Bartender beats IRS in Tax Court

Tax Court rules for Bartender on his Tip reporting method over IRS's reconstruction method The United States Tax Court held that the actual tip income from a bartender's own records was a better reflection of his income than the Internal Revenue Service’s version based upon reconstructing his tip income. By way of background, I.R.C. Sec. 6001 and Treas. Reg. Sec. 31.6053-4 require those who earn tips to keep accurate and contemporaneous records of their income. The IRS has the authority to recompute tip income as it determines if the tip earner fails to produce adequate records. In Sabolic v. Comm., TC Memo 2015-32 (T.C.M. 2015), a bartender had a set routine of how he recorded his tips at the end of each shift but IRS claimed that the bartender had underreported his tip income and because his tip logs were recorded in whole numbers; he did not keep track of how much he paid to the bar backs; and the logs did not include all days. IRS reconstructed the bartender's tip income by determining a “charge tip rate” for each tax year. But, the Court sided with the bartender fully reported his tip income. In the Court’s analysis, it did state that the IRS does have great latitude in adopting a suitable method for reconstructing tip income and its method of recomputing income carries with it a presumption of correctness and therefore, the burden of proof was on the bartender. But the Court sided with the taxpayer on all three challenges: round numbers, payments to bar backs and missing days. In sum, the Court concluded that the bartenders actual records were more accurate than the IRS’s reconstructed method and therefore ruled for the bartender. Many bartenders receive tips that are higher than the Internal Revenue Service method and therefore this case is not helpful. But for those who are not earning tips as high as the IRS method, any tip earner should keep accurate records and fight the IRS if necessary.

Another Estate Tax Repeal Bill Is Proposed

Another Estate Tax Repeal Bill Is Proposed

Many Republicans have been urging a repeal of the Federal Estate Tax for years.  During the time that we have a democratic president, the chances of such a bill becoming law are remote.  In fact, President Obama has set forth his proposal to actually increase the tax by lowering the threshold for an estate to be taxable.  The latest bill was sponsored by Rep. Kevin Brady (R-Tx).  He introduced H.R. 1105, 114th Cong., 1st Sess. (March 6, 2015), which would repeal the federal estate and GST taxes. The bill already has 32 co-sponsors, and has been referred to the House Committee on Ways and Means.

The upshot of this is that it is unlikely that any changes will occur during this administration but if a Republican takes the white house and the Republicans continue to control both Houses, the possibility of absolute repeal may very well become a reality.

Obama’s Budget Proposal Includes Estates, Gifts, and Trusts Taxation Changes

Obama’s Budget Proposal Includes Estates, Gifts, and Trusts Taxation Changes

The Treasury Department has just issued “General Explanations of the Administration's Fiscal Year 2016 Revenue Proposals,”  http://www.treasury.gov/resource-center/tax-policy/Pages/general_explanation.aspx.  In it, the President’s Administration includes a budget proposal that contains proposals to change estate, gift, and trust taxation.  Some of these proposals include:  1. imposing a capital gains tax on the transfer of appreciated assets by gift or upon death;  2. reverting the estate, gift, and GST rates and exemptions beginning in 2016 to the levels and rates that existed in 2009 (i.e., $3.5 million estate tax applicable exclusion amount and GST exemption, and $1 million gift tax exemption with a top estate and gift tax rate and sole GST tax rate of 45 percent);   3. requiring that grantor retained annuity trusts (“GRATs”) have a minimum length of 10 years and at the end of the term there be a minimum remainder value of 25 percent of the value of the transferred assets (or $500,000, if greater);  4. Making sales to grantor trusts moot by  treating such trusts as an incomplete transfer for gift and estate tax purposes;  5. limiting the protection from the GST tax afforded by allocation of GST exemption to 90 years;  6.  causing the lien from  estate tax deferrals for taxes attributable to interests in a closely-held business interest to continue throughout the deferral period;   7.  limiting the annual exclusion for gifts to most trusts, gifts of interests in passthrough entities, gifts of interests subject to a sales prohibition, and other transfers of property that cannot be liquidated immediately by the donee to $50,000 per year;  8. eliminating stretch IRAs by requiring non-spouse beneficiaries of a decedent's IRA or retirement plan to take inherited distributions over no more than five years;  9. Capping IRA and qualified plan contributions by prohibiting future contributions by a taxpayer with an IRA or qualified plan to $210,000 per year (indexed).

While it is always relevant to read the administration’s proposals,  with a Republican dominated House and Senate, the likelihood of any of this passing as actual legislation seems low.

 

Bankruptcy Debtor’s Income Tax Liabilities Held Not Dischargeable

Bankruptcy Debtor’s Income Tax Liabilities Held Not Dischargeable

Few issues are more misunderstood than the interplay between the taxing authorities and the bankruptcy court.  Congress is no help here because the language of the Bankruptcy Code is second only to the Internal Revenue Code in obtuseness.  These Codes give the most gifted lawyers fits in attempting to decipher them. 

 

Income tax obligations that are too new are not dischargeable while older taxes can be.  The theory seems to be that the Internal Revenue Service should get a fair chance to collect income taxes before losing that ability entirely to bankruptcy. 

11 U.S.C. 1328(a)(2) excepts from discharge the kind of debt specified in 11 U.S.C. 507(a)(8)(C) (withholding taxes) or 11 U.S.C. 523(a) (all other taxes), including specifically 11 U.S.C. 523(a)(1)(B) debt. 11 U.S.C. 523 (a)(1)(B)(ii) denies discharge of taxes for which a late return was filed after two years before the date of the filing of the bankruptcy petition.  Via 11 U.S.C. 507(a)(8)(A)(i), taxes for which a return is last due including extensions after three years before the date of the filing of the bankruptcy petition are not discharged. Via 11 U.S.C. 507(a)(8)(A)(ii), taxes assessed within 240 days before the date of the filing of the bankruptcy petition are also not discharged.  If any of these three are met, there is no discharge.

In In re Ollie-Barnes, 114 AFTR 2d ¶ 2014-5413 (Bktcy Ct 11/06/2014) the bankruptcy court ruled that the filing date was less than two years from the late tax return filing and therefore  the taxes were not dischargeable.  One of the issues in Ollie-Barnes was whether her prior bankruptcies tolled the two year period.  The bankruptcy court held that the earlier bankruptcy filings tolled the running of the two year period and therefore the two year period had not expired and thus the taxes were not discharged.

Moral of the case: when dealing with taxes and bankruptcy, engaging counsel familiar with the interplay between taxes and bankruptcy is key.

U.S. Tax Court upholds $10,000 penalty against a PRIVATE foundation who filed a return late

In Grace Foundation v. Comm., T.C. Memo 2014-229, the U.S. Tax Court sustained an Internal Revenue Service levy of a $10,000 penalty on a private foundation.  The Tax Court rejected all of the foundation’s arguments that there were errors in the IRS's conduct of the taxpayer's collection due process (CDP) hearing.  First, the Tax Court made clear that a private foundation which is not exempt from tax must comply with the same return filing requirements as organizations described in Code Sec. 501(c)(3) which are exempt from tax under Code Sec. 501(a). (Code Sec. 6033(d)) and that Code Sec. 6652(c)(1)(A) imposes a penalty for failing to file Form 990 in a timely manner.

Lesson learned #1:  The Internal Revenue Service will impose penalties for failure to timely file returns on private foundations and the Tax Court will uphold these penalties. 

Lesson learned #2:  All taxpayers, even private foundations, should have proper advice and counsel of their filing obligations so these issues do not occur. 

 

 

Richard Weber, the Chief of I.R.S. - Criminal Investigation issues statement regarding no longer seizing structured funds of otherwise legal source activity.

Richard Weber, the Chief of I.R.S. - Criminal Investigation issues statement regarding no longer seizing structured funds of otherwise licit activity.  This means that 31 U.S.C. 5324 will only be applied on a forward going basis to structuring of non-legal sourced funds.  This does not change the affect the government’s ability to audit and recommend criminal prosecution where structuring is a part of avoiding reporting for income tax purposes.

Here is the full statement:

After a thorough review of our structuring cases over the last year and in order to provide consistency throughout the country (between our field offices and the U.S. attorney offices) regarding our policies, I.R.S.-C.I. [Criminal Investigation] will no longer pursue the seizure and forfeiture of funds associated solely with “legal source” structuring cases unless there are exceptional circumstances justifying the seizure and forfeiture and the case has been approved at the director of field operations (D.F.O.) level. While the act of structuring — whether the funds are from a legal or illegal source — is against the law, I.R.S.-C.I. special agents will use this act as an indicator that further illegal activity may be occurring. This policy update will ensure that C.I. continues to focus our limited investigative resources on identifying and investigating violations within our jurisdiction that closely align with C.I.'s mission and key priorities. The policy involving seizure and forfeiture in “illegal source” structuring cases will remain the same.

 

A merger of two family-owned companies may result in taxable gifts

In Cavallaro, v. Comm., T.C. Memo 2014-189 (2014), the Tax Court determined that a merger of one co. owned by the parents and the other co. owned by their sons, resulted in a taxable gift from parents to sons. The ruling was based upon the Tax Court determining the parents' company to have been undervalued. Background. Code Sec. §2501(a) imposes the gift tax on any transfer of property by gift regardless of the form of the gift transaction. Any time that property is transferred for less than full and adequate consideration, the excess value is considered a gift. (Code §2512) Taxable gifts include "sales, exchanges and other dispositions of property for a consideration to the extent that the value of the property transferred by the donor exceeds the value in money or money's worth of the consideration given therefor." (Treas. Reg. §25.2512-8) Conclusion: Any type of transaction can be a deemed gift. This is especially so when there are transactions involving family members. Be sure to be vigilant in any transactions that could contain any type of gifting element so that the gift tax consequences, if any, can be ascertained and proper planning done to consider non-gift alternative transactions.