Tax Watch: Battle against abusive tax shelters still rages

The Senate Finance Committee’s hearings on the progress being made in the fight against both corporate and individual tax shelters are under way.

Sen. Charles E. Grassley, R-Iowa, chairman of the committee, intends to expose any weaknesses in the government’s enforcement efforts. The hearings are expected to show that the fight against abusive tax shelters is far from over.

Recently, the Internal Revenue Service won permission from a federal court to force a Chicago law firm to disclose the names of taxpayers who invested in potentially abusive tax shelters. However, in another court, the IRS received a blow in its pursuit of a tax shelter case against a Big Four accounting firm, KPMG LLP of New York.

Sidley Austin Brown & Wood LLP of Chicago became the second law firm targeted by the IRS this year for a summons seeking information about unidentified taxpayers who invested in potentially illegal tax shelters.

Legal documents filed in federal court show that the IRS is seeking information from the firm’s headquarters about taxpayers who participated in 13 tax transactions marketed or sold since 1996. Court documents say that some of the potentially abusive shelters were promoted in conjunction with major accounting firms.

Court documents also show that the IRS is investigating the firm to determine whether it complied with laws that require tax advisers to register certain tax transactions that might be abusive shelters, and keep lists of taxpayers who invest in those transactions.

In the KPMG matter, a specially appointed master recommended to a federal court that the company shouldn’t have to hand over all the documents requested by the IRS.

This decision is seen as a victory for KPMG, which is being investigated by the IRS along with many other accounting and law firms, and a setback to the agency in its campaign to crack down on tax shelters.

Both Mr. Grassley and the finance committee’s ranking minority member, Sen. Max Baucus, D-Mont., have publicly stated that the main shortcoming in the government’s fight against tax sheltering is the lack of resources.

IRS Commissioner Mark Everson claims that his agency receives on average about 1.5% less money than Congress grants it.

Figures reported by The New York Times show that as a result of underfunding, eight out of 10 suspected tax evaders aren’t pursued and avoid paying penalties and interest.

Former IRS Commissioner Charles Rossotti recently suggested that the IRS needs to hire 29,000 additional auditors and investigators to get a more comprehensive grip on the problem.

Henry Camferdam, a professional race car driver, testified before the Finance Committee that he had always reported and paid the federal taxes he owed until he sold part of a business in 1999 and used the proceeds to buy a tax shelter from Ernst & Young LLP of New York.

Later that year, according to Mr. Camferdam, Ernst & Young turned his name in to the IRS as a shelter investor. Now Mr. Camferdam is paying one set of lawyers to defend him from the IRS and another to sue the tax shelter promoters.

House is working to replace FSC/ETI

* Rep. Bill Thomas, the California Republican who heads the House Ways and Means Committee, appears to be drawing broader support for his latest legislative proposal to repeal the foreign-sales-corporation/extraterritorial-income-tax provision of the tax code.

In addition to repealing the extraterritorial-income exclusion, the replacement legislation would reportedly include a tax cut for manufacturers to a maximum rate of 32% beginning in 2007 and a more gradually phased-in tax cut to 32% for other corporations.

Dropped from the new measure were provisions allowing companies to repatriate foreign-dividend income at a sharply reduced tax rate and an extension of the foreign-tax-credit carry-forward period.

Still in the latest proposal is a two-year extension of the current Section 179, expensing limit; shorter depreciation lives for leasehold and restaurant property; alternative-minimum-tax relief for more small corporations; S corporation reforms; competitive taxation of global earnings; and a reduction to two, from nine, in the number of foreign-tax-credit baskets.

This latest version of the FSC/ETI repeal proposal also contains a prospective anti-inversion provision as well as corporate-tax-shelter restrictions – but not codification of the economic-substance doctrine.

New York offers a tax amnesty

* New York City’s finance department has announced that it will accept amnesty applications for New York business and excise taxes from Oct. 20 through Jan. 23. Under the program, the department will waive penalties and reduce interest for qualifying taxpayers.

According to Martha E. Stark, the city’s finance commissioner, the amnesty will be available for tax years or periods ending on or before Dec. 31, 2001, cover the general- corporation, unincorporated- business and commercial-rent taxes, as well as several others. The amnesty doesn’t include the real-estate, personal-income or sales-and-use taxes, she says.

“I strongly urge anyone who owes the city business or excise taxes to consider taking advantage of this amnesty,” Ms. Stark says. “Amnesties are rare in New York City – and every day, we are stepping up our efforts to collect unpaid taxes.”

Mileage deductions adjusted for 2004

* The IRS has released the optional-standard-mileage rate for use in 2004 when computing the deductible costs of operating an automobile for business, charitable, medical or moving purposes. The rate for business will increase to 37.5 cents a mile for cars, vans, pickups and panel trucks.

For deductible medical and moving costs, the rate will increase to 14 cents a mile, from 12. For charitable purposes, it remains at 14 cents a mile.

What’s more, according to the IRS, beginning in 2004, the business standard-mileage rate may be used to compute the deductible expenses of up to four vehicles owned or leased by a taxpayer and used simultaneously. In the past, if more than one vehicle was used at a time for business purposes, the actual-expense method was required.

Cite: Rev. Proc. 2003-76

Private collectors sought by IRS

* For the second time this year, a provision that would allow the IRS to hire private collection agencies has sailed through the Senate Finance Committee. Many experts give the revenue-raising proposal a 50-50 chance of passing Congress by yearend.

The committee’s chairman, Sen. Charles E. Grassley, R-Iowa, recently included the provision in his international-tax-reform bill, S. 1637, the Jumpstart Our Business Strength Act. The provision also earlier appeared in the Senate version of President Bush’s tax cut package but didn’t make it out of conference.

The Joint Committee on Taxation estimates that the IRS would net $445 million over five years and $973 million over a decade by placing some delinquent accounts with private debt collectors. The figures are net amounts because the proposal would allow the IRS to pay the contractors 25% of the total collected.

The joint committee’s $973 million figure differs markedly from the $13 billion in accounts receivable that the IRS believes are appropriate to place with private collection agencies.

The IRS estimates that only about $78 billion of the $280 billion tax gap is potentially collectible – and that only about $13 billion of the amount potentially collectible is appropriate to place with private collection agencies.