TAX CONTROVERSY 360
TAX CONTROVERSY 360
McDermott Will & Schulte’s real-time tax disputes insights
TAX CONTROVERSY 360
McDermott Will & Schulte’s real-time tax disputes insights
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New IRS CbC Resource

by and | Jul 17, 2017 | , , ,

We have reported several times about the new Country-by-Country (CBC) reporting regime. Taxpayers and the tax bar have been desperate for clarity about the requirements for CbC reporting.  In response, today the Internal Revenue Service (IRS) announced the launch of its CbC resource on its www.IRS.gov website. The new information is designed to provide background on CbC, frequently asked questions and other information. One of the best features is a list of jurisdictions that have concluded Competent Authority Arrangements with the United States.



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Tracking Tax Guidance and Court Cases

by and | Jul 14, 2017 | , , ,

Oftentimes, taxpayers rely on various authorities in planning transactions and reporting them for tax purposes, as well as defending them during an Internal Revenue Service (IRS) audit, appeals or in litigation. These sources include authorities like the Internal Revenue Code, legislative history and other legislative materials, Treasury regulations and other IRS published guidance (e.g., revenue rulings, revenue procedures, notices, announcements), IRS private guidance (e.g., chief counsel advice, technical advice memoranda, private letter rulings, etc.), and case law. As we have discussed previously, these authorities are afforded different weight by courts and the IRS, and can serve different purposes in your matter.

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Are You Required to Disclose Supporting Legal Authorities During Discovery?

by and | Jun 30, 2017 | , , ,

Discovery in tax litigation can take many different forms, including informal discovery requests (in the US Tax Court), request for admissions, interrogatories and depositions. In addition to obtaining facts, litigants frequently want to know the legal authorities on which the other side intends to rely. Over the years, we have seen numerous requests, both during examinations and in litigation, where the Internal Revenue Service (IRS) requests a listing of the legal authorities supporting a taxpayer’s position.

Sometimes it is beneficial for a taxpayer to disclose those authorities. For example, in some IRS audits it may be worthwhile to point out to the IRS agent the applicable authority and cases that directly support the taxpayer’s position. However, once a case progresses to litigation, it is clear that the parties disagree and that simply pointing out relevant authorities will not help the IRS to concede the case. This raises the question of how to respond to such a request while in litigation.

The Tax Court recently addressed this issue in a pending case involving issues under Internal Revenue Code Section 482 (see here). The IRS issued interrogatories that requested information seeking to obtain the taxpayer’s legal arguments. The taxpayer objected on the grounds that this was inappropriate. The Tax Court, in an unpublished order, agreed:

Tax Court Rule 70(b) does not require a party to disclose the legal authorities on which he relies for his positions.  See Zaentz v. Commissioner, 73 T.C. 469, 477 (1970). Other courts have held that interrogatories requiring a party to disclose legal analyses and conclusions of law are impermissible. See, e.g., Perez v. KDE Equine, LLC, 2017 WL 56616 at *6 (W.D. Kentucky Jan. 4, 2017); In re Rail Freight Fuel Surcharge Antitrust Litigation, 281 F.R.D. 1, 11 (D.D.C. Nov. 17, 2011).

Practice Point:  Although this unpublished order technically reflects only the view of the issuing Judge, it is an important point that litigants should remember. There are numerous ways to determine an adversary’s legal position. Generally, however, discovery requests directly asking for an opponent’s supporting legal authorities are not an appropriate technique. Techniques to make that determination include: issuing requests for admissions relating to the elements of potential legal theories, filing a dispositive motion like summary judgment which will invoke a response from the other side, and discussing with your opponent whether the case should be submitted (in Tax Court) fully stipulated. And sometimes the most efficient way to get the information is to pick up the phone and just ask. Typically, litigants are wary of putting their legal theories down in writing and pinning themselves down early in a case. But most lawyers love to hear themselves talk!



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IRS Funding Woes Likely To Continue

by and | Jun 29, 2017 | , ,

The House Appropriations Committee (HAC) yesterday released the fiscal 2018 Financial Services and General Government Appropriations bill, which sets forth proposed annual funding for the Treasury Department, the Judiciary, the Small Business Administration, the Securities and Exchange Commission, and other related agencies. The proposal will be considered in the subcommittee today. For text of the bill, see here.

In its press release, the HAC described the bill as one that would “slash the IRS, fund US courts, invest in programs to boost economic opportunity, and scale back harmful regulations.” See here for the press release. The HAC was particularly hard on the Internal Revenue Service (IRS), proposing to cut its budget by $149 million. These cuts come after successive reductions in the IRS’s budget for the last several years. The draft legislation contains several provisions that the HAC believed necessary “to address underperformance and previous poor management and decision-making at the IRS,” including:

  • A prohibition on a proposed regulation related to political activities and the tax-exempt status of IRC section 501(c)(4) organizations. The proposed regulation could jeopardize the tax-exempt status of many nonprofit organizations, and inhibit citizens from exercising their right to freedom of speech;
  • A prohibition on funds for bonuses or to rehire former employees unless employee conduct and tax compliance is given consideration;
  • A prohibition on funds for the IRS to target groups for regulatory scrutiny based on their ideological beliefs;
  • A prohibition on funds for the IRS to target individuals for exercising their First Amendment rights;
  • A prohibition on funds for the production of inappropriate videos and conferences;
  • A new prohibition on funds to implement new IRS guidance on conservation easements;
  • A new prohibition on funds to determine church exemptions, unless the IRS Commissioner has consented and Congress has been notified; and
  • A requirement for extensive reporting on IRS spending and information technology.

Despite reducing the IRS’s overall budget, the draft legislation expressed a desire for funding to improve taxpayer services, including pre-filing assistance and education, filing and account services, and taxpayer advocacy services. For example, the IRS is directed to maintain an employee training program that includes “taxpayers’ rights, dealing courteously with taxpayers, cross-cultural relations, ethics, and the impartial application of tax law.” As we have previously discussed (see here and here), taxpayers’ right is a hot topic in both the US and around the world.

We will continue to monitor this matter and report back on the final budget in the future. Needless to say, reductions in the IRS’s budget will likely continue the trend of decreased enforcement activity and more uncertainty for taxpayers. Additionally, without additional resources and the imminent retirement of a large portion of IRS employees, the IRS will continue to be forced to operate in an environment of substantially decreased resources. On the front lines, we are seeing a substantial reduction in the numbers and breadth of audits of some of the nation’s largest taxpayers. Moreover, with the decrease [...]

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LB&I’s Final Campaigns Webinar: Section 48C Energy Credits and Completed Contract Method for Land Developers

by and | Jun 27, 2017 | , , ,

On June 20, 2017, the Internal Revenue Service (IRS) Large Business and International Division (LB&I) hosted its final webinar regarding LB&I Campaigns. Our previous coverage of LB&I Campaigns can be found here. The webinar focused on two campaigns:  (1) Section 48C Energy Credits and (2) Land Developers – Completed Contract Method.

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Tax Court Considering Requiring Notice of Non-Party Subpoenas

by | Jun 26, 2017 | , ,

We previously wrote about the lack of a US Tax Court (Tax Court) rule requiring notice to other parties before service of non-party subpoenas for the production of documents, information, or tangible things and inconsistent practices for Judges at the Tax Court. See here and here. To recap, Tax Court Rule 147 allows a party to issue a subpoena to a non-party but does not require that prior notice be given to the other side of the issuance. Prior notice is required under the Federal Rules of Civil Procedure, which govern federal cases before the US district courts. As previously discussed, this absence of a Tax Court rule has led to inconsistent orders from the Tax Court on the subject.

Change may be coming soon, according to comments from Tax Court Chief Judge Marvel on June 16, 2017 at the New York University School of Professional Studies Tax Controversy Forum. Judge Marvel indicated that the Tax Court is considering amendments to Tax Court Rule 147 to conform to the Federal Rules of Civil Procedure. This would be a welcome development for taxpayers, as the Internal Revenue Service (IRS) would no longer be able to issue subpoenas and gather information from non-parties without a taxpayer’s knowledge and access to the same materials.

Practice Point: The Tax Court has not indicated when the next amendments to its Rules will be released. Until that time, taxpayers in litigation should not expect that the IRS will provide notice of subpoenas issued to non-parties. As we have pointed out before, taxpayers should routinely and regularly issue discovery requests on the IRS seeking: (1) a list of all third-party contacts, including the documents sent and received; (2) copies of all subpoenas, including a copy of all documents sent and received; and (3) a list of the dates on which the third-party contacts occurred, including phone calls and meetings. These requests should be made at the beginning of every case, and it should be stated that the requests are continuing in nature.



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Appeals Large Case Pilot Program Draws Criticism

by | Jun 15, 2017 | , , ,

In October 2016, the Internal Revenue Service (IRS) revised the Internal Revenue Manual (Manual) 8.6.1.4.4 to provide IRS Appeals Division (Appeals) with discretion to invite representatives from the IRS Examination Division (Exam) and IRS Office of Chief Counsel (Counsel) to the Appeals conference. Many tax practitioners opposed this change, believing that it undermines the independence of Appeals and may lead to a breakdown in the settlement process.

In May 2017, the American Bar Association (ABA) Section of Taxation submitted comments recommending the reinstatement of the long-standing Manual provision regarding the limited circumstances for attendance by representatives from Exam and Counsel at settlement conferences. Additionally, the Tax Section’s comments were critical of the practice whereby some Appeals Team Case Leaders (ATCLs) in traditional Appeals cases are “strongly encouraging” IRS Exam and the taxpayer to conduct settlement negotiations similar to Rapid Appeals or Fast Track Settlement, such that many taxpayers do not feel they can decline such overtures. The Tax Section comments suggested that the use of Rapid Appeals Process and Fast Track Settlement should be a voluntary decision of both the taxpayer and IRS Exam and the use of these processes should be the exception rather than the rule. (more…)



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The “Issue of First Impression” Defense to Penalties

by | Jun 14, 2017 | ,

The Internal Revenue Code (Code) contains various provisions regarding the imposition of penalties and additions to tax. The accuracy-related penalty under section 6662(a), which imposes a penalty equal to 20 percent of the amount of any understatement of tax, is commonly asserted on the grounds that the taxpayer was negligent, disregarded rules or regulations, or had a substantial understatement of tax. Over the years, the Internal Revenue Service (IRS) has become increasingly aggressive in asserting penalties and generally requires that taxpayers affirmatively demonstrate why penalties should not apply, as opposed to the IRS first developing the necessary facts to support the imposition of penalties.

There are many different defenses available to taxpayers depending on the type and grounds upon which the penalty is asserted. These defenses include the reasonable basis and adequate disclosure defense, the substantial authority defense, and the reasonable cause defense.

Another defense available to taxpayers is what we will refer to as the “issue of first impression” defense. The Tax Court’s recent opinion in Peterson v. Commissioner, 148 T.C. No. 22, reconfirms the availability of this defense. In that case, the substantive issue was the application of section 267(a) to employers and employee stock ownership plan (ESOP) participants. The court, in a published T.C. opinion (see here for our prior discussion of the types of Tax Court opinions) held in the IRS’s favor on the substantive issue but rejected the IRS’s assertion of an accuracy-related penalty for a substantial understatement of tax on the ground that it had previously declined to impose a penalty in situations where the issue was one not previously considered by the Tax Court and the statutory language was not entirely clear.

The Tax Court’s opinion in Peterson is consistent with prior opinions by the court in situations involving the assertion of penalties in cases of first impression. In Williams v. Commissioner, 123 T.C. 144 (2004), for instance, the substantive issue was whether filing bankruptcy alters the normal Subchapter S rules for allocating and deducting certain losses. The Tax Court agreed with the IRS’s position, but it declined to impose the accuracy-related penalty because the case was an issue of first impression with no clear authority to guide the taxpayer. The court found that the taxpayer made a reasonable attempt to comply with the code and that the position was reasonably debatable.

Similarly, in Hitchens v. Commissioner, 103 T.C. 711 (1994), the court addressed, for the first time, an issue related to the computation of a taxpayer’s basis in an entity. Despite holding for the IRS, the court rejected the accuracy-related penalty. It stated “[w]e have specifically refused to impose additions to tax for negligence, etc., where it appeared that the issue was one not previously considered by the Court and the statutory language was not entirely clear.” Other cases are in accord. See Braddock v. Commissioner, 95 T.C. 639, 645 (1990) (“as we have previously noted, this issue has never before, as far as [...]

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The View from Here: LB&I’s Cross-Border Activities Campaigns Webinar

by and | May 25, 2017 | , , ,

On Tuesday, May 23, 2017, the Internal Revenue Service (IRS) Large Business and International Division (LB&I) hosted its sixth in a series of eight webinars regarding LB&I Campaigns. Our previous coverage of LB&I Campaigns can be found here. The webinar focused on two cross-border activities campaigns: (1) the Repatriation Campaign and (2) the Form 1120-F Non-Filer Campaign. Below, we summarize LB&I’s comments on the new campaigns.

Repatriation Campaign

In general, the active earnings of foreign subsidiaries are not subject to tax until repatriated to the United States. Typically, those repatriations would be treated as dividends and would be subject to tax. LB&I stated that, through examination experience, it has observed that some taxpayers have engaged in techniques to permit repatriation from such entities while inappropriately avoiding US taxation.

LB&I developed the Repatriation Campaign with three goals in mind. First, LB&I was concerned with developing better objective techniques to identify risks across the broad taxpayer population. Second, LB&I is trying to improve sightlines into a broader segment of the LB&I population beyond the largest taxpayers under continuous audit. Third, LB&I intends to address any compliance risks related to repatriation in a way that increases voluntary compliance.

Unlike other campaigns, LB&I is not focused on a specific structure or techniques. LB&I is instead trying to identify objective indicators of opportunities to implement questionable planning (in the IRS’s view). Per LB&I, returns with those indicators are more likely to present compliance risks and are more likely to be selected. LB&I stated that it does not believe publicly identifying those indicators will increase voluntary compliance. Historically, when LB&I selected a return for examination, it did not necessarily start with any particular issue; any issue could be examined. If a return is selected under this campaign, LB&I’s initial focus will be narrower, but other compliance issues, if discovered, can still be added to the audit. Repatriation issues can also be raised outside of the Repatriation Campaign—possibly in a continuous audit or in an audit relating to another LB&I campaign. (more…)



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Dealing with Allocations of Tax Liabilities in Non-IRS Agreements

by and | May 23, 2017 | ,

Taxpayers often enter into tax sharing agreements to agree on how the parties may allocate current or future tax liabilities or potential refund. Sometimes these agreements are heavily negotiated (e.g., a corporation acquiring a subsidiary of an unrelated party); sometime they are not (e.g., marital settlement agreements among individuals with little assets). A recent US Tax Court (Tax Court) opinion is a reminder that such agreements between private parties are not binding on the Internal Revenue Service (IRS) in a tax proceeding.

In Asad v. Commissioner, the IRS disallowed certain deductions for rental-property losses claimed by the taxpayers on their joint returns for two years. The taxpayers, who had since divorced, both sought relief from joint and several liability under Internal Revenue Code (Code) Section 6015. In their divorce agreement, the taxpayers agreed that each would be liable for 50 percent of the tax liabilities for the two years. The IRS conceded that each taxpayer should be relieved of joint and several liability for a fraction of the liabilities (28 percent and 41 percent for the ex-wife and 72 percent and 59 percent for the ex-husband). At trial, the taxpayers argued that they should each be liable for 50 percent of the tax liabilities in accordance with the divorce agreement.

The Tax Court disagreed.  It reasoned that although the divorce agreement established the taxpayers’ rights against each other under state law, it did not control their liabilities to the IRS.  The court noted that case law, legislative committee reports, and reports issued by the Department of Treasury and the General Accounting Office have all observed that though divorce decrees may provide for an allocation of liabilities, such an allocation is not binding on creditors who do not participate in the divorce proceeding, and binding the IRS to such a divorce decree was impractical. Accordingly, in this case, though the taxpayers would have agreed to a 50/50 split on the tax liability, their divorce agreement did not alter their liabilities to the IRS.

Practice point:  When negotiating agreement containing a sharing of tax liabilities, taxpayers should remember that such agreement is not binding on the IRS, which is not a party to that agreement.  In the event one party is ultimately found liable for more than the amount or percentage dictated in an agreement, that party must seek contribution from the other party and cannot force the IRS to collect from the other party.



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