U.S. District Court: California Must Turn Over Real Estate Information to the IRS

The U.S. District Court for the Eastern District of California has issued an order allowing the Internal Revenue Service to serve a John Doe Summons on the California State Board of Equalization. A John Doe Summons is defined by Section 7609(f) of the Internal Revenue Code and is used by the IRS to gather information from a third party about a class or group of taxpayers suspected of not complying with the internal revenue laws. It is called a John Doe Summons because the IRS doesn’t know the specific names of the alleged violators but is seeking to identify them through the summons process. John Doe Summons have been used to implicate taxpayers in domestic and international tax-advantaged transactions with banks like Wachovia, HSBC and UBS.

In this particular matter, the Internal Revenue Service is seeking information about the transfer of real estate between family members for less than full value. The IRS believes that such transfers are being used to avoid Federal Gift Tax liabilities. The investigation is most likely to affect decedents who passed away in 2010 or before and whose final Federal Estate Tax Return has not yet been filed or is still subject to audit because the lifetime gift tax exclusion for those years was only $1 million. The lifetime exclusion for 2011 and 2012 is more a robust $5 million dollars. Nonetheless, a Federal Gift Tax Return, Form 709, is required in any year which a gift of more than $13,000 is made. Failure to file a gift tax return is subject to a Section 6651 penalty.

The IRS targeted the California State Board of Equalization because it receives records of all California real property transfers to ensure compliance with Proposition 13, the well known California voter initiative which limits annual property tax assessment increases. The judge found that the IRS satisfied the technical requirements to serve the summons and ordered enforcement. The California BOE likely will be turning over the records at the beginning of the new year and you can expect the IRS to start initiating examinations based on what it collects sometime on 2012.

Read the order and memorandum here:
In the Matter of the Tax Liabilities of John Does, No. 2:10-mc-00130-MCE-EFB, (E.D. CA, December 15, 2011)

Tax Court: Western Union/First Data Settles $2B Transfer Pricing Litigation

On December 15, 2011, Western Union announced that it entered into an agreement with the Internal Revenue Service to settle a long standing transfer pricing dispute with its former parent company, First Data Corporation. According to documents filed with the Securities Exchange Commission, Western Union and First Data agreed to a total of $1.18 billion in transfer pricing related adjustments. The total adjustment included the recognition of $885 million of additional income in 2003 related to First Data’s restructuring plan, which transferred certain intangible assets out of the United States, and additional adjustments between 2004 and 2011 to reach the $1.18 billion total. Penalties were dropped.

Western Union and First Data will make approximately $470 million in payments to satisfy the adjustments under the settlement agreement. Western Union also announced that it will eliminate its tax reserve related to the case and should record a one-time tax benefit of approximately $200 million in 2011.

In March 2009, First Data Corporation filed a petition in the United States Tax Court disputing a notice of deficiency alleging more than $2 billion of transfer pricing related adjustments and penalties. The matter was notable not only for the size of the proposed adjustment but also for several other procedural and tactical moves that took place over the course of the dispute.

While undergoing an examination of its 2003 reorganization and the transfer pricing planning that accompanied that transaction, First Data also was subject to a John Doe Summons in which the IRS sought the names of merchants who transferred money outside the United States using First Data’s services (more particularly Western Union’s services). First Data resisted the Summons but a U.S. District Court judge in Denver ruled that First Data had to turn over the requested information.

Shortly before First Data’s petition was filed in the Tax Court, the Chief Counsel of the IRS issued a Technical Advice Memorandum (TAM), TAM 200907024, which held that the transfer of a portion of a taxpayer’s global delivery business overseas was fully attributable to identifiable intangible assets under section 936(h)(3)(b) therefore gave rise to a deemed royalty under section 367(d). The facts of the TAM were distinctly similar to those of the First Data case and were widely believed be drawn from the First Data examination. Some speculated, appropriately so, that the TAM was part of the IRS’s larger litigation strategy.

Corporate Taxes: Tax Foundation Video

We don’t get a lot of opportunities to post a video around here so when we do we’re going to take advantage of it. This video provides a pretty direct and succinct explanation of where U.S. Corporate Tax policy has been over the course of the last 25 years. As the title of the video suggests, standing still as a policy has put us behind.

Thanks to The Tax Foundation for producing this video. Check out their Tax Policy Blog too.

Dallas Mavericks Owner on Taxes and Patriotism

The often outspoken, but unquestionably successful, businessman and owner of the NBA’s Dallas Mavericks, Mark Cuban shared his thoughts on making money (“a boatload of it”) and paying taxes (“lots of taxes”) on his blog a couple of months ago (Sept 19). In short, his take was that the most patriotic thing you could do was to make money, spend money, and pay your taxes.

He followed that post up a couple of weeks ago with his views on corporate taxation. The latter post provoked several comments and the front page of Mr. Cuban’s blog (in post strangely dated September 20) now offers a more detailed explanation of his ideas on the federal government, taxes and small businesses with a list of 10 things that the government should do.

It all makes for fun reading (at least for tax geeks like us) and is shared here for the point that tax policy (or at least strong ideas on tax policy) is increasingly becoming part of the national conversation. It also gives us a chance to post this cool photo of Dirk Nowitzki and Kobe Bryant which is at best tangentially related to anything else on this blog.

Tax Court: Section 951 Inclusions Not Qualified Dividend Income

The Tax Court, in a Division Opinion by Judge Thornton, determines that required inclusions in income from a controlled foreign corporation pursuant to Section 951 do not constitute qualified dividend income under Section 1(h)(11).

Regular observers of the Tax Court will note this opinion for its careful and persuasive discussion of statutory interpretation and legislative history to decide this issue.

Read the opinion here:
Rodriguez v. Commissioner, 137 T.C. No. 14 (2011)

New York Raises Rates on Highest Earners

The New York State Legislature, following the lead of Governor Andrew Coumo, may have toppled the domino in the trend to tax higher income earners at higher rates. The two agreed to a measure to increase state income tax rates to 8.82% on those reporting more than $2 million of annual income. Read the New York Times coverage here.

High net worth individuals have been under increased scrutiny by the IRS since the rebranding and reorganization of the Large & Mid Sized Business examination division over a year ago into Large Business & International. Notably the new LB&I organization increased the IRS’s emphasis on the activities of high net worth taxpayers here and abroad. (See the “Wealth Squad” IDR we shared here a few months ago).

Now the talk of increasing rates on America’s highest earners that started with Warren Buffett and William Gates, Sr has found another advocate in the governor and lawmakers of the great state of New York. Whether this is an effect of the Occupy Wall Street movement, a budget necessity or a true compromise as suggested by members of both political parties in the New York General Assembly, the result is higher taxes for the wealthiest New Yorkers and most likely and increased scrutiny of how much they pay.

Tax Court: Look to IRC to Determine Executor for Notice of Deficiency

In a division opinion, the Tax Court ruled that the beneficiary of an estate who signed the estate tax return and held property of the estate, but had not been appointed executor under state law, was the statutory executor of the estate under IRC Sec. 2203 for purposes of receiving and responding to a statutory notice of deficiency. As such, the Tax Court has jurisdiction to review the estate’s petition.

In an interesting practice note, the opinion also offered the parties guidance on the difference between a motion to dismiss and a motion for summary judgment under the Tax Court rules.

Read the opinion here:
Estate of Gudie, 137 T.C. No. 13 (2011)