was one a reasonable human would make.  But the IRS thinks no mistake is reasonable, apparently.  Fortunately the Tax Court held otherwise:

Clearly, petitioners made a mistake. But we think it was an honest mistake and not of a type that should justify the imposition of the accuracy-related penalty. In short, we think that petitioners’ diligent efforts to keep track of their tax information, hiring a C.P.A. to prepare their tax return, reviewing their return with the C.P.A. when it was completed, and prompt payment of the deficiency upon receipt of the notice of deficiency, together with the other facts and circumstances discussed above, represent a good-faith attempt to assess their proper tax liability. Accordingly, we hold that petitioners have carried their burden with respect to the reasonable cause and good faith exception under section 6664(c)(1) and that petitioners are therefore not liable for the accuracy-related penalty under section 6662(a).

So: good records, full cooperation with a reliable preparer, and prompt payment of any underpaid taxes on discovery of the underpayment were key.  It’s ridiculous that it took a trip to Tax Court to get what seems like the only appropriate and fair result.  The IRS should stop being so trigger-happy with penalties.  Maybe a sauce for the gander rule, where the IRS and IRS personnel are as liable for penalties on incorrect assessments as taxpayers are for those on underpayments, would get them to see reason.

Cite: Andersen, T.C. Summ. Op. 2013-100

 

Kyle Pomerleau, CBO Report Confirms that the Federal Government Redistributes a Substantial Amount of Income  (Tax Policy Blog, my emphasis):

They also break down taxes paid and spending received by income quintile. When looked at this way, the redistribution becomes very clear. According to their analysis, those in the lowest quintile received $22,000 in spending minus taxes. In contrast, taxes exceeded spending by $56,000 in the highest quintile.

Source: Congressional Budget Office

Source: Congressional Budget Office

 

When private think tanks like the Tax Foundation issue this sort of report, people favoring higher taxes on “the rich” dismiss it.  CBO numbers are harder to credibly attack as partisan.

But we can always find a dark side.   CBO Finds Growing U.S. Income Inequality (Roberton Williams, TaxVox)

 

William Perez, Selling Losing Investments as Part of a Year-End Tax Strategy.

Tony Nitti, IRS Addresses Deductibility Of Organizational And Startup Costs Upon Partnership Technical Termination.  By saying no.

TaxGrrrl, Tax Scammers Continue To Dial Up Trouble For America’s Seniors.  This is a big problem.  Unless they have contacted you by mail first, the tax folks aren’t going to phone you.  Just hang up.

Paul Neiffer, How $12,000 Becomes $6,000 or less.  By putting it in farmland, if crop prices stay where they are.

 

Stephen Olsen,  IRS says Hom Gonna Getcha on FBAR too.  “The Swiss government and banks are folding like a bunch of cheap patio chairs.”

Phil Hodgen, Voluntary Disclosure and Frozen Swiss Bank Accounts

Brian Mahany,  How To Respond When Your Foreign Bank Asks About Your IRS Compliance

Jeremy Scott, Will FATCA Ever Go Into Effect? (Tax Analysts Blog) “FATCA should be put into effect as soon as possible, and the administration should stop bending separation of powers rules by using delays to functionally repeal unpleasant parts of statutes.”

Nah, just repeal the whole mess.

 

 

20120510-1

Winter Carnival!  Tax Carnival #123: It’s Beginning to Look a Lot Like Tax Time (Kay Bell)

TaxProf, The IRS Scandal, Day 215

Um, no, was there one?  Remember the Tax Reform Act of 1995? (Clint Stretch, Tax Analysts Blog“What is certain is that the 1995 hope of creating a tax system that genuinely favors savings and investment is dead.”

It’s always a good Tuesday for a Robert D. Flach Buzz!

 

We hardly knew ye.  Farewell to Feel-Good Tax Reform (Martin Sullivan, Tax Analysts Blog)

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Tax Roundup, 12/3/2013: Tax Court says no vesting, no K-1. And: gas tax fever!

Tuesday, December 3rd, 2013 by Joe Kristan

20120511-2Who pays, partner?  A Tax Court decision yesterday held that an executive of a partnership holding a non-vested capital interest should not be considered a “partner” for allocation of taxable income and loss before the interest vests.

The taxpayer was an executive of Crescent Holdings, LLC, a Georgia real estate partnership.  According to the Tax Court, he received a 2% capital interest in the partnership that was subject to forfeiture if he failed to stay in the job for three years.  He resigned before the interest vested, so he got nothing.  The partnership had allocated income to him on a K-1 for the period up to his resignation — and gave him some cash to pay taxes on the income —  but he argued that because he was non-vested, he shouldn’t receive any K-1 allocation.

Tax Court Judge Ruwe agreed:

Since petitioner forfeited his right to the 2% interest before it substantially vested, he never owned the interest. Petitioner never received any of the economic benefits from the undistributed partnership income allocations to the 2% interest. Requiring petitioner to recognize the partnership allocations in his income is inconsistent with the fact that he received no economic benefit from the allocations.

“His” 2% was allocable instead to other partners.

Non-vested stock or partnership interests subject to “a substantial risk of forfeiture” are not includible in income until the forfeiture risk lapses, unless the taxpayer makes a timely Section 83(b) election to include the value in income on receipt in spite of the risk.

This decision tells partnerships preparing 2012 returns that they shouldn’t allocate taxable income to partners with unvested interests.  I suspect some partners and partnerships may file amended returns for open years as a result.  It’s not entirely clear, but I read the opinion as saying that a timely Section 83(b) election would change this result.

Cite: Crescent Holdings LLC et al. v. Commissioner; 141 T.C. No. 15

 

Because he really, really wants the money.  Branstad declines to issue gas-tax veto threat (Iowa Farmer Today):

“The goal would be over the next couple of months: Does a consensus develop around something or not? And, I guess time will tell whether that happens,” Branstad said. If an agreement emerges, he said he would include a recommendation on how to address a projected annual shortfall of $215 million for critical road and bridge repair needs during his Condition of the State address Jan. 14.

The “shortfall for critical road and bridge repair” has become a mantra at the statehouse, which means they really want to get into your wallets some more.  The $215 million number comes from an Iowa Department of Transportation report.  No politicians seem willing to challenge a self-serving number from the agency that would benefit from more transportation money.  Compared to other states, Iowa isn’t doing so bad.  For example from the most reason Reason Foundation survey of state highway conditions:

Iowa Highways 2009

Many states are getting less gas revenue from gas taxes as cars become more efficient.  There is a case that some adjustment of the tax makes sense.  Still, Iowa is 17th nationally in per-mile spending, and it doesn’t seem like we are doing badly compared to the rest of the country.  And no matter how much they jack up the gas tax, I suspect they’ll continue to tell us we have crumbling infrastructure anyway.

 

Seventh Circuit: Inherited IRA not exempt from creditor claims. That’s a different result that would apply to bankrupt’s own IRA.  Cite: Clarke, CA-7, Nos. 1241 and 12-1255.

 

Tony Nitti, Final Net Investment Income Regulations: Self-Charged Interest, Net Operating Losses, And More

Paul Neiffer,  Bonus Payments Are Ordinary Income – Not Capital Gains. A Tax Court case involving an upfront oil and gas lease bonus payment.

 

nfl logoJeremy Scott, NFL Encourages Localities in Race to the Bottom (Tax Analysts Blog)  So does NASCAR.

William McBride, Baucus Offers Ways to Pay for a Lower Corporate Tax Rate (Tax Policy Blog)

The shopping season that never ends.  Shopping for Tax Extenders (Clint Stretch, Tax Analysts Blog) “Of the 55 tax provisions that will expire at the end of the year, all but a few have expired before. Taxpayers will have to be satisfied with retroactive reinstatement again.”

TaxProf, The IRS Scandal, Day 208

 

 

Robert D. Flach has your Tuesday Buzz!

Kay Bell, States still getting stiffed on sales taxes on Cyber Monday

Celebrate!  Cyber Monday: It’s The Most Wonderful Tax Evasion Day Of The Year!  (TaxGrrrl)

Going Concern: According To This Paper, It Takes Cojones To Commit Fraud

 

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Tax Roundup, 11/19/13: Sub-zero edition! And the dark side of non-recourse debt forgiveness.

Tuesday, November 19th, 2013 by Joe Kristan

20120511-2

Tax Court says you can’t go below zero.  At least not in computing penalties.

A taxpayer filed a return showing no tax, but claiming refundable tax credits that generated a refund of $7,327.  That’s why refundable credits are such a sweet deal — you can get a refund of taxes without ever paying them through withholding or estimated taxes.  They are really a form of welfare.

The IRS issued the refund as claimed, but then thought better of it.  The IRS recomputation was that the taxpayer should have showed a positive tax balance of $144.  That meant the taxpayer was supposed to repay the $7,327 refundable credit plus the $144 tax due, for a total of $7,471.  The IRS assessed the difference, plus a 20% penalty on the $7,471 “underpayment.”  The taxpayer didn’t think refunding the refundable credit counted as an “underpayment, and the case went to Tax Court.

The tax imposes an “accuracy related” penalty on deficiencies, based on how much the taxpayer underpays the “tax required to be shown on the return.”  The IRS said the underpayment was the whole $7,471.  The Tax Court said that refundable credits can’t take the tax below zero for this purpose, so the “underpayment” is only $144 for computing the penalty.

 

This seems wrong.  Refundable credit fraud — especially Earned Income Tax fraud — is a multi-billion-dollar problem.  If there is no monetary penalty for claiming bogus credits, the only deterrent for gaming the system is criminal penalties, and given the limits on the IRS ability to prosecute EITC fraud, it’s an empty threat.

The Tax Court seems to agree:

We note that our conclusion breaks the historical link between the definitions of a deficiency and an underpayment; however, it was Congress that made that break.

If the case holds up on appeal, Congressional action is all that can fix it.

Cite: Rand, 141 T.C. No. 12.

 

Peter Reilly, IRS Letter To Senator Boxer On Short Sales Not Good News For Everybody

I hate to spoil a nice celebration, but I am going to risk it.  The position that the IRS outlined in the ruling is probably good news for most people affected by it.  It may not be good news for everybody, though.  In order to understand why you have to understand the IRS reasoning.  Here is the deal.  When debt is secured by property, it is either recourse or non-recourse…

The effect of that section is to make just about all California home mortgages non-recourse…  There are various exceptions to recognizing debt discharge income, such as the insolvency exception.  These will no longer be available.  

When you give up a house for non-recourse debt, you are considered to sell it for that amount.  That can be a bad thing.   If you don’t qualify for the residential gain exclusion — say, because you haven’t used it as a residence long enough to qualify, or you bought the house to rent — you can have taxable gain, no cash, and no available debt forgiveness exclusion.

 

The EITC as a poverty trap: phaseouts of the benefit impose stiff marginal tax rates on the working poor.

The EITC as a poverty trap: phaseouts of the benefit impose stiff marginal tax rates on the working poor.

 

Alan Cole, High Implicit Marginal Tax Rates Make Life Difficult for the Poor (Tax Policy Blog):

The CBO did a great study on this a year ago. It found that the implicit marginal tax rates on some poor folk are frequently above 50%, and sometimes above 80%. That is to say, that when they figure out how to increase their income by a $100, they lose $50 or more in new taxes or lost benefits. 

That’s exactly the sort perverse effect that results from the increase in Iowa’s earned income tax credit, which by itself can put low income taxpayers in a 50%+ bracket.  Take away other benefits and you can see how it could get to 80% or more.

 

Sioux City Journal, Branstad declines to issue a gas tax veto threat.  Probably because he’d like a higher gas tax, even though he likes being re-elected too much to push for one.

 

Ben Harris,  Sorting Through The Property Tax Burden (TaxVox):

Using self-reported American Community Survey data, we find that residential property taxes tend to be close to $1,000 per year, with a small share of households paying substantially more, especially in Connecticut, New Jersey, New York and New Hampshire. In recent years, 48 percent of homeowners paid between $750 and $1,750 in property taxes. About one-third—31 percent—paid less than $750 and 21 percent paid more than $1,750.  Just 3 percent paid more than $4,000, with a miniscule share of homeowners (0.2 percent) paying more than $8,000. 

That seems low, but my clients probably aren’t a representative sample.

 

Jason Dinesen, Missouri Guidance on Same-Sex Marriage

 

Kay Bell, Missouri recognizes same-sex marriages for tax filing only20130121-2TaxGrrrl, Black Market Tax Preparers Continue To Defy IRS :

The solution for tax preparers who didn’t want to register and pay the fee? They simply don’t sign the returns.

And yes, that’s against the rules. But a number of paid tax preparers do it anyway. They are referred to in the business as “black market preparers” or sometimes, “ghost” tax preparers.

And that will happen no matter what regulations the IRS imposes on honest preparers.

 

William Perez, Tax Provisions Expiring at the End of 2013

Tony Nitti, House Republicans Put Tax Reform On Hold To Revel In Obamacare Struggles

I really don’t expect to receive tips from clients–it’s not the norm for tax preparation. I definitely don’t expect to receive $1,458,905 in such gratuities.  

I can’t say I expect that either.  But I would be OK with it!

TaxProf, The IRS Scandal, Day 194

Robert D. Flach brings the Tuesday Buzz!

 

The Critical Question: Are Jamaican Credit Unions The Next Tax Haven?  (Brian Mahany)

AOL? Prodigy? Attorney’s License to Practice Law Is Suspended for Failing to Maintain an Email Account  (TaxProf)

 

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Tax Roundup, 10/30/2013: Beggars night day edition! And why IRAs are scary as start-up investors.

Wednesday, October 30th, 2013 by Joe Kristan
MST3K-2 lantern

Stop by for treats tonight. You can find us by Son’s MST3K-themed pumpkin.

The Des Moines area has an unusual tradition for trick-or-treating on October 30, rather than October 31.   On our “Beggars Night,” it’s customary for the little monsters to tell a joke.  A perennial favorite:

What’s a pirate’s favorite restaurant?

Aaaarghh-bys!

So drive carefully tonight!

 

Speaking of scary, think of having your IRA disqualified and taxed currently, with penalties, for engaging in a prohibited transaction.  That’s what happened to a Missouri man in Tax Court yesterday.

The taxpayer, a Mr. Ellis, rolled $320,000 out of his 401(k) and put it into a self-directed IRA.  The IRA than bought 98% of a corporation (an LLC that elected to be taxed as a corporation) to open a used-car lot, where he began working as the general manager.  It went badly.  From the Tax Court opinion:

In essence, Mr. Ellis formulated a plan in which he would use his retirement savings as startup capital for a used car business. Mr. Ellis would operate this business and use it as his primary source of income by paying himself compensation for his role in its day-to-day operation. Mr. Ellis effected this plan by establishing the used car business as an investment of his IRA, attempting to preserve the integrity of the IRA as a qualified retirement plan. However, this is precisely the kind of self-dealing that section 4975 was enacted to prevent.

The result? $163,000 of taxes and penalties on the $320,000 invested in the used car lot — which, of course, may well not be very liquid, seeing that it’s all invested in a closely-held corporation.

This case has an interesting twist to those of us who follow tax cases too closely.  The IRA plan was apparently the work of  a Kansas City law firm whose attempt to make their practice income largely tax-exempt by funneling it through an ESOP-owned S corporation was shot down in Tax Court in 2011.  I’m just guessing here, but the IRS may have taken a look at that firm’s clients after seeing how aggressive the firm was in using retirement plans to shelter business income.

It’s tempting to have your IRA invest directly to avoid the current tax and 10% penalty that can apply to an early withdrawal.  The results, though, can be a lot scarier than any trick-or-treater.

Cite: Ellis, T.C. Memo 2013-245.

 

59pdhyefMore scary.  Econoblogger Arnold Kling has thoughts on whether Healthcare.gov might be saved:

My opinion of the distribution of likely outcomes is that it is bimodal. There is a high probability that the exchanges will be working at the end of November. I think that there is an even higher probability that they will be working never.

The public pledge where the new savior of the site impresses Mr. Kling, but he thinks the design issues might be intractable.

Andrew Lundeen, Scott Hodge,  The Income Tax Burden Is Very Progressive (Tax Policy Blog):

About half of the nation’s income is reported by taxpayers who make less than $100,000, and half is reported by taxpayers who make more. However, taxpayers who make less than $100,000 collectively pay just 18 percent of all income taxes while those who make more pay over 80 percent of all income taxes.

They have a chart, of course:

20131030-2

 

Howard Gleckman, Who Benefits from Muni Bonds? It’s More Complicated Than You Think (TaxVox) “…while most of the benefit of the tax-exemption goes to high-income investors, lower-income households who hold taxable bonds in their 401(k)s also receive some advantage.”

 

But they’re ready to regulate preparers! TIGTA: IRS Cannot Account for 23% of its IT Assets (TaxProf).

 

Jason Dinesen asks Is There a Way to Protect Yourself from Tax Return Identity Theft?   Use common sense — but if someone in your family dies, ID thieves may be able to get government-published information enabling them to steal the deceased’s identity no matter what you do.

TaxGrrrl, Somebody’s Watching Me: IRS Criminal Investigations Ramp Up Efforts To Thwart Tax ID Thefts   

 

David Brunori offers Tax Advice for State Legislators of All Parties (Tax Analysts Blog).  There’s a lot there, including this:

Both parties should also give serious thought to greater reliance on the property tax. Yes, I know people hate that tax. I also know that politicians find it advantageous to attack it. But the property tax revolts of the late 1970s and the 1980s have badly damaged the fiscal structure of state and local governments.

Don’t expect either party to heed the advice.

 

William Perez,  47% of Individual Taxpayers Earn Under $30,000

TaxProf, The IRS Scandal, Day 174

High-fiber diet.  Tax identity thief who ate debit card evidence is convicted (Kay Bell)

From Phil Hodgen’s series on expat taxes: Chapter 2 – Are You An Expatriate?

Carlton Smith, Byers v Comm’r – CDP Venue In Courts Of Appeals May Be Upended (Procedurally Taxing)

 

Joseph Thorndike, It’s Time to Give Up on Tax Reform (Tax Analysts Blog):

Tax reform? Don’t bet on it. Not this year, and probably not next year either. Tax reform, like everything else in Washington, is on hold pending the resolution of a broader, highly polarized debate about the role of government in American society.

 

Robert D. Flach has his Tuesday Buzz on Wednesday this week.

 

 

20131025-237-yard month penalty for former Eagle Mitchell.  The sentence was handed down yesterday in a Florida federal courtroom, reports the Orlando Sentinel.

The former NFL wide-receiver blamed brain injuries suffered on the field after pleading guilty to a plot where he helped convince Milwaukee Bucks player to use a Florida preparer to file a refund claim, which would be split between the NBA player, Mr. Mitchell, and the preparer.  The claim was fraudulent, and the NBA player wasn’t charged.  Mr. Mitchell also allegedly used an LLC to conceal other fraudulent tax claims.  Brain injuries are funny things.

 

News from the Profession: Dancing Accountant Nearly Thrown Out of a Bank For Dancing To “Money, Money, Money”  (Going Concern)

 

 

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Tax Roundup, 10/22/13: Birthday edition! And an unappealing appeal.

Tuesday, October 22nd, 2013 by Joe Kristan

The Internal Revenue Code of 1986 celebrates its 27th birthday today.

President Reagan signs PL 99-514, the Tax Reform Act of 1986.

The authors of the Tax Reform Act of 1986 felt so good about their work amending the Internal Revenue Code of 1954 that they gave it a new name.  And it had some wonderful features compared to what we have now:

- Top marginal rate of 28%, with no stupid phase-outs of itemized deductions or exemptions.

- No capital gain-ordinary income rate differential – tolerable with low marginal rates, and a great simplifier of tax planning.

- It eliminated a whole bunch of complexity, including investment tax credits, and it simplified the life of preparers everywhere by making miscellaneous itemized deductions subject to a 2% of AGI floor, saving us the pain of telling clients they can’t deduct the Swimsuit Issue as an investment expense.

Sure, it had more complexity than I’d care for.  The complicated passive loss rules came in then, on top of existing complicated at-risk rules.  Phase-outs of the passive loss rules imposed hidden marginal tax brackets that helped inspire many awful imitations, like the phase-outs reenacted this year of itemized deductions and personal exemptions.   The 1986 Act brought us inventory capitalization rules, and it left in place the alternative minimum tax.  But at the time, it looked like a good start at much better tax policy.  Now it looks like a high-water mark.

 

Martin SullivanTax Policy In a Knowledge Based Economy (Tax Analysts Blog):

The skeptical accounting profession rarely allows worker training, brand-building, software, and business restructuring to be capitalized, but in so doing it is unwittingly keeping the most important sources of value out of view of managers and stockholders.

Actually, smart managers and investors know about these things, but financial statements aren’t very good at measuring them.

 

20120801-2Tax Court leaps back to work, releasing seven new cases on its first day back after the shutdown.  They include a Judge Holmes case illustrating how good news on the estate tax return can mean bad news on a later income tax return; that case will get its own post this week.

 

TaxGrrrl, Losing Your Identity In Five Easy Steps. Step One: Go To The Doctor.  ”And it can all start out with something as simple as handing out your Social Security number at the doctor’s office”

Jason Dinesen, Incorporate Your Life? Not So Fast  ”…simply having a business entity DOES NOT make everything in your life tax deductible.”

William Perez, Payment Plan Options. “The IRS will automatically grant a payment plan if your balance owed is under $50,000 and the monthly payments will fully pay the outstanding balance in 72 months or less.”

TaxProf, The IRS Scandal, Day 166

Jack Townsend,  Ex Top UBS Banker Arrested; Likely to be Extradited

Kay Bell, Amazon tax now out in Illinois, coming Nov. 1 to Wisconsin

 

Not only is it the birthday of The Code, it’s Buzz Day at Robert D. Flach’s place!

The Critical Question (Really): Is Obamacare in a Death Spiral? (Megan McArdle): “Another week has passed, which apparently means that it’s time for another terrifying article from Sharon LaFraniere, Ian Austen and Robert Pear on the federal health-care exchanges.”

 

SuccessDetermined Iowa City man may be first in state to buy insurance via glitch-plagued public exchange (Des Moines Register):

Voss said Monday that he tried more than 100 times before finally being able to sign onto healthcare.gov, type in his personal information, compare insurance plans, and purchase a policy. 

I wonder if Amazon.com ever tried that?

 

20121226-1Speaking of train wrecks,  McCoy gives up on train funds (Des Moines Register).  An Iowa legislator gives up on spending $310 million to build a money-losing, slower and more expensive competitor to the Megabus.  Now he can concentrate on getting that downtown zeppelin port that is so critical to the economic future of Des Moines.

 

The Cougars of Madison County. No, Francesca Johnson isn’t back on the prowl.

 

Hey, I said I’m sorry!  That you want to put me in jail.  A New Mexico man convicted of tax crimes and of collecting fraudulent farm payments maybe should have left well enough alone, if you can think a five-year prison sentence is well-enough.  But Billy Melot appealed, with potentially dire consequences.  DailyJournal.net reports:

A southern New Mexico farmer and businessman could face more time in prison because a federal appeals court on Monday tossed out his five-year sentence for failing to pay more than $25 million in federal taxes and fraudulently collecting farm subsidies.

However, the court said a federal district court judge erred in calculating Melot’s sentence by concluding that he had accepted responsibility for his crimes. Judges have the discretion of imposing a less severe sentence when they make that determination.

Under federal sentencing guidelines, the court said, Melot had potentially faced more than 20 years in prison.

The appeals court opinion noted that if Mr. Melot accepted responsibility, he had a funny way of showing it:

Since his conviction, Melot has tenaciously opposed the Government’s efforts to collect the restitution he was ordered to pay by the district court, attempting to thwart the collection of more than $18 million in outstanding income tax assessments and more than $6.5 million in outstanding excise tax assessments. In 2012, a federal magistrate judge issued a certification of criminal contempt against him in the ancillary collection proceedings, finding he “actively and intentionally participated in a scheme to fraudulently create a third party interest in his properties with the intention of defrauding the Court, sabotaging the orderly administration of justice and delaying the United States’ lawful efforts to recover the judgment as ordered by the Court.”

Mr. Melot is 61 years old.  If his sentence is stretched to 20 years, he won’t have much time to enjoy any money he keeps away from the feds.

 

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Tax Roundup, 9/20/2013: Dressing up your tax return. And look out, Ethiopia!

Friday, September 20th, 2013 by Joe Kristan
"Garcia" character in "Criminal Minds," via Wikipedia

“Garcia” character in “Criminal Minds,” via Wikipedia

I can’t prove my deductions, but you should allow them because I’m sure I have them, and it’s not that much in the big scheme of things.   An actress took a novel approach to convince the Tax Court to let her deduct clothing, makeup and other items that she said were business expenses in her acting career:

 Instead of relating particular exhibits to particular deductible categories in her brief, she repeated her claims that all of the disputed expenses were related to her employment and supported by the disorganized documents. She did not respond to respondent’s specific analysis of the documents and explanation of the applicable Code sections. Overall petitioner argues that she should be given special leeway because she obviously incurred deductible expenses and the amount of the deficiency is small.  

Cut me a break, what’s my little deficiency to a trillion-dollar deficit?  The court was unconvinced.  With respect to her deductions for clothing and makeup, the court noted:

Petitioner resided in California when she filed her petition. During 2009, petitioner was an actress, a writer, and a college student. She was a stand-in for a character known as Garcia on the television show “Criminal Minds.”

Petitioner also claimed as business expenses items including makeup and beauty expenses, wardrobe expenses, and laundry and cleaning expenses. She claims that these expenses were necessary because of the unique dress and makeup of the character Garcia.

Expenses relating to clothing, dry cleaning, and personal beauty items are deductible only if they are “not suitable for general or personal wear and not so worn”. Yeomans v. Commissioner, 30 T.C. 757, 767-769 (1958). Neither petitioner’s records nor her testimony tied specific items of expense to the type of clothing and related items that would not be suitable for everyday wear. To the extent that items cannot be tied to petitioner’s job with “Criminal Minds”, her arguments about the uniqueness of Garcia are not persuasive.

The moral?  Unless you have to buy a uniform, it’s hard to deduct clothes, as TV anchor Anietra Hamper learned the hard way.  And whatever you deduct, you need to have some way to support the deduction.  The argument that your small deduction is immaterial in the big scheme of things doesn’t work well.

Cite: McGovern, T.C. Summ. Op. 2013-74

 

James Taranto, who runs the Wall Street Journal’s “Best of the Web” feature (with a format suspiciously like the Tax Update’s Tax Roundup), has some good observations on the evolution of the IRS Tea Party scandal.  He suggests how the agency could come to target the President’s political opponents without anybody having to tell them to do so:

The memo presents no evidence that the White House directly ordered the IRS to crack down on political opponents. Instead, it is consistent with the theory, described here in May, that IRS personnel responded to “dog whistles” (in Peggy Noonan’s metaphor) in public statements from the president and his supporters.

That’s much more depressing than if the White House had issued such orders.  That means the problem is part of the IRS culture, making it very difficult to fix.

TaxProf, The IRS Scandal, Day 134

Eliana Johnson, Senior Treasury Department Officials Knew of IRS Targeting in Spring 2012, Documents Suggest

 

Tony Nitti, One Mortgage, No Home Equity Loan: How Much Interest Can You Deduct?

TaxGrrrl, Forget Kiddie Tax, New Senate Proposal Would End ‘Parent Tax’

 

20130920-2

Haile Selassie, Emperor of Ethiopia

William McBride,  World Economic Forum: U.S. Still Sliding (Tax Policy Blog):

America’s least competitive areas include taxes and government debt. The U.S. ranks 69th, right behind Ethiopia, in terms of the impact taxes have on incentives to work and invest. The U.S. ranks 103rd of 144 countries in terms of the total tax rate as a percent of profits.

 Look out, Ethiopia.

 

Tax Justice Blog, Stop Tax Haven Abuse Act Would Curb Some of the Worst Multinational Corporations’ Tax Dodges.  This would be less of a problem if the problems noted in the previous item were addressed.

Elaine Maag, Senator Lee’s New Reform Plan Focuses on Young Children (TaxVox)

Andrew Lundeen, Roughing the Passer: Congress Won’t Find Much Revenue from Taxing the NFL (Tax Policy Blog)

Jack Townsend, Atypical Offshore Account Plea for Art Dealer

Leslie Book, Remands and the Nature of CDP Hearings (Procedurally Taxing)

 

Robert D. Flach has a mighty “meaty” Friday Buzz!

The Critical Question: Did Tax Court Just Say That There Are Thousands Of Unfiled Oil Partnership Returns ?  (Peter Reilly)

News from the profession: Accountants Love Their Jobs Because They Get to Manipulate Numbers All Day Long, Says Guy (Going Concern)

 

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Charity may begin at home, but not with the down payment.

Tuesday, August 27th, 2013 by Joe Kristan

gjgy6jbn

One curiosity of the Great Housing Bubble was the emergence of the “down payment assistance” enterprise.  These outfits, typically established as “non-profit” entities, purportedly helped home buyers come up with a down payment.  Some of these didn’t look quite right.

Back in 2005 we noted an Illinois organization called “Partners in Charity”:

An Illinois organization known as “Partners in Charity” (PIC) has been helping home sellers close deals when the buyer is unable to come up with a down payment. PIC “gives” the down payment to the buyer, and the seller “reimburses” the downpayment to PIC, plus an “administration fee.” If the seller were to pay the down payment directly, that could make the lender walk away; running it through PIC gives everyone a fig leaf that there is a “down payment” and gets the deal closed.

Here’s the fun part, from a tax viewpoint: Partners in Charity claims to be a 501(c)(3) charity, and the Government says they tell house sellers that the “reimbursed” down payment and administrative fee qualify for a charitable contribution.

In other words, a charitable deduction for what amounts to a reduction in the sales price.  Sweet.  Too sweet.  We looked at the documents that they helpfully posted on their website and found the whole thing a stretch:

Note that the seller is “obligated” to make the “contribution,” or PIC doesn’t play. This is an obvious quid pro quo, and the Eddie Haskell-like language “Seller understands that the contribution will not be used to provide down payment assistance to the Buyer of the Participating Home, and that the gift funds provided to the Buyer toward the purchase of the Seller’s home are derived from pre-existing PIC funds” isn’t going to fool anybody. If that worked, the only way you could ever stop somebody from running almost any expense through a purported charity would be if the charity used the exact same dollar bills that you gave them to pay the expense.

The Tax Court yesterday pondered Partners in Charity’s tax-exempt status and arrived at a similar conclusion (my emphasis, citations omitted):

PIC argues that it did not give seller funds to a buyer — an important requirement under the HUD guidelines. PIC contends that it received fees from sellers only after closing and that the fees were necessary for PIC to recoup the costs of its grants, and, therefore, the seller-paid fees furthered the grant-making purpose. This argument misses its mark. Before PIC gave funds to a buyer, PIC required a promise from the seller that, immediately after closing, the seller would pay PIC the buyer’s grant amount plus a fee-and the evidence shows that in fact the seller’s payment was made to PIC from the escrow, i.e., without risk that the seller would renege. In essence, a DPA grant went from PIC to the buyer, to the seller, and right back to PIC.

The Tax Court upheld the revocation of Partners In Charity’s exempt status retroactively to inception.  As the company had accumulated over $3.5 million in assets, according to the decision, that will result in an ugly corporate tax bill.

The Moral? If you find yourself sounding like Eddie Haskell when explaining a transaction, maybe it’s not such a great idea.

Cite: Partners in Charity, Inc.,  141 T.C. No. 2

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Tax Roundup, 8/22/2013: Is your passport worth your business? And a prodigal mom!

Thursday, August 22nd, 2013 by Joe Kristan


passport
A great post by Phil Hodgen, Why people renounce U.S. citizenship for estate tax reasons.  It’s an issue often overlooked in cheap talk of “tax cheats,” but not by those who face a tremendous hit to their family businesses from the  U.S. Estate tax:

The senior members of these families are pressuring the younger generation give up U.S. citizenship to protect against these problems. I have heard the ultimatum from the father to the son: “The business or your U.S. passport. You choose.”

I want to emphasize that I do not hear political rants from my clients, or from the other family members who must deal with having a U.S. citizen shareholder thrust upon them. Everyone I talk to is eager to travel to the United States, enjoys meeting Americans, and bears no ill will to anyone.

But faced with the prospect of destroying the family business or giving up the U.S. passport, it is no contest. The passport has to go.

40% of the value of your business, as second-guessed by the IRS, can be a high price for a passport.

 

Sorry, “Mom.”  The Tax Court yesterday found a problem with a claim for a dependent exemption:

Petitioner has failed to show that she is entitled to the dependency exemption deduction for Mr. Salako. Petitioner claimed on her 2008 return that Mr. Salako was her son. Mr. Salako was born on January 12, 1961, and was thus 47 years old at the close of 2008. Petitioner, born in 1959, is only two years older than Mr. Salako. Thus, he cannot be her biological son, and we do not find credible petitioner’s unsubstantiated testimony that Mr. Salako is her adopted son.

Decision for IRS, not surprisingly.

Cite: Golit, T.C. Memo 2013-191.

 

Scott Hodge,  Why Shouldn’t the Tax Foundation Pay Taxes?  (Tax Policy Blog):

Just 3 percent (or 6,508) of all non-profits have assets of $50 million or more. However, these organizations took in 73 percent of all non-profit revenues and commanded 81 percent of all assets held by non-profits.  

Inequality!

 

TaxGrrrl, Michael Jackson’s Estate To IRS: Beat It.  Prompting a whole generation to ask, “who’s Michael Jackson?”

 

Cara Griffith, Textbooks with Borders (Tax Analysts Blog):

Most of us have heard of doctors without borders, but has anyone heard of textbooks with borders? It’s a reality for those using Amazon’s textbook rental service. The reason for this is very likely related to Amazon’s recurring sales tax issues.

Taxes often explain seemingly bizarre behavior.

 

Kay Bell, Maryland Rep. Van Hollen sues IRS over its application of 501(c)(4) political nonprofit rules.  Good luck with that.

 

TaxProf, TIGTA: IRS May Be Violating Copyright Law on 89% of its Software.  I don’t suppose copyright violations will invalidate an assessment.

 

Missouri Tax Guy,  DOMAs Death, There Are Questions

Trish McIntire,  Rant- Keep Your Return Safe.  Certainly never send it as an unencrypted pdf attachment to an email.

Peter Reilly,  Group Claiming To Teach True Meaning Of Islam Denied Exempt Status. 

TaxProf,  The IRS Scandal, Day 105

 

The Critical Question:  WHAT DO HERNIAS AND STATE TAXES HAVE IN COMMON? (Brian Strahle)

Personal advice section: Someone Who Has Never Dated an Accountant Came Up With 15 Reasons to Date an Accountant (Going Concern)  Someone who has dated one might come up with fewer.

 

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Tax Roundup, 8/14/2013: Tax Court Trifecta: IRS agent gets creative on her own 1040, Shareholder stuck, and not quite a real estate pro.

Wednesday, August 14th, 2013 by Joe Kristan

20130121-2More reasons we should trust the IRS to regulate preparers.  The Tax Court yesterday addressed the charitable deductions of a revenue agent with the IRS Manhattan office.   The Tax Court judge found the documentation for the claimed contributions to Living Stone Baptist Church  insufficient (my emphasis):

Petitioner was not a member of LSBC during the years in issue. Pastor Mobley was clear that he knew all his congregants by name and face and that he did not know petitioner. Pastor Mobley apparently first met petitioner in 2011 after the examination of petitioner’s tax returns commenced. It seems improbable that petitioner ever attended LSBC and even less probable that she made donations in any amount. It appears highly probable that petitioner, in concert with her longtime friend and fellow IRS employee, cut and pasted stationery from LSBC and provided the same to the IRS agent examining the returns in an attempt to support the claimed deductions. That attempt failed when the IRS agent attempted to verify the reported contributions with Pastor Mobley. The pastor made clear that he did not authorize the receipts to be prepared or issued on LSBC stationery, nor did he sign any such receipts. Even after these false documents were exposed by the examining revenue agent, petitioner continued to pursue her efforts to obtain documents in support of the reported contributions.

Surely we should all welcome folks like that having the power to control whether we can make a living filing returns.

Cite: Payne, T.C. Summ. OP. 2013-65.

 

The Tax Court released two other interesting decisions yesterday:

You may still be a shareholder!  In Kumar, a radiologist had a falling out with his fellow shareholders in his medical practice S corporation, and was frozen out of the business.  Yet he still owned shares in the company and still received his K-1, and was eventually redeemed out in a settlement.  He failed to report income from one of his K-1s, claiming he no longer really owned the shares.  The Court ruled otherwise:

Thus, Dr. Kumar retained the beneficial ownership of the PSLV shares. There was no agreement giving Dr. Woody any rights to Dr. Kumar’s stock during the year at issue, and Dr. Woody’s interference with Dr. Kumar’s participation in PSLV did not deprive Dr. Kumar of the economic benefit of his PSLV shares. Thus, we conclude that the beneficial ownership test does not relieve Dr. Kumar  from passthrough of PSLV profits and petitioners must report $215,920 of income and $2,344 of interest income from PSLV. 

If you get the K-1, you probably have to report the income.

 

If you want to prove your participation, log your time.  In Williamsa taxpayer tried to convince the Tax Court that he met the two tests for being a real estate professional under the passive loss rules, and could therefore deduct his rental losses as non-passive.  To meet the tests, you have to spend at least 750 hours during the tax year participating in a “real property trade or business,” and that has to exceed the time you spend in other activities.  It’s up to the taxpayer to show the time spent, and the judge wasn’t convinced:

Mr. Williams testified he spent over 800 hours and more than one-half of his time performing personal services in the rental property activity for each year at issue. Petitioners failed to introduce documentation or other credible evidence corroborating Mr. Williams’ testimony.

Moreover, respondent’s cross-examination of Mr. Williams revealed that his testimony was inconsistent with other credible evidence and unreliable. 

“Documentation or other credible evidence” means a log, calendar or spreadsheet prepared currently during the tax year.  For an example of a taxpayer who kept records sufficient to win his case, go here.

 

TaxGrrrl,  IRS Proposes To Permanently Ease Restrictions For Innocent Spouse Relief   

Kay Bell, Social Security same-sex benefits limited (for now)  to states where such marriages are legal. Will IRS follow suit?

TaxProf,  The IRS Scandal, Day 97

Lori Bullock,  Social Media, the Internal Revenue Service and You (Davis Brown Tax Law Blog).  Now IRS has a Tumblr.

Paul Neiffer discusses the legislative progress of  The New Farm Bill.  You’d think that 70 years after the Depression ended, Congress might allow anti-depression measures to expire.

 

Kyle Pomerleau,  Japan Further Discusses Lowering Their Corporate Rate (Tax Policy Blog)

Roberton Williams, Paying for Corporate Tax Rate Cuts is Hard (TaxVox)

David Brunori, I Like the Internet, Taxed or Not (Tax Analysts Blog). “But come on. We are still trying to give a special tax break to the Internet?”

Tax Justice Blog,  State News Quick Hits: Texas, New York and Hollywood:

Between 2003 and 2012 the average Hollywood movie earned a 452 (!) percent return on investment. Still, 40-some states offer generous film tax credits in a misguided effort to invite productions.

But, parties!

 

Me, The perils of an unorthodox approach to tax crime explained.

 

He won’t ride his dinosaur into the sunset.  Doctor Dino – Kent Hovind May Lose In Court But Will Never Give Up (Peter Reilly)

Tax Planning the hard way:  People Are Having Babies Earlier to Max Out Tax Benefits (Going Concern)

Answering the Critical Question:  ‘Little House’ Is Not a Big Libertarian Conspiracy (Megan McArdle)

 

Note to readers: Tax Update posts are cross-posted to the Tax Update Facebook page, My LinkedIn page, and my GooglePlus feed.  Also on Twitter at @joebwan!

 

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Tax Court: even if you lose money, your S corporation needs to pay “reasonable” compensation.

Thursday, August 8th, 2013 by Joe Kristan

20120801-2One thing I like about S corporations is that while corporation income is taxed on shareholder’s 1040s, income on the K-1 isn’t subject to payroll or self-employment tax.

Except when it is.

Mr. Blodgett had an S corporation called Glass Blocks Unlimited, which “sold and distributed ‘glass blocks’ for the real estate market in North America.”  He was the sole shareholder and president of the company.

The Tax Court lays out some key facts (my emphasis, footnotes omitted):

 He worked full time for petitioner, which had no other full-time employees. He was responsible for all operational and financial decisions of the company, and he performed nearly all of the work necessary to run the business. Petitioner additionally used an unspecified number of day laborers, whom it paid totals of $39,733 and $41,453 in 2007 and 2008, respectively.

Petitioner did not on its 2007 and 2008 Forms 1120S report paying Mr. Blodgett a salary or wages. It did, however, distribute money to him as cash was available and he asked for it. Petitioner distributed not less than $30,844 to Mr. Blodgett over the course of 2007. During 2008, petitioner made distributions to Mr. Blodgett totaling not less than $31,644.

The IRS treated the distributions as taxable wages to the taxpayer and assessed FICA and Medicare taxes.  The taxpayer disagreed, saying that the his “reasonable” compensation was lower than that assessed by the IRS.  The judge sided with the IRS:

As president of the company, Mr. Blodgett was petitioner’s only officer. Mr. Blodgett was also petitioner’s sole full-time worker in 2007 and 2008. He performed substantially all of the work necessary to operate the business, including processing orders, collecting payments, arranging shipment of goods, managing inventory, and handling customer relations. His services generated all of petitioner’s income.

     Because Mr. Blodgett was petitioner’s employee for the periods at issue and performed substantial services for it yet it did not pay him a salary, its distributions to him are deemed wages and thus are subject to Federal employment taxes.

The taxpayer also said some of the distributions were repayment of loans to the company.  Here the taxpayer was the victim of informal bookkeeping:

There were no written agreements or promissory notes supporting Mr. Blodgett’s testimony that the transfers were loans. While it is true that a portion of the transfers was reported as loans from shareholders on petitioner’s Forms 1120S, that entry is of little value without the support of other objective criteria. Indeed, petitioner did not even report the $10,000 transfer as a shareholder loan on its 2008 return. The absence of notes or other instruments, plus petitioner’s failure to treat the $10,000 transfer as a loan at all, indicates that the transfers were not loans.

To make things worse, the court upheld late payment penalties on the payroll taxes.

I think the taxpayer gets a raw deal here.  The IRS imposed $30,844 of wages on the taxpayer in 2007, even though the corporation’s net taxable income for the year was only $877, not counting the “wages.”  It hit him with another $31,644 if wages for 2008, when pre-wage income was only $8,950.  In other words, the Tax Court expected the corporation to incur a taxable loss just to generate some payroll taxes for the IRS.  That’s ridiculous, and a worse result than the same taxpayer would have had running the business on a Schedule C.

Furthermore, the Tax Court was too cavalier in disregarding the loans and repayments.  It’s wrong to expect a one-man corporation to generate prissy paperwork when the shareholder advances funds.   Yet because he didn’t have pieces of paper with the magic words, he got stuck with payroll taxes — and penalties.

The Moral?  When advancing and withdrawing funds from an S corporation, be sure to generate the appropriate prissy paperwork.  And if a wholly-owned S corporation generates enough cash to distribute to an owner working in the business, set a salary and pay the payroll taxes on at least a “reasonable” amount, or the IRS might impose payroll taxes on all of it.  You have to protect yourself from an unreasonable IRS assessment, because it looks like the Tax Court won’t.

Cite: Glass Blocks Unlimited, T.C. Memo. 2013-180

 

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Man who supported someone else’s kid gets attaboy, but no tax credit.

Tuesday, July 23rd, 2013 by Joe Kristan

20130723-3Mr. Cooper supported somebody else’s child.  He got a dependency exemption, but the tax law draws the line at tax credits for him.  The Tax Court spelled out the five requirements that had to be met to qualify for the the child credit and earned income tax credit; Mr. Cooper stumbled on the first one:

However, the parties also stipulated that T.P. is not Mr. Cooper’s biological child or descendant. If Mr. Cooper had adopted T.P., then T.P. would have been considered Mr. Cooper’s child and the specified relationship would exist. However, there is no evidence that Mr. Cooper had adopted T.P. as of the close of 2010, nor is there any evidence that T.P. met any other part of the relationship test.

     As a result, not all five of the requirements are fulfilled, and T.P. was not a qualifying child under section 152(c).

But the Tax Court did have some consolation:

Mr. Cooper should be commended for supporting T.P.; however, the tax law as written does not allow him the credits he claimed.

I’m sure Mr. Cooper appreciated the commendation, but I suspect he’d have appreciated the tax credits more.

Cite: Cooper, Summ. Op. 2013-59.

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If you are going to forge your travel calendar, at least get the year right.

Tuesday, July 16th, 2013 by Joe Kristan

perryheadThe tax law has strict rules for supporting travel expenses.  You need to be able to document your travel with records showing the date, amounts, and business purpose.  For mileage, the tax law likes a contemporaneous diary.

The IRS audited the travel expenses of a Florida real estate agent.  They disallowed about $10,000 in vehicle expenses, and it ended up in Tax Court, where things went badly in a tax nerd Perry Mason moment:

Under cross-examination by respondent’s counsel, Ms. [real estate agent] acknowledged that some of the entries in the notebook had been altered (i.e., the portion of the date indicating the year was obliterated) and that one of the entries is for a date in 2010. In addition, the day planner included an order form which provided a convenient way for the owner to purchase a new day planner for the coming year. In this case, the order form was for the calendar year 2014, a fact that completely undermined Ms. [real estate agent]‘s testimony that she recorded information in the day planner contemporaneously in 2008.

Oops.  The IRS won, with penalties.

The moral: There are a lot of ways the IRS can trip you up if you try to cook up your mileage diary retroactively.  If you really want the deduction, record your travel as you go, either on an old-fashioned auto log or one of those smartphone mileage apps.

Cite: Hardnett, TC Summary Opinion 2013-56

Thanks to Lileks for the Perry Head.

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Cost-segregation study can’t fix the poultry plant purchase price pact

Tuesday, July 9th, 2013 by Joe Kristan

8594Business buyers usually would rather buy the assets of a business than the stock of the corporation owning the business.  If you buy stock, you buy sins.  You buy potential lawsuits and the company tax history.

When you buy assets, instead of stock, the sins stay with the old owners.  You get a fresh start at depreciating the purchased business.  You may also get to amortize purchased goodwill over 15 years.  To do that, you have to allocate the business purchase price among the assets.  How?

Buyers want to allocate the purchase price to short-lived assets – inventories and equipment, in particular — to deduct the purchase price as fast as possible.  Most equipment can be depreciated over a seven-year life, but many assets can be written off even faster.   Sellers would rather allocate the purchase price to land (non-depreciable), buldings (39-year life) and goodwill (15-year life).

The tax law encourages buyers and sellers to agree by requiring them to file Form 8594, disclosing the allocation, with their returns.  By matching the buyer and seller 8594s, the IRS can keep taxpayers from taking opposing positions for tax advantage.

When Peco Foods bought two Mississippi poultry-processing plants, they agreed on a purchase price allocation with the seller and duly filed Form 8594.  But then they tried to improve it.  They hired an appraisal company to do a “cost segregation study.”  Engineers looked over the purchased buildings and identified components that were really part of the manufacturing machinery and should therefore be written off over a shorter life.  They filed tax returns using the results of the study.

The IRS didn’t like that.  The seller reported gains based on the sale of buildings, which normally provide favorable capital gain rates.  If the purchase price had been allocated more to machinery in the first place, the IRS would likely have collected higher taxes because additional purchase price allocated to machinery is normally recaptured depreciation on the machinery, taxable at ordinary rates.  So the IRS on exam said that the cost segregation study didn’t change the allocation, and the assets had to be written off more slowly.

The Tax Court last year upheld the IRS, and last week the Eleventh Circuit Court of Appeals agreed (footnotes and citations omitted, my emphasis):

    The Tax Court found that the decision to allocate the purchase price separately among the three assets clearly evidences Peco’s intent not to allocate any part of the purchase price to subcomponent assets. We agree. The term “Real Property: Improvements” is not ambiguous, and therefore, the original Canton allocation schedule is binding upon Peco.

     In binding Peco to both agreements, the Commissioner can be assured that both the buyer (Peco), and the respective sellers, (Green Acre and MD), treat the assets consistently for federal tax purposes. As the Danielson court observed, “‘where parties enter into an agreement with a clear understanding of its substance and content, they cannot be heard to say later that they overlooked possible tax consequences.’”

The Moral?  If you want to do a cost segregation study on newly-purchased assets, you need to do it in time to write it into the purchase agreement.  The tax law doesn’t provide a cost-segregation mulligan.

Cite: Peco Foods, Inc & Subsidiaries, CA-11, No. 12-12169

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