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Wednesday, December 13, 2017

2017 Charitable Gifts

If the pending tax bills are reconciled by Congress and enacted into law, there is likely to be a substantial reduction in the number of  individuals that will itemize their deductions. For many taxpayers, this may mean they will no longer be deducting charitable contributions after 2017. Taxpayers may want to consider making or increasing charitable contributions in 2017 if it looks like they will not be deducting charitable contributions in the future. This is not a one-size-fits-all recommendation and must be tailored to individual circumstances, and of course will be impacted by if there is passage of a tax bill and what the final text contains – but it is nonetheless something worthy of consideration.

Friday, December 08, 2017

Florida Homestead Protections Against Forced Sale Under Threat of Dilution

Once every 20 years, Florida convenes a Constitution Revision Commission (CRC) to review and make recommended changes to the Florida Constitution. Proposed changes are then put to Florida voters for approval or disapproval. A CRC is presently convened and at work in making such a review.
The CRC process is fairly advanced regarding a change to Article X, Section 4. Proposal 17 would add the following language relating to the exemption of homestead property from creditor claims:
(d) Notwithstanding subsection (a), a homestead is not exempt from creditor claims if an owner:
(1) Obtained the homestead using the proceeds from a fraudulent or dishonest act; or
(2) Caused the creditor’s damages or losses by an intentional criminal or fraudulent act.
The legislature may enact implementing legislation consistent with the purposes of subsection (d), and such legislation may include, but is not limited to, limitations periods and protections for an innocent spouse or dependents.
There are a number of problems with this (especially the broad scope of losing the exemption for funds from a mere “dishonest act,” whatever that means)  but on December 4, an amendment was approved in committee to change the proposal to read:
Notwithstanding subsection (a), a homestead is not exempt from the claim of a creditor if the creditor:
  (1) Establishes in an action against the owner of the homestead that the creditor’s funds were fraudulently used by the owner to acquire or improve the homestead; or
  (2) Obtains a judgment against the owner of the homestead  for damages caused by an intentional tort or intentional criminal or fraudulent act by the owner of the homestead, so long as the homestead was not the primary residence for the owner’s spouse or minor child when the tort or act occurred or at the time of the judgment in the action.
Subsection (1) appears to me to be a fraudulent conveyance exception to creditor protection. That is, if funds are transferred into a homestead (whether such funds were fairly and legally owned, or obtained in a fraudulent or other improper manner) in defeat of a creditor’s claims, then the protection would not apply. This is not presently allowed under the Havoco decision of the Florida Supreme Court, and thus would void that holding. The policy of protecting the homestead of a debtor and his or her family members so as to avoid them being kicked to the curb and/or becoming public charges of the state would be diluted, in favor of creditors. Beyond this change in policy, the use of the term “fraudulently” also raises an interpretative question. While fraudulent conveyance law employs the term “fraud” in its title, it does not require common law fraud to occur before it applies. By using the term “fraudulently,” is this provision requiring common law fraud, thus imposing a higher standard than prevailing fraudulent conveyance law, or merely intending to co-opt the less rigorous requirements of fraudulent conveyance law?
Subsection (2) provides a new exception to protection if the creditor was injured by an intentional tort, or intentional criminal or fraudulent act - essentially a “bad acts” exception. This is a substantial loss of protection from what is under current law. It does provide an exception if the owner’s spouse or minor child is living on the homestead at the time of the bad act or judgment, which is a good thing but has the unfortunate consequences of providing a windfall to bad actors and their families if they have a cohabitating spouse or minor child..
Credit to Michael Singer for pointing out this provision at the recent Florida Bar RPPTL Section meeting.
You can monitor the activities of the CRC here.

Sunday, December 03, 2017

IRS On The Hunt for Bitcoin Gains

While bitcoin seems like money, for federal income tax purposes, it is not. Like any asset, when it is sold or used to purchase goods or services, gain results if the value of the bitcoin is greater than the taxpayer’s basis in it (generally, what the taxpayer paid to acquire it).

The IRS suspects that either intentionally or unintentionally, many taxpayers are not reporting their bitcoin gains. To help find such taxpayers, it issued a John Doe summons against Coinbase, a leading bitcoin firm, for extensive information on its users. Coinbase objected, but a federal court has now ordered it to comply. The IRS did not get access to all the information that Coinbase has on its customers, such as account opening records, copies of passports or driver's licenses, all wallet addresses, and all public keys for all accounts/wallets/vaults. Nonetheless, Coinbase has been ordered to turn over the following information for each customer, (1) the taxpayer ID number, (2) name, (3) date of birth, (4) address, (5) account activity including transaction logs or other records identifying the date, amount, and type of transaction (purchase/sale/exchange), the post transaction balance, and the names of counterparties to the transaction.

Tax return preparers should be asking their clients about bitcoin transactions, and taxpayers should know that the IRS is actively seeking information on persons that buy or sell bitcoin.

U.S. v. Coinbase, Inc., Case No. 17-cv-01431-JSC (U.S.D.C. Northern District of California)

Sunday, November 19, 2017

2018 Inflation Adjustments to Transfer Tax Items

The IRS released its 2018 tax adjustments - the following table summarizes the transfer tax adjustments. Note that some of these adjustments will become moot if the changes in the House and Senate versions of the pending tax act become law.

DESCRIPTION 2018 AMOUNT 2017 AMOUNT
Unified estate and gift tax exclusion$5,600,000 $5,490,000
GST exemption $5,600,000 $5,490,000
Annual gift tax exclusion $15,000 $14,000
Annual gift tax exclusion for gifts to noncitizen spouses $152,000 $149,000
Limit on special use valuation reduction $1,140,000 $1,120,000
2% interest rate portion on deferred estate taxes $1,520,000 $1,490,000
Foreign gift reporting threshold (gifts from foreign corporations and foreign partnerships)  [$100,000 exclusion for gifts from nonresident aliens and foreign estates is not adjusted for inflation] $16,111 $15,797

Sunday, November 12, 2017

Possible Favorable Impacts on Inbound U.S. Real Property Investments under the Proposed Tax Act

The proposed Act has provisions that will provide benefits to non-U.S. persons making investments into U.S. real property.

For foreign persons investing individually (or through pass-through entities) in U.S. partnership and LLC structures, the reduced maximum tax rate to 25% on pass-through entity income may act to reduce income tax on non-capital gains. Generally, 30% of the profits of such ventures will be able to obtain that rate. Also, if estate taxes are repealed after six years, a major disincentive to foreign individuals in investing through U.S. pass-through entities will fall by the wayside.

For foreign persons that hold their investments through U.S. corporate blocker entities, the reduced maximum corporate tax rate should reduce the income tax cost for such structures.

It remains to be seen what the final bill will look like, and whether it will be passed by Congress. If passes with the above benefits, the foregoing benefits may help offset some of the disincentive to investing in new single family home construction. Such homes may lose various tax incentives, such as limits on interest deductions for a primary residence, the disallowance of interest deductions on second homes, and the narrowing of the gain exclusion on sale of principal residences.

Sunday, November 05, 2017

A Pleasant Surprise

Many commentators expected that the new tax bill would pair the repeal of basis step-up at death with the repeal of the estate tax. They were pleasantly surprised to see that basis step-up at death remains unaltered under the bill released last week.

If the bill is passed without changes to these provisions, then planning will focus on maximizing basis step-up at death, perhaps with additional lifetime gift planning in anticipation of a reasonably likely future return of the estate tax in the future when political tides shift. This planning will apply immediately to those whose estates are under the increased unified credit equivalent amounts (these amounts will double in 2018), and then to larger estates once repeal of the estate tax becomes effective in six years.

Of course, repeal may never happen, even if the bill becomes law. We have been down this road before, with the 10 year wait for repeal under the Bush tax cuts. When that 10 year period expired and the dust settled on Congress, we were left with only one year of repeal and then a reinstated estate tax (albeit with increased unified credit exemptions and a reduction in rate).

Friday, October 27, 2017

Lenders Beware–Retroactive Tax Lien Trumps Recorded Mortgage [Florida]

Under Florida law, a mortgage lender’s lien against real property takes priority over later filed liens. However, under Fla.Stats. §197.122(1), ad valorem tax liens filed against Florida real property will take priority over a previously filed mortgage – such tax liens become super liens. Not great for lenders, but at least they can deal with exposure to these tax liens against their security by making sure ad valorem taxes are properly paid (e.g., through mortgage escrows and/or covenants in the mortgage to keep taxes current).

Fla.Stats. §196.161 allows a property assessor to go back 10 years and assess taxes, a penalty of 50% of taxes, and 15% interest, for taxes that the assessor lost out on if the owner of the property was improperly granted a homestead exemption. If a lien for these taxes is superior to a mortgage that has been filed prior to the filing of this lien, a mortgage lender’s risk for unpaid ad valorem taxes would be significantly increased.

In a recent case, a mortgage lender recorded a mortgage against real property in September 2007. In January 2014, the county recorded a tax lien under Fla.Stats. §196.161 against the property. In May 2015, the lender foreclosed its mortgage. The trial court held that the county’s tax lien was inferior to the lender’s mortgage lien. So far, so good for the mortgage lender.

On appeal, the county argued that Fla.Stats. §197.122(1) gives superiority to ad valorem tax liens, and thus, the special 10 year tax lien under Fla.Stats. §196.161 was superior to the lender’s mortgage lien. The lender argued that Fla.Stats. §196.161(3) gives the lender superiority – that provision provides “[p]rior to the filing of such notice of lien, any purchaser for value of the subject property shall take free and clear of such lien.” Equating itself to a purchaser, the mortgage lender argued Fla.Stats. §196.161(3) gives it the superior lien.

The appellate court noted that yes, Fla.Stats. §196.161(3) does allow BUYERS of real property to acquire real property without being subject to this 10 year lien if the tax lien is filed after the purchase. However, Fla.Stats. §196.161(3) says nothing about making the 10 year lien subordinate to previously filed liens. Thus, the super lien granted to the tax collectors under Fla.Stats. §197.122(1) trumps mortgage holders.

Mortgage holders will now need to deal with this exposure when making loans, if the property has been granted homestead status. Note that there are other ad valorem tax liens that allow a 10 year retroactive adjustment period, including Fla.Stats. §193.703 (reduction in assessment for living quarters of parents or grandparents), Fla.Stats. §196.075 (additional homestead exemption for persons 65 years or older), Fla.Stats. §196.011, and Fla.Stats. §193.155 (Save our Homes annual limitation in value increases for homestead property). So presumably, the same exposure to mortgage lenders will apply for these other potential retroactive adjustments. The last one could be especially onerous since the potential tax adjustments if the Save our Homes cap is found not to apply to a parcel of real property can be significant.

Increasing the risks to mortgage lenders will likely result in higher costs to borrowers. Perhaps the Florida legislature may want to reorder the tax lien priorities for these retroactive liens.

Miami-Dade County v. Lansdowne Mortgage LLC, 2017 WL 4655060 (3rd DCA 2017)

Saturday, October 21, 2017

Possession May Be Nine-Tenths of the Law - but Watch out for the Other One-Tenth

Prudential Insurance Company of America issued a life insurance policy on the life of Russell. Russell’s wife, Sherry, was the beneficiary. The policy contained $332,000 of term life coverage and $332,000 of accidental death coverage.

Russell died on June 24, 2015. On June 26, 2015, Sherry made a claim. On January 21, 2016, Prudential settled the life portion by paying $343,240.50 into a Prudential Alliance Account in Sherry’s name. This account was an interest-bearing account, and Sherry could draw against it by check or withdrawal.

On January 26, 2016, a grand jury indicted Sherry for the murder of Russell. Between January 29 and February 3, 2016, Sherry wrote three checks withdrawing $83,855.50 from the account. On February 8, 2016, Prudential notified Sherry that it had frozen the account at a time when it held $259,616.51.

On May 25, 2016, Prudential filed an interpleader complaint in federal court to join four potential beneficiaries under the policy, presumably due to concerns under a slayer statute that disqualifies a murderer from receiving insurance benefits payable because of his or her crime. It also sought to deposit into the court registry total death benefits of $591,564.90, plus applicable interest. Importantly, Prudential made no mention to the court of the $343,240.50 already paid to Sherry’s account nor Sherry’s withdrawals from that account. It also appears that Prudential did not give notice of the court registry petition to Sherry and/or other parties. The court granted Prudential’s motion.

About three months later, Sherry filed an answer and counterclaim. She alleged that Prudential illegally took $259,616.51 from her account and placed it into the court's registry without her permission. She also alleges fraud and breach of contract related to her agreement with Prudential to place the distributed term life benefits into an account with Prudential and for her to have access and control over the account.

The court found that Prudential violated Federal Rule of Civil Procedure 67 in seeking to deposit funds into the court registry without giving notice to every party. The court vacated its earlier order and directed the distribution to Prudential of the funds previously deposited.

The court granted Prudential’s interpleader request to join the other potential beneficiaries but only as to the $332,000 of accidental death benefits that had not been previously deposited to Sherry’s account. It denied the request as to the funds that Prudential removed from Sherry’s account since there is a question of whether Prudential rightfully possessed those funds.

Prudential sought the court to discharge it from the case and to enjoin the defendants from a further suit against it. The court declined to do that because Prudential is not a disinterested stakeholder, largely because Sherry has made a plausible counterclaim for conversion and fraud.

Prudential also sought judgment on the pleadings for the conversion claim. It claimed it did not commit the tort of conversion because it did not convert the funds for its own use. The court denied that aspect, when it found a potential benefit to Prudential in the deposit of the account funds - namely, the protection against liability if Sherry instead dissipated those funds and the other beneficiaries, would found to be entitled to receive the insurance proceeds. The court also noted that if Prudential had been transparent about how it obtained the account funds it sought to deposit, the court would never have allowed them to be deposited in the registry without the approval of the other parties. Importantly it noted that “Prudential now has possession of Sherry Bailey’s allegedly converted funds and it is potentially liable for conversion.” Thus, the court is allowing Sherry’s conversion claim to proceed.

The court also allowed Sherry’s fraud claim to proceed, based on her allegations that Prudential willfully removed money from her account in violation of state law, or in the alternative committed fraud when it remove money from the account after assuring her that the money in the account would be secure and her money.

The court also denied Prudential’s request for attorneys’ fees in the interpleader under precedent that provides unlike innocent stakeholders who unwittingly come into possession of a disputed asset, an insurance company can plan for interpleader as a regular cost of business.

By freezing Sherry’s account balance and paying it into the court registry without proper notice, Prudential’s self-help to avoid the risk of double liability may have opened itself up to liability for conversion, fraud, and breach of contract. Perhaps Prudential may ultimately be successful in fending off Sherry’s claims, but the trial court at this point indicated there might be merit to those claims.

Perhaps Prudential need not have taken any action in this regard. The court notes that under the Georgia statutes, O.C.G.A. § 33-24-41 provides: “Whenever the proceeds of . . . a life . . . insurance policy . . . become payable . . . and the insurer makes payment of the proceeds . . . the payments shall fully discharge the insurer from all claims under the policy or contract unless, before payment is made, the insurer has received . . . written notice . . . [that another] person claims to be entitled to the payment or some interest in the policy or contract.” Perhaps Prudential received the requisite written notice, or there are other bars to the protection of the statute, but if not, Prudential need not have frozen and effectively seized the account to protect itself from liability to the other beneficiaries. Interestingly, Prudential tried to use this statute as a defense to Sherry’s claims. The court noted, however, that the statute protects Prudential only against claims by another claimant to the policy proceeds – not the claims being made here by Sherry.

There is a kernel of trust in the bromide “possession is nine-tenths of the law.” While it may have seized possession of Sherry’s remaining proceeds, the other one-tenth of the law may end up costing it dearly.

Prudential Ins. Co. of Am. v. Bailey, 2017 U.S. Dist. LEXIS 161097 (USDC for So. Ga., September 29, 2017)

Sunday, October 08, 2017

Specificity Needed in Powers of Attorney for Information Returns

Most practitioners are familiar with the Form 2848, Power of Attorney and Declaration of Representative. This form is signed by a taxpayer and designates an eligible person to represent the taxpayer before the IRS. IRS personnel will typically not provide information or otherwise discuss a taxpayer’s circumstances with a representative until they are provided with a Form 2848.

The Form requires a description of the matters for which the representation is authorized, including, where relevant, the type of tax involved, the federal tax form number, the specific year(s) or period(s) involved, and, in estate matters, the decedent's date of death. The portion of the form where this is done looks like this:

image

For a given year, a taxpayer will typically fill in the type of tax in the first column, Form 1040 if individual income tax is at issue in the second column, and the year at issue in the third (e.g., “2016”). You would think that if you filled in “1040,” then the IRS would be authorized to discuss with the representative all forms filed with or attached to the Form 1040. But you would be wrong, or at least so says the IRS.

In a recent Chief Counsel Advice, the IRS advised that such a Form 1040 would not be adequate to cover civil penalties relating to the nonfiling or incomplete filing of an international information return that was or should have been attached to the Form 1040. Thus, for example, the IRS will not discuss penalty issues with a representative relating to a Form 5471, Information Return of U.S. Persons With Respect To Certain Foreign Corporations, if the Form 2848 only listed Form Form 1120. The Advice is based on Reg. § 601.503(a)(6), which requires “a clear expression of the taxpayer's intention concerning the scope of the authority granted to the recognized representative.”

Is the IRS taking too narrow a reading? Maybe, but it is what is, and practitioners should endeavor to list all applicable information returns that may be relevant to the purpose of the Form 2848. It is not a disaster if the Form 2848 is too narrow since a new Form 2848 that covers the requisite forms can always be obtained and submitted. It is highly unlikely that a court will ever adjudicate this issue, so unless the IRS changes its mind it looks like taxpayers are stuck with this interpretation.

The Advice also notes that the designation of a Form 1040 or Form 1120 likewise does not give authorization to issues relating to information returns that are NOT attached to the income tax return.

What if the Form 2848 says “Form 1040” and the Description section says “Income, and all civil penalties?” In the past, this was allowable, but the Advice advises that changes in the instructions and the form require specificity such that discussions of tax, civil penalties, payment and interest can only be had as to the specific form listed.  What if the Description says “Form 1040, and all information returns required to be filed therewith?” No answer to that one yet.



Wednesday, October 04, 2017

Ding, Dong, the Witch is Dead

--Here lies the remains of the Code §2704 Proposed Regulations. RIP, 2016-2017--

As part of President Trump’s mandated review of federal regulations, the Secretary of Treasury has issued a report specifically recommending the elimination of the Code §2704 Proposed Regulations. While these regulations may reappear in revised form someday, it is highly unlikely that the current version will ever be finalized.

Of less general import, the Secretary also recommended the withdrawal of proposed regulations under Section 103 defining a political subdivision.

Other regulations were not targeted in their entirety – instead the Secretary recommended only partial revocation. These are:

-Final Regulations under Section 7602 on the Participation of a Person Described in Section 6103(n) in a Summons Interview

-Regulations under Section 707 and Section 752 on Treatment of Partnership Liabilities

-Final and Temporary Regulations under Section 385 on the Treatment of Certain Interests in Corporations as Stock or Indebtedness

Lastly, the Secretary recommended substantial revisions to these regulations:

-Final Regulations under Section 367 on the Treatment of Certain Transfers of Property to Foreign Corporations

-Temporary Regulations under Section 337(d) on Certain Transfers of Property to Regulated Investment Companies (RICs) and Real Estate Investment Trusts (REITs)

-Final Regulations under Section 987 on Income and Currency Gain or Loss With Respect to a Section 987 Qualified Business Unit

Second Report to the President on Identifying and Reducing Tax Regulatory Burdens, October 2, 2017

Sunday, October 01, 2017

What Happens to Monetary Penalties When Convicted Defendant Dies with Pending Appeals?

This was the question in a recent Second Circuit Court of Appeals case. The defendant was convicted of securities fraud, mail and wire fraud and obstruction of justice, and entered into a negotiated guilty plea to criminal tax charges. Asset forfeiture, a fine, and a restitution order resulted, among other consequences. Bail bond had also been forfeited, due to violations of the bail order. At the time of death, appeals were pending on the criminal convictions.

The case involved the rare application of the abatement ab initio doctrine. This doctrine provides that when a convicted defendant dies while his direct appeal is pending, his death abates not only the appeal but also all proceedings in the prosecution from its inception.The effect is to leave the defendant as if he had never been indicted or convicted. This doctrine is rooted in the interests of finality and just punishment. Finality requires that a defendant not stand convicted without resolution of the merits of an appeal, and recognition of the purposes of just punishment leads to the conclusion that to the extent that the judgment of conviction orders incarceration or other sanctions that are designed to punish the defendant, that purpose can no longer be served.

The court addressed the impact of the ab initio doctrine to the following aspects of the case:

Convictions. The defendants convictions were abated, except those for which no appeal was pending. Since the defendant pled guilty to the tax evasion counts and waived his right to appeal, those did not abate.

Restitution. Other courts have split on the question whether restitution obligations abate at death, since it is usually more in the nature of making the victim whole and less about punishment. Those courts allowing abatement do so because restitution depends on a valid, final conviction, which does not occur due to the pending appeal. Others that hold that restitution does not abate do so because they consider restitution to be compensatory, not punitive in nature. The Second Circuit sided on the side of abatement at death and voided the restitution obligations. The opinion discussed whether if restitution had already been paid, then the payment and punishment would have been complete and irretreivable and thus could not be abated. However, it did not decide this issue since the restitution payments were stayed during the pendency of the appeal and thus had not been “paid.”.

Bail Bond Forfeiture. If the ab initio doctrine wipes out the conviction, is a bail bond forfeiture also eliminated? The court ruled no. The court indicated that the bail bond forfeiture was not part of the conviction but related to a violation of a civil contractual agreement – that is, it was a civil matter and nota criminal matter. Since the ab initio doctrine is a criminal doctrine, it does not apply to the bail bond forfeiture.

U.S. v. Brooks, 2017 WL 4158790 (2nd Cir. 2017)

Sunday, September 24, 2017

New Useful Florida Homestead Concepts Diagram

Several years ago I prepared a table to assist practitioners in determining what restrictions apply on a transfer of homestead property at death or during lifetime. You can access it here.

Homestead status has other implications, including protections from creditors, inclusion or exclusion from the probate estate, and ad valorem tax implications. The Florida Statutes also employ the term “protected homestead” in defining some of these aspects. The whole area makes for a set of interrelated and unrelated concepts and implications that is difficult to both comprehend and apply.

To help with understanding these concepts, and how the statutory term “protected homestead” fits in, I have created a new diagram. You can download a copy here.

If you see the need for any corrections or clarifications, please email me at crubin@floridatax.com. Note that the chart does not address ad valorem tax considerations of homestead.

SUMMARY OF HOMESTEAD RESTRICTIONS ON TRANSFER AND DEVISE AND CREDITOR ASPECTS -AND- INTERPLAY OF “PROTECTED HOMESTEAD” CONCEPT

Saturday, September 16, 2017

Audit of Predeceased Spouse Permitted for Purposes of DSUE Adjustment for Surviving Spouse’s Estate

A husband died in 2012, and his estate filed a gift tax return to report a deceased spousal unused exclusion (DSUE) and elected portability. The IRS sent a letter to husband’s estate accepting the estate tax return as filed. Portability allows a surviving spouse or the estate of that surviving spouse to use the unused unified credit of the predeceased spouse for estate and gift tax purposes.

His wife died in 2013. Her estate filed an estate tax return that applied the husband’s DSUE amount to reduce her estate taxes. Notwithstanding any period of limitation in section 6501, after the time has expired under section 6501 within which a tax may be assessed under chapter 11 or 12 with respect to a deceased spousal unused exclusion amount, the Secretary may examine a return of the deceased spouse to make determinations with respect to such amount for purposes of carrying out this subsection.

Under the authority of Code §2010(c)(5)(B) , the IRS examined the return of the husband’s estate. Finding unreported lifetime gifts made by the husband before 2010, the IRS reduced the DSUE amount and thus increased the estate taxes due by the wife’s estate.

The Wife’s estate contested the adjustment and raised numerous arguments why the DSUE reduction by the IRS was not permitted. Finding for the IRS, the Tax Court rejected all of the arguments of the taxpayer and upheld the IRS’ reduction of the DSUE amount.

Code Section 2010(c)(5)(B) authorizes a review of the estate of a predeceased spouse to determine the DSUE amount available to the surviving spouse. It reads:

Notwithstanding any period of limitation in section 6501, after the time has expired under section 6501 within which a tax may be assessed under chapter 11 or 12 with respect to a deceased spousal unused exclusion amount, the Secretary may examine a return of the deceased spouse to make determinations with respect to such amount for purposes of carrying out this subsection.

Argument – The Estate Tax Closing Document Is a Closing Agreement Under Code §7121, and the IRS is Estopped from a Further Review of the Husband’s Estate

Under Code §7121(a) the IRS may enter into written agreements with any person relating to the liability of such person. Agreements under Code §7121 are final. The IRS cannot reopen a matter for which a closing agreement has been executed unless there is a showing of fraud or malfeasance or misrepresentation of a material fact. Under Treas. Regs. §601.202(b) & 301.7212-1(d)(1), only the prescribed forms, Form 866, Agreement as to Final Determination of Tax Liability, and Form 906, Closing Agreement on Final Determination Covering Specific Matters, qualify as closing agreements. No such forms were used here.

In extraordinarily rare cases, courts have bound the Commissioner to an agreement in the absence of a properly executed Form 866 or Form 906. In such cases, there has been a period of negotiation between the parties and a clear exchange of offer and acceptance. Here, no such negotiation took place and thus the court held there was no closing agreement.

As to estoppel, cases where courts have held that a taxpayer was adversely affected and the Commissioner was estopped, the adversely affected parties would have been forced to bear the cost of taxes that they would not otherwise have borne. Estoppel may also apply when a party with a withholding responsibility that acted in reliance on a previous Government position and received no benefit from a failure to pay a tax is now required to pay a tax that would normally be borne by another. Here, there was no risk of double taxation, and there were no facts showing that either estate acted in reliance on the Estate Tax Closing Document. Therefore, estoppel could not be applied.

Argument – The Examination of Husband’s Estate was an Improper Second Examination

Code §7605(b) protects taxpayers from an impermissible second examination. The Commissioner does not conduct a second examination when he does not obtain any new information. The Commissioner did not request additional information from the husband’s estate, and consequently, there was no second examination. Even if the Commissioner had conducted a second examination of the return for Franks estate, he would not have violated Code §7605(b) as to Minnies estate. The Tax Court and others have found that only the examined party is protected from second examinations. Here,  the party that is claiming protection against the effects of a purported second examination (i.e., the wife’s estate) was not the party that underwent the examination (i.e., the husband’s estate).

Argument – Code §2010(c)(5)(B) Effective Date Precludes DSUE Adjustment for Gifts Made Before 2010

The estate argued that because the gifts at the center of this case were given before the effective date of Code §2010(c)(5)(B), the Commissioner cannot make adjustments to the DSUE as a result of those gifts. The Tax Court noted it is clear that the effective date of Code §2010(c)(5)(B), the estate tax amendment, is for decedents dying after December 31, 2010. Because both husband and wife died after December 31, 2010, Code §2010(c)(5)(B) applies to both their estates and that is the end of the story – there is no exclusion for gifts made before the effective date of the statute.

Argument – Code §2010(c)(5)(B) As Applied is Contrary to Congressional Intent and is a Due Process Violation since It Overrides the Statute of Limitations

The Supreme Court has held that the statutory text is the most persuasive evidence of congressional intent. Congress adopted a statute that explicitly gave the Commissioner the power to examine the returns of the predeceased spouse and adjust the amount of the DSUE outside of the period of limitations under Code §6501. This is a clear indication that the Commissioners exercise of this power is not in violation of congressional intent.

The wife’s estate also argued that Code §2010(c)(5)(B) is unconstitutional for want of due process of law in that there is no statute of limitations. However, while the IRS may adjust or eliminate the DSUE amount reported on such a return, the IRS may assess additional tax on that return only if that tax is assessed within the period of limitations on assessment under Code §6501 applicable to the tax shown on that return. Thus, the statute is not unconstitutional.

Estate of Minnie Lynn Sower et al. v. Commissioner, No. 32361-15, 149 T.C. No. 11

Thursday, September 14, 2017

Extended Due Dates for Hurricane Irma Victims

Hurricane Irma blazed a path of destruction through the Caribbean, the Florida Keys, and up through Florida. As a result, the IRS is postponing various tax filing and payment deadlines that occurred starting on September 4, 2017 in Florida and September 5, 2017 in Puerto Rico and the Virgin Islands. Persons with valid filing extensions in place will have their due dates extended until January 31, 2018. Extended deadlines include due dates for income tax returns for individuals and entities due on September 15 and October 16, and the September 15 and January 16 quarterly estimated income tax payments.

These extended deadlines apply to areas designated by FEMA as qualifying for individual assistance. The IRS indicates the following areas are so designated (check for updates here):

In U.S. Virgin Islands: The islands of St. John and St. Thomas.

In Puerto Rico: The municipalities of Culebra, Vieques, Canóvanas and Loíza.

In Florida: The counties of Brevard, Broward, Charlotte, Citrus, Clay, Collier, DeSoto, Duval, Flagler, Glades, Hardee, Hendry, Hernando, Highlands, Hillsborough, Indian River, Lake, Lee, Manatee, Marion, Martin,  Miami-Dade, Monroe, Okeechobee, Orange, Osceola, Palm Beach, Pasco, Pinellas, Polk, Putnam, Sarasota, Seminole, St. Johns, St. Lucie, Sumter and Volusia.

IRS News Release 2017-150, September 12, 2017

Saturday, September 09, 2017

Time to Revise Your Partnership and LLC Agreements?

In June, the IRS reissued proposed regulations that adopt new centralized partnership audit procedures. These will replace the current TEFRA audit rules.

The short story is that by default, the PARTNERSHIP is responsible for paying any additions to tax, although the partnership can elect to push this out to the partners. The new rules also replace the “tax matters partner” with a “partnership representative” – this representative has greater authority to act without the involvement of the partners than in the past. There is also an opt-out election that smaller qualified partnerships can take.

Partnerships and LLCs should amend their partnership and operating agreements to provide for the changes in the law, although perhaps they may want to wait for final regulations to be issued. For more detail on the changes and items that should be addressed in the agreements, click HERE.

Saturday, September 02, 2017

Reading the Tea Leaves on Trump Tax Reform

In a recent speech, President Trump did not provide much detail in regard to the tax reform proposals that are expected soon, or his particular desires. Nonetheless, he did drop hints as to some aspects of reform:

a. He has continued his call for a 15% business tax rate, so as to improve U.S. tax competitiveness;

b. He also is looking for ways to bring back non-U.S. profits on a more favorable basis; and

c. He is looking for some measure of relief for middle-income americans, including helping parents afford childcare and the cost of raising a family.

Sunday, August 27, 2017

Kenya Birth Certificate Rejected

No, this has nothing to do with Barack Obama, and where he was born.

In a recent Tax Court case, Wilfred Omoloh found himself embroiled in a dispute over how old he was. There are various age limitations and age-related provisions in the Internal Revenue Code. This is the first time I recall litigation over a taxpayer’s actual age regarding such provisions. Here, the question was whether the taxpayer was subject to a 10% early withdrawal tax under Code §72(t) for a distribution taken from a qualified retirement plan while the participant was under the age of 59 1/2.

Wilfred was born in the Republic of Kenya and became a U.S. citizen in 1997. In preliminary proceedings, he represented that he was born on October 1, 1951, which made him younger than 59 1/2 at the time of the distribution. He then corrected it to October 1, 1950, which would have made him older than 59 1/2.

The government argued his driver’s license and certificate of naturalization, other immigration documents, college transcript, and a court petition for a name change had an October 1, 1952 date of birth. However, Wilfred acquired and presented a newly issued Kenya birth certificate showing an October 1, 1950 date of birth.

The Court sided with the government and applied the 10% penalty, in large part because Kenya had issued the birth certificate based on information supplied by Wilfred.

Not a surprising result, but interesting as to being a litigated dispute over age.

Omoloh, TC Summary Opinion 2017-64

Saturday, August 12, 2017

Failure to Disclose Adjusted Basis on Disclosure Form Costs Taxpayer $33M+ Charitable Deduction

Under Treas. Regs. §1.170A-13, taxpayers making substantial noncash charitable contributions are required to disclose information regarding the contribution on Form 8283.


In March 2002, a partnership paid $2.95 million to acquire a remainder interest in property. A year and a half later, it assigned the interest to a university and claimed a charitable deduction of $33,019,000. The Form 8283 that the taxpayer submitted with its income tax return to disclose the contribution required the donor to provide the “Donor’s cost or other adjusted basis,” but the partnership left that disclosure blank.


The IRS sought to disallow the deduction for the taxpayer’s failing to meet the reporting requirements. The taxpayer responded with a substantial compliance argument.


On review, the Tax Court held a taxpayer can raise substantial compliance, since the applicable regulations are directory and not mandatory. Reviewing other case law, the Tax Court noted that in determining whether there was substantial compliance the court considers whether the taxpayer provided sufficient information to permit the IRS to evaluate the reported contributions, with an eye to the purpose of the substantiation requirements. That purpose is to alert the IRS, in advance of audit, of potential overvaluations of contributed property and thereby deter taxpayers from claiming excessive deductions in the hope they would not be audited. The court went on to comment that given the significant disparity between the claimed fair market value of the contributed property and the price paid for the property just 17 months earlier, had the basis of the property been disclosed it would have alerted the IRS to a potential overvaluation of the contributed property. Since the missing information kept the IRS from being able to evaluate its reported contribution without an audit, the Tax Court determined that substantial compliance could not be used to save the taxpayer from having its deduction disallowed.


RERI HOLDINGS I, LLC, JEFF BLAU, TAX MATTERS PARTNER, v. COMMISSIONER, 149 T.C. No. 1 (July 3, 2017)

Tuesday, August 08, 2017

Would You Take on a Job if the IRS Had Discretion to Decide Whether You Got Paid?

Raelinn Spiekhout was the personal representative of the estate of Deborah Scott. The estate was subject to claims of over $1.8 million dollars, including IRS claims for $591,406.05. The principal asset of the estate was real estate worth $282,000. After litigation involving the priority of payment of creditors, the issue came down to whether the personal representative was entitled to be paid compensation and expenses out of the proceeds of sale of the real estate, or whether the IRS, by reason of tax liens filed during the decedent’s lifetime, was entitled to all the net proceeds.

As the case in many states, administrative expenses, including funeral expenses, attorney fees, and executor/personal representative fees, are usually entitled to preference under state law over almost all creditors, including the Government for unpaid taxes. As to compensatory administrative expenses, the policy is that if the fiduciaries or their counsel are unlikely to be paid in an insolvent estate, then no one will take on the job of administering the estate (nor provide legal counsel to the fiduciaries). Since state law is subject to federal preemption under the Supremacy Clause of the U.S. Constitution, the issue devolves into whether there is any federal law overriding such state law priority provisions.

One such priority provision is the Federal Priority Statute (31 USC §3713). This statute provides that a claim of the U.S. Government shall be paid first when the estate of a deceased debtor is insufficient to pay all debts of the debtor. But based on the foregoing policy, and on an interpretation that administrative expenses are not expenses “of the debtor,” courts have ruled that administrative expenses can nonetheless take priority of the U.S. Government claims.

The federal District Court for Southern Indiana noted that this was all well and good, but when a federal tax lien is filed, the governing law is actually the Federal Tax Lien Act (Code §§6321-23), and not the Federal Priority Statute. Code §6321 provides “If any person liable to pay any tax neglects or refuses to pay the same after demand, the amount (including any interest, additional amount, addition to tax, or assessable penalty, together with any costs that may accrue in addition thereto) shall be a lien in favor of the United States upon all property and rights to property, whether real or personal, belonging to such person.” Code §6323 does provide some exceptions to this blanket federal priority for purchasers, holders of security interests, mechanics lienors, and judgment lien creditors whose interests are choate at the time that the notice of federal tax lien is filed. Estate administrative expense creditors, including the fiduciary, are unlikely to come within this list of exceptions to the federal priority. The Court relied on the Federal Tax Lien Act and ruled in favor of the Government’s priority.

The Court did take notice of concerns that this interpretation would result in no executor/personal representative or counsel taking on the administrative tasks. However, it stated that this policy concern is addressed and remedied by Internal Revenue Manual (IRM) Section 5.5.2.4(3) which provides that “Federal law controls in situations in which a federal tax lien competes with any interest under state law or by contract. However, the Service may in its discretion not assert priority over reasonable administrative expenses of the estate.” Since the Government indicated it intended to pay the unreimbursed expenses of the personal representative to maintain the real property ahead of its tax liens, the Court was agreeable to the federal tax lien priority.

This is not the first case reaching a similar conclusion. In Estate of Friedman v. Cadle Co., the Federal District Court for the District of Connecticut similarly held that federal tax liens take priority over administrative and funeral expenses.

These cases cast a pall over any executor/personal representative or counsel that want to serve an estate administration if federal tax liens exceed the value of the probate estate (and assets that are obligated to pay estate expenses and liabilities, such as revocable trusts in some states). Who will take on the job if their compensation is at risk?

Notwithstanding the Court’s conclusion that this policy concern is addressed and remedied by IRM Section 5.5.2.4(3), that provision is only discretionary with the IRS. There is nothing that obligates the IRS to pay any administrative expenses. If it deigns to do so, it will be the sole arbiter of what is reasonable. Presumably, the terminology “reasonable administrative expenses” includes fees for the estate administrators and their counsel. But note how the IRS had only agreed to pay the unreimbursed expenses of the personal representative to maintain the real property. Does this encompass fees? Does it encompass other expenses that are incurred in the administration that do not directly relate to maintenance of the estate property? And what about funeral expenses?

There is some uncertainty here – was the Court ruling as a matter of law that the lien statutes are effective in granting no priority for administrative expenses because of the mere existence of the quoted IRM provision, or was it a factual holding only because the Government agreed to exercise its discretion to pay some administrative expenses in a manner agreeable to the court? Since Friedman ruled similarly without requiring payment of administrative expenses or funeral expenses, the answer for now appears to be the former and not the latter.

So what does this mean for estate practitioners? At a minimum, it strongly suggests that such counsel not undertake providing legal services if there is a risk of federal tax liens eating up all or a large part of the estate, since their fees would be at risk (absent some other source of payment of fees other than the probate estate). Likewise, such counsel should advise the executor/personal representative of its risk of not getting paid. Prudent practitioners should do a federal tax lien search before agreeing to serve, and to properly advise the executor/personal representative.

In both of the cases, it appears the federal tax liens were filed prior to death. The issue remains whether a similar federal priority will apply even if the liens are filed post-death.

So I ask you, if you were being asked to serve as executor/personal representative of, or counsel to, an estate with federal tax liens that cover most if not all of the value of the estate assets, would you serve?

United States v. Spiekhout, No. 1:15-cv-01097-TWP-MPB, 2017 BL 267183 (S.D. Ind. July 31, 2017)

Sunday, July 30, 2017

Conversion of Charitable Lead Trust from Nongrantor Trust to Grantor Trust Does Not Provide a Charitable Deduction to the Grantor

In PLR 201730012, a charitable lead trust was converted from a nongrantor trust to a grantor trust by adding a power of substitution to the trust provisions. The taxpayer sought a charitable deduction for the deemed distribution from the trust to the grantor and transfer from the grantor to the trust, under the recognized principal that a grantor transferring property a charitable lead trust that is a grantor trust can receive a charitable deduction for the transfer.

Treasury declined to allow the deduction because in its view the conversion of a trust from a nongrantor trust to a grantor trust is not a transfer of property held by the trust for income tax purposes. Although I have not researched the issue, I am not aware of any clear authority on this issue, one way or the other, so taxpayers will have to make their own judgment call as to the proper answer to this question. Another PLR that addresses conversion of a nongrantor trust to a grantor trust is PLR 200923024. 


PLR 201730012 (July 28, 2017)

Saturday, July 22, 2017

Disposition of U.S. Partnership Interest Will Not Result in Effectively Connected Income to Foreign Partner

What happens when a foreign individual or corporation sells an interest in a partnership that is engaged in a U.S. trade or business? The Internal Revenue Code does not directly answer this question - the answer lies at the intersection of several provisions and principles:

a. Foreign persons are subject to U.S. income taxes on their income effectively connected with a U.S. trade or business (ECI);

b. Foreign persons are usually not subject to tax on their capital gains (with exceptions for gains arising from disposition of U.S. real property interests and for individuals present too long in the U.S.);

c. Subject to some exceptions, the disposition of a partnership interest for a profit results in capital gain; and

d. The business character of the income of a partnership flows through to a partner, with the effect that a partner of a partnership with ECI treats its share of the income of the partnership as ECI (thus typically resulting in U.S. income taxation of that partner on its share of the partnership ECI.

In 1991, the IRS put those principles into a bag, shook them up, and issued Rev.Rul. 91-32 which held that a partner with capital gain from the disposition of a partnership that is engaged in a U.S. trade or business will be treated as incurring ECI on the portion of the gain attributable to the business assets of the partnership.

In Grecian Magnesite Mining v. Comm., the Tax Court recently disregarded Rev.Rul. 91-32 and held that a foreign partner with capital gain from the redemption of its partnership interest in a partnership conducting a U.S. trade or business was NOT subject to U.S income tax on that gain (other than the portion attributable to U.S. real property of the partnership) - that is, the gain would not be treated as ECI. In so doing, the Tax Court adopted an entity theory of taxation for partnerships when interests in the partnerships are sold, instead of a look-through or aggregate approach.

Foreign taxpayers who are in the unusual circumstance of being in the U.S. trade or business of trading in partnership interests will not benefit from this holding since their gains on such trading would likely still be ECI.

The court did not address the taxation of the portion of the gain taxable as ordinary income - particularly under Code Section 751 as to the portion of the gain attributable to inventory and receivables of the partnership.

The holding has a major impact on inbound business structuring, since it allows foreign partners to obtain pass-through treatment on the business income of the partnership, but will be able to sell their interests later and not be subject to U.S. income tax on its capital gain.Thus it provides a new incentive to operating U.S. businesses through U.S. partnerships and limited liability companies (although of course there may be other tax and business reasons not to conduct business in such a form).

Perhaps the result may be reversed on appeal, or the IRS attempts to change the result by regulation or new legislation. If not, this taxpayer-favorable ruling will be of benefit in many circumstances.

Grecian Magnesite Mining, v. Commissionr, 149 T.C. No. 3 (July 13, 2017)


Saturday, July 15, 2017

IRS Regulations on the Chopping Block

Tax practitioners have complained for years about the ever-expanding scope and complexity of both the Internal Revenue Code and Treasury Regulations. A possible shrinkage in the Treasury Regulations may soon occur.

On April 21, 2017, President Trump issued Executive Order 13789, a directive designed to reduce tax regulatory burdens. The order instructed the Secretary to submit a 60-day interim report identifying regulations that (i) impose an undue financial burden on U.S. taxpayers; (ii) add undue complexity to the Federal tax laws; or (iii) exceed the statutory authority of the Internal Revenue Service (IRS). The order further instructs the Secretary to submit a final report to the President by September 18, 2017, recommending “specific actions to mitigate the burden imposed by regulations identified in the interim report.”

Treasury has identified numerous regulations that meet the criteria, It remains to be seen what Treasury will recommend as to the subject regulations, be it simplification or repeal.

Some of the key provisions that are targeted include:

  • Proposed Regulations under Section 2704 on Restrictions on Liquidation of an Interest for Estate, Gift and Generation-Skipping Transfer Taxes.
  • Temporary Regulations under Section 752 on Liabilities Recognized as Recourse Partnership Liabilities.
  • Final and Temporary Regulations under Section 385 on the Treatment of Certain Interests in Corporations as Stock or Indebtedness.
  • Final Regulations under Section 367 on the Treatment of Certain Transfers of Property to Foreign Corporations.

Notice 2017-38

Saturday, July 08, 2017

Update to Guide on U.S. Taxation of Nonresident Aliens

I first wrote a simplified guide to U.S. taxation of nonresident aliens before the Internet and emails. The first few editions were printed and mailed out to persons on our firm's mailing list. Eventually, I circulated it by email, and then put it on our firm's website. It now resides on this blog, in the publication list to the right. It has been a few years since I updated it, so I gave it an update today and uploaded the new version. You can get to it from the list on the right, or you can click here.

Tuesday, July 04, 2017

IRS Provides Automatic Extension to Make Portability Election (Under Some Circumstances)

A portability election by the estate of a first spouse to die allows the unused unified credit of the first spouse to be used by the surviving spouse for estate and gift tax purposes. Since Code §2010(c)(5)(A) requires the election be made on an estate tax return, the portability election is effective only if made on an estate tax return that is timely filed (including extensions).

Because of numerous requests for extensions of the timing period, and the administrative burden placed on the IRS, the IRS has issued a Revenue Procedure to allow for the filing of a late portability election. The key provisions of this extension are:

  1. The portability election must be submitted with a complete and properly filed Form 706 by the later of (a) January 2, 2018, and (b) the second anniversary of the decedent’s death. Once January 2, 2018 is reached, this effectively becomes a two year extension. The January 2, 2018 date allows for late filings by those estates that are already past the two year period.
  2. The extension is ONLY AVAILABLE TO ESTATES THAT ARE NOT OTHERWISE REQUIRED TO FILE AN ESTATE TAX RETURN. Thus, if an estate is required to file a return due to the size of the gross estate (including prior taxable gifts), then this automatic extension procedure cannot be used (although the estate can still seek an extension under Treas. Regs. § 301.9100-3).
  3. The Form 706 must state at the top that the return is “FILED PURSUANT TO REV. PROC. 2017-34 TO ELECT PORTABILITY UNDER § 2010(c)(5)(A).”
  4. An estate that does not comply with the requirements of the Revenue Procedure can still seek an extension under Treas. Regs. § 301.9100-3.
  5. An estate that files late but within the deadlines of the Revenue Procedure and later learns that it should have filed a Form 706 because the estate exceeded the gross estate filing thresholds cannot rely on the late election - it is treated as null and void.
  6. If a valid late election is made and this results in a refund of estate and/or gift taxes of the surviving spouse, the time period for filing for a refund is not extended from the normal statutory periods.
  7. A claim for credit or refund of tax filed within the time prescribed in Code § 6511(a) by the surviving spouse or the estate of the surviving spouse in anticipation of a Form 706 being filed to elect portability under the Revenue Procedure will be considered a protective claim for credit or refund of tax.

Rev. Proc. 2017-34, 2017-26 IRB 1282

Sunday, June 25, 2017

IRS SCHOOLS TAXPAYERS ON DUTY OF CONSISTENCY

Shirley died in October 1997. The estate filed an estate tax return and paid the tax indicated. The IRS subsequently audited Shirley’s estate and issued a notice of deficiency. After Tax Court proceedings, the court issued a stipulated decision increasing estate taxes by $215,264. This tax was never paid.

The IRS issued liens on real property in the name of the estate and a beneficiary. It also issued a Notice of Intent to Levy. On October 5, 2013, the estate submitted to the IRS via certified mail a Form 12153 Request for a Collection Due Process or Equivalent Hearing. This submission occurred about the same time as a federal government shutdown, and the IRS claimed it did not receive the submission. One of the beneficiaries then wrote a letter to the IRS and enclosed a copy of a certified mail receipt showing that the received the submission in October 2013. Based on the certified mail receipt, the IRS accepted that it received the request on October 5, 2013.

On March 10, 2015, the IRS commenced a case in federal district court against two beneficiaries and the estate to foreclose outstanding liens and obtain a money judgment for unpaid taxes, penalties and fees. A principal argument of the taxpayers was that the IRS’ suit to collect taxes was commenced 10 years and 237 days after the assessment date (the date of the Tax Court stipulated decision). Since the IRS only has ten years to collect taxes under Code §6502, the taxpayers claimed the statute of limitation on collection had expired.

The IRS claimed that it was within the 10-year statute because the limitation period was suspended for 241 days during the pendency of the collections due process hearing, as directed by Code §6330(e)(1). It asserted the tolling commenced on October 5, 2013, the date the IRS treated the request as being received.

The taxpayers responded by claiming that the request for the collections due process hearing was not initiated until May 2014, after one of them sent a letter to the IRS to prove that the IRS received the request in October 2013.

The District Court ruled against the taxpayer on a motion for summary judgment. The 5th Circuit affirmed the ruling, based on the taxpayers’ duty of consistency. The 5th Circuit noted: “The district court found it unfair for the taxpayers to have waved about the certified mail receipt showing that the hearing request was sent and received in October, only to reverse course and insist during this litigation that it was not so. It held the taxpayers to the duty of consistency, an estoppel doctrine developed in tax cases.”

The duty of consistency is an equitable doctrine grounded in fairness. In Herrington v. CIR, 854 F.2d 755 (5th Cir. 1988), the appeals court held that the duty of consistency applies if three elements are met: (1) a representation or report by the taxpayer; (2) on which the Commissioner has relied; and (3) an attempt by the taxpayer after the statute of limitations has run to change the previous representation or to recharacterize the situation in such a way as to harm the Commissioner."

The court found that (1) and (2) were met when the taxpayers asserted that they filed for the due process hearing in October 2013. Item (3) was met based on the taxpayers’ arguments regarding the summary judgment motion.

The taxpayers argued that the duty of consistency applies only when a taxpayer takes inconsistent positions from one year to the next. The appeals court rejected this, noting the application of the duty in cases that only involved one tax year.

The taxpayers also argued that the duty does not apply when the inconsistency concerns a pure question of law and both the taxpayer and the IRS have equal access to the facts. The appeals court rejected this, noting both that the issue involved a question of fact (the date the hearing was requested), and that the IRS did not have equal access to the facts since the taxpayers had the certified mail receipt and so knew what they had sent and when it was received.

The case is interesting on several levels. First, it provides an illustration of a court applying the duty of consistency, which is not a regular occurrence. Second, it is interesting on a visceral level, as we witness a taxpayer, to use a cliché, being hoisted on their own petard.

United States v. Barbara L. Holmes et al, unpublished (5th Cir. No. 16-20790); Herrington v. CIR, 854 F.2d 755 (5th Cir. 1988);

Wednesday, June 14, 2017

IRS Reminds U.S. Taxpayers Living Abroad of Misc. Filing Due Dates and Filings

In News Release 2017-105, the IRS reminded U.S. taxpayers living abroad:

  • The extended due date, if the taxpayer had his or her tax home and abode abroad on the original due date, is June 15. But interest on taxes runs from the original April 18 due date. The extension also applies to military personnel  abroad. When filing the return, the taxpayer must file a statement indicating which of these exceptions to the normal due date apply.
  • A taxpayer must still file even if the Foreign Earned Income exclusion or the Foreign Tax credit substantially reduces or eliminates U.S. tax liability. These tax benefits are only available if an eligible taxpayer files a U.S. income tax return.
  • Taxpayers abroad who can't meet the June 15 deadline can still get more time to file, but they need to ask for it. Their extension request must be filed by June 15. Automatic extensions give people until Oct. 16, 2017, to file; however, this does not extend the time to pay tax.
  • One way to get an extension on Form 4868 is through the Free File link on IRS.gov. To get the extension, taxpayers must estimate their tax liability on this form and pay any amount due.
  • Another option for taxpayers is to pay electronically and get an extension of time to file. IRS will automatically process an extension when taxpayers select Form 4868 and they are making a full or partial federal tax payment using Direct Pay, the Electronic Federal Tax Payment System (EFTPS) or a debit or credit card. There is no need to file a separate Form 4868 when making an electronic payment and indicating it is for an extension.
  • The annual Report of Foreign Bank and Financial Accounts (FBAR) is now the same as for a federal income tax return. This means that the 2016 FBAR, Form 114, was normally required to be filed electronically with the Financial Crimes Enforcement Network (FinCEN) by April 18, 2017. But FinCEN is granting filers missing the original deadline an automatic extension until Oct. 16, 2017 to file the FBAR. Specific extension requests are not required. In the past, the FBAR deadline was June 30 and no extensions were available.

News Release 2017-105

Monday, June 05, 2017

Treasury Has No Authority to Collect PTIN Fees

Since 2010, federal tax return preparers have been required to obtain a Preparer Tax Identification Number (PTIN), which they include when signing a federal tax return. A fee has been charged, both to obtain an initial PTIN and to renew each year. A portion of the fee was slated to go towards funding the mandatory Registered Tax Return Preparer regulation regime. While this regime was killed by the courts, the annual fees remain.

An opinion today was issued in the U.S. District Court for the District of Columbia that has struck down Treasury's ability to collect these fees, and to rebate the fees it has collected. It is likely that Treasury will appeal this, but barring success to Treasury, tax preparers can look forward to receiving their own special refund check from the IRS in the future.

Adam Steele v. U.S. (USDC for DC Circuit - Case No. 14-cv-1523-RCL

Sunday, June 04, 2017

FAQs Are Not Legal Authority

The IRS's Small Business/Self Employed Division (SB/SE) has indicated that the IRS will add a provision to the Internal Revenue Manual at IRM 4.10.7 describing the lack of precedential value the IRS will grant to IRS FAQs.

The IRS often publishes guides and instructions for taxpayers on the IRS.gov website to assist taxpayers in compliance. These can include FAQs (Frequently Asked Questions, with related answers).

The IRM provision will provide that FAQs appearing on IRS.gov that Treasury does not publish in the Internal Revenue Bulletin are not legal authority and should not be used to sustain tax positions unless the FAQs themselves, or the IRS via press release, notice or announcement, indicate otherwise.

So in other words, the IRS is saying “here is our interpretation, but even if you follow it, we can disagree with you later.” Presumably, this is a two-edged sword for the IRS. With pronouncements like this, the IRS should likewise not be able to use a taxpayer’s failure to follow a FAQ against the taxpayer (but somehow I don’t think that is going to happen).

IRS Small Business/Self Employed Division Memo “Interim Guidance on use of Frequently Asked Questions (FAQs) and other items posted to IRS.gov” (May 18, 2017)

Sunday, May 28, 2017

Florida Eliminates the Benefit-of-the-Beneficiary Rule

Historically, the settlor’s intent is the key item in guiding the administration of a trust. Further, a settlor has a pretty free hand in crafting how a trust will operate, subject to some public policy limitations and legal doctrines (such as the Rule Against Perpetuities).

Knowingly or unknowingly, Florida may have elevated the interests of the beneficiaries of a trust over the settlor’s desire and intent, when it adopted provisions from the Uniform Trust Code into the Florida Trust Code. In adopting these UTC provisions, the Florida Trust Code adopted the benefit-of-the-beneficiary rule. That rule is a mandatory, nonwaivable requirement that a trust and its terms be for the benefit of the trust beneficiaries. The rule can be interpreted to swing the balance in the enforcement of trust provisions away from what the trust settlor desired and towards what is deemed to be in the best interests of the beneficiaries.

What are the potential implications of the benefit-of-the-beneficiary rule? If priority is given to benefitting the beneficiary instead of allowing full dispositive freedom to the settlor to construct a trust as he or she desires, then perhaps spendthrift clauses become unenforceable. Perhaps a court may find a direction not to diversify trust assets as not benefitting a beneficiary, and refuse to enforce it (or worse, holding a trustee liable for failure to diversify after the fact). Other provisions in a trust that a court deems unreasonable or that do not to benefit a beneficiary may be likewise modified by a court or determined to be unenforceable - these may include provisions barring modification or early termination of a trust, or provisions that provide a tax benefit to the settlor but not to the beneficiary. And aside from the possible change or enforceability of trust provisions, there will likely be an increase in litigation as beneficiaries seek to press these issues, rightly or wrongly.

Both the comments to the Uniform Trust Code and in the Restatement (Third) of Trusts note the swing, and the potential in the disruption in the administration and interpretation of trust  documents by that swing, so these concerns are more than just barking at shadows by those who have raised them.

Principally because of these issues, in a recent bill (HB 277) that cleared both houses of the Florida legislature and is awaiting the governor’s signature, the benefit-of-the-beneficiary rule was removed from the Florida Trust Code. Below are the key changes to the statute (items in bold have been added, and strike-out language has been removed:

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Sunday, May 21, 2017

Applying Overpayments of Tax to Tax and the Offshore Penalty in the OVDP Program

The OVDP program allows taxpayers to remedy deficient disclosure filings relating to offshore accounts for a fixed penalty amount. As part of the program, taxpayers must file either original or amended tax returns which include the income earned by their foreign accounts for the most recent eight tax years for which the due date has passed. In addition to other applicable penalties, an offshore penalty is imposed in lieu of other penalties relating to failure to properly disclose foreign accounts.

In preparing or amending returns for the prior eight years, it is possible that an overpayment of tax and one or more of those years can arise. The issue has been raised whether this overpayment of tax can be applied towards taxes due in one or more of the other seven years, and/or towards the offshore penalty.

A recent Chief Counsel Advice advises that the answer is "sometimes." One prerequisite that will always apply is that a claim for refund for the overpayment year(s) must be filed. If a refund is allowable under general applicable statute of limitation rules (generally a refund claim must be filed within three years of the due date for the subject return or within two years of payment of tax for the year per Code §6511), then offsets are permitted. However, since taxpayers are going back eight years, it is likely that the earlier years will be outside the general statute of limitations period on refunds and thus any overpayments in those years will not be available for refund or offset.

Note that the statute of limitations under the OVDP program for the eight years of filings is extended as part of the program. The CCA notes that if the statute is extended within the general refund statute of limitations period, then the statute of limitations for these refund offsets will likewise remain open during the extended statute of limitations period.

CCA 201719026 (May 12, 2017)

Saturday, May 13, 2017

Florida Wills go Electronic

A bill has cleared both Houses of the Florida legislature authorizing electronic wills and electronic will execution in Florida. Absent an unexpected veto by Gov. Scott, the last wills of testators may now precede them into the cloud(s).

The new statute has endeavored to reduce avenues for fraud and misdeeds. Only time will tell whether electronic wills will be more or less subject to fraud and improper usage than paper wills. Paper wills are not affected by the new legislation, except as they may be revoked and replaced by electronic wills.

Here are some key provisions and observations regarding the new statutes, based on my initial review:

     1. If the testator signed electronically, so must the witnesses. The two witness requirement remains in effect.

     2. Electronic signatures are similar to what you may be familiar with in regard to opening bank and brokerage accounts online, where the signing person types his or her name or otherwise marks the document electronically. It does not require the signatory to affix a digital signature - that is, the signatory need not establish a digital online identity with a third-party provider that is then affixed to an electronic document.

     3. The testator and the two attesting witnesses must still be in the presence of each other. However, commencing in 2018, such presence requirement may be met by a live video conference arrangement between the signatories. Such videoconferences must meet numerous statutory requirements, including the participation of and attestations by either an attorney or a notary public, a timestamp recording of the conference, and the verbal answering of six questions by the testator. Such videoconference witness presence requirements will also extend to living wills.

     4. If the will contains a self-proving affidavit, the will and affidavit must be electronically stored with an authorized custodian. The custodian must be a Florida resident or entity, must obtain a surety bond and required liability insurance, and must meet numerous requirements as to maintaining its electronic database, limiting access to the electronic records, and otherwise dealing with and releasing the electronic records. Thus, absent the involvement of such a third-party custodian, electronic wills will not be self proved, and will be admitted to probate only upon the testimony of the two witnesses or if they are not available, of two disinterested persons. Custodians will be responsible for the negligent loss of their electronic records.

     5. Persons drafting electronic wills should include in the wills the designation of the custodian, and also designate who has access to the electronic will if such access is intended to be granted to persons otherwise than those authorized in statute.

     6. These electronic rules extend to the execution of revocable trusts that have testamentary provisions.

These new rules should facilitate the business of Internet-based will preparation companies. They may also facilitate the signing of wills prepared by attorneys when it is not practical for the testator to come to the attorney's office or otherwise sign with proper formalities. Perhaps larger law firms may establish in-house qualified custodian capacities for the benefit of their clients, but given the obligations imposed on qualified custodians and liability exposures I would think we will soon see third-party companies doing business in Florida that offer such qualified custodian capacities along with online video-conferencing facilities and procedures to assist in the signing process. I also wonder whether once electronic signing becomes more routine whether most attorneys will adopt electronic signing in their offices (through the use of third-party software and custodians) in lieu of traditional paper wills and pen on paper signing.

Sunday, May 07, 2017

Tax Changes in the Republican Bill to Replace Obamacare

Most of the attention on the bill relates to coverage and subsidy changes. However, the bill does have some significant tax relief included. While the bill still faces changes to get through both houses of Congress and the existential question whether the Senate will pass it, it is not too early to take a look at these changes.

One key change is to eliminate the 0.9% Medicare surtax on wages. Currently, earners pay a 1.45% payroll tax on wages up to $200,000 ($250,000) if married. Earnings above that level are subject to an additional 0.9% payroll tax. This  0.9% payroll tax will go away under the bill (but not until 2023).

Another is the elimination of the 3.8% Medicare tax on investment income. As a tax practitioner, I've got my fingers crossed on this one. From day one, I couldn't stand the complexity of this tax - the whole statutory scheme was crazily complicated for such a small tax. I would love to see the net investment income definitions, modified AGI definitions, rules for applying to trusts, and interfacing with the passive loss rules swept away into the dustbin of tax history. If I never see the acronyms NII and MAGI again, it will be too soon.

Health Savings Accounts (HSAs) would also get a boost - the amount of deductible contributions to an HSA in a year would double from current levels. The bill would also end the Obamacare prohibition on using HSAs to pay for over-the-counter medications. Siimilar benefits will apply to flexible spending accounts.

After 8 years of tax proposals that pretty much only increased taxes (except perhaps as to the increased exemption amounts for transfer taxes), it is a strange feeling to see tax incentives and reductions once more on the table.

Sunday, April 23, 2017

IRS Issues Guidance Regarding Estate Tax Lien Discharge Process

When an individual dies, an estate tax lien attaches automatically to all of the property included in the gross estate. It arises prior to tax assessment, and is not recorded.

Persons inheriting property, or purchasers of property, are interested in having the lien released. As to real property that an estate seeks to sell, a discharge of the lien can be applied for with a Form 4422. A Form 792 is issued to discharge particular property.

In the past, if accepted the IRS would release the lien within a few days. Starting in 2016, the procedures changed, and all applications are now processed through Specialty Collection, Offers, Liens and Advisory. Once the IRS accepts the Form 4422, if the IRS requires it the net proceeds of the sale are deposited with the IRS or in escrow, to be held (less amounts used to pay estate taxes) until after a closing letter is issued or the IRS determines the return will not be audited.

The IRS' Small Business/Self Employed Division has issued interim guidance to its Special Advisory group regarding procedures for handling lien discharge requests. The guidance addresses:

  • Consultation with and requesting assistance from other IRS departments, including Estate & Gift Tax Examinations
  • What Code Sections and Regulations should be consulted for guidance;;
  • The issuance of Letter 1352 when there is no estate tax return filing requirement;
  • Procedures to substantiate facts when an estate tax return will be nontaxable (such as the viability of asserted deductions); and
  • Circumstances when an escrow/payment will or will not be required (for example, one will not be required if an adequate estimated or actual tax payment has been made.

Practitioners who administer estates and/or are involved with lien releases should review this guidance.

IRS Small Business/Self Employed Division Memo “Interim Guidance for Responsibility to Process all Requests for Discharge of the Estate Tax Lien”

Saturday, April 15, 2017

Two Important New International Tax Filings

While not the only international reporting changes that are occurring, there are two significant ones that apply for the current filing season for 2016 returns.

First is the FBAR, which reports interests in foreign accounts. This used to be due on June 30, but is now due by April 18.

Second is the expansion of Form 5472 reporting - now to nonresidents with interests in U.S. single member limited liability companies that are otherwise treated as disregarded entities and that have transactions between the LLC and related people. Such LLCs are now treated as a domestic corporation for purposes of Section 6038A and Form 5472 reporting. Treas. Regs. §1.6038A-1(c)(1)’ Treas. Regs. §301.7701-(a)(2)(vi).

De minimis transfers of assets to or from such an LLC can trigger the reporting. The safe harbor de minimis reporting exceptions applicable to Form 5472 do NOT apply to this single member LLCs. Treas. Regs. §1.6038A-1(i)(1); T.D. 9796 (January 17, 2017). Thus it is likely that single member LLCs used in a U.S. real property holding structure with foreign owners (including foreign trusts) will be subject to this reporting.

Sunday, April 09, 2017

Asserting Reasonable Cause Defense to Penalties in a Pleading Does Not Automatically Waive Attorney-Client Privilege

Reliance on a tax professional can constitute reasonable cause, and thus avoid the application of an accuracy-related penalty under Code §6662 or a fraud penalty under Code §6663. When the professional is an attorney, case law indicates that this reliance waives the attorney-client privilege so that the government can determine if such reliance occurred and met the reasonable cause exception. See New Phoenix Sunrise Corp. v. C.I.R., 106 AFTR 2d 2010-7116 (CA 6 2010) and Ad Investment 2000 Fund, LLC, 142 TC 248 (2014).

So will the mere assertion of a reasonable cause defense result in waiver of the privilege? Not according to the U.S. District Court in a recent case. There, the court noted:

the “reasonable cause” defense in a pleading does not lead to the automatic disclosure of privileged documents. Ad Investment 2000, 142 T.C. at 258-59. It merely gives the Commissioner grounds to compel the production of documents subject to the attorney-client privilege. Id.; see also Tax Court Rules 70, 72. Even when such a motion to compel is well-taken, case law suggests that disclosure may not result. For example, in Ad Investment 2000, the Tax Court found that the petitioners had waived their attorney-client privilege by putting protected communications at issue, and ordered the petitioners to produce the privileged documents. Id. However, the Tax Court simultaneously indicated that the petitioners could still protect their documents from disclosure by abandoning their “reasonable cause” defense.... (stating that, if the petitioners “persist, they sacrifice the privilege to withhold the contents of the opinions”).

While the case involved the circumstance of the pleading being filed in a separate case, the reasoning should equally apply when the pleading is within the instant case.

U.S. v. Micro Cap Ky Insurance Company, Inc., 119 AFTR2d 2017-XXXX (DC Ky 3/27/17)

Saturday, April 01, 2017

Discretionary Trust Beneficiary Had No Standing to Challenge Adoption [Florida]

Since many estates and trusts define beneficiaries by description (e.g., “child” or “lineal descendant”) and it is a natural propensity for persons to gift or leave property to lineal descendants, the adoption of an individual can have a major impact on who benefits under a last will or a trust. Well drafted wills and trusts will typically contain provisions regarding adopting - such as whether an adopted person should be treated as a child or lineal descendant, and perhaps excluding persons who are adopted over a certain age from coming into those classes (so as minimize the risk of adoption being intentionally used to upset a dispositive scheme).

Ryan was a beneficiary of a trust established by his great-grandparents. His interest was discretionary only - distributions to him as a descendant were to be made only at the sole discretion of the trustees.

Ryan’s father adopted Brindley in 2004. This had the effect of making Brindley a beneficiary of the trust. When he was adopted, no notice was provided to Ryan. Ryan did not learn of the adoption until later, and in 2014 sought to challenge it, alleging fraud on the court because he did not receive notice and the opportunity to challenge it. After his adoption, Brindley received thousands of dollars from the trust as a beneficiary.

Under Stefanos v. Rivera-Berrios, 673 So.2d 12 (Fla. 1996) and the Florida Adoption Act, a person must show a direct, financial, and immediate interest in an adoption to be entitled to notice, or to have legal standing to vacate an adoption order. Applying this standard, the trial court ruled in favor of Ryan in allowing him to challenge the adoption order.

The 1st DCA reversed the trial court. Because Ryan’s interest as a beneficiary was only “contingent” since subject to the discretion of the trustee, Ryan was found not to possess a direct, financial and immediate interest in the trusts and thus in the adoption. Presumably, if Ryan’s interest was based on an ascertainable standard or provided for mandatory distributions that could be diluted by the addition of a new beneficiary, the Court would have ruled differently.

The Court distinguished Rickard v. McKesson, 774 So.2d 838 (Fla. 4th DCA 2000) from this case. In that case a contingent beneficiary of a trust was entitled to notice of an adoption proceeding because the adoption would divest the beneficiary of her interest in the trust. Since the adoption here would not result in divestment, Rickard did not mandate notice under the current facts, at least according to the 1st DCA.

Edwards and Kuiper v. Maxwell, 42 Fla.L.Weekly D742a (1st DCA, March 31, 2017)

Friday, March 24, 2017

Article Abstract: Government Wins Fourth Straight FBAR Penalty Case: Analyzing Bohanec and the Evolution of 'Willfulness'

I wrote about the Bohanec case here in December 2016. Hale E. Sheppard recently published an article analyzing this case, along with the other 3 key cases and other authority dealing with willfulness in context of civil FBAR penalties. It is a detailed article, and also somewhat long, so I have provided some of the highlights here:

A. United States v. Williams, 489 Fed. Appx. 655 110 AFTR2d 2012-5298 (CA-4, 2012)

1. Key Facts

a) Used an accountant - did not discuss foreign accounts with accountant - indicated he did not have reportable interest in a foreign account on accountant's questionnaire.

b) Accounts received funds from foreign sources.

c) Did not report substantial interest income from the accounts.

d) When pleading guilty to criminal violations, he admitted he knew he had the obligation to report, but chose not to so as to hide income.

e) Taxpayer did not check off on his income tax returns the existence of the foreign accounts.

2. Key holdings

a) Willfulness can be inferred from taxpayer conduct designed to conceal financial information.

b) Willfulness can also be inferred from a taxpayer's conscious effort to avoid learning about reporting requirements, i.e., “willful blindness” exists where a taxpayer knew of a high probability of a tax liability yet intentionally avoided the pertinent facts. When willfulness is a condition for civil liability, the Fourth Circuit indicated that this covers both knowing violations and reckless violations of a standard.

c) Failure to make the foreign account check off on the Form 1040, with its reference to the FBAR, constitutes a conscious effort to avoid learning about reporting requirements and constitutes willfulblindness.

d) Burden of proof is on the U.S. government with a preponderance of the evidence standard (Williams II).

3. Misc.

a) Limited precedential appeal as an unpublished decision.

B. CCA 200603026

1. Civil and criminal definitions of willfulness for FBAR violations are the same.

2. "[I]n order for there to be a voluntary intentional violation of a known legal duty, the accountholder would just have to have knowledge that he had a duty to file an FBAR, since knowledge of the duty to file an FBAR would entail knowledge that it is illegal not to file the FBAR. A corollary of this principle is that there is no willfulness if the accountholder has no knowledge of the duty to file the FBAR."

C. IRM section 4.26.16.4.5.3 (7/1/08); IRM section 4.26.16.6.5.1 (11/6/15).

1. The test is whether “there was a voluntary, intentional violation of a known legal duty” and “willfulness is shown by the person's knowledge of the [FBAR] reporting requirements and the person's conscious choice not to comply with the requirements.”

D. McBride, 908 F. Supp. 2d 1186 110 AFTR2d 2012-6600 (DC Utah, 2012)

1. Key Facts

a) Taxpayer received information from planning organization about general reporting requirements for foreign company interests, trusts, and bank accounts.

b) Taxpayer did not check off on his income tax returns the existence of the foreign accounts

2. Key Holdings

a) Burden of proof is on the U.S. government with a preponderance of the evidence standard.

b) "Willfulness" in this context includes not only knowing FBAR violations, but also recklessness. Wwillful blindness" satisfies the willfulness standard in both criminal and civil contexts.

c) Willful intent can be proven by circumstantial evidence, and reasonable inferences can be drawn from the facts because direct proof of a taxpayer's intent is rarely available.

d) As to knowledge of the law, the taxpayer was deemed to have knowledge of the FBAR requirements per his signature on his Form1040 and the reference to FBAR requirements therein (although the taxpayer was also found to have actual knowledge of the requirements based on materials he received and his admissions and evasive conduct.

e) Interest on the penalty was allowed from the date of assessment pursuant to 31 U.S.C. section 3717(e)(2)31 U.S.C. section 3717(e)(2).

f) Reasonable reliance on a professional defense is not workable when professional is not given all relevant facts.

g) There are whiffs of strict liability in this case - i.e., that a taxpayer is responsible if they know of the FBAR filing requirements even if they reasonably believed they were not subject to them.

E. Bussell, 117 AFTR 2d 2016-439 (DC Calif., 2015)

1. Key Holdings

a) Willfulness encompasses "reckless disregard of a statutory duty."

F. Bohanec, 118 AFTR2d 2016-5537 (DC Calif., 2016)

1. Key Facts

a) Taxpayers did not provide their U.S. address to the foreign bank, did not tell anyone about the foreign account (other than their two children), did not keep any records or use a bookkeeper, did not discuss the potential implications of the non-U.S. account with an accountant, attorney, or banker, and did not file Forms 1040.

b) Taxpayers submitted erroneous OVDP application, along with inaccurate Forms 1040 and inaccurate FBARs.

2. Key Holdings

a) The concept of "willfulness" for civil FBAR penalty purposes extends to reckless disregard of a statutory duty (notwithstanding CCA 200603026 and the Internal Revenue Manual), including reckless indiference.

b) Burden of proof is on the U.S. government with a preponderance of the evidence standard.

c) Part III of Schedule B of their Form 1040 from 1998 put them on notice that they needed to file an FBAR