The penalty for a substantial understatement of tax found at IRC §6662(b)(2) is triggered whenever a taxpayer faces a sufficiently large underpayment at the end of an examination.  A substantial understatement exists for an individual if the understatement is greater than the greater of:

• $5,000 or
• 10% of the tax required to be shown on the return for the taxable year.

Once the IRS establishes an underpayment that exceeds the thresholder, to escape the penalty, the taxpayer must meet one of the following criteria:

• If the underpayment did not arise from a tax shelter (as defined at IRC §6662(d)(2)(C)) either:
  • There was or is substantial authority for the treatment of the item or
  • There was adequate disclosure (generally on a Form 8275 or Form 8275-R) and there exists or existed a reasonable basis for the position that gave rise to the underpayment (IRC §6662(d)(2)) or
• There existed reasonable cause for the underpayment, the taxpayer acted in good faith (IRC  §6664(c)) and the underpayment did not arise from a tax shelter (again as defined at IRC §6662(d)(2)(C)).

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While PLR 201720003 is not really a major ruling—the IRS is merely granting an estate a right to make a late election—it does provide a reminder about the special rules that impact trusts and estates when claiming charitable contributions.  These rules are in some ways more restrictive than those imposed on other taxpayers, but in other ways they are far more generous.

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In the case of Kahmann v. Commissioner, TC Summary Opinion 2017-35 the IRS was suspicious that the taxpayers had understated their gross income from their business for the year.  Some of this suspicion arose because the taxpayers failed to turn over bank statements for the business to the agent when they were requested. 

The agent was forced to issue summonses to banks where she was aware the taxpayers maintained at least three accounts. She obtained those accounts to be able to perform a bank deposits analysis, looking for unreported income.

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The Tax Court again agreed with the IRS that a family limited partnership arrangement (FLP) had run afoul of IRC §2036(a), the IRS’s most successful route to undo such planning due to “bad facts.”  But, in the case of Estate of Powell v. Commissioner, 148 TC No. 18 the Tax Court, for the first time since it proposed a “lack of real fiduciary duties” theory for invoking IRC §2036(a)(2) in the case of Estate of Strangi v. Commissioner¸ TC Memo 2003-145 that the Court invoked that provision, rather than the general “implied life estate” theory under IRC §2036(a)(1) to unwind the plan.  Also, the majority opinion also provided that IRC §2043 served to limit the inclusion in the estate to only the excess value of the assets transferred over the interest received.

The plan in this case was very much a “deathbed” plan, with the transfers occurring one week before Nancy Powell died.  As well, at the time of the transfers Nancy was incapacitated as well as terminally ill, so her son, acting under a Power of Attorney (POA), formed the partnership with himself as general partner and then transferred Nancy’s assets into the partnership in exchange for a 99% limited partnership interest.   On that same day, her son, again acting under the POA, transferred Nancy’s limited partnership interest to a charitable lead annuity trust (CLAT).

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The Sixth Circuit Court of Appeals in the case of Byrne v. United States, CA6, No. No. 2:06-cv-12179 had to decide if the president and CEO had acted recklessly in not insuring that trust fund taxes had been deposited when they were aware of issues with the quality of work performed by the controller.  If they had, they would be liable personally for the undeposited trust fund taxes under IRC §6672.

Any responsible person may be held personally liable by the IRS for unpaid trust fund taxes (that is, federal income taxes and FICA taxes withheld from employee’s paychecks) if the IRS can show that individual either:

• Had actual knowledge that the taxes had not been paid and had the ability to pay the taxes (even if that meant not paying other bills) or
• Recklessly disregarded known risks regarding a failure to pay such trust fund taxes.

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In Chief Counsel Advice 201719026 the IRS looked at what happens to taxpayers who, under terms of the Offshore Voluntary Disclosure Program (OVDP), find that there is a refund due on one of the prior year returns filed under the program.  The key question was whether any such refund could be offset against other taxes due or refunded to the taxpayer.

The OVDP program was created in 2009 to allow a method for taxpayers with previously undisclosed foreign bank accounts to come into compliance voluntarily.  Under the terms of the program a taxpayer must disclose all such offshore accounts and file original or amended returns reporting the income for the most recent eight years of returns whose due date has passed.  The taxpayer also gives consent for the IRS to assess tax for all those years as part of the program regardless of whether the period for assessment generally under IRC §6501 has run.

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In the case of Asad and Akel v. Commissioner, TC Memo 2017-80 the IRS agreed each of the now divorced spouses should be liable for only a portion of the tax due, each qualifying for innocent spouse relief under IRC §6015 for tax liabilities arising from rental properties owned by the other spouse.

However, the taxpayers in this case, while accepting that neither should be liable for the entire balance due, argued that rather than using the allocation the IRS arrived at based on the ownership of the properties leading to the tax liability, each should be relieved of 50% of the liability.  That is, they proposed to split the tax evenly.

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Under IRC §6603 a taxpayer who believes a tax may be imposed against him/her in the future, but for which has not yet been assessed, may make a cash deposit with the IRS which will serve to stop the running of any interest on that tax at the date of the deposit if that tax is later assessed.  One such way a taxpayer might wish to make a deposit would be in a case where the taxpayer believed he/she potentially could be subject to transferee liability.

In the case of transferee liability, an individual becomes liable for another taxpayer’s tax based on certain transfers that were made to that person.  In essence, the transferee received assets which the law views as depriving the taxpayer that owed the tax of the ability to pay that tax.  In some cases, there may be multiple potential “transferees” that could be found liable. 

In Field Attorney Advice 20171801F the issue was whether a person who made such a deposit could direct the IRS to apply some or all of that deposit against the liability of another person found liable for the same liability?  And, if the person can direct the transfer, can an attorney-in-fact (that, is, a representative named a Form 2848, Power of Attorney and Declaration of Representative) for that person make that direction?.

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If the IRS erroneously informs a taxpayer that the last day for filing a Tax Court petition is later than the actual deadline (90 days after the IRS mailed its determination of final relief in this case as provided in IRC §6015(e)(1)(A)), does that extent the time the taxpayer has to file with the Tax Court?  In the case of Rubel v. Commissioner, CA3, No. 16-3526, the Third Circuit Court of Appeals ruled that the answer is no—the Tax Court lacks jurisdiction to hear the case once the 90-day period expires, despite the erroneous information provided by the IRS.

In the case in question the IRS had denied Nancy’s request for innocent spouse relief on January 4, 2016 for two tax years and on January 13, 2016 for another tax year.  The date 90 days from those dates were April 4, 2016 for the first two years and April 12, 2016 for the final year.

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In Rev. Rul. 2017-9 the IRS ruled on two different transactions involving three related corporations, one of which gives the IRS position on “North-South” spinoff transactions that the IRS had placed on its no rule list in 2013.  

The first situation, and the one which proves to be the most taxpayer friendly, involved three related corporations involved in a North-South spinoff.  P, the parent corporation, owns 100% of D, what will eventually be the distributing corporation in this arrangement.  D owns 100% of C, a corporation whose stock the taxpayer wishes to transfer upstream to P.

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In Revenue Procedure 2017-37 the IRS provided updated numbers for 2018 for health savings accounts and the related high deductible health plans.

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Although the TEFRA Partnership audit rules are now living on borrowed time, cases looking at new issues continue to arise under those rules, and many involve concepts that likely will carry over to the new partnership audit regime.  One such issue arose in the case of Malone v. Commissioner, 148 TC No. 16.

Congress in 1997 modified the TEFRA partnership audit rules to bring certain issues involving penalties applicable to partnership items under the TEFRA rules where the matter had to be decided in a partnership proceeding, and not in proceedings for individual partners.

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In the case of Sotiropoulos v. Commissioner, TC Memo 2017-75 argued that amounts she received from the United Kingdom for claims she submitted related to what the UK government was claiming in UK courts as tax shelters were not tax refunds.  She noted that the UK government was challenging those shelters in court and she believed it was likely she would need to repay those funds.

When a taxpayer claims a foreign tax credit under IRC §905(c)(1), she is required to notify the IRS of any later refund of some or all of the taxes used to compute the credit pursuant to IRC §905(c)(3), normally by filing an amended return.

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The exclusion for gain from the sale of qualified §1202 stock now is at 100% for stock acquired after September 27, 2010 so long as the taxpayer holds it for five years.  But a number of businesses are excluded from issuing such favored stock.  In PLR 201717010 the IRS looks at whether a taxpayer’s business would cause it to fail the test.

The potential benefit of §1202 is one of the reasons a small business might still consider forming as a C corporation (S corporation stock does not qualify for §1202 treatment) if it can otherwise meet the requirements, which will include a limit on gross assets, an “active business” test and the business cannot be on the list of “prohibited” businesses found at IRC §1202(e)(3).

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