Third Circuit holds that the IRS can compel production of foreign bank records over a Fifth Amendment assertion

Third Circuit holds that the IRS can compel production of foreign bank records over a Fifth Amendment assertion The Court of Appeals for the Third Circuit in U.S. v. Chabot, 2015 WL 4385279 (3rd Cir. 2015) affirmed a New Jersey District Court decision and held that the "required records" exception to the Fifth Amendment privilege against self-incrimination applies to allow the IRS to enforce a summons of foreign bank account records. Background 31 CFR 1014.420 requires a taxpayer to file a Report of Foreign Bank and Financial Accounts (“FBAR”) to report financial accounts in foreign countries where the aggregate of such accounts exceeds $10,000. The Fifth Amendment states that "[no] person... shall be compelled in any criminal case to be a witness against himself." An individual may claim this privilege if compelled to produce self-incriminating, "testimonial communications." The act of producing documents may trigger the Fifth Amendment privilege. Fisher v. U.S., 425 U.S. 391 (1976). But there is an exception to the 5th Amendment called the “required records exception.” This exception states that when records are required to be maintained for a legitimate purpose, the 5th amendment does not apply to such records. In Shapiro v. U.S., 335 U.S. 1 (1948), the Supreme Court held that the Fifth Amendment privilege is not abrogated by requiring that taxpayers maintain records as long as the records closely served the purpose of a valid, civil regulation. As set forth in Grosso v. U.S., 390 U.S. 62 (1968), three prongs must be met to fall within the required records exception: (1) the reporting or recordkeeping scheme must have an essentially regulatory purpose; (2) a person must customarily keep the records that the scheme requires him to keep; and (3) the records must have "public aspects." The Chabot case. IRS issued summonses to Mr. and Mrs. Chabot requesting documents required to be maintained under 31 CFR 1014.420. The Chabots refused claiming the 5th Amendment privilege. The New Jersey District Court ruled that the summonses were proper under the required records exception and the Third Circuit just affirmed. The Third Circuit analyzed the three Grosso prongs and determined all three were met. Conclusion For anyone still holding assets abroad without disclosing them, be aware that the IRS may obtain the records through summons enforcement. As such, such taxpayers should consult counsel and strongly consider entering into either the offshore voluntary disclosure program or the streamlined program.

Innocent Spouse Taxpayer Recovers Litigation Costs by Making a “Qualified Offer” and Then Prevailing in Court

Innocent Spouse Taxpayer Recovers Litigation Costs by Making a “Qualified Offer” and Then Prevailing in Court The Court of Appeals for the Ninth Circuit, reversed the Tax Court in Knudsen v. C.I.R., 116 AFTR 2d ¶2015-5051 (9th Cir. 2015) finding that Taxpayer was a prevailing party eligible to recover reasonable litigation costs. The Ninth Circuit determined that she was entitled to an award of costs as a "qualified offer" because she offered to settle her tax liability, the offer was not acted upon and her ultimate liability was zero. Innocent spouse (equitable relief) - background Each spouse is liable jointly and severally for the tax, interest, and most penalties when they file a joint return. Code §6015(f) permits equitable relief to a requesting spouse if, taking into account all of the facts and circumstances, it is inequitable to hold the requesting spouse liable. Litigation costs - background. Under Code §7430, taxpayers who prevail against the U.S. in court may be awarded reasonable litigation and administrative costs unless the IRS's position is substantially justified (Code §7430(c)(4)(B)), or the taxpayer fails to substantiate his claim for reasonable litigation costs. But a taxpayer may also make a qualified offer (“QO”) under Code §7430(g)(1) to settle a tax controversy. If that offer is rejected by the IRS and the amount of the QO is greater than the taxpayer's ultimate liability, will be treated as a prevailing party. Using the QO, the taxpayer's qualification as a prevailing party does not depend on whether IRS's position was substantially justified or whether the taxpayer substantially prevailed in the proceeding. Ninth Circuit reverses. The Ninth Circuit Court found that its decision to grant costs to the taxpayer was consistent with the purpose of the QO, that is: to encourage settlements by imposing costs on the party who was unwilling to settle. Conclusion. The use of the QO tool is one that all tax practitioners should have in their arsenal to use to even the playing field when sometimes it seems the Government has endless funds to fight the taxpayer.

VICTIM OF A “PUMP AND DUMP” SCHEME NOT ENTITLED TO THEFT LOSS DEDUCTION FOR LOSSES INCURRED

VICTIM OF A “PUMP AND DUMP” SCHEME NOT ENTITLED TO THEFT LOSS DEDUCTION FOR LOSSES INCURRED In a recent decision: Greenberger v. U.S., 115 AFTR 2d ¶2015-844 (D. Oh. 6/19/15). The District Court of Ohio ruled that a taxpayer was only entitled to a capital loss on the loss from the sale of stock rather than a theft loss as the taxpayer claimed. The taxpayer was the victim of a “pump and dump.” “Pump and dump” is a scheme whereby schemers “pump” up the value of shares through fictitious or fraudulent sales, then “dump” their shares at the inflated prices leaving the public with worthless shares. The taxpayer in Greenberger was one such victim. Yet, the Ohio District court ruled consistent with an Internal Revenue Service Notice. In Notice 2004-27, 2004-1 CB 782, the Internal Revenue Service stated that theft losses for declines in stock value resulting from corporate misconduct where the stock was purchased on an open market and not from the officers who may have made misrepresentations were to be disallowed. The Internal Revenue Service, in that Notice, said such losses due to corporate misconduct may only qualify as capital losses. I.R.C. Sec. 165(c)(3) allows individual taxpayers to deduct from their taxable income losses arising from theft crimes such as "larceny, embezzlement, and robbery." Treas. Reg. §1.165-8(d)) amplifies this stating: To deduct a theft loss, a taxpayer must show that the loss resulted from a taking of property that is illegal under the law of the state where it occurred, and that the taking was done with criminal intent. (Rev Rul 72-112, 1972-1 CB 60). In many cases, this requires that the perpetrator have specific intent to deprive the victim of his property, which in turn requires a degree of privity (i.e., close connection or relationship) between the perpetrator and the victim. Even though the court said the executives of the company committed a "theft offense," the court ruled that the fact that the taxpayer bought his shares on the open market meant that there was no direct transfer of funds to the culprits, and thus the taxpayer was ineligible for a theft loss deduction. The case was decided under Ohio law so a case similar to this in another state may be decided differently.

ESTATE TAX CLOSING LETTERS ISSUED ONLY UPON REQUEST

ESTATE TAX CLOSING LETTERS ISSUED ONLY UPON REQUEST The Internal Revenue Service has just announced that, estate tax closing letters will be issued only upon request by the taxpayer for estate tax returns filed on or after June 1, 2015. It also clarified the circumstances under which it will issue closing letters for estate tax returns filed prior to June 1, 2015. Prior to the recent pronouncement, the Internal Revenue Service would issue an estate tax closing letter indicating the return is accepted as filed or send an audit notice within four to six months of filing. It is often prudent for an estate executor to wait for the closing letter before distributing the majority of the estate. On its website, the I.R.S. asks that estate tax filers wait at least four months after filing the return to request the closing letter.

Lawsuit settlement payments not deductible for income tax purposes after claiming same as a deduction for estate tax purposes.

Lawsuit settlement payments not deductible for income tax purposes after claiming same as a deduction for estate tax purposes. In a recent decision by the Eleventh Circuit Court of Appeals, Batchelor-Robjohns v. United States, No. 14-10742, 2015 WL 3514674 (11th Cir. June 5, 2015), the Court denied an income tax deduction for an estate that already took an estate tax deduction for lawsuit settlement payments. The Estate had filed suit concerning $41 million in payments it made to settle various lawsuits against the Estate. The Estate deducted the payments from its gross estate for estate tax purposes as claims against the estate pursuant to I.R.C. §2053(a)(3). The estate and Internal Revenue Service agreed that this deduction was proper, and the estate tax liability was not at issue before the district court. However, after taking the estate tax deduction, the Estate also claimed an $8.3 million credit on its income tax return for the settlement payments. The district court rejected the Estate's claim, finding that I.R.C. §642(g) barred the Estate from claiming both an estate tax deduction under § 2053 and an income tax deduction for the same payment. The Eleventh Circuit agreed. The government maintained that the Estate cannot use the $41 million repayment to reduce both its estate and income tax obligations, and instead may only deduct the payments from either one tax or the other. The Eleventh Circuit agreed. The Estate argued on appeal, as it did in the district court, that sections 162 and 212 provide the basis for permitting the “double deduction” of the settlement payments at issue because the payments arise out of the Decedent’s business activities in selling his corporate assets, and thus are ordinary and necessary business expenses. The Eleventh Circuit disagreed. The Eleventh Circuit’s analysis focused on the I.R.C. provisions relating to overlapping estate and income tax deductions. I.R.C. §642(g), entitled “Disallowance of double deductions,” generally prevents an estate from claiming both an estate tax deduction under I.R.C. §2053 and an income tax deduction for the same payment. The statute provides: Amounts allowable under §2053 or §2054 as a deduction in computing the taxable estate of a decedent shall not be allowed as a deduction ... in computing the taxable income of the estate or of any other person, unless there is filed ... a statement that the amounts have not been allowed as deductions under §2053 or §2054 and a waiver of the right to have such amounts allowed at any time as deductions under §2053 or §2054. I.R.C. §642(g) contains an exception, however, for “income in respect of decedents.” A double deduction is permitted for “taxes, interest, business expenses, and other items accrued at the date of a decedent's death” that fall within § 2053(a)(3) as claims against the estate, as long as they are also allowable under §691(b). See 26 C.F.R. § 1.642(g)–2. Section 691(b), in turn, provides that a decedent's estate may claim both deductions if the expense falls within one of six statutes: sections 162, 163, 164, 212, 611, or 27. When there are claims that could potentially be available as a deduction for federal estate tax, federal income tax, or both, competent counsel should be consulted to determine how best to take available deductions to minimize estate and/or income tax liability.

U.S. Flight Attendants living abroad owe tax when flying over the U.S. or international airspace

U.S. Flight Attendants living abroad owe tax when flying over the U.S. or international airspace The D.C. Circuit in Rogers v. C.I.R., 115 AFTR 2d 2015-1534 (D.C. Cir., 2015), has just affirmed the Tax Court's decision that a flight attendant providing services in or over the United States. and international waters could not use the foreign earned income exclusion under Code Sec. 911. Background: U.S. Citizens and U.S. Residents must pay tax on their worldwide income unless there is an exclusion that applies. Code Sec. 911 provides an exclusion for U.S. persons residing outside the U.S. and earning “earned income” to exclude same up to a limit. The limit is $80,000 plus inflation adjustment. The adjustment brings the maximum foreign earned income exclusion to $100,800. The taxpayer in Rogers did not earn more than that amount but the Internal Revenue Service determined that some of her earnings were attributable to time flown in and over the U.S. and some while flying over international waters. The portion of her earnings in the U.S. or over international waters was determined not to qualify as foreign earned income and both the Tax Court and the D,C. Circuit agreed with the Commissioner’s interpretation. The Circuit Court relied on the Regulation found at Treas. Reg. 1.911-3(a) which provides “earned income is from sources within a foreign country if it is attributable to services performed by an individual in a foreign country or countries.” Treas. Reg. 1.911-2(h) defines foreign country to include territorial waters of and airspace over the foreign country. But income earned over waters not subject to any foreign country's jurisdiction is not income earned in a foreign country. Thus, the Courts sided with the regulations. Flight attendants, pilots, ship crew members etc. must consider the Rogers ruling and keep logs of earnings in foreign countries versus the U.S. and international waters and report the income from those areas without claiming the foreign earned income exclusion on those earnings.

House Ways and Means Committee Votes to Repeal the Estate and GST Taxes

House Ways and Means Committee Votes to Repeal the Estate and GST Taxes By a vote of 22 to 10, the House Ways & Means Committee (“W&M”) on March 25, 2015, voted to pass H.R. 1105, the “Death Tax Repeal Act of 2015.” Currently the Estate Tax is imposed on estates valued at $5,430,000 (the basic exclusion amount) or higher for taxpayers dying in 2015. There is also a Generation Skipping Tax (“GST”) which is imposed on either outright transfers or transfers in trust to beneficiaries more than one generation below the transferor's generation. Both the estate and GST taxes are imposed at 40% (I.R.C. Sec. 2001(c)) of the amount in excess of the basic exclusion amount. The tax is based upon a unified system so that lifetime taxable gifts are added to transfers at death. The Republican dominated W&M has proposed estate tax repeal. The Death Tax Repeal Act of 2015 – if enacted - would repeal the estate and GST tax for estates of decedents dying, and generation-skipping transfers made, on or after the date of enactment. While the Estate and GST taxes would be eliminated, the proposed bill would retain the gift tax with its current tax rate of 35%. The lifetime gift tax exemption amount ($5,430,000 for 2015) under the proposed bill would remain the same as under present law and the gift tax annual exclusion ($14,000 for 2015) would continue to apply. The proposed bill does not change the basis rules for income tax purposes. Thus the basis of assets acquired by gift would retain its current basis while assets acquired from a decedent would obtain a stepped up basis - the fair market value of the asset on the date of death or on the alternate valuation date (the earlier of six months after the decedent's death or the date the property was sold or distributed by the estate). Should this bill make it through the House of Representatives and Senate, the likelihood that it will be signed by the President is remote. President Obama has indicated (through The President's Budget for Fiscal Year 2016 issued earlier this year) that not only does he want to retain the estate and GST taxes, but believes the current threshold for imposing the taxes ($5,430,000) is too high and wants to tax estates and skips starting at $3,500,000. Stay tuned as the path that this bill might take strongly affects estate planning. For those readers in states that impose an estate tax, this bill, if enacted, may have an effect on the state tax as well but states looking for estate tax revenue may choose to decouple their laws from the federal laws (if they have not done so already). As this author is in New Jersey, I can state that the New Jersey State Estate Tax has remained since 2001 at the same number: there is a tax on estates in excess of $675,000. Thus, estate planning at this time must be done very carefully by an estate planner familiar with the laws of the state and federal governments to weave through the morass of laws.