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Parker's Federal Tax Bulletin
Issue 66     
July 03, 2014     

 

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 1. In This Issue ... 

 

Tax Briefs

Prorated Amount of Child Tax Credit Is Property of Bankruptcy Estate; Travel Agent Could Not Deduct Travel Expenses; FaConservation Easement Donation Denied; IRS Issues Final Regs on Disregarded Entities and Tanning Excise Tax ...

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Sixth Circuit OKs Deduction for Lease Termination Costs

The Sixth Circuit upheld a lower court decision that a lessee, who buys property it is leasing for a price greater than the property's fair market value, can immediately deduct as a lease termination expense the excess purchase price; however, other courts have come to a different conclusion. ABC Beverage Corporation v. U.S., 2014 PTC 287.

Read more ...

IRS Finalizes Regs on Small Employer Health Insurance Credit

The IRS has issued final regulations on the tax credit available for health insurance coverage offered by certain small employers to their employees. T.D. 9672 (6/30/14).

Read more ...

Supreme Court: Circumstantial Evidence Can Suffice to Challenge Motive for Summons

A person receiving a summons is entitled to contest it in an adversarial enforcement proceeding and, while the person objecting must offer some credible evidence to support a claim of improper motive on behalf of the IRS, circumstantial evidence can suffice. U.S. v. Clarke, 2014 PTC 300 (S. Ct. 6/19/14).

Read more ...

IRS Unveils Voluntary Return Preparer Education Program

The IRS is launching a new, voluntary Annual Filing Season Program, designed to encourage tax return preparers who are not attorneys, certified public accountants (CPAs), or enrolled agents to complete continuing education courses for the purpose of increasing their knowledge of the law relevant to federal tax returns. Rev. Proc. 2014-42 (6/30/14).

Read more ...

Refusal to Pick Up Mail Precludes Ability to Schedule CDP Hearing and Contest Levy

A taxpayer could not decline to retrieve his mail when he was reasonably able and had multiple opportunities to do so, and thereafter successfully contend that he did not receive a notice of deficiency for purposes of scheduling a collection due process hearing. Onyango v. Comm'r, 142 T.C. No. 24 (6/24/14).

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Tax Court Modifies April Opinion to Deny "Inequitable" Windfall to IRS

In a rare occurrence, the Tax Court modified a recent opinion, using the doctrine of equitable recoupment, to reduce the tax liability and penalty assessment previously imposed on a taxpayer. Frank Sawyer Trust of May 1992 v. Comm'r, T.C. Memo. 2014-128 (6/25/14).

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Merged Corporations Are the "Same Taxpayer" for Interest Netting Purposes

In a case of first impression, the Court of Federal Claims concluded that, following a merger, the entities that merged become one and the same as a matter of law and thus become the "same taxpayer" for purposes of interest netting. Wells Fargo & Company v. U.S., 2014 PTC 317 (Fed. Cl. 6/27/14).

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Unused ITINS to Expire After 5 Years; Deactivation Begins in 2016

Individual taxpayer identification numbers will expire if not used on a federal income tax return for five consecutive years. IR-2014-76 (6/30/14).

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Seventh Circuit Uphold Sentence of Chicago Politician for Tax Crimes

The conviction of a former Chicago alderman for not reporting the conversion of campaign funds for personal use was affirmed. Beavers v. U.S., 2014 PTC 319 (7th Cir. 6/30/14).

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One Month Is Maximum Length for Orientation Period for ACA Waiting Period

If an orientation period does not exceed one month, and the maximum 90-day waiting period for group health insurance eligibility begins on the first day after the orientation period, a condition of completing a 30-day orientation period is not considered to be designed to avoid compliance with the 90-day waiting period limitation. T.D. 9671 (6/25/14).

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 2. Tax Briefs 

 

Bankruptcy

Prorated Amount of Child Tax Credit Is Property of Bankruptcy Estate: In In re Atwood, 2014 PTC 310 (Bankr. S.D. Ind. 6/23/14), a bankruptcy court held that the prepetition portion of the debtor's refundable child tax credit (CTC) was property of the bankruptcy estate. To the extent any part of the credit is attributable to the nonrefundable CTC (in which case it only reduced the debtors' tax liability), it is not property of the estate. The court rejected a Nebraska bankruptcy court decision that concluded that the CTC refund was after-acquired property and not property of the bankruptcy estate. The bankruptcy court noted that the majority of courts that have addressed the issue have agreed that a debtor who files a bankruptcy case before the end of the tax year nonetheless holds a contingent property interest in the CTC refund as of the petition date and that the prorated amount of the CTC refund is property of the estate.

 

Deductions

Travel Agent Could Not Deduct Travel Expenses: In Peppers v. Comm'r, T.C. Summary 2014-55 (6/18/14), the Tax Court held that an independent travel agent could not deduct expenses for travel to locations that she said she needed to review for her travel website because she failed to provide any evidence of any reviews she may have created with respect to the visits she made. Further, the fact that she brought along at least one family member on each trip convinced the court that the trips were personal. [Code Sec. 162].

FaConservation Easement Donation Denied: In Scheidelman v. Comm'r, 2014 PTC 292 (2d Cir. 6/18/14), the Second Circuit affirmed the Tax Court and held that no deduction was allowed for the taxpayer's donation of a faconservation easement because the preservation of historic facades in the area where the taxpayer lived was a benefit, not a detriment, to the value of her property and, thus, the donation did not materially diminish the fair market value of the property. [Code Sec. 170].

 

Employment Taxes

IRS Issues Final Regs on Disregarded Entities and Tanning Excise Tax: In T.D. 9670 (6/26/14), the IRS issued final regulations on disregarded entities (including qualified subchapter S subsidiaries) and the indoor tanning services excise tax. The final regulations affect disregarded entities responsible for collecting the indoor tanning services excise tax and owners of those disregarded entities. The final regulations also affect disregarded entities and certain exceptions relating to FICA and FUTA taxes, as well as backup withholding rules and related information reporting requirements. [Code Sec. 3121].

 

Foreign

IRS Updates FFI Agreement: In Rev. Proc. 2014-38, the IRS updated the agreement entered into by a foreign financial institution (FFI) with the IRS to be treated as a participating FFI under Code Sec. 1471(b) and Reg. Sec. 1.1471-4. Rev. Proc. 2014-38 modifies and supersedes Rev. Proc. 2014-13. [Code Sec. 1471].

 

Gross Income

Salary Paid to Junior Reserve Officers' Training Corps Instructor Is Taxable Income: In Ambrosius v. Comm'r, T.C. Memo. 2014-126 (6/23/14), the Tax Court held that the taxpayer could not exclude from income a portion of his salary received from his employment as a Junior Reserve Officers' Training Corps instructor. According to the court, the amounts the taxpayer received were not nontaxable allowances from the federal government because the taxpayer was employed by the Baltimore City Public School System and was not on active duty. [Code Sec. 61].

 

Liens and Levies

Liens Survive Purchase of Property Subject to the Liens: In First Northern Bank & Trust Co. v. U.S., 2014 PTC 315 (M.D. Pa. 6/20/14), a district court held that a 2012 tax sale proceeding, in which a bank acquired property on which it had a first lien mortgage, was a judicial sale under Code Sec. 7425(a) and, because the IRS did not receive proper statutory notice, the IRS tax liens on the property survived the sale. [Code Sec. 7425].

Lien Did Not Necessarily Attach to Real Property Through Mortgage Payments: In Rominski v. U.S., 2014 PTC 316 (N.D. Ill. 6/25/14), a district court held that a federal tax lien associated with the taxpayer's tax debts did not necessarily attach to real property through the taxpayer's making of mortgage payments relating to the property. The court noted that the IRS cited no authority for its proposition that because a tax lien attaches to the taxpayer's cash, the lien "sticks to" real property that is subject to a mortgage on which the cash has been used to make payments. [Code Sec. 6321].

 

Nonrecognition Transactions

IRS Updates Qualified Intermediary Rules: In Rev. Proc. 2014-39, the IRS provides guidance for entering into a qualified intermediary (QI) withholding agreement with the IRS. It provides the application procedures for becoming a QI and renewing a QI agreement, as well as the final qualified intermediary withholding agreement (QI agreement), and provides that such agreement is not intended to be modified by a rider. The objective of the QI agreement is to allow a foreign intermediary to assume the withholding and reporting obligations for payments of income (including interest, dividends, royalties, and gross proceeds) made to its account holders or payees through one or more foreign intermediaries or flow-through entities. [Code Sec. 1031].

 

Original Issue Discount

July AFRs Issued: In Rev. Rul. 2014-20, the IRS issued the applicable federal rates for July 2014. [Code Sec. 1274].

 

Partnerships

Invalid Signature on Form 1065 Precludes Valid Return: In CCM 201425011, the Office of Chief Counsel advised that a Form 1065 that is not signed by a general partner or a limited liability company member manager is not a valid partnership return. Although the partnership return is invalid, the return that starts the running of the statute of limitations period is that of the taxpayer whose liability is being assessed; not that of the partnership or limited liability company whose return might also report the transaction that gives rise to the liability. [Code Sec. 6501].

 

Penalties

Wife's Refusal to File Joint Returns Doesn't Constitute Reasonable Cause for Nonfiling: In Salzer v. Comm'r, T.C. Summary 2014-59 (6/24/14), the Tax Court rejected the taxpayer's argument that he should not be penalized for failing to file tax returns for two years because his wife refused to file joint returns. The taxpayer had contended that it would be illogical to pay tax as a married person filing separately given his history of filing joint returns for the prior 22 years. According to the court, his wife's refusal to file joint returns did not constitute reasonable cause to excuse him from the penalties assessed by the IRS. [Code Sec. 6651].

Money Laundering and Failing to File Form 8300 Nets 30 Months in Prison: In U.S. v. Calmes, 2014 PTC 307 (5th Cir. 6/19/14), the Fifth Circuit affirmed the conviction and 30-month prison sentence of a motorcycle dealer found guilty of money laundering, structuring a transaction to avoid IRS reporting requirements, and willfully failing to file Form 8300 to report cash transactions of $10,000 or more. According to the court, the refusal on one occasion by the motorcycle dealer to take $13,000 in cash without filing Form 8300 did not absolve him from guilt for the subsequent, distinct offense of structuring a transaction to avoid the filing requirement altogether.

 

Procedure

Code Section 6104 Does Not Supersede FOIA: In Public.Resource.Org v. U.S. Internal Revenue Service, 2014 PTC 313 (N.D. Calif. 6/20/14), a taxpayer sought from the IRS tax return data of several nonprofit organizations in machine-readable format. The IRS refused the taxpayer's request because it contended that the Freedom of Information Act (FOIA), under which the taxpayer's request was made, was superseded by Code Sec. 6104, a previously enacted disclosure provision concerning Form 990 filings. A district court sided with the taxpayer and held that because of the breadth of FOIA's disclosure requirements, which has been repeatedly upheld by the courts, and the inapplicability of the cases on which the IRS was relying, there was no basis to conclude that FOIA is superseded by Code Sec. 6104. [Code Sec. 6104].

IRS Clarifies Rules on Administrative Summonses: In T.D. 9669 (6/18/14) and REG-121542-14 (6/18/14), the IRS issued temporary and proposed regulations modifying regulations under Code Sec. 7602(a) relating to administrative summonses. Specifically, these regulations clarify that persons with whom the IRS or the Office of Chief Counsel contracts for services described in Code Sec. 6103(n) and its implementing regulations may be included as persons designated to receive summoned books, papers, records, or other data and to take summoned testimony under oath. [Code Sec. 7602].

Code Section 7443(f) Doesn't Violate Constitution: In Kuretski v. Comm'r, 2014 PTC 302 (D.C. Cir. 6/20/14), the D.C. Circuit rejected a taxpayer's argument that, because Code Sec. 7443(f) enables the President to remove Tax Court judges on grounds of inefficiency, neglect of duty, or malfeasance in office, it violates the constitutional separation of powers under Article III of the Constitution. The D.C. Circuit noted that this was the first case in any court of appeals to present the question of whether Code Sec. 7443(f) infringes the constitutional separation of powers. [Code Sec. 7443].

Assessment Date, Not Filing Date, Begins 10-Year Collection Period: In U.S. v. Bishop, 2014 PTC 309 (3d Cir. 6/24/14), the Third Circuit affirmed a district court and held that the IRS was within the 10-year assessment period for collecting the taxpayer's tax liability. The court noted that there is a difference between assessment dates and the date on which a return is filed. Citing Remington v. U.S., 210 F.3d 281 (5th Cir. 2000), the Third Circuit noted that although the filing date starts the three-year assessment period, the assessment date begins the 10-year collection period. [Code Sec. 6502].

IRS Publishes Reporting Format Requirements for 2013 Information Returns: In Rev. Proc. 2014-27, the IRS sets forth the 2013 requirements for using official IRS forms to file information returns with the IRS, preparing acceptable substitutes of the official IRS forms to file information returns with the IRS, and using official or acceptable substitute forms to furnish information to recipients.

 

Tax-Exempt Organizations

Streamlined Procedures for Applying for Tax-Exempt Status: In Rev. Proc. 2014-40 (7/1/14), the IRS sets forth procedures for applying for tax-exempt status under Code Sec. 501(c)(3) using a newly issued form, Form 1023-EZ, Streamlined Application for Recognition of Exemption under Section 501(c)(3). Rev. Proc. 2014-40 may be used by, and Form 1023-EZ is generally available for, certain U.S. organizations with assets of $250,000 or less and annual gross receipts of $50,000 or less. [Code Sec. 501].

 

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 3. In-Depth Articles 

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Sixth Circuit OKs Deduction for Lease Termination Costs; Highlights Conflict with Other Courts

A recent appellate court decision has potentially set the stage for a showdown in the Supreme Court over the deductibility of lease termination costs. In ABC Beverage Corporation v. U.S., 2014 PTC 287 (6th Cir. 6/13/14), the Sixth Circuit affirmed a district court and held that a lessee who buys property it is leasing for a price greater than the property's fair market value can immediately deduct as a business expense the excess purchase price as a lease termination expense. While this is great news for taxpayers, the decision is at odds with an earlier Second Circuit decision denying such a deduction as well as a subsequent Tax Court decision that relied on that Second Circuit decision to also deny a similar deduction. Thus, whether a taxpayer may deduct such costs, or must capitalize them as part of the purchase price of the building, may ultimately depend upon the circuit court jurisdiction in which the taxpayer lives.

Practice Tip: The issue of whether the excess purchase price of a building being leased is fully deductible or must be capitalized as part of the building purchase presents a planning opportunity for practitioners. One option that may be available depending on the circumstances is to instead of purchasing a building for more than its fair market value to get out of an onerous lease separately negotiate a payment to terminate the lease. The termination of a contract right is generally a deductible business expense under Code Sec. 162.

Facts

ABC Beverage (ABC) has a bottling plant in Hazelwood, Missouri where it makes and distributes soft drinks and other non-alcoholic beverages. ABC leased the facility at first, but after concluding that its rent under the lease was too high, it exercised an option to buy the property. Appraisals valued the property without the lease at $2.75 million, and ABC determined that the fair market value of the property with the lease would be at least $9 million. ABC eventually bought the property for approximately $9 million. On its tax return, ABC reported $2.75 million as its cost of acquiring the property and deducted $6.25 million as a business expense for terminating the lease. The IRS disallowed the deduction and assessed a tax deficiency of $2.5 million. ABC paid the deficiency and sued for a refund in district court.

District Court's Decision

In the district court, the IRS primarily argued that Code Sec. 167(c)(2) prohibited ABC from categorizing any part of the purchase price as a distinct business expense for terminating the lease. Code Sec. 167(c)(2), which was enacted in 1993, provides that if any property is acquired subject to a lease, no portion of the adjusted basis can be allocated to the leasehold interest, and the entire adjusted basis is taken into account in determining the depreciation deduction (if any) with respect to the property subject to the lease.

Whether Code Sec. 167(c)(2) governs the issue is a question of statutory construction and interpretation, the district court said. The first step, the court said, requires a determination of whether the statute is ambiguous. The district court concluded that the statute was not ambiguous, that it plainly and unambiguously outlines what happens, for the purposes of depreciation, when property is acquired subject to a lease. After reviewing the legislative history of Code Sec. 167(c)(2), the district court rejected the IRS's argument that Code Sec. 167(c)(2) applied to the transaction at issue. According to the district court, if a party does not acquire the property as a lessor or a lessee, then Code Sec. 167(c)(2) doesn't apply.

Instead, the district court said it was obliged to follow the Sixth Circuit's opinion in Cleveland Allerton Hotel, Inc. v. IRS, 166 F.3d 805 (6th Cir. 1948). In Cleveland Allerton, a taxpayer owned and operated a hotel on leased premises. When there was roughly 80 years left on the lease term, the taxpayer was paying $25,000 per year in rent. However, the taxpayer determined the rent was excessive by $15,000 per year. After negotiations, the taxpayer purchased the property for $441,250 and took a business expense deduction based on the difference between the purchase price and $200,000, the fair market value of the real estate. The taxpayer characterized the difference as a deductible cost of buying out a burdensome lease, even though there was no specific designation of the amount paid for the purchase of the leasehold. The Tax Court rejected the taxpayer's arguments but was reversed by the Sixth Circuit.

The Sixth Circuit found support for the taxpayer's claim that the value of the land was no more than $200,000, not counting the value of the lease. The Sixth Circuit pointed out the difference between the taxpayer who was buying out its own lease (as in the instant case) and a third-party investor who buys real estate subject to a long-term profitable lease. The court agreed that the taxpayer could take a business expense deduction for amounts paid to escape a burdensome lease. The Sixth Circuit also concluded the deduction must be taken during the year when made.

In ABC Beverage, the district court also rejected the IRS's argument that the Supreme Court's decision in Millinery Center Bldg. Corp. v. IRS, 350 U.S. 456 (1956), had effectively overruled the Cleveland Allerton decision. In Millinery Center, the taxpayer leased land and, under the terms of the lease, erected a 22-story building. Subsequently, the taxpayer exercised its option to extend the lease for another 21 years. Title to the building was in the taxpayer's name, but at the eventual termination of the lease it would vest, without payment, in the lessor, at the lessor's option. In May 1945, the taxpayer paid $2.1 million to the owner to purchase the land and be released from the obligations of the renewed lease. On its tax return, the taxpayer deducted $1,440,000 the difference between the purchase price under the May 1945 agreement and the 1945 value of the unimproved land as an ordinary and necessary business expense.  

The Tax Court held that the difference could not be deducted, that the difference could not be amortized over the remaining term of the cancelled lease, and that no annual depreciation could be taken because the cost of the building had already been fully depreciated and the purchase price could not be separated between the purchase price for the building and purchase price for the land. The Second Circuit affirmed the refusal to permit a deduction, but reversed the holding that no amount could be added to the asset value of the building for purposes of depreciation. While rejecting the taxpayer's argument that it should be allowed to amortize the $1,440,000 over the unexpired term of the cancelled lease, the Second Circuit accepted the taxpayer's alternative argument that depreciation over the remaining useful life of the building should be allowed.

Because of the apparent conflict between the Second Circuit's holding in Millinery Center and the Sixth Circuit's holding in Cleveland Allerton, the Supreme Court granted certiorari. The Supreme Court's opinion turned on the taxpayer's lack of evidence that the rent under its lease was actually burdensome. Absent such evidence, the Court concluded, the taxpayer had to capitalize the entire purchase price. The Court did not decide whether a taxpayer could deduct the cost of buying out a burdensome lease because, in the facts before it, there was no burdensome lease. Accordingly, the district court found that the situation in ABC Beverage was distinguishable on that point which formed, in part, the basis of the ultimate Supreme Court decision.

The district court also dismissed the IRS's claim that ABC's deduction was barred by Code Sec. 263(a)(1), which prohibits the deduction of capital expenditures. Because the court found, however, a genuine dispute about when ABC could take the deduction, the case went to a jury which found that ABC could deduct the payment in the year made. The IRS appealed to the Sixth Circuit

Sixth Circuit's Decision

In its appeal to the Sixth Circuit, the IRS cited several authorities as supporting its position that ABC had to capitalize the entire amount paid for the building. First, the IRS reiterated its argument that Code Sec. 167(c)(2) prohibits any allocation of the purchase price of the property to the leasehold interest. Second, the IRS asked the Sixth Circuit to revisit its holding in Cleveland Allerton.

The Sixth Circuit agreed with the district court's holding and held that a lessee who buys the property it is leasing for a price greater than the value of the property can immediately deduct as a business expense the portion of the purchase price attributable to the unexpired lease.

While agreeing with the district court's holding that Code Sec. 167(c)(2) did not apply, the Sixth Circuit did take issue with the district court's statement that the text of Code Sec. 167(c)(2) was unambiguous. The Sixth Circuit found the statute's text ambiguous because the phrase "subject to a lease" might modify "acquired," as the taxpayer in ABC Beverage argued, in which case the statute applies only if the purchased property remains subject to a lease after the purchase. However, the Sixth Circuit said, the phrase might also modify "property," as the IRS argued, in which case Code Sec. 167(c)(2) would apply to deny a deduction so long as the property is subject to a lease when acquired. The only other court to have parsed Code Sec. 167(c)(2), the Sixth Circuit noted, was the Tax Court in Union Carbide Foreign Sales Corp. v. Comm'r, 115 T.C. 423 (2000). And the Tax Court came to the opposite conclusion as the Sixth Circuit, holding that Congress did not intend for Code Sec. 167(c)(2) to limit the statute's reach and that the point of Code Sec. 167(c)(2) is to prevent taxpayers from allocating to a lease any part of the cost of acquiring tangible property. In reaching its decision, the Tax Court also cited the Second Circuit's decision in Millinery Center. Thus, the Tax Court in Union Carbide concluded that Code Sec. 167(c)(2) prevented the taxpayer from deducting any portion of its cost to acquire an asset to the termination of a burdensome lease.

With respect to its prior holding in Cleveland Allerton, the Sixth Circuit said the decision still applied because nothing had changed since that opinion was issued. A published prior panel decision remains controlling authority, the court observed, unless an inconsistent decision of the U.S. Supreme Court requires modification of the decision or unless the Sixth Circuit sitting en banc overrules the prior decision. Since nothing like that had occurred, there was no reason to modify the Cleveland Allerton decision.

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IRS Finalizes Regs on Small Employer Health Insurance Credit

The IRS has issued final regulations on the tax credit available for health insurance coverage offered by certain small employers to their employees. T.D. 9672 (6/30/14).

Code Sec. 45R, which was enacted in 2010, provides a health insurance credit to certain eligible small employers. In order to be an eligible small employer, an employer must have in effect a contribution arrangement that meets certain qualifications and must have no more than 25 full-time equivalent employees (FTEs), and the average annual wages of its FTEs must not exceed $50,000 in 2013 ($50,800 in 2014). The credit is phased out when the number of the employer's FTEs exceeds 10 or if average annual wages of its FTEs exceeds $25,000 in 2013 ($25,400 in 2014).

The credit is equal to 50 percent (35 percent in the case of a tax-exempt eligible small employer) of the lesser of (1) the aggregate amount of nonelective contributions the employer made on behalf of its employees during the tax year under the qualifying arrangement for premiums for qualified health plans (QHPs) offered by the employer to its employees through a SHOP Exchange, or (2) the aggregate amount of nonelective contributions the employer would have made during the taxable year under the arrangement if each employee for which a contribution would be taken into account under (1), above, had enrolled in a QHP which had a premium equal to the average premium for the small group market in the rating area in which the employee enrolls for coverage.

A contribution arrangement qualifies if it requires an eligible small employer to make a nonelective contribution on behalf of each employee who enrolls in a qualified health plan (QHP) offered to employees by the employer through an Exchange in an amount equal to a uniform percentage (not less than 50 percent) of the premium cost of the QHP (i.e., the uniform percentage requirement). For purposes of Code Sec. 45R, an Exchange refers to a Small Business Health Options Program (SHOP) Exchange.

In 2013, the IRS issued proposed regulations under Code Sec. 45R. Those regulations provided that employers could rely on the proposed regulations for guidance for tax years beginning after 2013 and before 2015. Earlier this week, the IRS issued final regulations, which adopted the provisions of the proposed regulations with certain modifications. The final regulations expand on the proposed regulations' definition of FTEs by providing that leased employees are counted in computing a service recipient's FTEs and average annual wages. In addition, the final regulations provide that premiums paid on behalf of a former employee may be treated as paid on behalf of an employee for purposes of calculating the credit provided that if so treated, the former employee is also treated as an employee for purposes of the uniform percentage requirement.

The final regulations also clarify that in calculating an employer's average annual wage limitation, bonuses are included to the extent treated as wages for FICA purposes.

Like the proposed regulations, the final regulations provide that only workers who perform labor or services on a seasonal basis, including retail workers employed exclusively during holiday seasons, meet the definition of a seasonal worker for purposes of the credit. The final regulations further provide that employers may apply a reasonable, good faith interpretation of the term "seasonal worker" and a reasonable good faith interpretation of the applicable provisions that define such workers.

In general, only premiums paid by the employer for employees enrolled in a QHP offered through a SHOP Exchange are counted when calculating the credit. The final regulations include a provision that a standalone dental health plan offered through a SHOP Exchange is considered a QHP for purposes of the credit.

With respect to a health reimbursement arrangement (HSA), the final regulations clarify that because an HSA is a self-insured plan, this type of arrangement is not health insurance coverage for purposes of the credit and employer contributions to this type of arrangement are not taken into account for purposes of the credit for any year.

With respect to calculating the uniform percentage that an employer must pay, the final regulations incorporate the uniform percentage requirement provisions from the proposed regulations, but also contain additional rules for how to apply the uniform percentage requirement if SHOP dependent coverage is offered. SHOP dependent coverage is coverage offered separately to any individual who is or may become eligible for coverage under the terms of a group health plan offered through SHOP because of a relationship to a participant-employee (including an employee's domestic partner or similar relation, such as a person with whom the employee has entered into a civil union), whether or not a dependent of the participant-employee. SHOP dependent coverage is different than family coverage in that it provides coverage only to the employee's dependents based on allowable rating factors, and does not include the participant-employee. As coverage purchased that does not include the employee, SHOP dependent coverage is not taken into account for purposes of applying the uniformity requirement.

Tobacco usage is an allowable rating factor in the SHOP Exchange that may affect employee premiums. In addition, wellness programs resulting in a premium subsidy are becoming more common. The proposed regulations did not address the impact of a tobacco surcharge or wellness program on the uniform percentage requirement. The final regulations provide that a tobacco surcharge applicable to coverage acquired on a SHOP Exchange and amounts paid by the employer to cover the surcharge are not included in premiums for purposes of calculating the uniform percentage requirement, nor are payments of the surcharge treated as premium payments for purposes of the credit. The final regulations also provide that the uniform percentage requirement is applied without regard to employee payment of the tobacco surcharges in cases in which all or part of the employee tobacco surcharges are not paid by the employer.

The final regulations provide that, for purposes of meeting the uniform percentage requirement, any additional amount of the employer contribution attributable to an employee's participation in a wellness program over the employer contribution with respect to an employee that does not participate in the wellness program is not taken into account in calculating the uniform percentage requirement, whether the difference is due to a discount for participation or a surcharge for nonparticipation. The employer contributions for employees that do not participate in the wellness program must be at least 50 percent of the premium (including any premium surcharge for nonparticipation). However, for purposes of computing the credit, the employer contributions are taken into account, including those contributions attributable to an employee's participation in a wellness program.

For a discussion of small employers eligible for the health insurance credit, see Parker Tax ¶109,105.

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Plausible Basis Is Standard for Challenging Improper Motive for Issuing Summons, Supreme Court Holds

A person receiving a summons is entitled to contest it in an adversarial enforcement proceeding and, while the person objecting must offer some credible evidence to support a claim of improper motive on behalf of the IRS, circumstantial evidence can suffice. U.S. v. Clarke, 2014 PTC 300 (S. Ct. 6/19/14).

The IRS issued summonses under Code Sec. 7602(a) to Michael Clarke and three others for information and records relevant to the tax obligations of Dynamo Holdings L. P. When the taxpayers failed to comply, the IRS brought an enforcement action in district court. The taxpayers challenged the IRS's motives in issuing the summonses, seeking to question the responsible agents. The district court denied the request and ordered the summonses enforced. The court characterized the taxpayers' arguments as conjecture and incorrect as a matter of law. The Eleventh Circuit reversed, holding that the district court's refusal to allow the taxpayers to examine the agents constituted an abuse of discretion, and that court precedent entitled them to conduct such questioning regardless of whether they had presented any factual support for their claims.

In a unanimous opinion, the Supreme Court vacated and remanded the case to the Eleventh Circuit, holding that a taxpayer has a right to conduct an examination of IRS officials regarding their reasons for issuing a summons when the taxpayer points to spefacts or circumstances plausibly raising an inference of bad faith. Thus, the Court said, a person receiving a summons is entitled to contest it in an adenforcement proceeding. The Court noted, however, that because such proceedings are summary in nature, the only relevant question is whether the summons was issued in good faith. Prior case law, the Court observed, supports a requirement that a summons objector cannot offer merely naked allegations, but some credible evidence to support a claim of improper motive. According to the Court, circumstantial evidence can suffice to meet that burden, and a fully developed case is not required. The taxneed only present a plausible basis for his charge, the Court said.

In the instant case, the Supreme Court found that the Eleventh Circuit applied a categorical rule demanding the examination of IRS agents without assessing the plausibility of the taxpayers' submissions. On remand, the Court ordered the Eleventh Circuit to consider those submissions in light of the standard set forth by the Court, giving appropriate deference to the district court's ruling on whether the taxpayers had shown enough to entitle them to examine the IRS agents.

For a discussion of the IRS's summons authority, see Parker Tax ¶263,120.

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IRS Unveils Voluntary Return Preparer Education Program; Modifies Rules Relating to Unenrolled Preparers

The IRS is launching a new, voluntary Annual Filing Season Program, designed to encourage tax return preparers who are not attorneys, certified public accountants (CPAs), or enrolled agents to complete continuing education courses for the purpose of increasing their knowledge of the law relevant to federal tax returns. Rev. Proc. 2014-42 (6/30/14).

Last year, the IRS began a mandatory program of education and testing for unregulated tax return preparers who did not have professional credentials. However, that program was suspended when the D.C. Circuit Court, in Loving v. IRS, 2014 PTC 73 (D.C. Cir. 2014), affirmed a lower court ruling and held that the IRS did not have the legal authority to require education and testing. As a temporary substitute, the IRS is now launching a new voluntary program called the Annual Filing Season Program. In Rev. Proc. 2014-42 (6/30/14), the IRS provides guidance on the new program and what practitioners have to do to earn a "Record of Completion," which tells the public that that the tax return preparer has met the applicable IRS requirements with respect to tax returns or claims for refund prepared and signed during the calendar year for which the Record of Completion is issued.

Observation: As part of its efforts to get the word out about the new voluntary program, the IRS will be rolling out a public awareness campaign for the 2015 tax season to help educate the public about the value that competent, qualified return preparers provide. This will include highlighting the importance of either being a credentialed preparer like a CPA, enrolled agent (EA) or attorney, or participating in the IRS's voluntary program.

While Rev. Proc. 2014-42 is generally effective as of June 30, 2014, one section of the procedure significantly modifies current rules for unenrolled tax return preparers and will not take effect until after December 31, 2015. Under that section, Rev. Proc. 81-38 is superseded for tax returns and claims for refund prepared and signed (or prepared if there is no signature space on the form) after December 31, 2015. Rev. Proc. 81-38 allows an unenrolled tax return preparer to represent a taxpayer during an audit if the tax return preparer prepared and signed the taxpayer's return that is under audit (or prepared the taxpayer's return that is under audit if there is no signature space on the form). As a result, unenrolled tax return preparers may not rely on Rev. Proc. 81-38 to represent taxpayers during an audit of a tax return or claim for refund prepared or signed after December 31, 2015.

In announcing the program last week, IRS Commissioner John Koskinen said that "about 60 percent of paid tax return preparers in the U.S. operate without regulation or oversight. Although many of them do a good job, we have found that others are poorly equipped to assist taxpayers in preparing returns." He also noted that the IRS has been urging Congress to enact a proposal in the President's Fiscal Year 2015 Budget that would give the IRS authority for mandatory oversight of return preparers. Koskinen said that the IRS is developing a database of qualified tax return preparers that will be available on the IRS website by January 2015. The database will include the unregulated preparers who choose to participate in the IRS's voluntary education program and will also include practitioners who already have higher levels of qualification and practice rights, and who don't need the IRS program. These include attorneys, CPAs, EAs, enrolled retirement plan agents, and enrolled actuaries who are registered with the IRS.

Annual Filing Season Program Requirements

Applicants must apply for the Annual Filing Season Program by using the online PTIN application system or by filing IRS Form W-12, IRS Paid Preparer Tax Identification Number (PTIN) Application and Renewal (or successor form). The applicant must sign the application under penalties of perjury and include any required supporting information and documentation. Applications must be received by April 15 of the year for which the Record of Completion is sought. The IRS will not consider applications received after April 15.

To qualify for the Annual Filing Season Program, applicants must be eligible for, and obtain, a paid preparer identification number (PTIN), or timely renew their existing PTIN. The PTIN must be valid for the year for which the Record of Completion is sought.

Only applicants who successfully complete an annual federal tax filing season refresher course that is administered by an IRS-approved continuing education provider are eligible to participate in the Annual Filing Season Program. The refresher course must generally cover tax law and filing requirements relevant to Form 1040 series returns and schedules. The refresher course must be six hours and must include a test of the material presented during the course that is given at the end of the course. The test must be a minimum of 100 questions. To successfully complete the refresher course, the applicant must pass the related test by answering 70 percent of the questions correctly (or a higher percentage if set forth in forms, instructions, or other appropriate IRS guidance).

The following applicants are not required to take the refresher course as a condition of eligibility to apply for a Record of Completion:

(1) attorneys, CPAs, and EAs described in Circular 230, Section 10.3;

(2) individuals who passed the registered tax return preparer (RTRP) examination; and

(3) tax return preparers who are licensed or registered by any state, territory, or possession of the United States, including a Commonwealth, or the District of Columbia after passing an exam covering federal tax matters; and tax return preparers who have passed an exam covering federal tax matters administered by an entity recognized by the IRS as an eligible entity for this purpose.

Observation: The RTRP exam mentioned above was the exam given by the IRS before the IRS's mandatory program of education and testing for unregulated tax return preparers who did not have professional credentials was shut down. This provision in Rev. Proc. 2014-42 implies that preparers who took and passed that test will not have to take the refresher course as a condition of eligibility to apply for a Record of Completion.

Applicants required to complete the refresher course must successfully complete 18 hours of continuing education from an IRS-approved continuing education provider during the calendar year before the year for which the Record of Completion is sought. The total hours completed must consist of two hours of ethics or professional responsibility, 10 hours of federal tax law topics, and six hours of federal tax law updates.

Observation: Thus, for example, to receive a Record of Completion that will be effective for tax returns and claims for refund prepared and signed during the 2016 calendar year, an applicant must have completed 18 hours of continuing education meeting the applicable requirements during 2015.

Applicants exempt from the refresher course must successfully complete 15 hours of continuing education from an IRS-approved continuing education provider during the calendar year before the year for which the Record of Completion is sought. The total hours completed must consist of two hours of ethics or professional responsibility, 10 hours of federal tax law topics, and three hours of federal tax law updates.

Effective Dates for a Record of Completion

The Record of Completion is effective for one calendar year. Once issued, the Record of Completion is effective for tax returns and claims for refund prepared and signed from the later of January 1 of the year covered by the Record of Completion or the date the Record of Completion is issued, until December 31 of that year. For example, if an application is submitted on February 15, 2015, and a Record of Completion is issued on February 25, 2015, the tax return preparer's 2015 Record of Completion will be effective for tax returns and claims for refund prepared and signed from February 25, 2015, through December 31, 2015.

Transition Rule

Applicants for the Annual Filing Season Program for the 2015 calendar year must complete 11 hours of continuing education during 2014. For applicants who must complete the refresher course, the refresher course will satisfy six hours of the 11-hour requirement; the other five hours must consist of three hours of federal tax law topics and two hours of ethics or professional responsibility. Applicants not required to take the refresher course must complete eight hours of continuing education consisting of three hours of federal tax law updates, three hours of federal tax law topics, and two hours of ethics or professional responsibility.

Consent to be Subject to Circular 230

As a prerequisite to participating in the Annual Filing Season Program and receiving a Record of Completion, an applicant must consent to be subject to the duties and restrictions relating to practice before the IRS and Section 10.51 of Circular 230 for the entire period covered by the Record of Completion.

Individuals Ineligible to Participate in the Annual Filing Season Program

The following individuals are ineligible to participate in the Annual Filing Season Program:

(1) An individual who is disbarred, suspended, or disqualified from practice before the IRS under Circular 230, during the period for which the individual is disbarred, suspended, or disqualified.

(2) An individual who has been convicted of a felony involving a financial matter, tax matter, or other violation of the public trust within the five-year period preceding the date of the application to participate in the Annual Filing Season Program.

(3) An individual who is enjoined from representing persons before the IRS, preparing tax returns, or engaging in other conduct subject to injunction under Code Sec. 7407, for the period during which the injunction is in effect.

(4) An individual who engaged in misconduct that would have violated Circular 230 if the individual were subject to Circular 230, including knowingly providing false or misleading information, or participating in providing false or misleading information, to the IRS.

(5) An individual who is not in compliance with his or her personal federal tax obligations (including employment taxes for which the applicant is personally liable), for the period of that noncompliance. The fact that the applicant is in a dispute with the IRS regarding a federal tax liability or has entered into an installment agreement (that is not in default), an offer-in-compromise, or both to satisfy a federal tax liability will not be treated as noncompliant with a personal federal tax obligation for purposes of this rule.

(6) An individual who has his or her Annual Filing Season Program Record of Completion revoked, for the period that the IRS determines, based on the facts and circumstances, that the individual is ineligible.

(7) An individual who does not comply with the requirements of Rev. Proc. 2014-42.

Restrictions on the Use of Certain Terms in Connection with a Record of Completion

A tax return preparer who receives a Record of Completion cannot use the term "certified," "enrolled," or "licensed" to describe this designation or in any way imply an employer/employee relationship with the IRS. Nor can a tax return preparer make representations that the IRS has endorsed the tax return preparer. A tax return preparer who receives a Record of Completion for a calendar year may represent that he or she holds a valid Annual Filing Season Program Record of Completion for that calendar year and has complied with the IRS requirements for receiving the Record of Completion.

Changes for Unenrolled Tax Return Preparers

As previously noted, Rev. Proc. 2014-42 changes the rules for unenrolled tax return preparers. While Rev. Proc. 81-38 currently allows an unenrolled tax return preparer to represent a taxpayer before the IRS during an audit if the unenrolled tax return preparer prepared and signed the taxpayer's return that is under audit (or prepared the taxpayer's return that is under audit if there is no signature space on the form), this will no longer be the case for tax years after 2015.

For tax years after 2015, Rev. Proc. 81-38 is superseded, and only unenrolled tax return preparers who obtain a Record of Completion can represent taxpayers before the IRS during an audit of a tax return or claim for refund that they prepared and signed (or prepared if there is no signature space on the form), provided the individual:

(1) has a valid Annual Filing Season Program Record of Completion for the calendar year in which the tax return or claim for refund was prepared and signed; and

(2) has a valid Annual Filing Season Program Record of Completion for the year or years in which the representation occurs.

The representation permitted under Rev. Proc. 2014-42 does not allow an individual who has a Record of Completion to represent the taxpayer before appeals officers, revenue officers, Counsel, or similar officers or employees of the IRS.

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Refusal to Pick Up Mail Precludes Ability to Schedule CDP Hearing and Contest Levy

A taxpayer could not decline to retrieve his mail when he was reasonably able and had multiple opportunities to do so, and thereafter successfully contend that he did not receive a notice of deficiency for purposes of scheduling a collection due process hearing. Onyango v. Comm'r, 142 T.C. No. 24 (6/24/14).

Eric Onyango timely filed his 2006 tax return and reported a tax liability of approximately $1,600 on that return. He subsequently filed two amended returns for 2006 and the IRS issued a deficiency notice for that year. Eric's 2007 tax return was audited and the IRS issued a notice of deficiency for that year. An IRS Appeals Office sent a letter to Eric at his address of record and scheduled a meeting to discuss the proposed adjustments. Eric did not show up for the meeting. The IRS sent another letter advising Eric that if he did not contact the Appeals officer within 20 days, notices of deficiency would be issued for 2006 and 2007. Eric did not contact the Appeals Officer.

On several occasions, the U.S. Postal Service attempted, albeit unsuccessfully, to deliver to Eric a notice of deficiency that the IRS had mailed to him by certified mail, return receipt requested, and addressed to his legal residence. On at least two occasions the Postal Service left notices of attempted delivery of the certified mail which contained the notice of deficiency at the address of Eric's legal residence. In those notices, the Postal Service informed Eric that it had certified mail to deliver to him and that he had to sign a receipt for that mail before the Postal Service would deliver it to him. Eric declined to check on a regular basis his mailbox at his legal residence and to retrieve on a regular basis any Postal Service mail items delivered there. After several unsuccessful attempts to deliver the certified mail to Eric at his legal residence, the Postal Service returned it to the IRS.

In 2011, the IRS issued Eric a notice of federal tax lien filing which discussed his right to a hearing under Code Sec. 6320 for the tax years at issue. Eric sent the IRS Form 12153, Request for a Collection Due Process or Equivalent Hearing, with respect to the notice of federal tax lien filing, in which he requested a hearing. The only year for which Eric was contesting his tax liability was 2006. Subsequently, after Eric provided certain documentation to the IRS Appeals Officer, that officer spoke by telephone with Eric about the matter. Several months later, the IRS issued to Eric a notice of determination concerning collection action(s) under Code Sec. 6320 and/or Code Sec. 6330, in which the IRS sustained the tax lien filing.

Eric took his case to the Tax Court where the only issue before the court was whether Eric was entitled under Code Sec. 6330(c)(2)(B) to dispute his tax liability for 2006. Under Code Sec. 6330(c)(2)(B), a person may challenge at a hearing with the IRS the existence or amount of an underlying tax liability for any tax period if the person did not receive any statutory notice of deficiency for such tax liability or did not otherwise have an opportunity to dispute such tax liability. Eric argued that he was entitled under Code Sec. 6330(c)(2)(B) to contest the underlying tax liability because, although the IRS mailed the 2006-2007 notice of deficiency to him at his address of record, he did not receive that notice within the 90-day period during which he could have filed a petition with the court with respect to that notice. In support of that contention, Eric relied on his testimony before the court. The IRS countered that although the post office returned the 2006-2007 notice to the IRS after several unsuccessful attempts to deliver it to Eric, Eric "chose not to accept delivery." According to the IRS, Eric's testimony to the contrary was not credible and "should be given no weight."

The Tax Court agreed with the IRS and held that Eric could not decline to retrieve his mail when he was reasonably able and had multiple opportunities to do so, and thereafter successfully contend that he did not receive for purposes of Code Sec. 6330(c)(2)(B) a notice of deficiency. The court also rejected Eric's contention that he was entitled under Code Sec. 6330(c)(2)(B) to dispute the underlying tax liability to which the notice of deficiency pertained.

For a discussion of the rules relating to a collection due process hearing, see Parker Tax ¶260,540.

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Tax Court Modifies April Opinion to Deny "Inequitable" Windfall to IRS

In a rare occurrence, the Tax Court modified a recent opinion, using the doctrine of equitable recoupment, to reduce the tax liability and penalty assessment previously imposed on a taxpayer. Frank Sawyer Trust of May 1992 v. Comm'r, T.C. Memo. 2014-128 (6/25/14).

Mildred Sawyer was the sole beneficiary of the Frank Sawyer Trust of May 1992. She died in 2000 and, for estate tax purposes, her gross estate included all the trust's property, including the stock of four C corporations. Later that year, the trust sold two of the corporations. The sale prices totaled over $32 million, although the fair market values of the shares of stock were considerably less. The estate filed its estate tax return in December of 2000, and valued the shares at their inflated sales prices.

The trust received a step-up in basis for the stock of each of the four C corporations when their stock was included in the gross estate. When it filed its estate tax return, the estate valued the stock of the corporations it had sold at their sale prices. Because the sale prices matched the trust's stepped-up bases, the trust did not recognize any gain on the sales. The trust then sold the other two corporations' shares of stock in 2001, again for prices exceeding their fair market values. The sale prices also exceeded the trust's bases in the shares, which had been stepped up to fair market value at the decedent's death. On the trust's 2001 fiduciary income tax return, it reported gains of approximately $14 million on the sales. The gains resulted in part from the inflated sale prices the purchaser of the corporations was willing to pay because it anticipated avoiding the corporations' income tax liabilities.

The IRS assessed penalties against the four corporations stemming from their 2000 and 2001 income tax returns. Before the IRS could collect against the corporations, the corporations rendered themselves insolvent by transferring all their assets to other entities. A dispute arose as to whether the trust was liable to the IRS, under Code Sec. 6901, for the corporations' unpaid taxes and penalties. The Tax Court concluded that the trust was not liable because the IRS failed to prove that the trust had knowledge of the new shareholders' asset-stripping scheme and because the IRS did not show that any of the corporation's assets were transferred directly to the trust.

The IRS appealed to the First Circuit which generally upheld the Tax Court. However, the First Circuit disagreed with the Tax Court insofar as the Tax Court construed Massachusetts fraudulent transfer law to require, as a prerequisite for the trust's liability, either (1) that the trust knew of the new shareholders' scheme; or (2) that the corporations transferred assets directly to the trust. The IRS, the court noted, had presented evidence of fraudulent transfers from the four companies to various acquisition vehicles, and the acquisition vehicles purchased the four companies from the trust. According to the First Circuit, if the Tax Court found that at the time of the purchases, the assets of these acquisition vehicles were unreasonably small in light of their liabilities and that the acquisition vehicles did not receive reasonably equivalent value in exchange for the purchase prices, then the trust could be held liable for taxes and penalties assessed upon the four corporations regardless of whether it had any knowledge of the new shareholders' asset-stripping scheme. The First Circuit remanded the case to the Tax Court to determine whether the conditions for liability were met in the instant situation.

In April, in Frank Sawyer Trust of 1992 v. Comm'r, T.C. Memo. 2014-59, the Tax Court held that the trust was liable under Code Sec. 6901 as a transferee of a transferee but that its liability was limited to the excess it received over the fair market value of the corporations it sold. After that decision, the trust returned to the Tax Court and asked the court to reconsider and modify the portion of its opinion that related to the amount of its liability. Specifically, the trust asked whether, under the equitable recoupment doctrine, its liability should be reduced for income tax it overpaid and estate tax the Estate of Mildred Sawyer overpaid, and whether the trust was liable for the accuracy-related penalties of almost $4 million that the IRS had assessed against the four C corporations.

While agreeing that the trust satisfied two of the four elements necessary for applying equitable recoupment, the IRS argued that the trust did not satisfy the following elements: (1) the time-barred overpayment or deficiency arose out of the same transaction, item, or taxable event as the overpayment or deficiency before the court, and (2) the transaction, item, or taxable event had been inconsistently subjected to two taxes. With respect to the first element, the IRS contended that the estate's estate tax liability and the C corporations' income tax liabilities arose out of different transactions. Thus, the IRS said that equitable recoupment did not apply.

The Tax Court agreed to modify its prior opinion and reduced the trust's tax liability by the amount of the estate tax overpayment resulting from the trusts' misevaluation of corporate stock. In so doing, the court held that the trust satisfied all the elements for equitable recoupment to apply. With respect to the IRS's argument that the estate's estate tax liability and the C corporations' income tax liabilities arose out of different transactions, the court noted that the overpayment arose from a single item: the stock of the corporations sold in 2000. That stock was overvalued, the court noted, and thus the estate overpaid its estate taxes. The overvaluation resulted from the inflated prices paid by the purchaser of the stock and that overpayment was directly tied to the income tax liabilities the trust was contending should be offset.

With respect to the IRS's argument about the other element necessary for equitable recoupment to apply, the Tax Court said that the trust had to show that the transaction, item, or taxable event had been inconsistently subjected to two taxes. The two taxes involved were the estate's estate tax and trust's (as transferee) income tax. The estate valued two of the corporations' shares of stock at their sale prices and paid estate tax on the basis of those amounts. The sale prices would have reflected fair market value only if the corporations could have avoided paying the full amounts of their tax liabilities. The IRS, the court said, assessed the full amounts of the liabilities against the corporations and was now attempting to assess them against the trust. The IRS did not offset the liabilities by the estate's overpayment of estate tax attributable to its overvaluation of the corporations' stock, the court observed. In other words, the IRS assessed the estate's estate tax as if the corporations would not have to pay their full income tax liabilities, but was subsequently attempting to collect the full income tax liabilities. On these facts, the court concluded, the equitable recoupment test was satisfied.

Finally, the court held that the conduct that gave rise to the accuracy-related penalties (i.e., substantially understating income tax) occurred many months after the transfers and the IRS did not prove that the transfer was made with the intent to defraud future creditors. As a result, the Tax Court declined to hold the trust liable as a transferee for the accuracy-related penalties.

For a discussion of equitable recoupment, see Parker Tax ¶261,180.

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Merged Corporations Are the "Same Taxpayer" for Interest Netting Purposes

In a case of first impression, the Court of Federal Claims concluded that, following a merger, the entities that merged become one and the same as a matter of law and thus become the "same taxpayer" for purposes of interest netting. Wells Fargo & Company v. U.S., 2014 PTC 317 (Fed. Cl. 6/27/14).

In 1998, Norwest Corporation acquired Wells Fargo & Company (Old Wells Fargo) through a forward triangular merger under Code Sec. 368(a)(1)(A) and Code Sec. 368(a)(2)(D). Old Wells Fargo merged into WFC Holdings, Corp. (WFC), and Old Wells Fargo's separate existence was terminated. Norwest changed its name to Wells Fargo & Company, acquired the assets and assumed the liabilities of Old Wells Fargo, and became the common parent of the affiliated corporations that were previously members of Old Wells Fargo's consolidated group.

In 1997 and 1998, First Union merged with Signet Banking Corporation and CoreStates Financial Corporation, respectively. In 2001, First Union merged with Wachovia Corporation in a Code Sec. 368(a)(1)(A) transaction. First Union survived the merger, while Wachovia's separate existence was terminated. First Union acquired the assets and assumed the liabilities of Old Wachovia, and became the common parent of the affiliated corporations that were previously members of Wachovia's consolidated group. First Union changed its name to Wachovia Corporation (New Wachovia). In 2008, New Wachovia and Wells Fargo merged in a Code Sec. 368(a)(1)(A) merger. Wells Fargo survived the merger, and New Wachovia's separate existence was terminated. Wells Fargo acquired the assets and assumed the liabilities of New Wachovia, and became the common parent of the affiliated corporations that were previously members of New Wachovia's consolidated group.

In 2012, Wells Fargo filed 64 separate claims for a refund for interest overpayments based on the application of the interest netting authorized under Code Sec. 6621(d). Code Sec. 6621(d) was enacted in 1998 to allow for "global netting" on interest rates for tax overpayments and tax underpayments by the "same taxpayer" in order to address the disparity between the higher interest rate imposed on tax underpayments and the lower interest rate applied when the IRS pays a refund on tax overpayments. After the IRS disallowed the refund claims, the case ended up before the Court of Federal Claims. The issue presented was one of first impression regarding the application of Code Sec. 6621(d) to corporations that have acquired other corporations or been acquired through a statutory merger. Under Code Sec. 6621(d), interest rates may be netted to zero when there are overlapping overpayments and underpayments by the "same taxpayer" during the same period. Specifically, the issue before the court was whether Wells Fargo was entitled to net the interest paid on certain tax underpayments owed by Wells Fargo or its predecessor, First Union, with the interest owed by the IRS to Wells Fargo on overpayments made by First Union or other companies acquired by Wells Fargo through the various corporate mergers.

Wells Fargo argued that the term "same taxpayer" includes both predecessors of the surviving corporation in a statutory merger and that, as a result, the statute allows for interest netting regardless of whether the overlapping overpayments and underpayments involve corporations that were separate until the merger is carried out. According to Wells Fargo, following a merger, the entities become one and the same as a matter of law and thus become the "same taxpayer" for purposes of interest netting.

The IRS argued that the phrase "same taxpayer" is narrower and that taxpayers should only be considered the "same" for purposes Code Sec. 6621(d) if they had the same taxpayer identification number at the time of the initial tax overpayment or underpayment, regardless of whether the entities later merged and the surviving entity became a single entity for tax purposes.

Wells Fargo and the IRS identified three test claims, based on scenarios representing three different merger transactions, to test the application of Code Sec. 6621(d). The first scenario addressed whether interest netting is allowed in connection with underpayments and overpayments between a pre-merger acquiring corporation and a pre-merger acquired corporation. The second scenario addressed whether interest netting was allowed in connection with underpayments and overpayments between a pre-merger acquiring corporation and the post-merger surviving corporation. The third scenario addressed whether interest netting is allowed between the pre-merger acquired corporation and the post-merger surviving corporation.

The Court of Federal Claims held that the merged corporations are the "same taxpayer" for purposes of Code Sec. 6621(d) based on the undisputed principles of corporate law, as well as IRS rules governing statutory mergers and IRS guidance. Thus, for each of the three scenarios presented, the court allowed interest netting.

The court also found the IRS's position regarding whether the parties to a statutory merger become the "same taxpayer" for tax purposes inconsistent with the few IRS rulings on the question of the tax liability of a surviving corporation for the tax of an acquired corporation following a merger. According to the court, whenever the IRS has determined sameness in situations involving statutory mergers, as opposed to those involving consolidated groups, the IRS has found that the acquired corporation is the same taxpayer as the surviving corporation.

For a discussion of the interest netting rule of Code Sec. 6621(d), see Parker Tax ¶261,550.

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Unused ITINS to Expire After 5 Years; Deactivation Begins in 2016

Individual taxpayer identification numbers will expire if not used on a federal income tax return for five consecutive years. IR-2014-76 (6/30/14).

This week, the IRS announced a new policy change regarding individual taxpayer identification numbers (ITINs). Under this policy, ITINs will expire if not used on a federal income tax return for five consecutive years. To give taxpayer and practitioners time to adjust and to allow the IRS to reprogram its systems, the IRS will not begin deactivating ITINs until 2016.

The new, more uniform policy applies to any ITIN, regardless of when it was issued. According to the IRS, only about a quarter of the 21 million ITINs issued since the program began in 1996 are being used on tax returns. The new policy will ensure that anyone who legitimately uses an ITIN for tax purposes can continue to do so, while at the same time resulting in the likely eventual expiration of millions of unused ITINs.

The new policy was developed in consultation with taxpayers, their representatives, and other stakeholders and replaces the existing procedure, which only recently went into effect on January 1, 2013. Under the old policy, ITINs issued after January 1, 2013, would have automatically expired after five years, even if used properly and regularly by taxpayers. Though ITINs issued before 2013 were unaffected by that change, the IRS said at the time that it would explore options for deactivating or refreshing the information relating to these older ITINs.

ITINs, the IRS said, play a critical role in the tax administration system and assist with the collection of taxes from foreign nationals, resident and nonresident aliens and others who have filing or payment obligations under U.S. law. Designed specifically for tax administration purposes, ITINs are only issued to people who are not eligible to obtain a social security number.

Under the new policy: (1) an ITIN will expire for any taxpayer who fails to file a federal income tax return for five consecutive tax years; and (2) any ITIN will remain in effect as long as a taxpayer continues to file U.S. tax returns. This includes ITINs issued after January 1, 2013. These taxpayers will no longer face mandatory expiration of their ITINs and the need to reapply starting in 2018, as was the case under the old policy.

Compliance Tip: A taxpayer whose ITIN has been deactivated and who needs to file a U.S. return can reapply using Form W-7, Application for IRS Individual Taxpayer Identification Number. As with any ITIN application, original documents, such as passports, or copies of documents certified by the issuing agency must be submitted with the form.

For a discussion of ITINs, see Parker Tax ¶250,135.

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Seventh Circuit Uphold Sentence of Chicago Politician for Tax Crimes

The conviction of a former Chicago alderman for not reporting the conversion of campaign funds for personal use was affirmed. Beavers v. U.S., 2014 PTC 319 (7th Cir. 6/30/14).

William Beavers was a Chicago alderman from 1983 until November 2006. His federal tax returns from 2005 to 2008 exhibited numerous inaccuracies. The first inaccuracy was William's underreporting of his 2005 income. Each of William's campaign committees was required to file semi-annual disclosure reports listing its expenditures. For the first half of 2005, William did not list the total amount received from the campaign committees as income, as he was required to do.

The second inaccuracy concerned William's undeclared use of campaign funds of over $68,000 to increase his pension annuity shortly before he left his position as a Chicago alderman. The third inaccuracy concerned the monthly stipends that William took as a Cook County Commissioner. In addition to his salary, he also received a monthly stipend of $1,200 but he did not report these monthly checks on his tax returns for 2006, 2007, or 2008. The fourth problem was that, between 2006 and 2008, William wrote himself 100 checks totaling $226,300 from his three campaign-committee accounts, often to be used to finance his gambling trips to the Horseshoe Casino in Hammond, Indiana. The fifth problem concerned William's efforts to obstruct the IRS.

In April of 2009, federal agents approached William and said they wanted to interview him in connection with a grand jury investigation into his unreported conversion of campaign funds for personal use. Beavers then took several corrective actions, including filing amended returns to report additional income and repaying certain campaign fund distributions. In 2012, William was charged with three counts of violating Code Sec. 7206(1), which prohibits willfully making a false statement as to a material matter on a tax return, and with violating Code Sec. 7212(a), which prohibits corruptly obstructing the IRS in its administration of the tax laws. The jury convicted William on all counts. He was sentenced to six months imprisonment and was ordered to pay approximately $31,000 in restitution and a $10,000 fine. He appealed to the Seventh Circuit.

Before the Seventh Circuit, William argued that the district court erred by excluding evidence of his conduct after federal agents approached him namely his filing of amended tax returns and the payments to reimburse his campaign committees. He also argued that the county should have known that he was taking the stipend payments as income and should therefore have included these payments as income on his W-2s.

The Seventh Circuit affirmed William's conviction. With respect to his argument that the district court excluded evidence, such as his filing of amended returns, the court noted that the district court did not exclude the evidence entirely. Rather, the district court simply conditioned the evidence's admission on some kind of showing of its relevance to William's state of mind at the time he filed his original returns several years earlier. With respect to the W-2 issue, the court noted that William received his 2007 and 2008 W-2s from the county before he advised the county each year that he would take the $1,200 monthly stipends as income. This timeline strongly suggested to the court that William could not have reasonably relied on a document that he knew understated his income.

For a discussion of the penalties for false and fraudulent statements made on a tax return, see Parker Tax ¶265,110.

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One Month Is Maximum Length for Orientation Period for Purposes of ACA Waiting Period

If an orientation period does not exceed one month, and the maximum 90-day waiting period for group health insurance eligibility begins on the first day after the orientation period, a condition of completing a 30-day orientation period is not considered to be designed to avoid compliance with the 90-day waiting period limitation. T.D. 9671 (6/25/14).

Earlier this year, the IRS issued final regulations under the Affordable Care Act which provide a group health plan and a health insurance issuer offering group health insurance coverage cannot apply any waiting period in excess of 90 days. The regulations define "waiting period" as the period that must pass before coverage for an employee or dependent who is otherwise eligible to enroll under the terms of a group health plan can become effective. Being otherwise eligible to enroll in a plan means having met the plan's substantive eligibility conditions (e.g., being in an eligible job classification, achieving job-related licensure requirements specified in the plan's terms, or satisfying a reasonable and bona fide employment-based orientation period).

At the same time it issued the final regulations, the IRS issued proposed regulations which addressed orientation periods under the 90-day waiting period limitation. Those proposed regulations have now been finalized and provide that one month is the maximum allowed length of any reasonable and bona fide employment-based orientation period. Under the regulations, if a group health plan conditions eligibility on an employee's having completed a reasonable and bona fide employment-based orientation period, the eligibility condition is not considered to be designed to avoid compliance with the 90-day waiting period limitation if the orientation period does not exceed one month and the maximum 90-day waiting period would begin on the first day after the orientation period.

The orientation period provision of the final regulation is effective on August 25, 2014.

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