Innocent Spouse Relief: The question whether Reg. 1.6015-5(b)(1), which imposes a two-year limitations period for seeking equitable innocent spouse relief, is a valid interpretation of IRC Sec. 6015(f) and IRC Sec. 66 has generated a number of (conflicting) court decisions and comments by National Taxpayer Advocate Nina Olson. In a 4/29/11 letter to Congressman Jim McDermott, IRS Commissioner Doug Shulman stated that he has requested a review of this provision "to ensure that we provide innocent spouses opportunities to present their claims and receive the relief they are entitled to under the law."
IRS Promotes Nationwide Tax Forums: The IRS invites enrolled agents, CPAs, and other practitioners to register early for one of the six IRS Nationwide Tax Forums to be held this summer. The three-day events will enable participants to receive up to 18 continuing education credits. The early bird enrollment cost is $206 per person versus the late or onsite registration price of $335. The early registration period closes two weeks prior to each forum. The 2011 cities and dates are as follows: Atlanta, Georgia, June 28–30; Orlando, Florida, July 12–14; Dallas, Texas, July 26–28; San Jose, California, Aug. 9–11; Las Vegas, Nevada, Aug. 16–18; and Washington DC National Harbor, Aug. 30–Sept. 1. News Release IR-2011-51.
IRS Regulation of Return Preparers: More than 700,000 tax return preparers have registered with the IRS and obtained a Preparer Tax Identification Number (PTIN). By comparing the new PTINs with a database managed by the Office of Professional Responsibility, the IRS identified 19 preparers who applied for PTINs and failed to disclose a criminal tax conviction or have been permanently enjoined from preparing tax returns. With the end of the filing season, the IRS will review tax returns prepared by persons who used an identifying number other than a PTIN, did not use an identifying number, or did not sign tax returns they prepared. The IRS is also piloting methods to help identify returns that appear to be professionally prepared but are unsigned by the preparer. News Release IR-2011-47.
Limitations Period for Basis Overstatement: IRC Sec. 6501(e)(1) mandates a six-year statute of limitations for assessment when a taxpayer omits more than 25% of the gross income reported on the return. In Colony Inc. [357 U.S. 28 (1958)], the Supreme Court held that an overstatement of basis in a business context wasn't an omission from income for limitations purposes. Under recently finalized Reg. 301.6501(e)-1, understated gross income from an overstatement of basis outside of a trade or business context constitutes an omission from income under the statute of limitations. Based on the position taken by the appellate court to which this case would be appealed (the 9th Circuit), the Tax Court held that the general three-year limitations period applies to a case involving an alleged variation of a Son of BOSS tax shelter. Carpenter Family Investments, LLC, 136 TC No. 17 (Tax Ct.).
Tax Relief for Storm Victims: With recent storms, tornadoes, and flooding affecting the southeastern part of the country, it's worthwhile remembering that the IRS website has a dedicated page for disaster assistance and emergency relief (www.irs.gov/newsroom/article/0,,id=108362,00.html) for individuals, businesses, and relief workers. The news releases specify (1) the covered disaster area [e.g., the counties entitled to relief as a covered disaster area under Reg. 301.7508A-1(d)(2)]; (2) the affected taxpayers, such as individuals who live, and businesses whose principal place of business is located, in the covered disaster area; (3) the grant of relief, which typically includes an extended deadline for filing most tax returns and/or making tax payments, including estimated tax payments due within a certain time period; and (4) other relief, which can include expedited requests for copies of tax returns already filed by affected taxpayers, and help with collection or examination matters.
Other Current Releases
Bankruptcy Estate—Self-directed IRAs: Taxpayer's self-directed IRAs were includable in his bankruptcy estate after he engaged in prohibited transactions under IRC Sec. 4975(c) in which he transferred funds between his IRA and joint brokerage account to meet various obligations and returned funds within 60 days to avoid tax on the IRA withdrawals. Because taxpayer was responsible for managing investments in the IRA, he was a fiduciary and a disqualified person for Section 4975 purposes. The 11th Circuit affirmed the lower courts' findings that taxpayer's two additional IRAs also lost all or a portion of their tax exemption after being funded with assets from the first IRA. Willis v. Menotte, 107 AFTR 2d 2011-XXXX (11th Cir.).
Estate Tax—Litigation Claim against Decedent: The Tax Court disallowed a $30 million estate tax deduction based on a $90 million lawsuit for breach of confidence, duty of loyalty, and malpractice filed against decedent's husband, an attorney, that was pending at his death and also at her later death. The estate claimed a $30 million discounted deduction for this claim due to the possibility of settlement and other unknown factors. The court denied the deduction because of a lack of reasonable certainty [as required under prior Reg. 20.2053-1(b)(3)] of the value of the claim. After stating that it would not consider the subsequent settlement of the claim in determining whether the claim was ascertainable with reasonable certainty on the date of decedent's death, the Tax Court noted that the difference in value between the IRS's experts and the estate's experts reinforced the uncertainties underlying the valuation of the claim. Estate of Gertrude Saunders, 136 TC No. 18 (Tax Ct.).
Estate Tax— Litigation Claim against Decedent: Decedent's estate included marital trusts that had been previously created upon the death of her husband and funded with proceeds from the sale of his closely-held company stock to an ESOP in a debt financed buyout arrangement. The company experienced financial troubles and eventually filed for bankruptcy. The ESOP beneficiaries sued the decedent and the trustee for breach of fiduciary duty. Decedent's estate tax return discounted the value of the marital trusts for litigation hazard, which the Tax Court denied because a buyer's rights in the marital trust assets would not be affected by the litigation. The Tax Court also denied alternative claims of lack of marketability and control discounts by the estate. Estate of Ellen Foster, TC Memo 2011-95 (Tax Ct.).
Income Tax—Business Expense Substantiation: The Tax Court granted taxpayer, a self-employed handyman, a partial deduction for amounts paid to individuals who assisted him in performing certain jobs, but denied deductions for meals and entertainment, vehicles, telephone and legal fees due to lack of documentation. Taxpayer presented a list of 13 individuals' first names that corresponded to names on his weekly planner, and although there was no record of actual payments, the court was persuaded that taxpayer required assistance on certain projects and allowed a portion of his claimed expenses for casual labor. Mark Stroff, TC Memo 2011-80 (Tax Ct.).
Income Tax—Disability Pension Payments: The Tax Court held that disability benefits paid to a police officer permanently disabled in the line of duty remained nontaxable under IRC Sec. 104(a), even after he reached the eligible retirement age and despite being considered retirement pay under state law. Reviewing precedent from the applicable appeals court, the Tax Court determined that the benefits were not determined by reference to taxpayer's age or length of service. Therefore, they were not retirement benefits. Duane Bakken, TC Summ. Op. 2011-55 (Tax Ct.).
Income Tax—Legal Settlement Is Deductible: Taxpayer, a corporation, deducted settlement payments made in a class action lawsuit resulting from its investment recommendations to clients who suffered loss from fraud in a particular investment fund. In a letter ruling, the IRS determined the settlement to be deductible under IRC Sec. 162 as ordinary and necessary because it was reasonable given the damages sought and was adopted to protect the company's reputation in the marketplace. In addition, the all events test of IRC Sec. 461(h) was satisfied, and none of the payments required capitalization as separate and distinct assets. Ltr. Rul. 201117007.
Income Tax—Like-kind Exchange: Taxpayer, a co-founder of the Hard Rock Cafe chain, owned an S corporation that entered into an agreement with a qualified intermediary to exchange one aircraft for another. The escrow agent accidentally wired funds from the escrow account to the corporation, which were returned the following day. The IRS acknowledged there would have been a valid like-kind exchange but for the accidental placement of funds in the corporation's account. The Court of Federal Claims responded that taxpayer should not be penalized for someone else's mistake: "Taxpayer complied with all the requirements of the qualified intermediary safe harbor over which he had control; he did not have control over the mistaken actions of a third party." Therefore, the transaction was a valid deferred like-kind exchange under IRC Sec. 1031. Morton v. U.S., 107 AFTR 2d 2011-XXXX (Ct. Fed. Claims).
Income Tax—Most Households Paid No Income Tax in 2009: According to information posted to the website of Senator Orrin Hatch (see http://hatch.senate.gov/public/index.cfm/economyandtaxes), an analysis by the Joint Committee on Taxation (JCT) found that 51% of U.S. households did not pay any federal income tax in 2009 because they had zero income tax liability or received a refundable credit. For example, of the 81.1 million single returns for 2009, JCT projected that 26.8 million had zero income tax liability, 16.6 million received a refundable credit, and 37.8 million had a positive income tax liability. For the 58.9 million married filing joint returns, 7.3 million had zero income tax liability, 16.2 million received a refundable credit, and 35.5 million had a positive income tax liability for 2009.
Income Tax—Payments for Care of Disabled Child: The IRS has previously ruled that government payments promoting the general welfare (e.g., to assist low-income persons with utility costs) are not income. In Dorothy Bannon [99 TC 59 (1992)], the Tax Court held that State of California payments to the mother of a 37-year-old mentally retarded daughter for her care at home did not constitute a welfare benefit to the mother, and so were includable in the mother's income. In a new summary opinion, the Tax Court held that payments by the State of Oregon to care for taxpayer's disabled son were taxable income. Like the Bannon case, the intended beneficiary of the welfare payments was the disabled child, not the child's caregiver/parent. Carolyn Gay Harper, TC Summ. Op. 2011-56 (Tax Ct.).
Income Tax—Unified Business Enterprise: Taxpayer, a co-founder of the Hard Rock Café chain, owned and operated several S corporations whose purposes were "the maintenance, exploitation and expansion of the Hard Rock trademark." The IRS disallowed depreciation and other business deductions for an aircraft owned by one of the companies, but used to further the business purpose of other entities. The Court of Federal Claims held that the entities were intertwined, and since they were S corporations where the entity is essentially the individual owner, they formed a unified business. However, the court did not have enough evidence to determine if the aircraft expenses were for legitimate business purposes rather than personal trips. Morton v. U.S., 107 AFTR 2d 2011-XXXX (Ct. Fed. Claims).
Penalties—Reasonable Cause for Failure to File: IRC Sec. 6651(a)(2) imposes a penalty for the failure to file a required tax return by the prescribed due date unless the failure is due to reasonable cause and not willful neglect. Reasonable cause requires proof that the taxpayer exercised ordinary business care and prudence, but nevertheless was unable to file within the prescribed time. In emailed advice, the IRS noted that one of the relevant factors is whether circumstances beyond the taxpayer's control contributed to the non-filing of the return. Here, the "taxpayer's illness may have played a role in the non-filing but the facts you have submitted do not make it entirely clear. Further, the taxpayer was competent enough to engage in a real estate transaction . . . and received income from the sale." CCA 201116018.
Procedure—Informal Refund Claim: Generally speaking, an informal claim for refund can toll the statute of limitations under IRC Sec. 6511(a) if it notifies the IRS that the taxpayer is claiming a refund and the facts underlying the claim. In emailed advice, the IRS concluded that a document filed by a Taxpayer Advocate Service employee did not constitute a valid claim for refund because the employee did not have a power of attorney from the taxpayer. A Taxpayer Assistance Order (TAO) cannot qualify as an informal claim because it does not have the "under penalties of perjury" statement required by Reg. 301.6402-2(b)(1). Furthermore, an informal claim must be timely amended by a formal claim that corrects the defects in the informal claim. So "even if one were to view the TAO as an informal claim, the taxpayer would still need to file a formal claim on Form 843 to cure the defects." CCA 201116017.
Procedure—Innocent Spouse Relief: The taxpayer, who died before the Tax Court's decision in this case, was granted equitable innocent spouse relief under IRC Sec. 6015(f) because of her spouse's psychological abuse. The spouse exhibited extremely controlling behavior, was subject to fits of rage, and had been diagnosed with bipolar disorder. Taking into account the eight factors listed in Rev. Proc. 2003-61 (2003-2 CB 296) and the abuse she experienced, which made her reluctant to challenge the treatment of any items on the joint returns, the court determined it would be inequitable to hold the taxpayer liable for the joint tax return deficiencies. Joan Thomassen, TC Memo 2011-88 (Tax Ct.).
Procedure—Liens and Levies: In program manager technical assistance advice, the IRS concludes that its power to levy under IRC Sec. 6331 extends to reserve accounts typically required and maintained by credit and debit card payment processors on merchant taxpayers because the funds in the reserve accounts are the property of the merchant. However, the IRS may not have priority over funds in the reserve account if the processor exercised its right of setoff before receiving notice of levy, has a security interest that existed before the IRS's notice of federal tax lien, or has priority due to a deposit-secured loan made before notice of a filed tax lien. PMTA 2010-64.
Procedure—Mitigation of Statute of Limitations: Taxpayer maintained inventories of cosmetic products in her beauty consulting business. She reported an ending inventory on her 2004 Schedule C of $41,097. She later agreed with the IRS that her 2004 ending inventory should have been $20,548. This adjustment increased her 2004 cost of goods sold, decreased her 2004 income by $20,549, and decreased her 2004 income tax liability. This Tax Court proceeding addressed the resulting decrease in her 2005 Schedule C opening inventory from $41,097 to $20,548. Although the limitations period for 2005 had expired, the Tax Court held that this adjustment could be made under the mitigation provisions authorized by IRC Secs. 1311–1314. The Tax Court noted that: "For mitigation purposes, changes to inventory may be treated as a change in an item of gross income and may result in a double exclusion or inclusion of gross income." Tuwana Anthony, TC Summ. Op. 2011-50 (Tax Ct.).
Procedure—Return Preparer Testing and Fingerprinting: The IRS announced the vendors who will administer the competency exam and fingerprinting program in the next phase of increased oversight of paid tax return preparers. The exam vendor will work with the IRS and the preparer community to develop a test plan. Once the plan is approved, the IRS will make test specifications available for exam preparation. Fingerprinting will be used by the IRS in evaluating the background and suitability of certain PTIN applicants. The IRS will have the final say on all test questions and suitability determinations. For more information, see www.irs.gov/taxpros/article/0,,id=238830,00.html.
Procedure—Tax Return and Return Information Disclosures: As required by IRC Sec. 6103(p)(3)(C), the IRS furnished to the Joint Committee on Taxation its annual report of the number of requests for disclosure of return and return information, and instances in which returns and return information were disclosed. (See JCX-26-11, dated 5/5/11.) During calendar year 2010, the IRS made 4.2 billion disclosures to states, 1.5 billion disclosures to Congressional Committees or their agents, 13.6 million disclosures to child support enforcement agencies, almost 2.5 million disclosures to foreign countries, about 43,000 disclosures to the various U.S. Attorneys, and less than 1,000 disclosures to the FBI or the DEA.