Tax Watch: IRS outlines drive against abusive shelters

The Internal Revenue Service has published an outline of the actions that it will take to combat abusive tax shelters.

Those actions include early identification of abusive tax shelters and maintaining the Tax Shelter Hotline for anyone to submit information to the IRS on tax shelter transactions.

Other actions include implementing pre-filing guidance and pre-filing agreements on abusive-tax-shelter issues and elevating the campaign against such tax shelters to a strategic initiative for the IRS’ large and midsize business division.

The IRS also describes, in a fact sheet, the division’s strategy to deter the promotion of abusive shelters.

On a related front, the IRS is replacing its guidance describing procedures to identify and investigate promotions of abusive tax shelters. The procedures being revoked are apparently inconsistent with the IRS’ current practices and its new organizational structure.

In the future, the IRS’ procedures for the identification and investigation of abusive-tax-shelter promotions will be set forth in the Internal Revenue Manual or other forms of published guidance.

In a related area, the IRS is continuing its stream of field service advisory memoranda – technical advice by IRS lawyers or specialists to IRS examination teams – about specific patterns in transactions undertaken for tax purposes only and unrelated to the business of the companies.

The trend of the advisories follows a consistent pattern. While neither of two advisories released recently breaks new ground, they continue to reflect the strident efforts of the IRS to attack corporate tax shelters.

In one advisory, the IRS addresses a typical “lease-stripping” transaction, which is designed to produce losses for a U.S. taxpayer to offset gains in other transactions. The transaction was developed and marketed by promoters. The advisory outlined for its examination teams the various theories that could be developed in an examination.

The other advisory involved a level of transactions beyond an underlying lease strip. A subsidiary of a U.S. consolidated group realized a gain from an extraordinary sale of assets. The subsidiary also sold assets that it had acquired in the form of a capital contribution six days earlier.

Those assets were involved in a lease strip reporting a loss offsetting the gain from the extraordinary-asset sale. The IRS again instructed examination personnel on the theories that could be used in the examination of such transactions.

The advisory notes that the sole motive of the receipt and sale of the assets involved in the lease-strip transactions, which produced the reported losses, was “current tax reduction … and the transactions had no objective economic substance.”

Cite: Rev. Proc. 2001-49 revoking Rev. Proc. 83-78 and Rev. Proc. 84-84; FS-2001-10; FSA 2001134002; and FSA 200133006

New options report postponed by IRS

When an employee or former employee exercises non-statutory stock options, employers are required to report the excess of the market value of the stock received over the amount paid to exercise the option. That amount is reported on Form W-2 in Boxes 1, 3 (up to the Social Security wage base) and 5.

Last year, the IRS advised employers that beginning in 2001, on Form W-2, such income would also be required to be reported in Box 12 and identified by a new code, Code V.

Now, in response to employer concerns, the IRS has announced that the use of Code V would be optional for the 2001 Forms W-2. The Department of the Treasury and the IRS will consider replacing the separate reporting of the compensation in Box 12.

They are willing to replace the required reporting with any other cost-effective alternatives that would allow for collection of the information that employers would otherwise be required to report under Code V.

The IRS invites comments and suggestions. If no alternative is developed, the reporting will become mandatory beginning with 2003.

Comments and suggestions should be addressed to: Internal Revenue Service, Tax Forms and Publications Division, W: CAR: MP: FP: F: R: -GPF, 1111 Constitution Avenue NW, Washington, DC 20224

Cite: Announcement 2001-92

Sometimes a loan is really investment

A U.S. magistrate has dismissed a couple’s refund suit, ruling that the IRS properly characterized payments that they received from their corporation as taxable dividends, not loan repayments.

Paul Boyles bought $124,000 of equipment for his business and characterized his purchases on the corporation’s books as loans. The corporation made payments to Mr. and Mrs. Boyles for their mortgage installments, country club dues and other personal expenses.

Not too surprisingly, the IRS assessed deficiencies, finding that the payments were actually dividends.

The Boyleses paid the taxes and filed a refund suit, arguing that the payments received were loan repayments. The U.S. magistrate refused to grant the government’s motion for summary judgment and ordered a bench trial to determine the intent of both the corporation and the Boyleses regarding the payments.

At the conclusion of that trial, U.S. Magistrate Judge Russell A. Eliason ruled that the IRS had properly characterized the Boyleses’ infusion of funds into the corporation as capital contributions.

The judge explained that the loans weren’t evidenced by any instrument, they had no rate of interest, no fixed maturity date, no set payments, and they were used by the corporation to buy capital equipment in which the Boyleses took no security interest.

The court held that the only factor in the Boyleses’ favor was that the corporation did carry some contributions as loans on its books. Thus the court concluded that the Boyleses had failed to carry their burden of proving that any contributions by them to the corporation were loans.

Also, according to the court, the couple had not proved that payments of their personal expenses by the corporation were loan repayments.

Cite: Paul W. Boyles, et ux., v. United States, M.D.N.C.

Justice Department fights bogus trusts

The Department of Justice recently announced that it had filed a civil lawsuit in the U.S. District Court for the Southern District of Florida to stop Lake Worth, Fla., resident Louis W. Ratfield and his tax advisory company from “selling trusts that falsely reduce or substantially eliminate the purchasers’ reported federal tax liabilities.”

The suit also seeks to permanently bar Mr. Ratfield from preparing federal income tax returns.

The suit alleges that Mr. Ratfield and his LWR Financial Services advised or encouraged taxpayers to violate the tax laws by transferring their businesses to bogus trusts and hiring themselves as “general managers” of the trust, according to a Justice Department statement.

“The IRS is closely scrutinizing the improper use of trusts,” said Eileen J. O’Connor, assistant attorney general for the tax division of the Justice Department.

“It is a priority of the tax division to stop the marketing of these tax evasion schemes. People should be aware that these abusive trust schemes, which sound too good to be true, are in fact improper and can lead to substantial penalties,” said Ms. O’Connor.

Cite: Justice Department News Release

Those hurt by attack can get e-mail data

The IRS has activated an electronic mailbox to provide assistance and answers to business taxpayers affected by the Sept. 11 terrorist attacks.

Businesses can send their questions to corp.disaster.relief.irs.gov.

“Because of the breadth and scope of the tragic events of Sept. 11, taxpayers face many questions,” IRS Commissioner Charles O. Rossotti recently said. “Businesses can get the answers about extensions and other tax relief stemming from these disasters by e-mailing their questions to us.”

The e-mail address was established to respond to questions that businesses might have that were not addressed in the technical guidance – Notice 2001-61 and Notice 2001-63 – previously issued.

The notices, which explain the extensions and other tax relief available to those affected by the terrorist attacks, are accessible at irs.gov.

Cite: Release No. IR-2001-83