TAXATION CHAPTER 2

Shane has never filed a tax return despite earning excessive sums of money as a gambler. When does the statute of limitations expire for the years in which Shane has not filed a tax return?

The statute of limitations remains open indefinitely for years in which the taxpayer fails to file a return.

is the only court that allows tax cases to be heard before the taxpayer pays the disputed liability and the only court with a small claims division (hearing claims involving disputed liabilities of $50,000 or less

U.S. Tax Court

if the taxpayer feels very confident in her tax return position but does not have sufficient funds to pay the disputed liability then prefers

US TAX COURT

Paula could not reach an agreement with the IRS at her appeals conference and has just received a 90-day letter. If she wants to litigate the issue but does not have sufficient cash to pay the proposed deficiency, what is her best court choice?

US Tax Court

•Research questions often consist of questions of fact or questions of law •The answer to a question of fact hinges upon the ...... •The answer to a question of law hinges upon ....

facts and circumstances of the taxpayer's transaction interpretation of the law, such as interpreting a particular phrase in a code section.

are much less common than civil penalties, although they have been used to incarcerate some of the most notorious criminals. (Notorious mobster Al Capone was convicted and put in prison for tax evasion.) They are commonly charged in tax evasion cases, which include willful intent to defraud the government, but are imposed only after normal due process, including a trial

Criminal penalties

A taxpayer who loses in the U.S. Tax Court may appeal directly to the: a. Supreme Court. b. U.S. Court of Federal Claims. c. U.S. District Court. d. U.S. Circuit Court of Appeals. e. Any of the above.

D

Citators a. are primary authorities. b. are not necessary for effective tax research. c. refer to the case being evaluated as the citing case. d. give information on the history of a court case.

D

•The most common end product of a research question is a research memo, which has five basic parts:

1) understand facts, (2) issues, (3) authority list, (4) conclusion, and (5) analysis.

What happens after the taxpayer's case is decided in a trial court? The process may not be quite finished. After the trial court's verdict, the losing party has the right to request one of the

13 U.S. Circuit Courts of Appeals to hear the case

Five tax research steps

(1) understand the facts, (2) identify issues, (3) locate relevant authorities, (4) analyze the tax authorities, and (5) document and communicate research results

Three types of audits

1 correspondence examinations 2 office examinations 3 field examinations

Administrative Authorities

1•The Treasury Department is charged with administering and interpreting the tax laws. 2•Regulations •Regulations are the Treasury Department's official interpretation of the Internal Revenue Code and have the highest authoritative weight. •Regulations are issued in three different forms (proposed, temporary, and final) and serve three basic purposes (interpretative, procedural, and legislative). 3•Revenue rulings and revenue procedures •Revenue rulings and revenue procedures are second in administrative authoritative weight after regulations. •Revenue rulings address the application of the Code and regulations to a specific factual situation. •Revenue procedures explain in greater detail IRS practice and procedures in administering the tax law. 4•Letter rulings •Letter rulings are less authoritative but more specific than revenue rulings and regulations. •Private letter rulings represent the IRS's application of the Code and other tax authorities to a specific transaction and taxpayer.

Statutory Authorities

1•U.S. Constitution •The 16th Amendment provides Congress the ability to tax income directly, from whatever source derived, without apportionment across the states. 2•Internal Revenue Code •The main statutory authority is the Internal Revenue Code of 1986. •The Internal Revenue Code has the same authoritative weight as tax treaties and Supreme Court rulings. •Changes to the Code are passed by the House of Representatives and Senate and signed into law by the president. •The House Ways and Means Committee and Senate Finance Committee oversee tax legislation in the House of Representatives and Senate, respectively. •When referencing a tax law, the researcher generally refers to the law by its code section. 3 •Treaties •Tax treaties are agreements negotiated between countries that describe the tax treatment of entities subject to tax in both countries.

Dan received a letter from the IRS that gave him the choice of (1) requesting a conference with an Appeals Officer or (2) agreeing to a proposed tax adjustment. Dan received the:

30-day letter.

Juanita, a Texas resident (5th Circuit), is researching a tax question and finds a 5th Circuit case ruling that is favorable and a 9th Circuit case that is unfavorable. Which circuit case has more "authoritative weight"?

5th Circuit

Basu received a letter from the IRS that gave him the choice of (1) paying a proposed deficiency or (2) filing a petition with the U.S. Tax Court. Basu received the:

90 Day letter

are arranged by Internal Revenue Code Section. That is, for each code section, an annotated service includes the code section; a listing of the code section history; copies of congressional committee reports that explain changes to the code section; a copy of all the regulations issued for the specific code section; the service's unofficial explanation of the code section; and brief summaries (called annotations) of relevant court cases, revenue rulings, revenue procedures, and letter rulings that address issues specific to the code section. Two examples of annotated tax services are Commerce Clearing House's (CCH) Standard Federal Tax Reporter and Research Institute of America's (RIA) United States Tax Reporter

Annotated tax services

Which of the following statements pertaining to acquiescence and nonacquiescence is not true? a. Acquiescence means the IRS will follow the decision of the court in cases. b. An announcement of nonacquiescence would prevent a taxpayer with similar circumstances from following that court decision. c. The IRS may issue an acquiescence or nonacquiescence to opinions of the Tax Court and other federal court decisions. d. An announcement of acquiescence may be withdrawn, modified or reversed.

B

Which of the following Administrative sources has the highest level of authority? a. Revenue Ruling b. Nonacquiescence c. Treasury Regulation d. General Counsel Memorandum e. Private Letter Ruling

C

How should the following citation be interpreted? Hewlett Packard Co. v. Comm., 67 T.C. 736 (1975). a. A 1967 decision of the Tax Court, found on page 736. b. A decision of the Court of Claims, found in Volume 67, on page 736. c. A 1975 decision of the Tax Court, found in Volume 736. d. A decision of the Tax Court, found on page 736, in Volume 67.

D

The Tax Court strictly follows the precedent of prior decisions of the Court of Appeals for a particular circuit when a. the taxpayer requests it to do so. b. the IRS requests it to do so. c. the taxpayer resides in the United States. d. the taxpayer resides in that circuit.

D

When posed with a particularly complex tax question, a researcher with little previous experience with the issue would be best served at the outset by consulting: a. the applicable legislative history. b. the Treasury Regulations. c. the Internal Revenue Code. d. a "tax service" (e.g. CCH, RIA).

D

Which of the following is a characteristic of U.S. District Courts? a. A District Court is a national court that hears cases from taxpayers anywhere in the U.S. b. The District Court judges are tax specialists who hear only tax cases. c. A taxpayer need not pay any alleged deficiency in order to bring an action against the IRS. d. The taxpayer may obtain a jury trial; the jury decides matters of fact but not matters of law.

D

Which of the following is true of revenue rulings? a. Lower courts are bound by them. b. They are a subset of Treasury Regulations. c. Once affirmed by an appellate court, they have the force of law. d. Although they represent the official policy of the IRS, courts may overrule them. e. All of the above.

D

Which of the following statements pertaining to tax law is true? I. A tax textbook is considered a primary source. II. Secondary sources help locate and interpret primary sources. III. Primary sources emanate from the three branches of the federal government. IV. An article in a law journal written by a former commissioner of the Internal Revenue Service is considered a secondary source of tax law. a. Only statement I is correct. b. Statements I and II are correct. c. Statements I, II, and III are correct. d. Statements II, III, and IV are correct. e. Statements I, II, III, and IV are correct.

D

DIF

DIF (Discriminant Function) system , document perfection program (calc checker) , and information matching program

are regulations that have been issued in final form, and thus, unless or until revoked, they represent the Treasury's interpretation of the Code

Final regulations

After the examination, the IRS agent provides a list of proposed adjustments (if any) to the taxpayer for review. If he or she agrees to the proposed changes, the taxpayer signs an agreement form. What is the form?

Form 870

Jamarcus, a full-time student, earned $2,500 this year from a summer job. He had no other income this year and will have zero federal income tax liability this year. His employer withheld $300 of federal income tax from his summer pay. Is Jamarcus required to file a tax return? Should Jamarcus file a tax return?

Jamarcus is not required to file an income tax return because his gross income of $2,500 is well below the gross income threshold for a single taxpayer. However, he should file a tax return to receive a refund of the $300 previously withheld.

has the ultimate authority to interpret the Internal Revenue Code and settle disputes between the IRS and taxpayers

Judicial

the rarest type, are issued when Congress specifically directs the Treasury Department to create regulations to address an issue in an area of law. In these instances, the Treasury is actually writing the law instead of interpreting the Code. Because legislative regulations represent tax law instead of interpretation of tax law, legislative regulations generally have been viewed to have more authoritative weight than interpretative and procedural regulations. However, in Mayo Foundation for Medical Education & Research v. U.S., 131 S.Ct. 704 (2011), the Supreme Court held (subject to specific conditions) that all Treasury regulations warrant deference. Accordingly, it is a very difficult process to challenge any regulation and thus, taxpayers are cautioned not to take tax return positions inconsistent with regulations.

Legislative regulations

what are open facts and closed facts?

Open facts have not yet occurred, such as the facts associated with a proposed transaction. Closed facts have already occurred. The distinction between open and closed facts is important because, unlike closed facts, open facts can be altered, and different facts may result in very different tax consequences. Open facts allow the taxpayer to arrange a transaction to achieve the most advantageous outcome. Thus, they are especially important in tax planning.

are official sources of the tax law generated by the legislative branch (statutory authority issued by Congress), judicial branch (rulings by the U.S. District Court, U.S. Tax Court, U.S. Court of Federal Claims, U.S. Circuit Court of Appeals, or U.S. Supreme Court), and executive/administrative branch (Treasury and IRS pronouncements

Primary authorities

There are two broad categories of tax authorities:

Primary authorities Secondary

represent the IRS's application of the Code and other tax authorities to a specific transaction and taxpayer. Private letter rulings are issued in response to a taxpayer request and are common for proposed transactions with potentially large tax implications. For example, companies commonly request a private letter ruling to ensure that a proposed corporate acquisition meets the definition of a tax-free exchange.

Private letter rulings

explain Treasury Department procedures as they relate to administering the Code. Again, for Bill and Mercedes's case, these might be the regulations issued under IRC Sec. 6501 regarding the statute of limitations for IRS assessment and collection.

Procedural regulations

are the Treasury Department's official interpretation of the Internal Revenue Code, have the highest authoritative weight, and often contain examples of the application of the Code that may be particularly helpful to the tax researcher

Regulations

are also much more detailed than regulations. They explain in greater detail IRS practice and procedures in administering the tax law. For example, Rev. Proc. 87-56 provides the specific depreciation lives for depreciable assets (discussed in Chapter 10). As with revenue rulings, revenue procedures are binding on the IRS until revoked, modified, or superseded

Revenue procedures

have less authoritative weight, they provide a much more detailed interpretation of the Code as it applies to a specific transaction and fact pattern.

Revenue regulations

But unlike regulations, ______________address the application of the Code and regulations to a specific factual situation

Revenue rulings

________________________________________are second in administrative authoritative weight after regulations.

Revenue rulings and revenue procedures

are unofficial tax authorities that interpret and explain the primary authorities, such as tax research services (discussed below), tax articles from professional journals and law reviews, newsletters, and textbooks. may be very helpful in understanding a tax issue, but they hold little weight in a tax dispute (hence their "unofficial" status)

Secondary authorities

Primary Authority Examples

Statutory Athorities: Internal Revenue Code Committee Reports: Senate Finance Committee Report House Ways and Means Committee Report Administrative Authorities: Final Regulation Temporary Regulation Proposed Regulation Revenue Ruling Revenue Procedure Private Letter Ruling Technical Advice Memorandum Judicial Authorities: U.S. Supreme Court U.S. Circuit Court of Appeals U.S. Tax Court—Regular decision U.S. Tax Court—Memorandum decision U.S. Court of Federal Claims U.S. District Court

Estates and trusts are required to file annual income tax returns if their gross income exceeds $600

T

U.S. Tax Court judges are tax experts, whereas the U.S. District Court and U.S. Court of Federal Claims judges are generalists

T

•Tax practitioners are subject to a variety of statutes, rules, and codes of professional conduct. •The AICPA's seven Statements on Standards for Tax Services (SSTS) recommend appropriate standards of practice for tax professionals. •Many state boards of accountancy have adopted similar standards to the SSTS standards. •Circular 230 provides regulations governing tax practice and applies to all persons practicing before the IRS. •There is a good bit of overlap between Circular 230 and the AICPA SSTS.

Tax Professional Responsibilities

Secondary Authority examples

Tax Research Services: BNA Tax Management Portfolios CCH Standard Federal Tax Reporter CCH Tax Research Consultant RIA Federal Tax Coordinator RIA United States Tax Reporter Newsletters: Daily Tax Report Federal Tax Weekly Alert Tax Notes Law Reviews: Tax Law Review (New York University School of Law) Virginia Tax Review (University of Virginia School of Law) Professional Journals: Journal of Accountancy Journal of Taxation Practical Tax Strategies Taxes Tax Adviser Quick Reference Sources: IRS Publications CCH Master Tax Guide RIA Federal Tax Handbook Textbooks: McGraw-Hill's Taxation of Individuals and Business Entities McGraw-Hill's Essentials of Federal Taxation

•The IRS can impose both criminal and civil penalties to encourage tax compliance by both tax professionals and taxpayers. •The standard of conviction is higher in a criminal trial, but the penalties are also much higher. •A taxpayer will not be subject to an underpayment penalty if there is substantial authority that supports the tax return position. •A tax practitioner will also not be subject to penalty for recommending a tax return position if there is substantial authority that supports the position.

Taxpayer and Tax Practitioner Penalties

have a limited life (three years for regulations issued after November 20, 1988). Nonetheless, during their life, they carry the same authoritative weight as final regulations.

Temporary regulations

•When the researcher identifies that different authorities have conflicting views, she should

evaluate the "hierarchy," jurisdiction, and age of the authorities.

An acquiescence indicates that the IRS lost a court case and that it has decided to follow the court's ruling in the future.

True

Molto Stancha Corporation had zero earnings this fiscal year; in fact, they lost money. Must they file a tax return?

Yes, all corporations are required to file an income tax return regardless of their taxable income

the taxpayer is litigating a tax return position that is low on technical merit but high on emotional appeal,

a jury trial in the local U.S. District Court may be the best option.

After an appeals court hears a case, the losing party has one last option to receive a favorable ruling

a petition to the U.S. Supreme Court (However, given the quantity of other cases appealed to the U.S. Supreme Court that are of national importance, the Supreme Court agrees to hear only a few tax cases a year with great significance to a broad cross-section of taxpayers, or cases litigating issues in which there has been disagreement among the circuit courts)

why did I get audited?

a taxpayer's return is selected for audit because the IRS has data suggesting the taxpayer's tax return has a high probability of a significant understated tax liability

irs will no longer litigate after trial

acquiescence

locate relevant athorities

annotated and topical

•The two types of tax services that tax professionals use in tax research are

annotated tax services, arranged by code section, and topical services, arranged by topic.

issued by the IRS, provides regulations governing tax practice and applies to all persons practicing before the IRS. There are five parts of Circular 230: Subpart A describes who may practice before the IRS (CPAs, attorneys, enrolled agents) Page 2-25and what practicing before the IRS means (tax return preparation

circular230

are much more common, generally come in the form of monetary penalties, and may be imposed when tax practitioners or taxpayers violate tax statutes without reasonable cause—say, as the result of negligence, intentional disregard of pertinent rules, willful disobedience, or outright fraud.

civil penalties

most common. These audits, as the name suggests, Page 2-6are conducted by mail and generally are limited to one or two items on the taxpayer's return. Of the three types of audits, these audits are generally the narrowest in scope and the least complex. The IRS typically requests supporting documentation for one or more items on the taxpayer's return, like charitable contributions deducted, for example. When appropriate documentation is promptly supplied, these audits typically can be concluded relatively quickly. Of course, they can also be expanded to address other issues that arise as a result of the IRS's inspection of taxpayer documents

correspondence examinations

issued by local IRS directors, are generally not controversial. An example of a ________________________is the request by an employer for the IRS to rule that the taxpayer's retirement plan is a "qualified plan."

determination letter

Check math errors

document perfection program

are the least common audit. The IRS conducts these at the taxpayer's place of business or the location where the taxpayer's books, records, and source documents are maintained. Field examinations are generally the broadest in scope and the most complex of the three audit types. They can last months to years and generally are limited to business returns and the most complex individual returns.

field examinations

Regulations are issued in three different forms:

final, temporary, proposed

The doctrine of stare decisis presents a special problem for the U.S. Tax Court because it appeals to different circuit courts based on the taxpayer's residence. To implement the doctrine of stare decisis, the tax court applies the ______________________

golsen rule

states that the tax court will abide by rulings of the circuit court that has appellate jurisdiction for a case

golsen rule

How tax laws are created

house then senate then president

tax returns compared to data submitted by third parties such as banks, employers, mortgage companies, ect. with a program referred to ass the _____________program.

information matching program

represent the Treasury's interpretation of the Code. In Bill and Mercedes's case, these might be the regulations issued under IRC Sec. 163, which discuss interest deductions.

interpretative regulations

In addition to being issued in three different forms, regulations also serve three basic purposes:

interpretative, procedural, and legislative

As you might guess,________________________ are less authoritative but more specific than revenue rulings and regulations. _______________________generally may not be used as precedent by taxpayers. However, they may be cited as authority to avoid the substantial understatement of tax penalty under IRC Sec. 6662 imposed on taxpayers and the related tax practitioner penalty under IRC Sec. 6694

letter rulings

If the taxpayer would like to litigate the case but prefers it to be heard in the local__________________the taxpayer must pay the tax deficiency first, then request a refund from the IRS, and then sue the IRS for refund in the court after the IRS denies the refund claim.

local U.S. District Court or the U.S. Court of Federal Claims

•Once the tax researcher has identified relevant authorities, she must

make sure that the authorities are still valid and up to date

irs will still litigate after trial

nonacquiescence

are the second most common audit. As the name suggests, the IRS conducts them at its local office. These audits are typically broader in scope and more complex than correspondence examinations. Small businesses, taxpayers operating sole proprietorships, and middle- to high-income individual taxpayers are more likely, if audited, to have office examinations. In these examinations, the taxpayer receives a notice that identifies the items subject to audit; requests substantiation for these items as necessary; and notifies the taxpayer of the date, time, and location of the exam. Taxpayers may attend the examination alone, with representation, such as their tax adviser or attorney, or simply let their tax adviser or attorney attend on the taxpayer's behalf.

office examinations

Finally, all regulations are issued in the form of _____________first, to allow public comment on them. Proposed regulations do not carry the same authoritative weight as temporary or final regulations.

proposed regulations

hinges upon the facts and circumstances of the taxpayer's transaction. For example, whether a trade or business expense is "ordinary," "necessary," "reasonable," and thus deductible, is a question of fact. If you're researching a question of fact, understand which facts determine the answer—in this case, which facts make an expense "ordinary," "necessary," and "reasonable" and which do not. In this type of question, the researcher will focus on understanding how various facts affect the research answer and identifying authorities with fact patterns similar to her client's.

question of fact

hinges upon the interpretation of the law, such as interpreting a particular phrase in a code section (see the sample research memo in for an example of a question of law). If a researcher is faced with this type of question, she will spend much of her time researching the various interpretations of the code section and take note of which authorities interpret the code differently and why

question of law

Any individual, partnership, or S corporation unable to file a tax return by the original due date can, by that same deadline_________________________

request a six-month extension to file, which is granted automatically by the IRS. Similarly, C corporations may request an automatic five-, six-, or seven-month extension to file depending on the corporation's year-end

This doctrine means that a court will rule consistently with (a) its previous rulings (unless, due to evolving interpretations of the tax law over time, the court decides to overturn an earlier decision) and (b) the rulings of higher courts with appellate jurisdiction (the courts its cases are appealed to).

stare decisis

IRS assessment can be extended in certain circumstances. For example, a six-year statute of limitations applies to IRS assessments if the taxpayer omits items of gross income that exceed 25 percent of the gross income reported on the tax return. For fraudulent returns, or if the taxpayer fails to file a tax return, the news is understandably worse.

statute of limitations

defines the period in which the taxpayer can file an amended tax return or the IRS can assess a tax deficiency for a specific tax year. For both amended tax returns filed by a taxpayer and proposed tax assessments by the IRS, the statute of limitations generally ends three years from the later of (1) the date the tax return was actually filed or (2) the tax return's original due date

statute of limitations

A good tax professional evaluates whether supporting authority is substantial based upon the supporting and opposing authorities' weight and relevance. _______________ suggests the probability that the taxpayer's position is sustained upon audit or litigation is in the 35 to 40 percent range or above. The tax practitioner can also avoid penalty under IRC Sec. 6694 if the tax return position has at least a reasonable basis (i.e., supported by one or more tax authorities) and the position is disclosed on the taxpayer's return.

substantial authority

are negotiated agreements between countries that describe the tax treatment of entities subject to tax in both countries, such as U.S. citizens earning investment income in Spain.

tax treaties

differ from private letter rulings in that they are generated for completed transactions and usually are requested by an IRS agent during an IRS audit.

technical advice memorandums

the only court that provides for a jury trial

the U.S. District court

tax returns for taxable corporations ("C" corporations) are generally due on the ________________

the fifteenth day of the fourth month following the corporation's year-end.

Individual tax returns are due on ___________

the fifteenth day of the fourth month following year-end—that is, April 15 for calendar-year individuals

The exception is for tax returns for C corporations with a June 30 year-end are due__________________

the fifteenth day of the third month (September 15th).

For both partnerships and S corporations (generally nontaxable corporations), tax returns must be filed by ______________________

the fifteenth day of the third month following the entity's year-end (March 15 for calendar-year partnerships or S corporations)

are arranged by topic, such as taxable forms of income, tax-exempt income, and trade or business expenses. For each topic, the services identify tax issues that relate to each topic, and then explain and cite authorities relevant to the issue (code sections, regulations, court cases, revenue rulings, etc.). Beginning tax researchers often prefer topical services, because they generally are easier to read. Some examples of topical federal tax services include BNA's Tax Management Portfolios, CCH's Tax Research Consultant, and RIA's Federal Tax Coordinator.

topical tax services

The ____________________ is charged with administering and interpreting the tax laws

treasury department

An extension to file a tax return does not extend the due date for tax payments

true

Judicial Authorities

•Our judicial system is tasked with the ultimate authority to interpret the Internal Revenue Code and settle disputes between taxpayers and the IRS. •The Supreme Court is the highest judicial authority. •Beneath the Supreme Court, the decisions of the 13 Circuit Courts of Appeal represent the next highest judicial authority. •The lowest level of judicial authority consists of three different types of trial-level courts (U.S. District Courts, U.S. Court of Federal Claims, and the U.S. Tax Court). •U.S. Tax Court decisions typically are considered to have more authoritative weight than decisions rendered by a district court or the U.S. Court of Federal Claims. •All courts apply the judicial doctrine of stare decisis, which means that a court will rule consistently with its previous rulings and the rulings of higher courts with appellate jurisdiction