Tax planning

Taxpayers participating in "Son of Boss" tax shelter settlements have so far paid in more than $3.2 billion, a figure that should top $3.5 billion when the project concludes in the coming months, according to the Internal Revenue Service. Son of Boss, an offshoot of an earlier shelter called Boss ("bond and option sales strategy") was an abusive transaction aggressively marketed in the late 1990s and 2000 primarily to wealthy individuals. Both the Boss and Son of Boss shelters were structured using derivatives, noted Selva Ozelli, CPA, an international tax attorney with RIA. "Derivatives were used because of their uncertain tax treatment, limited financial statement disclosure and uncertainty regarding their valuation," she said. The settlement initiative required taxpayers to concede 100 percent of the claimed tax losses and pay a penalty of either 10 percent or 20 percent, unless they previous disclosed the transactions to the IRS. "This was a particularly bad shelter, and we're glad so many chose to get right with the government," said IRS Commissioner Mark W. Everson. "Despite the tough terms we offered, two-thirds of Son of Boss participants have come forward and paid up." Thus far, nearly 1,200 Son of Boss taxpayers have settled with the IRS. Typical settlements were about $1 million, while 18 taxpayers forked over $20 million apiece, and one paid a whopping $100 million. Based on disclosures that the IRS has received from promoter investigations and from investor lists from Justice Department litigation, the agency determined that over 1,800 people participated in Son of Boss. "For those who didn't come forward, we know who they are," Everson said. "We are going after them."

The IRS has released Rev. Proc. 2005-13, which details the limitations on depreciation deductions for owners of passenger automobiles first placed in service during calendar year 2005. Special tables of limitations on depreciation deductions are also provided for trucks and vans, and for passenger automobiles designed to be propelled primarily by electricity and built by an original equipment manufacturer (electric automobiles). In addition, the revenue procedure details the amounts to be included in income by lessees of passenger automobiles first leased during calendar year 2005, including a separate table of inclusion amounts for lessees of trucks and vans, and a separate table for lessees of electric automobiles.

The Internal Revenue Service has expanded the number of tax professionals who can use its suite of e-Services incentive products. Effective immediately, tax professionals who e-file any combination of five or more accepted individual and business tax returns in a calendar year can use these e-Services products: disclosure authorization, electronic account resolution and transcript delivery. These three products increase tax filing efficiency and save time and resources for tax practitioners. When launched in the summer of 2004, the e-Services incentive products were reserved for those who e-filed 100 or more individual returns. "These services make it easier for taxpayers to deal with the IRS and obtain information to help their clients," said IRS Commissioner Mark W. Everson. Other e-Services products available to all tax professionals include: e-Services registration, preparer tax identification numbers, IRS e-file applications, and taxpayer identification number matching.

The President's Advisory Panel on Federal Tax Reform will hold its fifth meeting on March 23 in New Orleans. The focus will be on additional perspectives about the fairness of the tax code and how the tax system affects families. The first panel will discuss, "What Is Fairness and How Can it Be Measured?" Panel members include Bob Greenstein, founder and executive director of the Center on Budget and Policy Priorities, and William W. Beach, director of the Center for Data Analysis of The Heritage Foundation. The topic for the second panel is "Low-Income Taxpayers." Its members include Hilary Hoynes, professor of economics at the University of California at Davis: Mark Moreau, co-director of Southeast Louisiana Legal Services; and David Marzahl, executive director of the Center for Economic Progress. The third panel, "Tax Treatment of Families," will include presentations by Eugene Steuerle, senior fellow at the Urban Institute; Mark Pauly, a professor at the Wharton School of the University of Pennsylvania; and James Alm, a professor at the Andrew Young School of Public Policy of Georgia State University.

The Treasury Inspector General for Tax Administration said that while security has improved for information technology systems at the Internal Revenue Service, IRS employees remain a vulnerable target for hackers. As proof, of the 100 IRS managers called by TIGTA employees -- who claimed to be IT helpdesk personnel hoping to fix a problem -- 35 surrendered their login names and actually changed their passwords to those suggested by TIGTA personnel. The TIGTA said that the breach of security could signal an opportunity for hackers or former IRS employees. The TIGTA recommended that the IRS's Office of Mission Assurance and Security Services issue periodic reminders to IRS employees about susceptibility to the hacker threat. On a brighter note, however, the recent test results showed a 50 percent improvement versus a similar test conducted in 2001.

The Internal Revenue Service has clarified in Rev. Rul. 2005-11 that interest paid on a loan that is refinanced more than once will retain its status as qualified housing interest, to the extent that the amount of the loan is not increased. That interest is deductible for alternative minimum tax purposes. Any other interest on amounts borrowed that are not used to acquire, construct or substantially improve any property that was a principal residence or qualified residence may not be deducted for AMT purposes, the service said. Revised instructions to Form 6251, which include a worksheet to help taxpayers determine the correct home mortgage interest adjustment, will be posted on the IRS Web site, www.irs.gov

Electronic filing continues to show a strong increase, with e-filed tax returns running more than 6 percent ahead of last year, according to the Internal Revenue Service. Out of 61 million returns filed as of March 11, 42.7 million, or nearly 70 percent, were e-filed -- up from 65 percent the previous year. While this percentage is expected decline as April 15 approaches, the IRS expects for the first time to have more than half of all individual tax returns filed electronically. Out of tax returns e-filed so far, the biggest increase is among those who prepare their own returns on a home computer -- 10.6 million returns, up more than 14 percent over results from the same period last year. The jump in computer use coincides with another strong year from the Free File program. The IRS and a consortium of tax software manufacturers offer free services through Free File, which is available at www.irs.gov. More than 3.33 million returns came in through Free File through March 9, which is a 44 percent increase from 2.32 million returns for the same period last year.

Internal Revenue Service Commissioner Mark W. Everson praised the agency's improvement in taxpayer service and its renewed emphasis on enforcement of the tax laws. In a speech at the National Press Club, Everson noted that the playing field is no longer tilted toward tax evaders, with only the amount of tax owed at risk. "Now they might have to pay the entire tax, interest and a stiff penalty," he said. "A taxpayer might have to wrestle with questions like, 'How much am I going to have to pay the lawyers and expert witnesses to litigate this thing?' And going to court is a public matter. Damage to one's reputation is a potential factor." Everson said that as the tax reform process unfolds, he doesn't expect to offer support for, or to oppose, any particular policy options. However, he offered these pointers to consider when reforming the code: _ Construct a tax system that recognizes the dynamic of an evolving economy; _ Assess policy options for their potential impact on attitudes towards compliance; _ Any new system should be administratively feasible; _ When looking at policy options, don't compare a sub-optimized existing system to a perfect, theoretical system; and, _ Recognize that transition to a new code must be properly planned and managed, or it may take decades to recover.

In an effort to minimize disputes regarding whether a truck body satisfies the weight-based exclusion provided in Section 4051(a)(2), the Internal Revenue Service, in Rev. Proc. 2005-19, has established four truck body safe harbors. Section 4051(a)(2) provides an exclusion from the tax imposed by Section 4051(a)(1) for truck chassis and bodies suitable for use with a vehicle that has a gross vehicle weight of 33,000 pounds or less. Similarly, Section 4051(a)(3) provides an exclusion for truck trailer and semi-trailer chassis and bodies suitable for use with a trailer or semi-trailer that has a GVW of 26,000 pounds or less. The IRS announced that it will not challenge a seller's determination that any of the following classifications of truck body types meet the "suitable for use" standard and sales thereof are excluded from the retail excise tax pursuant to Section 4051(a)(2): 1. Platform truck bodies 21 feet or less in length; 2. Dry freight and refrigerated truck van bodies 24 feet or less in length; 3. Dump truck bodies with load capacities of eight cubic yards or less; or 4. Refuse packer truck bodies with load capacities of 20 cubic yards or less. Other body types may also still satisfy the "suitable for use" standard if the seller can establish that, pursuant to Reg. 145.4051-1(a)(4), the truck body has practical and commercial fitness for use with a vehicle having a GVW of 33,000 pounds or less. Rev. Proc. 2005-19 is effective for sales on or after April 4, 2005. In the case of sales before April 4, 2005, the IRS won't challenge sellers who take positions consistent with the revenue procedure's safe harbors.

The Taxpayer Advocacy Panel recommended that tax preparers adhere to a basic standard of competence, with the responsibility of certifying and registering all tax preparers delegated to the various national tax associations. The VITA exam given by the Volunteer Income Tax Assistance Program would be the basic testing mechanism, and current preparers would be grandfathered into the program through an application, subject to approval by the Internal Revenue Service. TAP, a volunteer group that works to improve customer service and satisfaction at the Internal Revenue Service, made the recommendation as part of its annual report to the Treasury Department. Other recommendations made by the panel include eliminating the option to apply for refund anticipation loans through the IRS FreeFile Web site; informing taxpayers if all or a significant portion of their return will be outsourced to a location outside the United States; and clarifying that the earnings of newspaper carriers under age 18 are not subject to self-employment tax.

The Internal Revenue Service Oversight Board released a report requesting an additional $11.6 billion in funding for fiscal year 2006, a 9 percent increase over the Bush administration's recommendation. President Bush is required to submit the board's request, without revision, to Congress along with his own request. "One of the board's roles is to provide a private sector perspective," observed board chairman Raymond T. Wagner Jr. "And from this vantage point, it makes perfect sense to make the additional investments in enforcement that will pay for themselves many times over. The IRS and administration estimates show that every dollar invested in enforcement generates four dollars in increased revenues." The board estimated that an additional $435 million for enforcement would result in $1.74 billion in additional tax revenue. The board also called for additional funding toward maintaining and improving customer service and supporting the Business Systems Modernization program, which is replacing the agency's antiquated computer system. In its report, the board stated that its recommendations are backed by taxpayers. Those surveyed in its annual tax compliance survey called for additional funding for the IRS -- 62 percent favored more funding for enforcement and 64 percent favored more taxpayer assistance.

The American Institute of CPAs will urge the Internal Revenue Service to delay, by at least a year, implementation of mandatory electronic filing procedures for large corporations and exempt organizations at a hearing before the IRS on March 16, 2005. The IRS's recently released regulations will generally require corporations with total assets of $50 million or more and tax-exempt organizations with total assets of $100 million or more to e-file their tax returns to the IRS starting in January 2006. In addition, smaller corporations and exempt organizations face an e-filing requirement starting in January 2007 under the regulations. Beginning in January 2007, corporations and exempt organizations with total assets of $10 million or more and all private foundations and charitable trusts, regardless of asset size, will generally be required to electronically file tax returns. "We view this as a dramatic change, with inadequate lead time," said Deborah J. Pflieger, former chair of the AICPA's Practice and Procedure Committee and a managing director in PricewaterhouseCoopers' National Tax Office. "The affected corporations and tax-exempt organizations, software developers and tax practitioners will have to make significant process and technology changes in order to comply with mandatory e-filing requirements," Pflieger said. "The changes require substantial collaboration and coordination by the IRS with all impacted parties, but the taxpayers and tax practitioners who prepare and file the majority of affected returns have not been provided ample opportunity to share their corporate e-file issues."

The Internal Revenue Service has taken the offensive against frivolous arguments that taxpayers should avoid when filing their tax returns. "Every filing season, thousands of taxpayers hear groundless theories suggesting that they don't have to pay taxes or file returns," said IRS Commissioner Mark W. Everson. "We want people to know the truth about these frivolous arguments: They don't work." Just-issued IRS Notice 2005-30 describes 23 frivolous arguments that taxpayers should avoid when filing their returns. Five revenue rulings issued in conjunction with the notice address specific frivolous claims often made to the IRS. These include arguments that the income tax is unconstitutional, that taxes may be withheld as a protest against government programs, and arguments that taxpayers may obtain a refund of all Social Security taxes paid by waiving their right to Social Security benefits. The revenue rulings emphasize the adverse consequences to taxpayers who fail to file or fail to pay taxes based on an erroneous belief in any of these frivolous arguments. In addition to tax and interest, taxpayers who file frivolous income tax returns face a $500 penalty, and may be subject to civil penalties of 20 or 75 percent of the underpaid tax. Those who pursue frivolous tax cases in the courts may face an additional penalty of up to $25,000. "The courts have consistently rejected these arguments and imposed substantial penalties on those taking these unsupportable positions," said IRS chief counsel Donald L. Korb. "Those potentially tempted by these schemes need to realize that they carry a heavy price for both the taxpayers and the promoters."

-- The IRS is providing limited transition relief for certain partnerships and other pass-through entities. Section 470 of the American Jobs Creation Act of 2004 generally bars a deduction for "tax-exempt use losses" on "tax-exempt use property," where there are leases of property in sale-in, lease-out transactions involving tax-exempt entities. It is generally applicable to leases entered into after March 12, 2004. In Notice 2005-29, the IRS indicated that it would not apply Section 470 to partnerships or other pass-through entities for taxable years beginning before Jan. 1, 2005, for property treated as tax-exempt use property solely because of the application of Section 168(h)(6). Section 168(h)(6) provides that if any property that isn't otherwise "tax-exempt use property" under Section 168(h) is owned by a partnership that has both a tax-exempt entity and a person who isn't a tax-exempt entity as partners, and any allocation to the tax-exempt entity of partnership items isn't a qualified allocation, an amount equal to the tax-exempt entity's proportionate share of the property generally is treated as tax-exempt use property.

Washington - Witnesses at the inaugural meeting of President Bush's Advisory Panel on Federal Tax Reform, held here last month, laid the groundwork for considering the roster of options facing panel members, who are saddled with the daunting task of recommending specific changes to the behemoth Internal Revenue Code.Former senator Connie Mack, chairman of the reform panel, said that the group would "take a fresh look at the existing tax code and will formulate options for making the tax system simple, fair and productive."

Washington - The Internal Revenue Service has announced a settlement initiative for executives and companies that participated in an abusive tax avoidance transaction involving the transfer of stock options or restricted stock to family-controlled entities.Under this scheme, executives, often facilitated by their corporate employers, transferred stock options to family-controlled partnerships and related entities typically created for the purpose of receiving the options and avoiding taxes on compensation income normally taxed to the executive. The tax objective was to defer for up to 30 years taxes on the compensation, and the plan resulted, in many cases, in the corporation deferring a legitimate deduction for the same compensation.

The President's Advisory Panel on Federal Tax Reform will hold its fourth meeting on Wednesday, March 16, at the University of Chicago Graduate School of Business Gleacher Center. Witnesses will provide perspectives on the impact of the tax laws on important taxpayer decisions and how the tax system treats investment alternatives. Panel I, on taxes and individual decisions, will hear testimony from James J. Heckman, a Nobel Laureate in Economics and professor of economics at the University of Chicago. Panel II will examine taxes and investment alternatives. Its witnesses include Brian Wesbury, chief investment strategist at Claymore Securities Inc.; Kathleen Kennedy, an associate professor of law and director of the Center for Tax Law and Employee Benefits at John Marshall Law School; Dr. Susan Dynarski, assistant professor of public policy at the Kennedy School of Government at Harvard University; and Armond Dinverno, principal and co-president of Balasa Dinverno & Foltz LLC. Panel III, on taxation of financial instruments, will hear David Weisbach, a professor of law at the University of Chicago; and Robert McDonald, a professor of finance at the Kellogg School of Management at Northwestern University.

Individual taxpayers electronically filed 39.2 million returns through March 4 -- up 2.1 million or about 6 percent over last year's numbers, according to the Internal Revenue Service. The biggest increase came in home computer use, which was up 14 percent. Out of 55 million returns filed as of March 4, 72 percent were e-filed -- up from 67 percent the previous year. While this percentage will decline as April 15 approaches, the IRS expects for the first time to have more than half of all individual tax returns filed electronically. The jump in computer use coincides with another strong year for the Free File program, under which the IRS and a consortium of tax software manufacturers offer free services. More than 3 million returns came in through Free File through March 2, a 43 percent increase from 2.15 million returns for the same period last year. Record numbers of individuals are choosing to have their refunds directly deposited into their bank accounts. So far this year, 72 percent of all refunds are through direct deposit -- up from 68 percent over the same period last year.

The President's Advisory Panel on Federal Tax Reform held its third meeting in Tampa on Tuesday, with the objective of understanding how the existing tax system affects business taxpayers. "Small business and self-employed taxpayers, in particular, are burdened by the complexity of our tax code and bear a substantial proportion of the estimated $125 billion in compliance costs," said Connie Mack, chairman of the panel. "As we will learn, it is these same small businesses that are a powerful engine driving our country -- they employ over half of all private sector employees and generate 60 to 80 percent of new jobs." Small-business owner David Hurley told the panel that the tax code places a tremendous burden on the nation's leading job creators. "If you are a big corporation with a compliance department or a tax attorney on staff to help navigate the various tax laws at the federal, state and local levels, then compliance issues aren't nearly as thorny as they are for small businesses," he said. "But if you are a small business owner, in addition to dealing with compliance requirements, you might also be taking out the garbage, ordering inventory and hiring employees."

The Supreme Court ruled in a 7-2 decision that the Tax Court may not exclude from the record on appeal Rule 183(b) reports submitted by special trial judges. The Tax Court's chief judge appoints special trial judges to hear certain cases, but the ultimate decision, when tax deficiencies are greater than $50,000, is reserved for the court itself. Tax Court Rule 183(b) directs the special trial judge to submit a report to the chief judge, who assigns the case to a judge of the court. The Tax Court judge is to give due regard to the report and presume fact-findings contained in the report to be correct. The Tax Court judge may then adopt the report "or may modify it or reject it in whole or in part." After a rule revision in 1983, the reports were no longer included in the record or made public. The taxpayers in the case before the Supreme Court had failed in Tax Court, and believed that the decision -- which said that it agreed with and adopted the opinion of the special trial judge -- did not, in fact, comport with the report of the special trial judge. The appeals court ruled against the taxpayers, holding that the report is protected as part of the court's confidential deliberative process. The Supreme Court reversed, finding that the practice of not disclosing the special trial judge's original report "impedes fully informed appellate review," and ignores the principle that the officer who hears witnesses and sifts through evidence "will have a comprehensive view of the case that cannot be conveyed full-strength by a paper record."