Category Archives: Federal

U.S. Supreme Court: Six-Year Statute of Limitations Does Not Apply to An Overstatement of Basis

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In a huge win for the taxpayers in this case and many other similarly situated taxpayers, the U.S. Supreme Court handed down its opinion in United States v. Home Concrete & Supply, LLC yesterday. The Supreme Court affirmed the decision of the 4th Circuit Court of Appeals holding that the six-year statute of limitations applicable to unreported income, IRC 6501(e), did not apply when a taxpayer overstated basis, and thus understated income. The Supreme Court embraced the principle of stare decisis and followed its opinion in Colony, Inc. v. Commissioner, 357 U. S. 28 (1958) to decide the question.

The case was selected for consideration to resolve a split in the circuits that ostensibly began with the 9th Circuit’s decision in Bakersfield Energy Partners, LP v. Commissioner, 128 T.C. 207 (2007), affd. 568 F.3d 767 (9th Cir. 2009) but soon became known as the “Intermountain issue” after the Tax Court’s decision in Intermountain Insurance Service of Vail LLC v. Commissioner, 134 T.C. 211 (2010) which followed Bakersfield. The Intermountain decision came to exemplify a series of cases that received disparate treatment in the Courts of Appeals. The Court of Appeals came down in favor of the government in the 7th Circuit, the D.C. Circuit and the Federal Circuit though for different reasons. The 4th and 5th Circuit sided with the Tax Court and the 9th Circuit deciding that the 6 year statute of limitations did not apply to overstated basis. These cases attracted particular attention from both tax practitioners and the government because the overstated basis in each instance was the product of tax strategies (mostly Son of Boss transactions) that the government had listed or deemed abusive as a tax shelter.

The Supreme Court’s decision determined the straightforward question of whether an understatement of basis extends the traditional 3-year statute of limitations to 6 years under IRC 6501(e). It does not. However, many scholars and tax procedure wonks were hoping that the court would provide some guidance on the procedural validity and applicability of Treasury Regulation 301.6501(e)-1. Treas. Reg. 301.6501(e)-1 was promulgated as a temporary regulation in 2009 with a retroactive date of application to “correct” the 6-year statute of limitations controversy. The Temporary Regulation was published simultaneously with a Proposed Regulation to the same effect but without a pre-publication comment period. Some argued that such a move violated the Administrative Procedures Act (APA), notably among them Tax Court Judges Halpern and Holmes. (See their concurrence in the Tax Court’s Intermountain opinion.) The concern of many observers was not only the procedural validity of the regulation as promulgated but also whether an agency could promulgate a regulation that would have the effect of invalidating a Supreme Court interpretation of an ambiguous statute (which presumably this regulation would have done). The Supreme Court’s decision in National Cable & Telecommunications Assn. v. Brand X Internet Services, 545 U.S. 967 (2005), certainly suggested that the latter outcome was possible and the parties and amici briefed that issue extensively.

In the end, the Supreme Court invalidated the regulation on the narrow ground that did not apply because of the precedent established in Colony, Inc. It did not address the validity of the regulation’s promulgation under the APA or the broader question of whether a regulation could invalidate a Supreme Court interpretation. Presumably those questions will be left for another day.

Read the Supreme Court Opinion here:
U.S. v. Home Concrete & Supply, LLC., Docket No. 11-139 (April 25, 2012)

Donald Duck says Pay Your Taxes!

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It’s that time of year when taxes are on everybody’s mind. It might seem hard to imagine but there was a time when the annual ritual of filing taxes was still a new idea. That was the case during World War II and Donald Duck helped out with this little bit of propaganda.

And just as a reminder, you’ve got one week to file your return or automatic extension. The deadline for filing individual returns this year is Tuesday, April 17.

Thanks to NPR’s Planet Money Podcast for bringing the story and the video to our attention.

The Taxman Cometh: IRS Announces Plans to Focus Audit Resources on Middle Market Companies

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In a recent speech at the mid-year conference of the Tax Executives Institute, IRS Deputy Commissioner Steven T. Miller laid out the framework for the future of IRS corporate audits. To borrow Mr. Miller’s own assessment, this is bad news for large corporate taxpayers in the CIC (Coordinated Industry Case) program (i.e., the IRS is not going away) and it is also bad news for so-called middle market companies because they will be the new focus of the Internal Revenue Service’s audit scrutiny.

The new strategy Mr. Miller announced will use existing programs geared at CIC taxpayers, such as the IIR (Industry Issue Resolution) program, CAP (Compliance Assurance Process) and Schedule UTP (Uncertain Tax Positions), to increase transparency among large companies and thereby reduce the resources required to examine those companies. The strategy is to take revenue agents currently assigned to large corporations (those with over $1 billion in assets) and redeploy them to auditing taxpayers with revenues or assets between $10 million and $250 million. Miller went on to outline in some detail the steps the IRS will be taking to accomplish this new mission.

There are a number of takeaways here. At least three changes can be expected immediately. The incremental changes that large corporate taxpayers have been experiencing in recent years will continue. The IRS will expect more information, sooner, and more quickly. Mr. Miller was clear. If information requested in an IDR (Information Document Request) is not forthcoming, the IRS Summons power will be used to enforce revenue agent’s demands. Second, the IRS intends to bring its influence to bear upon the Office of Appeals. The IRS will request that Appeals Officers return cases to exam where new facts or arguments are raised for the first time in an Appeals Conference. This signals a further encroachment on the autonomy of an Appeals function that is already restricted in its consideration of coordinated issues, tiered issues and issues of interest. Third, The importance of Schedule UTP will only grow as the IRS reviews and refines its use of this tool to encourage taxpayer disclosures. Mr. Miller noted that those taxpayers who provided inadequate concise descriptions of positions on their 2010 Schedule UTP will be contacted by the IRS and should expect to have future returns reviewed.

The changes will not all be immediate however. The IRS is a large vessel and it cannot turn on a dime. However, once this ship changes course, as it appears it has committed to do, then the impact on the middle market will be significant. Mr. Miller mentioned a focus on companies with operations and assets of less than $250 million but there are still a number of companies in the $250 million to $1 billion range that also should expect to see increased audit activity. These likely will be the first companies to face new IRS examinations if only because they have already filed at least one Schedule UTP giving the IRS a good starting point. Once those companies with less than $100 million in assets are required to include a Schedule UTP with their Form 1120 (beginning in 2012 for those with $50 million in assets), many more corporate taxpayers can expect to hear from revenue agents wanting to open multi-year audits. The new direction is not limited to middle market corporate filers. Mr. Miller also made it clear that the new direction for LB&I will include an emphasis on pass through entities and financial products. Change is on the horizon.

Tax Court: Untimely CDP Petition Confers Jurisdiction for Interest Abatement Claim

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In an opinion that may be instructive to tax practitioners reluctant to advance alternative theories for relief, the Tax Court held that it had jurisdiction to review the denial of a request for interest abatement that arose out of an untimely petition for review of a collection due process hearing.

The pro se petitioner had a collection due process hearing. In the hearing, petitioner challenged the underlying tax liability, renewed a claim for innocent spouse relief and requested abatement of interest. The Appeals Officer upheld the collection action against the petitioner in a written determination which also included a final determination as to petitioners request for interest abatement. Petitioner petitioned the Tax Court for review of the collection determination but failed to file the petition within the 30 day statute of limitations under Section 6330(d). Respondent filed a motion to dismiss for lack of jurisdiction. Petitioner appeared at the trial session to challenge respondent’s motion and raised the same claims in a hearing before the court that she raised in the appeals hearing. The Court heard petitioners claims and gave the parties an opportunity to brief the issue. On brief, petitioner once again raised all three claims that she made at the Office of Appeals.

Upon review of the parties’ arguments and the Appeals Officer’s case activity file, the Court found that it did not have jurisdiction to review the merits of the collection action and granted respondent’s motion to dismiss on that claim. However, the Court found that the final determination on the collection action also constituted a final determination as to petitioner’s request for interest abatement under Section 6404. The statute of limitations for review of a request for interest abatement is 180 days. The Court held that even though the petition was not timely to grant jurisdiction under Section 6330 it was timely as a request for review of an interest abatement and conferred jurisdiction upon the Court independent of the collection due process proceedings. The Court ordered further proceedings to determine whether respondent’s determination on the interest abatement claim was an abuse of discretion.

Read the opinion here:
Gray v. Commissioner, 138 T.C. No. 13 (2012)

Schedule UTP: The Early Returns Are In

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IRS Deputy Commissioner Stephen Miller announced the results of the first Schedule UTP filings as part of his remarks to the Tax Executives Institute on March 26, 2012. The audience included corporate tax professionals from a wide variety of companies many of whom had to file a Schedule UTP with their 2010 return. The size of the companies included the largest taxpayers subject to LB&I scrutiny, those in the coordinated industry case (CIC) program as well as many industry case (IC) taxpayers.

1,900 total taxpayers filed a Schedule UTP with their 2010 return. IC taxpayers filed 79% of those tax returns. That is, companies large enough to be subject to the Schedule UTP filing requirement but not large enough to participate in LB&I’s CIC program. An estimated 53% of all schedule UTP returns filed included only one or zero uncertain tax positions. Returns filed by CIC taxpayers averaged 3.1 uncertain tax positions per schedule while returns filed by IC taxpayers averaged 1.9 positions.

Approximately 4,000 issues were disclosed and about 19% of all issues disclosed dealt with transfer pricing issues. The top three code sections involved were Internal Revenue Code section 41 (research credits), 482 (transfer pricing) and 162 (trade or business expenses).

Of the 4,000 concise descriptions reviewed, the overwhelming majority described the tax position and nature of the issue in a way that satisfied the IRS. However, the centralized review process determined that about 3% of taxpayers failed to satisfy the concise description requirement. The IRS issued “soft letters” to the taxpayers whose descriptions were deemed inadequate advising them of the need to comply with the instructions.

The IRS has stated that it will not require further action from taxpayers with regard to the 2010 Schedule UTP. However, the IRS also made it clear that the small number of taxpayers whose returns included inadequate concise descriptions will have their 2011 return reviewed.

Read the Deputy Commissioner’s comments here:
Remarks of Steven T. Miller, IRS Deputy Commissioner, Service and Enforcement, Before the Tax Executives Institute, Mid-Year Conference

Tax Court: Premature FPAA on Computational Items Invalid, Jurisdiction Denied

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There are few areas of the tax code as complex and potentially confusing as the rules for TEFRA partnership proceedings. Even the most steely-eyed tax pros wince at the details. Nonetheless, TEFRA is at the heart of many of the transactions that the IRS has challenged over the course last decade and the courts are still sifting through the details.

In Rawls Trading, LP v. Commissioner the government sought a stay of proceedings on a Final Partnership Administrative Adjustment (FPAA) issued to one of three partnerships involved in a single tax-advantaged transaction. Respondent argued that the FPAA was issued prematurely and that the court should stay its proceedings until determinations were made on FPAAs issued to the two related partnerships which were party to the transaction. Petitioners argued for a consolidated hearing on all three FPAAs. The Tax Court chose a third path and raised the question of jurisdiction.

The FPAA for the upper tier partnership, which the government wanted stayed, contained only computational adjustments.  All of the adjusted items were held in the lower tier partnerships and the upper tier partnership FPAA only noted the consequences those adjustments on a pass-through basis.  The Court reasoned that if the adjustments on the upper tier partnership were only computational and the FPAA did not contain items that were subject to the Court’s determination in a deficiency proceeding then there was nothing for the court to determine in a deficiency proceeding. The Court made exactly such a finding and determined that the FPAA was invalid as filed. The Court dismissed the FPAA for lack of jurisdiction noting that it could not stay proceedings on an FPAA that did not confer jurisdiction on its own merits.

Yes, there is a little more to it than that, but Judge Vasquez does a better job of navigating the labyrinth of TEFRA to reach that conclusion in his opinion than I can in this short column. Nonetheless, this is an important decision in the field of TEFRA procedure and adds yet another layer of complexity to this already challenging area of the law.

Read the full opinion here:
Rawls, LP v. Commissioner, 138 T.C. No. 12 (2012)

Is Tax Litigation Irrational?

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According to Supreme Court barrister Robert A. Long it may well be.

Our beloved world of tax litigation had its 15 minutes of fame this morning as the first argument challenging President Obama’s health care law involved the applicability of the Anti-Injunction Act. Probably best known among tax procedure wonks as the statute that prevents Federal district courts from hearing state tax disputes, the Anti-Injunction Act basically denies jurisdiction to challenge the merits of a tax until it has been paid. The argument facing the Court was whether the penalty provision for not participating in the Obama health care plan, which is enforced through the Internal Revenue Code, had to be imposed against an individual before the Court had jurisdiction to determine the Constitutionality of the law. Alas, early reports indicate that the assembled Justices were not impressed by the argument.

All of that aside, what really caught our attention was this exchange, reported by Politico, between Justice Scalia and counselor Robert A. Long:
Justice Scalia: …If it’s not jurisdictional what’s going to happen is you are going to have an intelligent federal court deciding whether you are going to make an exception. And there will be no parade of horribles because all federal courts are intelligent…
Mr. Long: Well, and, Justice Scalia, I can’t predict what would happen, but I would say that not all people who litigate about federal taxes are necessarily rational.

Gee, Mr. Long, we’re not gonna take that to heart.

Tax Court: No Partnership Return, No FPAA

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The Tax Court continues to define the broad limits of TEFRA. Petitioner argued that the notice of deficiency was invalid because the item at issue was a partnership item and thus a Final Partnership Administrative Adjustment should have been issued. The Court ruled that TEFRA does not apply where the taxpayer has not filed a partnership return and the partnership does not qualify as a partnership under TEFRA. The Court rejected the petitioner’s motion to dismiss for lack of jurisdiction.

Read the opinion here:
Huff v. Commissioner 138 T.C. No. 11 (2012)

WSJ: IRS Drops NYSE Executive Compensation Case

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The March 2 print edition of the Wall Street Journal reports that the IRS has abandoned its effort to disallow $161 million of deductions taken by the New York Stock Exchange for compensation paid to former CEO Richard Grasso.

In 2003, Richard Grasso resigned under controversy when his massive pay package of the then not-for-profit NYSE was made public.  A number of legal actions ensued including an IRS examination of the stock exchange.  Under audit, the IRS disallowed approximately $161 million of deductions taken for compensation allocated to the former executive between 2001 and 2003.

In 2009, the NYSE challenged the government’s determination and submitted its protest to the IRS Office of Appeals.  The Wall Street Journal reports that after two years in the appeals process, in November of 2011 the IRS concluded that there was no tax deficiency for the challenged years and ultimately resolved the matter in favor of the NYSE.