Taxpayers often find creative ways to avoid taxes. As a consequence, various common law doctrines have developed that permit the IRS to recharacterize transactions for tax purposes, including the substance-over-form doctrine, the economic substance doctrine, and the step transaction doctrine.
Under the economic substance doctrine, courts examine whether transactions had a business purpose beyond achieving tax benefits and whether they had a realistic prospect of generating profits. Recently, the First Circuit applied the economic substance doctrine to invalidate a foreign tax credit shelter. Santander Holdings USA, Inc. v. United States, 844 F.3d 15, 22-24 (1st Cir. 2016). The economic substance doctrine is quite flexible, and some judges have expressed concern that it amounts to little more than a smell test: “I can’t help but suspect that the majority’s conclusion .… Read More
Jack Townsend’s excellent blog Tax Crimes covered an interesting case that involved an attempt to challenge a penalty under the Bank Secrecy Act (the “Act”), Kentera v. United States, No. 16-cv-1020-JPS, 2017 U.S. Dist. LEXIS 12450 (E.D. Wisc. Jan. 30, 2017). The Kenteras sought to challenge penalty assessments issued because they failed to file a Report of Foreign Bank and Financial Accounts, which is known as an FBAR, for several years. The FBAR reporting obligation is imposed under the Act. See 31 U.S.C. § 5314. The Kenteras were subjected to a series of penalty assessments for a series of violations; the largest penalty assessment for any year was $10,000, which is the ceiling for non-willful violations.… Read More
The Internal Revenue Code provides a deduction for a qualified conservation contribution, such as an easement or an outright donation of property for conservation purposes. See I.R.C. § 170(f)(3)(B)(iii) (providing deduction for a qualified conservation contribution). There are a variety of technical requirements in place that determine whether a particular contribution of property falls within section 170(f)(3)(B)(iii). See I.R.C. § 170(h) (describing requirements for deductible donation). The government has been fairly aggressive in pursuing litigation over the requirements for a deduction. See, e.g., Mitchell v. Comm’r, 775 F.3d 1243 (10th Cir. 2015); Carroll v. Comm’r, 146 T.C. 196 (2016).… Read More
On January 17th, the Tax Court issued an interesting memorandum decision addressing self-employment tax liability. Hardy v. Comm’r, T.C. Memo 2017-16, 2017 Tax Ct. Memo LEXIS 17 (Jan. 17, 2016). In Hardy, a clever structure limited the self-employment tax exposure of a plastic surgeon.
Dr. Hardy operated his practice through a single-member professional limited liability company managed by his wife. Hardy, 2017 Tax Ct. Memo LEXIS 17 at **3. Some of Dr. Hardy’s surgeries were conducted at a facility known as the Missoula Bone & Joint Surgery Center (“MBJ”). Id. at **1. MBJ was a limited liability company organized by a group of physicians to own and operate a surgery center; it was treated as a partnership for federal income tax purposes.… Read More
If paying taxes is painful, paying someone else’s taxes hurts even more.
A recent district court case offers a cogent example: A scrap metals business in Alabama lost a battle with the IRS, which sought to enforce a federal tax lien against property acquired from a delinquent taxpayer; as in many of these cases, greater care on the part of the purchaser would have avoided the problem. United States v. Urioste, No. 4:15-CV-1787-VEH, 2017 U.S. Dist. LEXIS 4442 (N.D. Ala. Jan. 12, 2017).
Michael Urioste, the taxpayer, died leaving over $576,000 in delinquent income taxes and approximately $535,000 in delinquent employment taxes outstanding.… Read More
Last week, a district court addressed a series of refund claims that had an unusual jurisdictional complication: The Taxpayers initiated the refund claims while they were debtors in a Chapter 7 bankruptcy case, and the refunds they sought were property of the bankruptcy estate. The government sought to dismiss their refund action on a variety of grounds; while the motion was denied, the resulting opinion addresses a number of interesting issues concerning the complications that a bankruptcy case can add to a refund claim. Martin v. United States, No. 3:13-cv-03130, 2017 U.S. Dist. LEXIS 1285 (C.D. Ill. Jan. 5, 2017).… Read More
Not all federal tax assessments are subject to the Tax Court’s jurisdiction, which means that in some cases the taxpayer is left with a refund claim as the sole source of judicial review. Full payment of the disputed tax assessment is a jurisdictional prerequisite for a refund claim. Flora v. United States, 362 U.S. 145, 150-51 (1960). There is a limited exception to this requirement: If a tax is divisible, then a payment of the tax for one or more individual transactions will suffice to establish jurisdiction. See, e.g., Psaty v. United States, 442 F.2d 1154, 1159 (3d Cir.… Read More
The IRS and the Tax Division of the Department of Justice have expended significant effort fighting tax shelters, and they have enjoyed many successes in that endeavor. One transaction that the government challenged was known as “STARS,” an acronym for Structured Trust Advantaged Repackaged Securities. STARS was a transaction that Barclays promoted to a number of U.S. banks; it gave Barclays tax benefits in the United Kingdom, while the U.S. counterparties claimed significant foreign tax credits with minimal risk.
The IRS and the Tax Division pursued a series of cases attacking the STARS transaction as a tax shelter. Deploying the economic substance doctrine, the government obtained favorable rulings in two cases:
- In Bank of New York Mellon Corp.
… Read More
Because tax accounting is done annually, taxes are assessed on a basis that may prove inaccurate if a particular transaction is altered after the tax year has closed. For example, if a corporation deducts a state tax that it paid in one year, it would receive a windfall if the tax is invalidated and refunded in a later year. To rectify these situations, the tax benefit rule may apply to trigger income recognition if subsequent events are “fundamentally inconsistent” with a prior deduction. Hillsboro Nat’l Bank v. Comm’r, 460 U.S. 370, 383 (1983).
Last week, the Tax Court addressed the tax benefit rule, holding that death is not fundamentally inconsistent with a prior deduction for purchases of seed and other agricultural inputs associated with a farm; as a consequence, the farmer and his wife were able to deduct the same expenses twice in two consecutive years.… Read More
Under section 7121(a) of the Internal Revenue Code, the IRS is authorized to enter into a closing agreement with a taxpayer. Once a closing agreement is executed, it is “final and conclusive” and will be binding on both the taxpayer and the government in the absence of “fraud or malfeasance, or misrepresentation of a material fact.” I.R.C. § 7121(b). There are two types of closing agreements:
- Closing agreements that conclusively determine tax liability for a particular year or series of years; these are recorded on Form 866. Most closing agreements fit this model.
- There are also narrower closing agreements that resolve one or more specific issues; these are recorded on Form 906.
… Read More