Of the many implausible theories in the tax resister netherworld, it's hard to beat the […]
Category: Taxes: Because We’re The Little People
Don’t Look Now But There Is Glimmer of Sensible Tax Policy in Congress
A long-overdue measure to limit state taxation of non-residents has cleared its first committee, reports the Tax Policy Blog. The House Judiciary Committee approved H.R. 1864, the Mobile Workforce State Income Tax Simplification Act, which provides:
An employee’s wages or other remuneration shall be subject to state income tax only in either:
-the employee’s state of residence, or
-a state where the employee is present and performing employment duties for more than 30 days during the calendar year. A day counts if the employee performs more employment duties in that state than in any other state during that day. Travel time does not count.
For traveling taxpayers, that’s good news. Lord knows how many loyal Going Concern readers flit from state to state in their unceasing efforts to ensure that the Nation’s financial statements are fairly stated in all material respects. But it’s also bad news — it reminds us that right now you can be taxable in a state after spending as little as a day there.
Why are the states so greedy? Think of LeBron James. When he visits the Staples Center to beat up the Clippers, the home team may lose, but the Franchise Tax Board wins every time. But the tax law in its majesty applies as much to the newbie auditor sent to count vegetables as to LeBron.
Fortunately for our auditor, the firm will probably tell her how much of her income is taxable in each state. Unfortunately, it won’t do all of the extra tax returns she will have to file in all of the exciting states a modern jet-setting auditor may visit.
H.R. 1864 is a long way from perfect. Its biggest flaw is that it doesn’t protect visiting entertainers or athletes. Sure, LeBron can afford the tax help to file in a couple dozen states, but the same rules apply to minor league ballplayers, comedians trying to become senators, and your friendly struggling road band. Still, anything that helps abused staff accountants isn’t all bad.
The proposal is a long ways from becoming law. The high tax states hate any limitations on their ability to pick visitor pockets. Still, it’s nice to have at least a glimmer of hope for sanity.
IRS to Allow Deduction of Medical Expenses for Those Diagnosed with Gender Identity Disorder
When nature makes a mistake, it can be expensive to repair. Rhiannon O’Donnabhain long suspected that nature had mistakenly assigned him to the wrong team, and after growing up male, fathering three children, and getting divorced, looked into fixing that. A diagnosis of Gender Identity Disorder (GID) was reached, and the process began.
There was a lot involved. The Tax Court says the process included:
– 20 weekly individual therapy sessions.
– Hormone therapy
– facial surgery
– genital surgical sex reassignment
– breast augmentation surgery
This process continued under the watchful (but not free) observation of a therapist.
Now female, O’Donnabhain deducted $21,741 in medical expenses related to the reassignment on her 2001 return. The IRS objected, but the Tax Court upheld her medical deductions for all but the breast augmentation (they said that was cosmetic, not medical).
The expert testimony also establishes that given (1) the risks, pain, and extensive rehabilitation associated with sex reassignment surgery, (2) the stigma encountered by persons who change their gender role and appearance in society, and (3) the expert-backed but commonsense point that the desire of a genetic male to have his genitals removed requires an explanation beyond mere dissatisfaction with appearance (such as GID or psychosis), petitioner would not have undergone hormone therapy and sex reassignment surgery except in an effort to alleviate the distress and suffering attendant to GID. Respondent’s contention that petitioner undertook the surgery and hormone treatments to improve appearance is at best a superficial characterization of the circumstances that is thoroughly rebutted by the medical evidence.
Now the IRS has changed its mind. In an Action on Decision published yesterday the IRS said that they will follow the Tax Court’s decision and will allow gender reassignment costs as a medical deduction for diagnosed GID.
Unfortunately, there still is no known medical fix for Accountants Personality Disorder. Medicine remains helpless to treat the many rock stars trapped in CPA personalities.
Threatening to Kill an IRS Employee Over the Phone Is Not Advised
Everybody admires a CPA who is willing to stand up to the IRS for a client. To a point.
A New York CPA went past that point, according to the IRS Office of Professional Responsibility. If the testimony of an IRS agent before an administrative law judge is to be believed, the CPA, George Diehl, is at least guilty of a social faux pas in a conversation with IRS Revenue Officer Miamouna Diakite when she refused to put a 45-day hold on collection of a client account.
From the ALJ opinion:
Diakite stated that Diehl refused to enter into an installment agreement. Diakite testified that he became irate and loud, saying that he had obtained holds on accounts routinely, and asked to speak to Diakite’s supervisor. Diakite told him that, pursuant to IRS procedure, her supervisor would call him within 24 hours. He insisted on talking to her supervisor immediately. Diakite then, also pursuant to protocol, told him that the account was then in “collection status” whereby the IRS “will” levy against Taxpayer 1’s bank account, garnish her salary and obtain liens on her real and personal property.
Diakite testified that Diehl became very upset and said “do you know what I do to people like you. I kill them.” Diakite replied “you don’t mean that, sir” and Diehl replied “I do. I do. I’ll kill you.” Diakite then sat at her desk repeating to herself aloud that Diehl said that he would kill her and he is in New York. She became frightened and then heard a male voice, not Diehl’s, saying “what are you doing?” and the phone was then disconnected.
The opinion never does say who the “male voice” belongs to. Somebody with better manners, perhaps.
The ALJ did believe the agent:
I find that Diehl threatened Diakite. His credibility was shaken by first stating that his words to her was that you are “killing me with your stupidity and then changing that testimony to state that you are “killing me with your bullshit.”
So for all of you aspiring CPAs out there, some lessons:
• Try not to let client tax matters get to a point where you have to argue on a hold for collection.
• Don’t threaten to kill the agents. They don’t like that, and it tends to make it more difficult to get them to help your client.
•Don’t be a pottymouth. That bad language completely blew it with that nice administrative law judge.
Who’s Afraid of Tax Reform?
The last time I saw the family dentist while I was in college, he asked me what I was studying. When I told him I was studying tax accounting, he got a strange, smug look on his face and asked, “what are you going to do when there is a flat tax?”
It’s been almost 30 years since I saw that dentist, and so far I’ve dodged the flat tax bullet. There has been one big tax reform since I started public accounting, and next to getting fired by good old Price Waterhouse, The Tax Reform of 1986 has been the best thing that happened to my career.
The 1986 Tax Reform Act’s 25th anniversary is tomorrow. With talk of radical tax reform in the air, from Herman Cain’s 9-9-9 plan to Rick Perry’s embrace of an old-fashioned flat tax, young tax nerds may lose sleep worrying that this time tax careers really will be legislated out of existence.
Go back to bed. For young tax nerds, radical change can be a huge career boost.
The 1986 tax reforms were enacted during my third year out of school. The local office of my national firm was going to put on a big client seminar, and I was put in charge of organizing the presentation. In the pre-Internet days, we got one paperback copy of the legislation, which I tore apart at the bindings so the presenters could have their part of the law. I proofread the slides, sent them to the photographer, and then manually arranged the presentation in the slide carousel (there was no PowerPoint, kids).
The seminar came off well (I did passive losses), which helped keep me (and the evil manager who didn’t like me) from getting me fired again. But in the following weeks the real benefit began to dawn on me — thanks to tax reform, I suddenly knew more about most of the tax law than everybody in the office who outranked me — including the evil manager. It got me promoted quickly, and it gave me much-needed credibility a few years later when a bunch of us went over the wall to start a new firm.
If there is radical tax reform, it will trash a lot of accumulated tax trivia knowledge that experienced tax nerds trade on. But it will also create huge opportunities for young, smart nerds who are willing to learn the new rules. It will be a great leveller in the profession, and a huge advantage to the young and strong.
But it will probably make it almost impossible for me to sell my collection of 1986 Tax Act books for a good price on e-Bay.
Will JK Harris and TaxMasters Join the Tax Lady in the Late-Night-Tax-Problem-Solver Body Count?
“Pennies on the dollar” may be a great pitch on cable television, but it’s not a surefire business plan. Desperate taxpayers who have paid money up front to JK Harris to resolve their tax debts at a discount are joining the IRS as potential “pennies on the dollar” creditors now that this leader in the tax settlement industry is filing for bankruptcy protection.
This is the second major blow this year to cable TV ad revenues. Earlier this year “Tax Lady” Roni Deutch gave up her law license in the face of charges that she took fees up front to resolve tax debts and failed to follow through.
Tax nerds see the late night ads when we get home and wonder how these outfits manage to get such great deals out of the IRS when getting the Service to actually forgive tax debts is like pulling teeth from a grumpy rhino for the rest of us.
TaxMasters now stands as the biggest remaining player in the TV tax settlement business, but they have their own problems. They were de-listed last month from the OTC Bulletin Board to the pink sheets for failing to file their 10-Q due August 15. The last reported trade for Taxs.pk is at 13 cents. They have also been sued by the Minnesota Attorney General for allegedly deceptive practices. ABC News reported on the suit:
The Minnesota attorney general says many of the company’s employees are skilled tele-marketers who have little knowledge of the complicated tax issues faced by people who have fallen behind in filing their returns or making tax payments. “When you call, you think you’re talking to a tax professional,” said Swanson. “You’re really talking to just a salesperson who’s trying to get you to sign up.”
So maybe the secret is that the late night settlement outfits are staffed by telemarketers who just happen to be awesome at selling pennies-on-the-dollar deals to the IRS. If that’s true, though, they seem to be having a lot of trouble turning what would truly be a remarkable and valuable skill into profits.
Is the IRS Going to War with Canada?
Wars with Canada turn out badly. While the Canadians are a seemingly peaceful people, content with their Tim Horton’s and their hockey, they seem to come out on top in a fight. Ethan Allen and Benedict Arnold learned that lesson early on, and things went no better in 1812.
Now IRS Commissioner Shulman is baiting Canada for another war:
Premier David Alward, one of New Brunswick’s best known dual citizens, says he has been caught in the same broad net U.S. officials have cast to catch international tax evaders.
This prominent Canadian has been dragged into a U.S. tax nightmare the same way as thousands of other well-meaning expats:
Alward was born in Beverly, Mass., and spent his early years in the United States before his family settled in New Brunswick.
“I’ve had to scramble like thousands of other people,” Alward said, adding that he is complying with the U.S. demand for tax returns going back years and detailed disclosures.
The IRS is going after offshore tax violators in a big way. It’s natural that there are more in Canada than anywhere else because of geography and economics. But the IRS approach has been to enforce traffic safety by shooting jaywalkers.
While the US taxes its citizens on worldwide income, many, maybe most, expatriates have little or no U.S. tax liability. The foreign earned income exclusion and the foreign tax credit take care of that. But the long-obscure “FBAR” requirement to report foreign financial accounts over $10,000 threatens to impoverish many of these people anyway. The penalties for failing to file the FBAR Form, Form TD 09.22-1, are the greater of $10,000 or half the value of the account. The IRS is freely asserting these penalties even when little or no tax is due, and is even applying them to Canadian retirement accounts of U.S. expats like Alward.
The IRS has had two “amnesties” to draw expats into its loving arms, and the program has been a disaster for many ordinary folks who have signed up to try to clean up their records. Taxpayers living in Canada since childhood are presumed to be tax cheats, and penalized accordingly.
The IRS could learn a lot from states in handling these issues. The IRS “amnesties” have been progressively more restrictive, with higher penalties, making it more and more dangerous for folks with trivial paperwork violations to come out of the cold. Many states, in contrast, have standing deals where out-of-state taxpayers can clean up their tax histories by filing a few years of back tax returns, no questions asked. If the IRS would take this approach, and waive FBAR penalties for accounts under, say, $200,000 — and for all retirement accounts –maybe we won’t have to worry about the White House getting sacked again.
And I’d Have Gotten Away with It if It Weren’t for Those Blasted Accountants!
If you can get away with tax cheating, is it malpractice for your CPA to make you stop?
A Massachusetts CPA firm found out a new client was using a lame old trick. The S corporation had paid out $1 million to its owner over the years without putting it on a W-2 or treating it as a distribution from the company. Instead, the company every year booked it as a “loan” to the owners – a loan with no note, no interest rate, no security, and no repayments.
This is a time-dishonored way for people who carelessly suck cash out of a corporation to try to avoid the tax consequences – though it is less common in S corporations. It normally fails if the IRS figures it out.
The CPAs told the client that the “loan” should be reclassed as “wages” on the 2002 return to clean it up. The client owner was not excited, and talked to a lawyer to see if there was another way. After the first lawyer failed to satisfy, she talked to a second lawyer, who agreed with the CPA. The client reluctantly filed an amended return, and the owner found herself with a $500,000 tax lien.
At a national firm where I once worked, an audit partner would go from one tax person to another until he found one who told him what he wanted to hear. The client here took that approach, eventually finding a practitioner willing to prepare the 2002 return the old way. That was enough to get the client to file another amended return claiming a refund and to sue the old CPA for malpractice. That might have been a bad decision, in light of this reaction from the astonished judge:
It is surprising that Plaintiffs had the temerity to bring this lawsuit. The complaint was clearly filed too late. The record, mainly as a result of Plaintiffs’ failure to file long-overdue tax returns, is utterly insufficient to demonstrate damages. Most importantly, it is clear that Plaintiffs for many years enjoyed over $1,000,000 in income without paying any taxes on it, and they accomplished this by filing a tax return that improperly characterized the monies they received as a loan. It is close to ludicrous to claim that, by advising Plaintiffs to amend the 2002 tax return to conform with what the law and good accounting practice required, Defendants were being negligent. On the contrary, they were serving their clients ethically and well.
The judge also implied that the client might have been unwise in calling attention to the matter by filing the suit:
As a result of behaving professionally, Defendants have found themselves slapped with this expensive lawsuit. That undeserved headache, at least, is now over. The court can only hope that the IRS and the state authorities will make sure that Plaintiffs now proceed to do what everyone who enjoys the privilege of living in our beloved country is required to do: pay their fair share of taxes.
In other words: come and get ‘em, IRS!
In a world full of charlatans, it can be tough out there for CPAs who try to do the right thing. When you do, it’s nice to know at least one judge has your back.
That Tax Shelter Seemed Like a Really Good Idea at the Time
It helps to be really smart if you want to talk yourself into something really stupid. That’s how a lot of bad tax shelters happen. Let’s call this one the “Dumb-Ass Deduction Distressed Asset-Debt” (“DAD^2” or “DAD-squared”) shelter.
The ingredients:
• A bunch of near-worthless consumer receivables from a struggling Brazilian department store chain.
• A whip-smart Chicago tax lawyer, John E. Rogers.
• A bunch of LLC partnerships for tax-motivated investors.
• Some cash.
The Brazilians contribute their receivables – purportedly with a big built-in loss – to a partnership. This partnership contributes the debt to other LLCs. Shortly afterwards the first LLC buys out the Brazilians, who are desperate for cash, leaving the crappy receivables behind. The investor partnerships then write off the debts as bad debt deductions, giving big tax losses to the investors.
It can’t fail, right? Well, aside from the obvious problems, like:
– The tax law presumes that if a partner (think Brazilians here) contributes stuff to a partnership, and then gets cash back in redemption of the interest within two years, then it wasn’t really a tax-free partnership contribution and distribution. Instead, the tax law presumes that the Brazilian sold the stuff for cash. The partnership was just a place to hide it for awhile.
– If the Brazilians hadn’t sold out, the tax law would have required them to get all of the losses. The tax law doesn’t let taxpayers shift gains or losses to others by joining a partnership. After all, that’s what S corporations are for.
The guy who put this thing together was smart, as people who put together sophisticated tax deals always are. The Tax Court spells it out:
Rogers is a member of the International Fiscal Association, an international tax group. He has also been a trustee of the Tax Foundation, a publicly supported foundation that researches tax policy issues and publishes papers. Rogers has worked with the Governments of Puerto Rico and Romania in developing programs implementing their industrial taxation programs. Rogers has written a number of publications, primarily on international tax matters, transfers of technology, the use of low-tax jurisdictions, and the compensation of executives outside the United States. In 1997 Rogers was invited to testify before the House Ways and Means Committee on fundamental international tax reform.
When a plan by someone who is that smart fails, it fails spectacularly. Tax Court Judge Wherry disallowed all of the bad debt deductions, and imposed penalties, pointing a finger at the lawyer-mastermind:
There has been no showing of reasonable cause or good faith on Rogers’ part in conceptualizing, designing, and executing the transactions. To the contrary, as we have detailed above, Rogers’ knowledge and experience should have put him on notice that the tax benefits sought by the form of the transactions would not be forthcoming…
I’m sure that, over drinks, Mr. Rogers would have me convinced that he was right. That’s why you should never buy a tax shelter until you sober up.
If All Corporations Are People, Should All People Be Corporations?
Ed. note: We’re happy to welcome tax sage Joe Kristan back to a regular posting spot in these pages. This is his first effort for us but insists that he won’t feel as though he’s truly returned until he’s trolled by Adrienne.
Megan McArdle ponders one of life’s great questions:
One of the main “real world” elements of the case for the corporate income tax, as I understand it, is that failure to impose such a tax would simply create an inviting method for evasion of individual income taxes.
The question I always have about this is: “Well, why don’t more people do this now?”
The biggest reason we don’t all corporations to dodge taxes is that it is unnecessary. People looking to nickel and dime their way to deductions long ago learned that all you need is a Schedule C to have a place to hide a deduction for your dog (“security expense”) or your girlfriend (“theft loss”). This idea is one of the foundations of the multi-level marketing industry, and was carried to spectacular lengths by a recently closed Iowa tax preparer. Megan senses the limits to this approach:
And the reason that it’s mostly pretty minor is that if you are obviously using a corporation to fund your lifestyle, then the IRS will descend upon you like a plague of deranged cicadas.
There’s something to that, even though the cicada analogy implies a nimbleness unlikely in the IRS; a herd of flesh-eating slugs would be more apt.
Still, a corporation does offer some tax-sheltering possibilities. One is that C corporations can normally use any fiscal year. By shuffling income between an individual and a corporation with a November tax year, you can, in theory, get 11 months deferral of income — at least until you are caught. Corporations have a 15% tax rate on their first $50,000 of taxable income, giving higher-bracket individuals possibilities of shifting income to a lower bracket. And C corporation shareholder-employees get some benefits unavailable elsewhere.
Yet these chiseling possibilities have serious limits. The fiscal year games require you to have real live business expenses. A Kansas City attorney who marketed such deals crashed against this requirement. Income of “personal service corporations” like law and accounting firms are taxed at a flat 35%, making them useless as a tax shelter. The personal holding company rules impose a special tax on corporations used to shelter income from investments.
Then there is what I call “friction” — the time and effort required to play the games necessary to juggle income between a corporation and an individual. You have to file a corporation tax return and keep corporate records. You have to compute both personal and corporate income accurately during the year to know how much income to juggle. Unless you have a lot of time on your hands, the effort may well be better spent actually making money.
Finally, C corporations have one overwhelming problem: the double-tax dilemma. Unlike S corporations, which report their income on shareholder tax returns, C corporations have their income taxed twice — first when earned, and again when distributed or recovered on a stock sale. There are games you can play to get it out as a deduction to the corporation, but these have their problems. Take cash out as compensation and you incur payroll taxes; take it out as rent and you actually need something you can lease to the corporation with a straight face. Distribute an appreciated asset to yourself and the corporation is taxed on the gain. The Bittker and Eustice tax treatise has a classic summary of the problem:
Decisions to embrace the corporate form of organization should be carefully considered, since a corporation is like a lobster pot: easy to enter, difficult to live in, and painful to get out of.
These problems could be solved by taxing individuals and corporations at the same rates and allowing a deduction for dividends paid. Unfortunately, the chances of that are as likely as the chances of your brother-in-law making good pre-tax money from his Amway operation.
Three Important Filing Tips for Luddites
There is an immense body of law governing whether last-minute tax filings are timely. So often a cheap little postmark is all that stands between a taxpayer and tax catastrophe. With the IRS herding preparers and taxpayers towards e-filing, timely-mailed, timely-filed cases may seem like an arcane body of law, like piracy cases, but paper filing still has some proud hard-core holdouts, and sometimes only a paper filing will do. At the Tax Court, for example, where the website says “Initial filings, such as the petition, may be filed only in paper form.”
The tax law says that a tax return is considered timely-filed if it is mailed on the due date, but the shift to e-filing can make things awkward for paper filers. For example, few post offices still offer late April 15 hours for last-minute paper filers. Stepping into the last-minute filer void are authorized private carriers of tax documents, like FedEx and UPS. A proper shipping document by an authorized private carrier can document timely filing. That gives taxpayers new ways to meet disaster, as the Tax Court illustrated this week.
A California couple wanting to take the IRS to Tax Court had a July 20, 2009 deadline for filing their petition. They filed by FedEx, perhaps at a FedEx/Kinkos location. They generated a shipping label on their home computer with a July 20 date. But FedEx spoiled everything, as the Tax Court explains:
The petition, which was sent by FedEx Express (FedEx), was received and filed by the Court on Thursday, July 23, 2009. The envelope containing the petition bore two shipping labels. The first shipping label, which had been placed inside a clear plastic pouch adhered to the envelope, had been electronically generated by the sender using FedEx Ship Manager (customer generated label). The second shipping label, which had been affixed to the outside of the clear plastic pouch, had been electronically generated by FedEx (FedEx-generated label).
Of course the FedEx-generated label had a July 21 date. And that, says the Tax Court, is the date that counts, and our couple was out of luck.
So what does that mean to you?
• File electronically if you can. You get a nice electronic confirmation that you can beat up the IRS with, and you don’t have to worry about your valuable tax forms going awry.
• If you must paper-file, Registered Mail or Certified Mail, Return Receipt Requested, are still the best deal in town. They’ll generally be cheaper than a private carrier, and that hand-stamped certified mail postmark has the same effect on IRS agents as sunlight on Dracula.
• If you find yourself at FedEx/Kinkos late on April 15, make sure the clerk knows that you need them to stamp it before midnight. If you use private delivery, be sure to use the proper street address, as the private carriers can’t deliver to post office boxes.
Otherwise, you might find yourself trying to reach Jiffy Express.
“Even liars and hucksters have First Amendment rights”
A horrible fate must await an attorney when a judge has these things to say about him:
“Just because other accountants and professionals were doing something wrong does not excuse Defendant’s misconduct.”
“Defendant’s reasoning is so specious that he should have known it was wrong.”
“Defendant has been quite adept at hiding his involvement in these activities in an effort to develop what he believes is plausible deniability. Ultimately, his denials are implausible.”
“As stated earlier, the Court believes that promotion of tax schemes and structures is now Defendant’s modus operandi. These were not isolated occurrences, and the nature of his preferred method of business indicates it will continue to ng business.”
“Defendant describes himself as a “rainmaker,” and the Court finds that practically everything he has done in that capacity has been improper. The Court has no reason to believe he would not concoct and promote some other scheme of doubtful validity.”
So this led to…maybe a referral to the local attorney disciplinary board? A broad and sweeping injunction against doing further tax work?
Well, a Kansas City judge barred defendant A. Blair Stover from promoting three “schemes” he no longer promotes anyway. The judge also required him to run any other tax planning ideas by the IRS before marketing them. No disbarment. No banishment. Just “sin no more.”
Why the seeming leniency?
An injunction prohibiting Defendant from providing tax advice raises serious First Amendment concerns. The Government has a strong and valid interest in preventing fraud, and the First Amendment does not protect fraudulent statements. However, the Government has no interest in preventing true statements, and even liars and hucksters have First Amendment rights. Conceivably, Defendant could provide lawful and accurate tax advice, and the Court is unwilling (and probably unable) to prevent him from doing so.
I like the First Amendment. Without it I might have been moved to an oubliette underneath IRS Headquarters long ago. Yet the first in line in the bill of rights hasn’t stopped other judges from shutting down tax scheme promoters. For example, a federal judge enjoined tax protest guru Bill Benson from:
promoting, organizing, or selling (or helping others to promote, organize, or sell) any other tax shelter, plan, or arrangement that incites or assists others to attempt to violate the internal revenue laws or unlawfully evade the assessment or collection of their federal tax liabilities or unlawfully claim improper tax refunds.
Benson appealed on First Amendment grounds. The Seventh Circuit turned him down:
Benson purported to be selling a way to avoid tax liability; what he was actually selling was a way to increase tax and criminal liability for failing to pay taxes. That is false advertising, which may be banned consistent with the First Amendment.
Some years back a Des Moines gentleman vigorously promoted Employee Stock Ownership Plans as a tax cure-all, which had a number of unfortunate consequences. The Eighth Circuit didn’t let the First Amendment get in the way from permanently enjoining him and his CPA practice “…from acting as a service provider to any ERISA plan.”
Perhaps there’s something in ERISA that overrides the First Amendment the same way “ERISA preemption” keeps states from regulating many features of pension plans. Maybe the Eighth Circuit was wrong. But if the Kansas City judge’s opinion gets it right, you can get away with a lot in tax practice before you are drummed out altogether.