Filing Tax Returns During the Silly Season

Posted October 7, 2013 by Phil Karter
Categories: Administrative, Humor, Tax Procedure

Tags: , , , , ,

For my fellow procrastinators whose federal tax returns are on extension, with the October 15th deadline rapidly approaching, perhaps the burning question has crossed your mind, “If I file electronically while the government is shut down, will my return be accepted?”  Yes, I can happily report that a return electronically submitted to the IRS at 3:43 p.m. this day was “accepted for filing” at 4:04 p.m., efficiency approaching a Michael Phelps-like performance. Perhaps the IRS has designed a system that operates better when it is staffed only by computers rather than by people.  Rube Goldberg, eat your heart out.

Filing Your Tax Return

–Phil Karter

Supreme Court Accepts Certiorari In Quality Stores

Posted October 1, 2013 by Phil Karter
Categories: Court Cases, Litigation

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By Phil Karter

The U.S. Supreme Court today accepted the government’s petition for certiorari in  United States v. Quality Stores (Civil No. 10-1563, 6th Cir. 2012), a case in which the Sixth Circuit affirmed a lower court’s decision that supplemental unemployment compensation benefit (SUB) payments are not taxable as wages and are consequently exempt from FICA taxes.  In accepting the case for consideration, the Supreme Court is expected to resolve a conflict between the Sixth Circuit and the Federal Circuit, which decided a prior case,  CSX Corp. v. United States, 518 F.3d 1328 (Fed. Cir. 2008), in favor of the government.

The case is of considerable interest to thousands of taxpayers, at least 2,400 of whom have filed administrative refund claims according to government estimates.  More than a billion dollars in potential tax refunds is riding on the ultimate outcome of this issue.   Quality Stores will be decided by eight justices, as Justice Elena Kagan is taking no part in the case.

For past coverage on this issue, please click here.

Cleaning Up After The Elephants – A Practical Reminder On Document Preservation Policies and Litigation Holds In Tax Disputes

Posted September 2, 2013 by Phil Karter
Categories: Administrative, Appeal, Audit, Corporate, Court Cases, Economic Substance, Litigation

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By Phil Karter

Any corporate tax executive who has ever been involved in contesting an audit adjustment knows all too well how unfavorable documents relating to the subject of the adjustment – particularly improvident comments reflected in email correspondences – can be an ongoing impediment to resolving a tax dispute from the audit phase right up to and through litigation with the IRS or Department of Justice.  When such documents exist, even where taken out of context, the government will zealously sink its teeth into them like a junkyard dog, making the prospects of reaching a reasonable settlement or gaining an IRS concession all the more difficult.  One can’t fault the government for taking a hardline position.  Precedent reflects that this is a good strategy, particularly in economic substance cases, as demonstrated by the numerous times these unfavorable documents work their way into the text of court opinions as the factual underpinning for an adverse finding against the taxpayer.  Like a Dickensian character, they will come back to haunt you again and again.

The solution, of course (conveniently ignoring the practical realities of many understaffed and overburdened tax departments), is for the tax function to do a better job of policing both document production and retention policies, particularly outside of its own direct jurisdiction and normal supervision.  Non-tax business justifications pervade so many tax disputes that it is incumbent on the tax executives to ensure that these justifications are not only well-documented, but consistently followed in practice after the transaction is put into place.  The tax folks are, after all, the ones ultimately on the front lines defending the non-tax business justification.  As they say, it’s like cleaning up after the elephants in the circus parade – unpleasant but necessary.

In the course of this process, it is important to remain mindful that once documents are created, particularly in connection with a transaction where future litigation may reasonably be anticipated, a duty to preserve via a litigation hold may override a company’s normal document destruction policies.  See e.g., Silvestri v. General Motors Corp., 271 F.3d 583, 591 (4th Cir.2001)  (duty to preserve evidence “arises not only during litigation but also extends to the period before the litigation when a party reasonably should know that the evidence may be relevant to anticipated litigation.”)  Indeed, the failure to put a litigation hold in place can have deleterious consequences, from waiver of attorney work product protection (see e.g., Samsung Electronics Co., Ltd.. v. Rambus, Inc., 439 F. Supp. 2d 525 (ED Va. 2006) (rev’d on other grounds, 523 F.3d. 1374 (Fed. Cir. 2008)), to IRS challenges regarding the completeness of a taxpayer’s Schedule UTP disclosures (which does not require reserves to be recorded for positions “expected to be litigated”), a topic I have written about before.  Simply put, it is difficult to persuasively argue that an issue was reasonably anticipated to be litigated (e.g., for work product protection or UTP purposes), where there is a failure to implement a litigation hold predicated on that very anticipation.

Earlier this month, U.S. District Judge Shira Scheindlin (S.D.N.Y.), author of the landmark Zubulake opinion on electronic discovery, raised the stakes further when she ruled, in Sekisui American Corp. v. Hart, 2013 WL 4116322 (S.D.N.Y. Aug. 15, 2013), that a party who failed to preserve electronically stored information (ESI) by not implementing an adequate litigation hold was subject to an adverse inference about the content of such evidence.  The ruling was notable because it bucked the trend of courts to overlook a party’s destruction of ESI in the normal course of its business practices, notwithstanding the obligation the party may have had to implement a litigation hold to preserve such documents.  (See Fed. R. Civ. P. 37(e), requiring “exceptional circumstances” to impose sanctions.)  In Sekisui, Judge Scheindlin imposed the adverse inference sanction (in addition to monetary damages) even without finding any malevolent intent or substantial prejudice to the opposing party.  The court simply ruled that the failure to implement a litigation hold was enough to constitute a willful intent to destroy documents.

It doesn’t take a great deal of imagination to appreciate that a ruling invoking an adverse influence as a result of the failure to preserve documents can be fatal, an even more likely outcome in a bench trial where the judge making the ruling is also the trier of fact.  At the very least, being slapped with such a sanction will preclude any benefit of the doubt that documents interpreted negatively by the IRS may be accorded a more favorable interpretation by the trier of fact.

I have heard – certainly more than once – government counsel advocate to a court words to the effect that “memories fade but documents never lie.”  It is true that the odds of prevailing in a tax dispute are not helped by poor recordkeeping practices, by which I include both shoddy documentation as well as carelessly policed documentation containing ill-conceived content readily subject to misinterpretation and misuse.

If nothing else, the ruling of an influential jurist like Judge Scheindlin should heighten tax departments’ sensitivities about monitoring company recordkeeping practices from the outset of a transaction.  These efforts should be quantitative in terms of fully apprehending the documents to be generated and maintained, and qualitative to reduce the risk that problematic documents are generated carelessly and maintained thoughtlessly.  No less thought should be put into the timely implementation of litigation holds to ensure that company records – hopefully those that will help it carry the day in a tax dispute – are adequately preserved, particularly when the ramifications of their destruction can exponentially increase the likelihood of an unfavorable outcome.

Before You Abandon That Underwater House, Read This!

Posted July 24, 2013 by George Connelly, Jr.
Categories: Uncategorized

Tags: , , ,

By George W. Connelly

The Tax Court recently issued a Summary Opinion, Malonzo v. Commissioner of Internal Revenue, T.C. Summ. Op. 2013-47, involving an individual who was underwater on her mortgage, and who abandoned the property, subsequent to which the mortgage loan was foreclosed.  She took no formal steps to transfer title or provide the lender with notice of her intention to abandon the residence, but just stopped making payments.  The residence was later resold by the lender who sent her a Form 1099-A, Acquisition or Abandonment of Secured Property, reflecting as income the outstanding balance of her mortgage less the amount for which the property was resold.

The IRS determined that she had received a long-term capital gain, based upon the difference between the balance of the mortgage and her adjusted basis in the property.  She, in turn, filed an amended return in which she reported an ordinary loss from the abandonment of the residence equal to roughly the difference between her adjusted basis and the depreciation recaptured from a period in which she rented the home.

The Tax Court concluded that the abandonment of this property and the subsequent foreclosure was a “sale or exchange” under the Internal Revenue Code,” so the gain or loss would be capital.  As such, the Court concluded she was not entitled to an ordinary loss (and fortunately not ordinary gain either!) because the property was subject to a mortgage which was satisfied.  As such, the IRS determination was sustained.

The best lesson to learn here is that before one takes the action taken by Ms. Malonzo, it is worth spending some time with a qualified tax adviser who can explain exactly what the ramifications will be.

How Does IRS Police Its Own Lawyers?

Posted July 15, 2013 by George Connelly, Jr.
Categories: Uncategorized

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By George W. Connelly

The IRS employs many lawyers and employees of the IRS Office of Chief Counsel are its principal legal staff who number 1560, of whom about 550 work in the IRS National Office in Washington, while the balance work in offices around the country.  They provide legal advice to the Commissioner of Internal Revenue and the local IRS offices, and they act as the lawyer for the Commissioner of Internal Revenue in all Tax Court cases.  In addition, some are specially designated to assist United States Attorneys in bankruptcy, summons enforcement and other civil cases.

In 1998, a Chief Counsel’s Professionalism Program was established, to ensure that the office fully complies with Treasury directives, and that all allegations of misconduct are promptly and thoroughly investigated.  All allegations or evidence of an employee’s serious or significant failure to comply with accepted standards must be referred to the Deputy Chief Counsel (Operations), and the most serious matters must be referred to the Office of the Treasury Inspector General for Tax Administration (TIGTA).

The IRS Office of Chief Counsel recently released reports on the subject of professionalism for the years 2009 through 2012, and the findings – which are broken between TIGTA and non-TIGTA cases – are worth noting.

The kinds of TIGTA cases include situations such as an employee lost a government laptop, misused the IDRS system to seek address information about an ex-spouse of the employee’s child, used Office of Chief Counsel letterhead to write a letter to a court on behalf of a personal friend who was being sentenced on tax-related charges, and one who used the Government computer to send emails on a private, non-work related matter which created the impression that they were acting in an official role.  The results of the investigations were as follows:

2008

2009

2010

2011

2012

Cases not substantiated

15

11

18

16

15

Employees separated before reviewcompleted

2 retired

5 resigned

0 retired

0 resigned

0 retired

0 resigned

  7

  0

Substantiated

15

28

15

27

25

Undetermined

  1

  1

  0

  0

  0

               TOTAL

38

40

33

50

40

Of those cases, the nature of the disciplinary action was reported for 2009-2011 as follows:

2009

2010

2011

2012

Counseling

Written-3

Oral-2

Written-1

Oral-8

Written-4

Oral-16

Written-1

Oral-20

Admonishment

  0

  2

  3

  1

Reprimand

  1

  1

  1

  1

Suspension

  1

  2

  3

  0

Removal

  0

  0

  0

  2

Downgrade

  0

  0

  0

  0

               TOTAL

14

27

  7

25

The reports also described the actions in non-TIGTA cases which fell in similar classifications.  The kinds of non-TIGTA cases which arose involved failing to file a proper tax return – overlooking interest income; failure to comply with deadlines imposed by the Tax Court; taking leave without authority; and a verbal altercation in an open office area involving racial terms and profanity.  In 2010, disciplinary action was taken in 97% of such cases, 100% in 2011, and 100% in 2012.

Given all the attention received for the Section 501(c)(4) situation, it is comforting to see that professionalism is not being ignored within the Office of Chief Counsel.  It will be interesting to see how all of the current allegations are dealt with in this framework.

Must Taxpayers File “Timely” Forms 1099 to Obtain Section 530 Relief? Unexpected Answers from a Recent Worker-Classification Case

Posted April 29, 2013 by Hale Sheppard
Categories: Uncategorized

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By Hale Sheppard

When battling the IRS, knowledge is power.  Nowhere is this more true than in worker-classification cases, where the IRS often seems hell-bent on treating all workers as employees, regardless of the facts.  One bright spot for taxpayers under IRS scrutiny is an obscure provision, commonly known as Section 530, that grants taxpayers a brand of “civil immunity” if they meet three criteria.  One requirement is that taxpayers file Forms 1099 (Miscellaneous Income) for all workers considered to be independent contractors.

For over three decades, the IRS has taken the position that Section 530 relief is not available unless taxpayers file their Forms 1099 in a “timely” manner.  One problem with the IRS’s stance is that it has been questioned and contradicted by at least two courts, including the Fifth Circuit Court of Appeals in a recent case called Bruecher Foundation Services, Inc. v. United States.  The bigger problem is that too many taxpayers, unaware of the relevant rules and caselaw, allow themselves to lose worker-classification cases, unnecessarily prolong audits, and/or miss opportunities to seek fee reimbursement from the IRS.  This article, published in the May 2013 issue of TAXES – The Tax Magazine, aims to alleviate these problems by highlighting and analyzing the taxpayer-favorable authorities regarding Section 530 relief and the Form 1099 filing requirement.

Government Wins Second Willful FBAR Penalty Case: What McBride Really Means to Taxpayers with Unreported Foreign Accounts

Posted April 25, 2013 by Hale Sheppard
Categories: Uncategorized

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By Hale Sheppard

Taxpayers with undisclosed foreign accounts wish it were not true, but the reality is that the U.S. government, after a long period of inactivity and ineffectiveness, has taken significant steps over the past few years to identify and punish failures to file Forms TD F 90-22.1 (Report of Foreign Bank and Financial Accounts), or foreign bank account reports (“FBARs”) as they are commonly known.  These steps include enacting legislation obligating foreign institutions to automatically provide the IRS with information about U.S. account holders, paying handsome rewards to whistleblowers, introducing a new information return forcing taxpayers to report their foreign financial assets (including foreign accounts) to the IRS each year, imposing multi-million dollar fines and disclosure duties on foreign banks that collaborate with taxpayers to evade U.S. taxes, extracting valuable data about international tax transgressions from taxpayers participating in the Offshore Voluntary Disclosure Program (“OVDP”), and criminally prosecuting FBAR offenders.  Another step has become apparent in the past few months, i.e., litigation to collect civil penalties for “willful” FBAR violations.  To date, two cases have been decided, both in favor of the U.S. government.  The attached article, “McBride Willfull FBAR Penalty Case Article,” examines the most recent case.  The article was published in the most recent version of the Journal of Taxation (April 2013).


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