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Thursday, March 29, 2007


In a recent article, several IRS corporate auditors are complaining that the IRS' focus on closing corporate tax audits is forcing auditors to pick up the easy tax dollars (the low hanging fruit) but leaving more novel and difficult tax collection dollars behind (the fruit higher up on the trees). Purportedly, auditors are incentivized to close cases quickly by paying cash bonuses and promoting auditors based on their success in closing cases. Taxpayers who abuse the system through new strategies win because the auditors are trying to close cases quickly and have little incentive to engage in more time consuming and protracted disputes relating to new tax abuse methods.
IRS officials dispute this, claiming that these are simply complaints from older agents unwilling to adopt new approaches. They point out that more tax dollars have been collected through audits in recent years, and that this vindicates the IRS strategy of puttings its resources into auditing more companies and focusing on large-dollar tax issues.
To read the entire article, click here. [IRS Auditors Claim Billions Lost Under Pressure,]

Monday, March 26, 2007


Internal Revenue Code Section 6695A imposes penalties directly on appraisers when their appraisals are used to support a substantial valuation misstatement or a gross valuation misstatement. The penalty can be significant – it is generally the greater of 10% of the resulting tax underpayment, or 125% of the fee paid to the appraiser. However, no penalty is imposed if the appraiser can show that the value established in the appraisal was more likely than not the proper value.

The American Bar Association Section of Real Property, Probate and Trust Law has studied this new Code Section and provided comments. The task force addressing the issue noted various questions about the new statute, and also gave its recommendations for how those questions should be resolved.

Some of the comments include:

  1. Will the provision apply to estate and gift tax valuations or solely to income tax valuations? The task force recommends that the penalties be limited to appraisals for charitable contribution purposes.
  2. Who are the persons that can be penalized? Does it include return signers and preparers, executors, or others? The task force recommends that the statute be clarified to limit penalties to "qualified appraisers" (a defined term under the law).
  3. What constitutes an appraisal? For example, is a best guess valuation by a CPA an appraisal subject to penalty? The task force recommends limiting such appraisals to the strictly defined term "qualified appraisal" under Code Section 170.
  4. Do persons who assist in the preparation of the appraisal become subject to penalty, or only the person (or firm) who signs the appraisal? The task force desires to limit the persons at risk to the appraisal firm itself and the person signing the appraisal.
  5. How should the penalties be applied when one appraiser relies in part on another appraisal?
  6. At what point in a tax controversy will the penalties be imposed? The task force recommends only after the final resolution of the case.
  7. Will the penalties apply to appraisers hired by the government in a tax controversy? For the sake of fairness, the tasks force suggests that such appraisers be subject to penalty.

The task force also recommends that the appraisers be able to assert a "reasonable cause" defense, since some types of properties are subject to a wide variation in value that can unduly punish appraisers, and that appraisers will have a hard time arguing that the appraisal was more likely than not the proper value when it has already determined that valuation misstatement has occurred.


Saturday, March 24, 2007


Once a year, the IRS issues information on its audit activities. The information is useful to determine what average audit risk is, and where the IRS is focusing its activities. Some highlights from the most recent information follows.

  • 0.97% of all individual returns that were filed were audited – double the number from 2000.
  • Of these, 40.3% related to earned income tax credit claims.
  • 76% of audits are done through the mail.
  • Individual returns with Schedule C (business) filings are audited at a much higher rate – 2% to 4% based on the amount of income reported.
  • Only 0.1% of trust and estate income tax returns are audited.
  • Almost 10% of estate tax returns are audited. 0.77% of gift tax returns are audited.
  • Only 0.38% of S corporation returns are audited.
  • 59,000 offers in compromise were received by IRS, and 25.4% were accepted. This number is less than in prior years.
  • The IRS commenced 3,907 criminal investigations in 2006. There were 2,720 referrals for prosecution and 2,019 convictions. Of those sentenced, 81.7% went to jail.

The IRS received 1.561 billion information returns.

Thursday, March 22, 2007


One can never tell whether or what form tax legislation will take until the legislative process is complete, but keeping up with the latest developments can help avoid surprises. In regard to U.S. estate tax reform, the latest action and hopes for reform are focused on an effort to pass legislation this session that would provide for a five year extension of the 2009 estate tax rates and exemptions. In 2009, the maximum estate tax rate (under current law) will be 45%, with a $3.5 million unified credit amount.

Without any legislative change, there would be no federal estate tax imposed in 2010, and then rates and credit amounts would return to a 55% maximum rate and a $1 million unified credit amount.


The IRS has announced the interest rates for tax overpayments and underpayments for the calendar quarter beginning April 1, 2007.

For noncorporate taxpayers, the rate for both underpayments and overpayments will be 8%.

For corporations, the overpayment rate will be 7%. Corporations will receive 5.5% for overpayments exceeding $10,000. The underpayment rate for corporations will be 8%, but will be 10% for large corporate underpayments.

Rev. Rul. 2007-16

Tuesday, March 20, 2007


April 2007 Applicable Federal Rates Summary:

-Short Term AFR - Semi-annual Compounding - 4.84% (5%/March -- 4.87%/February -- 4.82%/January)

-Mid Term AFR - Semi-annual Compounding - 4.56% (4.8%/March -- 4.64%/February -- 4.53%/January)

-Long Term AFR - Semi-annual Compounding - 4.75% (4.95%/March -- 4.80%/February -- 4.68%/January)


Friday, March 16, 2007


No matter how many times the courts reject certain claims of nontaxability, there is always a new crop of taxpayers that will assert them on their tax returns. The sources of the claims are websites, books, and unscrupulous promotors, among others. It will now be more expensive for taxpayers to assert them. The Tax Relief and Health Care Act of 2006 amended Code Sec. 6702 to increase the amount of the penalty for frivolous tax returns from $500 to $5,000 and to impose a penalty of $5,000 on any person who submits a "specified frivolous submission." In a number of pronouncements, the IRS has now listed out a number of frivolous positions that will trigger the$5,000 penalty.

Some of these positions include:

  • Claiming that filing a Federal tax or information return or paying tax is purely voluntary under the law;
  • That a taxpayer may lawfully decline to pay taxes if the taxpayer disagrees with the government's use of tax revenues;
  • That a taxpayer's income is excluded from taxation when the taxpayer rejects or renounces United States citizenship because the taxpayer is a citizen exclusively of a State (sometimes characterized as a "natural-born citizen" of a "sovereign state"), that is claimed to be a separate country or otherwise not subject to the laws of the United States;
  • That United States citizens and residents are not subject to tax on their wages or other income derived from sources within the United States, as only foreign-based income or income received by nonresident aliens and foreign corporations from sources within the United States is taxable;
  • That the First Amendment permits a taxpayer to refuse to pay taxes based on religious or moral beliefs;
  • The Fifth Amendment privilege against self-incrimination grants taxpayers the right not to file returns or the right to withhold all financial information from the Service.

There are forty of these items provided for in Notice 2007-30. Many of the taxpayers that assert these positions believe in their correctness. However, that belief is not going to save them from these penalties.

Notice 2007-30, 2007-14 IRB ; Rev Rul 2007-19, 2007-14 IRB , Rev Rul 2007-20, 2007-14 IRB , Rev Rul 2007-21, 2007-14 IRB , Rev Rul 2007-22, 2007-14 IRB ; IR 2007-61.

Wednesday, March 14, 2007


Two reminders regarding exempt organization filing requirements:

  • Non-Reporting Exempt Organizations Obligated to File an Electronic Notice with the IRS. The Pension Protection Act of 2006 provides that for tax periods beginning after Dec. 31, 2006, tax-exempt organizations whose gross receipts are normally less than $25,000 (and thus are exempt from the need to file an annual Form 990 or 990PF), must electronically file an annual notice with the IRS disclosing certain information regarding the entity. This filing requirement arises under Code Sec. 6033(i). At present, there are no specific methods for compliance, but the IRS is in the process of developing a filing system for these notices. Affected taxpayers should monitor these developments, since the penalty for noncompliance is revocation of exempt status (if the nonfiling occurs for 3 years).
  • Receipts from Private Foundations. Individuals making significant contributions to a charitable organization are required to obtain a receipt from the charitable organization to evidence their contribution. This receipt must be obtained before the filing date of the contributor's income tax return for the tax year of the contribution. In regard to contributions to a family private foundation, contributors often overlook this requirement since they are effectively on both sides of the transaction. They either don't know about the requirement, figure they don't need to comply since it involves their own foundation, or think they can just issue a receipt later if the IRS asks for one on audit. Since there is no "private foundation" exception, and issuing a receipt later is ineffective, private foundations need to issue these receipts to their contributors each year and on a current basis.

Sunday, March 11, 2007


In its continuing efforts to assist taxpayers in properly complying with U.S. income tax laws, the IRS recently issued a Fact Sheet relating to properly deducting rent and lease payments by a trade or business. The principal points noted by the IRS were:

  • special rules and limitations apply to business use of the taxpayer's rented personal residence and leased automobiles;
  • sometimes payments are listed as "rent" when in reality they are actually for the purchase of the property. A conditional sales contract generally exists when at least part of the payments are applied toward the purchase or entitle the taxpayer to acquire the property under advantageous terms. Such payments are not deductible as rent expense but qualify for depreciation expense over the useful life of the asset;
  • taxpayers who are in the business of producing real property or tangible personal property for resale, or who purchase property for resale, may not be able to deduct rental and lease expenses but instead may have to capitalize them;
  • if a taxpayer has both business and personal use of rented or leased property he or she may deduct only the amount used for business.
FS-2007-14, February 2007

Friday, March 09, 2007


A common trap that new residents to the U.S. often fall into is the lack of reporting of their interests in non-U.S. bank and brokerage accounts. Many new residents continue to own bank or brokerage accounts in non-U.S. districts after moving to the U.S., and/or they own interests in entities that have such accounts.

U.S. citizens and residents who own a foreign bank account, brokerage account, mutual fund, unit trust, or other financial account must file a Form TD F 90-22.1, Report of Foreign Bank and Financial Authority (FBAR), if (1) he or she has financial interest in, signature authority, or other authority over one or more accounts in a foreign country, and (2) the aggregate value of all foreign financial accounts exceeds $10,000 at any time during the calendar year.

Penalties for failure to file are steep, to say the least. A willful violation can be subject to a fine of $100,000, or 50% of the balance of the account, whichever is greater. Even nonwillfull violations can accrue $10,000 penalties.

FBAR forms need to be filed by June 30 for the preceding year, and in another trap for the unwary, no extensions are allowed. Therefore, even though a taxpayer may have an extension to file his or her income tax return, the FBAR is not extended.

Tuesday, March 06, 2007


Generally, the IRS only has three years to assess additional income tax for a given tax year. The clock starts running at the later of the date the tax return for that year is filed, or the due date of the return.

However, if the taxpayer commits fraud, the statute of limitations for the IRS to assess additional income tax never expires. What happens if the taxpayer doesn't commit fraud, but the tax return preparer does? Is the IRS still bound by the three year statute of limitations?

In the case of Vincent Allen, 128 TC No. 4 (2007), the taxpayer did not commit any fraud, but his preparer did in making false and fraudulent tax deductions. The Tax Court held that the three year statute of limitations did not apply, and that there was no limitations period due to the preparer's fraud.

The Tax Court found that the statute does not require the fraud to be the taxpayer's. Rather, the Internal Revenue Code ties the unlimited extension of the limitations period to the fraudulent nature of the return, not to the identity of the perpetrator of the fraud.

Saturday, March 03, 2007


Noncompete covenants are regular features of sales of businesses and employment situations. Generally, the covenants restrict the seller of the business or a employee or former employee from competing with a business for a fixed period of time in a specific geographic area.

John A. Nobile sold his hearing aid business to H & M Hearing Associates, LLC, and entered into a noncompete covenant. The covenant provided that Nobile shall not directly or indirectly be actively engaged in the business of sales or service of hearing aids except as an employee of H & M. Further, the agreement provided that Nobile shall not "[o]wn, manage, control, operate, direct, join or participate in the ownership, management, operation, or control of any business which engages in the sales or service of hearing aids" in Lee County, Florida.

Instead of opening up a competing business, Nobile lent funds to a former employee of H & M who opened up a competing business. Nobile further guaranteed the credit of the new company, allowing it to purchase inventory and operate its business.

Was this activity enough to violate the restrictive covenant? The appellate court, in reviewing whether an injunction should be issued against Nobile, thought that it could be, and remanded the case back to the trial court to make that determination.

Therefore, while the case does not definitively establish whether such loan activities constitute a violation of a general noncompete provision, it does warn that this is an issue that is not clear on its face. Employers looking to avoid all such competitive activities should learn from this case to be explicit in their agreements prohibiting such loan and guaranty activity so as to assure that such activity is prohibited in lieu of relying on more typical general noncompetive activity language. Such specific prohibitory language is often not included in noncompete agreements.

H & M HEARING ASSOCIATES, LLC, Appellant, v. JOHN A. NOBILE and DEBORAH LEASURE d/b/a CLARITY HEARING CENTER, Appellees. 2nd District. Case No. 2D06-2184. Opinion filed March 2, 2007.