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Check Signing Activity Not Sufficient for Trust Fund Penalty

The IRS will often assert trust fund recovery penalties against anyone who signs checks written on the business checking account. The court addressed this in Shaffran v. Commissioner, T.C. Memo. 2017-35, concluding that some check signing activity alone is not sufficient to impose a trust fund recovery penalty. The case provides some insight as to how the IRS assesses these penalties.

The facts and procedural history are as follows:

  • The case involved unpaid employment taxes for a restaurant.
  • The restaurant had gone out of business before the IRS began its review of the unpaid employment taxes.
  • The IRS revenue officer assigned the case spoke to the former landlord and was told that Mr. Shaffran was the bookkeeper for the restaurant.
  • This was the sole information the IRS revenue officer used to determine that Mr. Shaffran was a responsible person and liable for the trust fund recovery penalty.
  • The IRS mailed Mr. Shaffran a letter letting him know that the IRS was assessing the trust fund recovery penalty against him, but the letter was intercepted by the restaurant owner and not received by Mr. Shaffran.
  • Mr. Shaffran was not the bookkeeper. The facts suggest that he was basically a friend of the individuals who owned the restaurant who assisted with the restaurant occasionally.
  • This help included writing four checks from the business checking account when the owners were on vacation.
  • The IRS issued an administrative summons to the bank to obtain the restaurant’s checking account records and confused the owner’s signature on the checks with Mr. Shaffran’s signature.

The issue for the court was whether these facts justify holding Mr. Shaffran liable for the trust fund recovery penalty. This turned on whether he had the ability to pay other creditors in lieu of the IRS. The court concluded that he did not:

The preponderance of the evidence establishes that petitioner lacked sufficient control over Restaurant Group’s affairs to avoid the nonpayment of its employment taxes during the tax periods in question. Petitioner was not an officer, director, employee or owner of Restaurant Group at any time. He was never an authorized signatory on Restaurant Group’s bank accounts. It is also clear from petitioner’s credible testimony and the administrative record that he: (1) did not have the authority to hire and fire Restaurant Group’s employees; (2) had no duty to, and did not, review or reconcile Restaurant Group’s bank statements; and (3) had no control over disbursements and decisions pertaining to Restaurant Group’s bank accounts, including the payroll account. Furthermore, there is no evidence that petitioner had any involvement in the preparation or filing of Restaurant Group’s employment tax returns or the payment of its employment taxes.

This case is an instance where the penalties should not have been imposed based on an unconfirmed statement that the person was a bookkeeper and corroborated by a mistaken belief that the person signed checks for the business. These are facts that a proper investigation would have disclosed. The IRS revenue officer assigned to the case did not do this investigation and their front line manager did not ensure that the revenue officer worked the case properly.

On appeal, the IRS settlement officer proposed to place the case in currently not collectible status and to abate the penalties for several of the tax periods. The settlement officer should have recorded these facts and proposal in an appeals memo or case closing record. Either this was not done (or the memo or closing record was vague) or the appeals team manager did not review the file properly before closing the case. The case may even have been sent to IRS review in collections or in appeals, which would mean that the reviewer or reviewers did not have enough information in the file to see the issue or they missed it. All-in-all, this means there were four to six IRS employees tasked with ensuring that the correct result was reached and, given the court decision, every one of them failed Mr. Shaffran.

The case serves as a reminder that the IRS is not perfect. IRS employees make a lot of decisions and they often do so with limited and flawed information. It is up to taxpayers to be vigilant and be willing to push back even when their case is reviewed by several different IRS employees at different levels within the IRS. With the trust fund recovery penalty, in particular, taxpayers should not accept that they are liable for the penalty just because they signed a few checks.

Appeals Court Upholds IC-DISC Roth IRA Tax Strategy

The Sixth Circuit Court of Appeals upheld the IC-DISC Roth IRA tax strategy in In Summa Holdings, Inc. v. Commissioner, No. 16-1712 (2017). This tax strategy allows business owners to sidestep the annual Roth IRA contribution limits, thereby allowing the taxpayers to amass sizable amounts in their Roth IRAs to grow tax-free. The case is noteworthy as it addresses the limits of the IRS’s ability to use the substance over form doctrine to recast otherwise legitimate tax strategies.

The Facts & Procedural History

The facts and procedural history of the case are as follows:

  • The case involved a family-owned manufacturing business.
  • Two of the owner’s children established Roth IRAs in 2001 and contributed $3,500 to each IRA.
  • Each Roth IRA then purchased shares in a newly created legal entity (“DISC Entity”) in 2001 for $1,500.
  • The family formed another legal entity that purchased the DISC Entity (“Holding Entity”).
  • So the Roth IRAs each owned 50% of the Holding Entity and the Holding Entity owned 100% of the DISC Entity.
  • The family business paid more than $5 million in commissions to the DISC Entity.
  • The DISC Entity distributed this $5 million commissions as dividends to the Holding Entity.
  • The Holding Entity paid a 33% income tax on the $5 million dividends and distributed the amounts to the Roth IRAs.
  • The IRS issued notices of deficiency to the family business for 2008, arguing that the amounts paid to the DISC Entity were not commissions but rather dividends. This precluded the use of the IC-DISC rules. This also resulted in the family business not being entitled to the deductions it took for the commissions it paid.
  • The IRS’s notice of deficiency was based on the substance over form doctrine.
  • The U.S. Tax Court agreed with the IRS’s determination.

On appeal, the court was tasked with deciding whether the substance over form doctrine should be used when the actual transactions complied with the law and were consistent with the Congressional intent underlying the relevant tax statutes.

The IC-DISC Rules

The IC-DISC rules are intended to be an incentive for taxpayers to export U.S. products. It accomplishes this by allowing the business to deduct commissions paid to an entity set up to receive the commissions and the entity that receives the commissions may be able to pay tax on the income at the lower dividend tax rate. The resulting tax reduction can prove to be a significant monetary incentive for U.S. manufacturers. The tax reduction can be even greater when, as in this case, the IC-DISC is combined with a Roth IRA–assuming the arrangement is upheld by the courts.

The Importance of Tax Reduction Statutes

This brings us back to the case at hand. The IRS argued that it should be allowed to disregard the formalities of the Roth IRA-IC-DISC transaction, which satisfied the formalities of the law requirement as the transaction complied with the law, to look to the substance of the transactions. To the IRS, the substance of the transaction was to avoid the annual Roth IRA contribution limits.

The appeals court did not agree. The appeals court focused on the fact that the Roth IRA and IC-DISC rules are tax reduction statutes. Congress made it clear that these statutes were intended to be used by taxpayers to reduce their tax liabilities:

Congress designed DISCs to enable exporters to defer corporate income tax. The Code authorizes companies to create DISCs as shell corporations that can receive commissions and pay dividends that have no economic substance at all. See 26 C.F.R. § 1.994-1(a); Addison Int’l, Inc. v. Comm’r, 887 F.2d 660, 666 (6th Cir. 1989); Jet Research, Inc. v. Comm’r, 60 T.C.M. (CCH) 613 (1990). By congressional design, DISCs are all form and no substance, making it inappropriate to tag Summa Holdings with a substance-over-form complaint with respect to its use of DISCs. The same is true for the Roth IRAs. They, too, are designed for tax-reduction purposes.

When the Substance Over Form Doctrine Applies

According to the appeals court, the substance over form doctrine should only apply to transactions that are a labeling game sham (i.e., calling a dog a cow and seeking an incentive that applies to cows) and transactions that defy economic reality. The substance over form doctrine is not to apply when two potential options for structuring a transaction lead to the same end and the taxpayers choose the lower-tax path, when these types of tax reduction statues are in question.

Relying on an Attorney for a Tax Filing Deadline is Reasonable Cause

In Estate of Hake v. United States, No. 1:15-CV-1382 (M.D. Pa 2017), the court considered whether relying on an attorney for when a tax return had to be filed, rather than relying on the attorney to file the tax return, was reasonable cause. The case should make it easier to get failure-to-file penalties removed for taxpayers in Delaware, New Jersey, and Pennsylvania and will no doubt be cited by taxpayers in other states as well.

The Facts

In Hake, the taxpayer hired an attorney. The attorney told the taxpayer that they had obtained an extension of time to file their tax return. The taxpayer then filed their return within the time period specified by the attorney. The attorney was mistaken as to the extended filing deadline, however. The law is clear that the extension was only to pay, not to file. The IRS assessed a failure to file penalty. The attorney admitted his error. The court considered whether taxpayer’s reliance on the attorney’s error was reasonable cause.

Reasonable Cause

There is no bright line rule that defines the term “reasonable cause.” There is no succinct summary that can even defines the contours of what facts may qualify for reasonable cause. Instead, there is only a body of case law that largely says what is not reasonable cause. So one can only rely on court cases that say what is not reasonable cause to establish reasonable cause given different facts.

Most attempts to define reasonable cause are framed in terms of the Supreme Court’s United States v. Boyle, 469 U.S. 241, (1985) decision. Boyle stands for the proposition that a taxpayer cannot establish reasonable cause by simply delegate their filing obligation to an attorney who fails to file on time. As noted in Hake, the Boyle case does not go any further than this.

Categories of Late Tax Return Filing Cases

The court in Hake identified the following three types of late tax return filing cases:

In the first category consists of cases that involve taxpayers who delegate the task of filing a return to an agent, only to have the agent file the return late or not at all. Id. (citing Boyle, 469 U.S. at 249-50). In Boyle, the Supreme Court held that in such cases, reliance upon one’s attorney to file a timely tax return was not reasonable cause to excuse the late filing. Id. The second category of late-filed cases identified in Boyle, as that decision is construed by the court of appeals in Thouron, is where a taxpayer, in reliance on the advice of an accountant or attorney, files a return after the actual due date, but within the time that the taxpayer’s lawyer or accountant advised the taxpayer was available. Id. Finally, in the third category are those cases where “an accountant or attorney advises a taxpayer on a matter of tax law[.]” Id. (quoting Boyle, 469 U.S. at 251) (emphasis in Boyle).

With respect to the second and third type of cases, the court noted that:

…the holding of Boyle does not reach the very circumstances of this case, where the executors did not delegate their filing duty to their lawyer, but where they did rely upon their lawyer to advise them when their taxes needed to be paid and their return filed….

and

in Boyle the Supreme Court expressly declined to address the question of whether a taxpayer demonstrates “reasonable cause” when, in reliance upon the advice of counsel, the taxpayer files a return “after the actual due date but within the time the adviser erroneously told him was available.”

The court also noted the split in authroity for this issue:

In reaching this result, we recognize that some other courts have interpreted Boyle in the manner urged by the United States, and on facts that are substantially similar to those presented in this case. See, e.g., Knappe v. United States, 713 F.3d 1164 (9th Cir. 2013); West v. Koskinen, 141 F.Supp.3d 498 (E.D. Va. 2015).

The Ninth Circuit includes California, Arizona, Nevada, Oregon, Washington, Montana, and Idaho.

Discount Loyalty Programs are Not Trading Stamp Companies

Accrual method taxpayers generally must recognize advance payments in taxable income in the year of receipt, because receipt satisfies the all events test. The trading stamp rules are an exception to this all-events test. These rules apply to businesses that have customer loyalty programs.

The rules can result in significant tax deferral as they allow the taxpayer to receive income now and defer recognition of a portion of the income to a future date when the customer takes advantage of the loyalty program. For example, if the taxpayer sold merchandise for $100 and issued 10 points to the customer as part of its loyalty program, the trading stamp rules would say that a portion of the $100 is for the 10 points and, based on mathematical calculations, it is not likely that all 10 of the points will be redeemed in the current year. So the trading stamp company rules allow the taxpayer to defer part of the $100 of income they received to account for this reality.

There is little guidance that addresses trading stamp companies, which is surprising given the large amounts that are at stake. This brings us to the topic of this post. The IRS recently issued Attorney Memo 2017-002 to clarify its position that hybrid coupons are discount coupons that do not qualify for this tax deferral.

The Trading Stamp Company Rules

The trading stamp company rules are found in Sec. 453 of the Code. They generally say that a trading stamp company can subtract from income both (1) the cost of merchandise, cash, and other property used for redemptions in the taxable year and (2) the net addition to the provision for future redemptions during the taxable year. It is this second element that can result in the tax deferral and savings, as it allows the accrual to be subtracted from income in the current tax year and deferred to a later year. This can be particularly beneficial if the coupons, points, etc. for the customer loyalty program are not redeemed for several years.

This begs the question as to what type of loyalty programs qualify. There has been little guidance on this issue. The IRS’s recent AM 2017-002 address this topic by considering the difference between premium, discount, and so-called hybrid coupons offered by loyalty programs.

Premium Coupons

Premium coupons are specifically listed as qualifying in Sec. 453. They are not defined in this code section, however. In AM 2017-002, the IRS provides a definition by looking to the explanation provided by the Joint Committee on Taxation:

A premium coupon … generally is issued in connection with the sale of some item and entitles the holder to tender it (or, more usually, a large number of such coupons) in exchange for a product, often selected from a catalog, of the consumer’s choosing. These coupons are used to promote the sale of the product with which the coupon is issued by allowing the consumer to collect coupons in order to acquire a different product.

The coupon is used to acquire a different product than the one being purchased when the coupon is issued. It is used to get a free product.

Discount Coupons

According to the IRS’s AM 2017-002, a premium coupon is different than a discount coupon. The IRS’s memo defines a discount coupon by looking at former Sec. 466, which has been repealed:

A discount coupon is a sales promotion device used to encourage the purchase of a specific product by allowing a purchaser of that product to receive a discount on its purchase price. … A discount coupon normally entitles its holders to receive nothing more than a reduction in the sales price of one of the issuer’s products. The discount may be stated in terms of a cash amount, a percentage or fraction of the purchase price, a ‘two for the price f one’ deal, or any other similar provision. A discount coupon need not been printed on paper in the form usually associated with coupons; it may be a token or other object so long as it functions as a coupon.

The IRS notes that discount coupons apply to a specific product. The focus is on a discounted product.

Hybrid Coupons

The IRS’s AM 2017-002 goes on to define hybrid coupons as being a mix of premium and discount coupons:

[H]ybrid coupons can be viewed as discount coupons allowing a member to acquire enough coupons to receive a discount off the purchase of a product. After a member has acquired a sufficient number of hybrid coupons to receive a discount on the purchase of an item, the member may also continue accumulating coupons until the purchase price is reduced to zero. However, the fact that a discount coupon may be accumulated in sufficinet quantities to result in a free product does not alter the nature of the coupon as a discount coupon. Thus, hybrid coupons are more properly characterized as discount coupons and are not premium coupons under section 1.451-4 because the nature of hybrid coupons, like discount coupons, is that of a price reduction.

The IRS memo concludes that hybrid coupons are more akin to discount coupons and, as such, they do not qualify for the trading stamp company rules.

Planning for Tax Refunds in Bankruptcy

Given that it is tax season, the In re Porter, No. 16-11831-BFK (E.D. Vir. 2017) case serves as a timely reminder that taxpayers who have unpaid tax debts and who are expecting sizeable tax refunds may benefit from timing the filing of their bankruptcy cases.

Facts & Procedural History

The facts and procedural history are as follows:

  • The taxpayer filed her 2014 tax return on April 4, 2016.
  • The tax return reflected a $4,169.00 tax refund.
  • The IRS set off the refund against the taxpayer’s unpaid taxes for 2012 on May 2, 2016.
  • The taxpayer filed Chapter 7 bankruptcy on May 25, 2016.
  • The taxpayer’s bankruptcy petition listed the tax refund as being exempt.
  • The taxpayer filed a motion to recover the tax refund claiming that the setoff was an illegal preference.

Right to Tax Refund as of the End of the Year

The IRS argued that the taxpayer had no right to the refund claim until the IRS set off the refund to satisfy the taxpayer’s unpaid tax debt. The court did not agree. It noted that the taxpayer had a right to the tax refund as of midnight on December 31, 2014, the last day of the taxable year, and the refund belonged to the taxpayer until the time the government issued notice and actually set off the refund on May 2, 2016.

IRS Setoff Allowed if No Improved Position

The IRS also argued that it did not improve its position by setting off the tax refund on May 2, 2016. The bankruptcy rules generally void a setoff that results in the creditor obtaining more than it would as part of the bankruptcy case if the setoff occurred within 90 days of the bankruptcy petition being filed. The court agreed with the IRS. Since the taxpayer filed her bankruptcy petition on May 25, 2016, 90 days prior to this date was February 26, 2016. As of February 26, 2016, the IRS owed the taxpayer and the taxpayer owed the IRS. So the requirements for the setoff had occurred prior to the 90 day pre-petition time period–even though the actual setoff occurred during the 90 day pre-petition time period.

The taxpayer argued that the IRS improved its position when the taxpayer filed its tax return on April 4, 2016, which was within the 90 days prior to filing the bankruptcy petition. The court did not agree. It noted that the tax return filling had not bearing on this issue, as the taxpayer had a right to the refund prior to this time, namely, as of December 31, 2014.

Conclusion

Issues involving tax refunds can be one of the most difficult aspects of bankruptcy and tax law. These rules rules require careful planning. Not only are they result in the loss of the tax refunds, they can also result in the bankruptcy case being converted or even dismised.

How to Challenge an Invalid IRS Notice of Deficiency

The IRS is required to send taxpayers a notice of deficiency before it can assess additional tax. The notice itself has to put the taxpayer on notice that the IRS made a determination that there was a tax deficiency (i.e., an amount owed), the tax year, and the amount. A notice that does not include one or more of these items may be invalid and, if enough time has passed, can prevent the IRS from lawfully assessing the tax. The U.S. Tax Court set out a two-prong test in Dee v. Commissioner, 148 T.C. No. 1 (2017), that may make it more difficult for taxpayers to challenge invalid notices.

The Facts and Procedural History

The facts and procedural history are as follows:

  • The taxpayer filed his 2014 tax return.
  • The IRS disallowed the premium tax credit reported on the return in 2015 by mailing a notice of deficiency to the taxpayer.
  • The notice of deficiency reflected $0.00 as the deficiency amount.
  • The notice also included tax calculations and indicated that “[a] decrease to refundable credit results in a tax increase.”
  • The taxpayer filed a petition with the U.S. Tax Court to challenge the disallowance of the premium tax credit.

The court asked the IRS to explain how the court had jurisdiction over the case if there was a tax deficiency in the amount of $0.00. The IRS responded that this was a clerical error and that it did not invalidate the notice of deficiency.

The Majority Opinion

The court said this two-prong test is to be used to determine whether a notice of deficiency is valid:

We have often addressed questions regarding the validity of notices of deficiency. We have at times characterized our review of the sufficiency of a notice as an objective test. But our caselaw shows that an objective review is used to establish prima facie validity of a notice of deficiency. When that objective review has led us to conclude that a notice was ambiguous, we have looked beyond the notice to determine whether the Commissioner made a determination and whether the taxpayer knew or should have known that the Commissioner determined a deficiency.

The court viewed the objective test as a “should have known” test and the subjective test as a “knew” test.

The court explained the objective test as follows:

we look to see whether the notice objectively put a reasonable taxpayer on notice that the Commissioner determined a deficiency in tax for a particular year and amount. If the notice, viewed objectively, sets forth this information, then it is a valid notice. … Accordingly, if the notice is sufficient to inform a reasonable taxpayer that the Commissioner has determined a deficiency, our inquiry ends there; the notice is valid.

The court explained the subjective test in light of a prior court case where the taxpayer asserted that he was not mislead by the error in the notice of deficiency. The taxpayer in this prior court case made this admission to allow the court to have jurisdiction. The court also cited another prior court case in which the court concluded that the taxpayer was not misled by the error given the taxpayer had filed a petition with the court contesting the deficiency.

In this case, the court determined that the taxpayer was not misled by the error given the taxpayer had filed a petition with the tax court contesting the deficiency. As such the court concluded that the notice of deficiency was valid and it had jurisdiction over the case.

The Concurring Opinions

One justice issued a concurring opinion to agree with the court’s conclusion, but not its two-prong test for reaching the conclusion:

I disagree that our caselaw supports a test that looks, in part, to whether the taxpayer knew or should have known that the Commissioner determined a deficiency or was misled. The references to a taxpayer’s knowledge or intent and/or to whether a taxpayer was misled in the cases on which the opinion of the Court relies are dicta reinforcing the Court’s conclusion in each case that the Commissioner made a determination in the notice of deficiency that passes jurisdictional muster. We should not elevate those references into a test that has no place in resolving the real jurisdictional issue—whether the Commissioner in the notice of deficiency made a determination with respect to the taxpayer that confers jurisdiction on this Court.

A second justice also issued a concurring option to agree with the court’s conclusion, but not its two-prong test for reaching the conclusion:

The opinion of the Court delineates a two-prong approach (with both objective and subjective elements) to determining our deficiency jurisdiction that is, at best, unnecessary, and is, at worst, improper.

The Dissenting Opinion

A third justice issued a dissent to disagree with the court’s conclusion:

The existence of a deficiency is a notice’s most fundamental requirement. The Commissioner is not required to give the correct deficiency amount, but he is required to determine an amount, and $0 is not a deficiency. The opinion of the Court cites a myriad of cases referencing notices dating back to 1919, see op. Ct. pp. 6-13, yet none of those cases hold valid a notice which informs the taxpayer that he does not have a deficiency.

The Problem with the Result

In a footnote in the dissenting opinion, the justice explained the problem with the court’s two-prong test:

While the notice in this case related to a refundable tax credit, the precedent here will extend to notices issued to increase tax liabilities. Some taxpayers receiving those notices will petition the Court. Their ticket to the Tax Court will also be a ticket to the gallows. Other taxpayers will not file petitions and may ultimately seek relief (i.e., pursuant to sec. 6320 or 6330) when the IRS attempts to collect. If we invalidate $0 deficiency notices, taxpayers would typically prevail in collection proceedings. Instead, our determination of whether the taxpayers were misled will now determine their fate.

The second justice who issued a concurring opinion (as described above), explained it this way:

Even in cases in which the Commissioner sends an inadequate notice of deficiency, the taxpayer does not petition us for redetermination, and tax is subsequently assessed, the taxpayer is not completely out of luck. The taxpayer has the option to pay the assessed tax and pursue a refund claim, after which he or she is entitled to file a suit for refund in a U.S. District Court or the U.S. Court of Federal Claims. Or, if the taxpayer does not become aware of the assessment until receiving a collection notice, the taxpayer can seek relief in a collections due process hearing, after which he or she is entitled to petition this Court for review. Although our caselaw probably would not allow us to find that a taxpayer who receives an inadequate notice of deficiency was not issued a notice of deficiency and thus is entitled to challenge his or her underlying liability under section 6330(c)(2)(B) (as Judge Foley correctly notes in his dissent, see Foley op. note 2, but which is true regardless of the outcome of this case), we could instead find that the Commissioner, in issuing an inadequate notice, failed to fulfill the necessary administrative procedures, including those in the Internal Revenue Manual, under section 6330(c)(1).

What this means is that by filing a petition in tax court, the taxpayer may lose the ability to contest the notice of deficiency in tax court. Even if the case was brought as part of a collection due process hearing, all the taxpayer would get was the case remanded to appeals for further consideration by a settlement officer. To have their day in court, the taxpayer may have to file a refund claim, pay the tax first, sue for a refund and contend with the higher burden imposed on taxpayers in refund litigation.

Bankruptcy Court Says Withholding on Wages Converts the Wages to a Tax

The U.S. Bankruptcy Court recently considered whether amounts withheld from wages in excess of the amount of the income tax liability owed is a refund of tax or a refund of wages. The case is In re Crutch, No. 15-44523-cec. (E.D.N.Y. 2017). The case is a reminder to those taxpayers who are considering bankruptcy that they may need to take steps to ensure that they do not receive tax refunds during their bankruptcy case.

The facts and procedural history are as follows:

  • The dispute relates to a Chapter 7 bankruptcy.
  • The taxpayer’s only income during 2015 was from Social Security and their pension.
  • New York law exempts Social Security and pension income from the bankruptcy.
  • The taxpayers wanted to exempt their 2015 state and IRS tax refunds from the bankruptcy.
  • The bankruptcy trustee asked the court to order the taxpayers to turn over the tax refunds.

The taxpayers argued that the “tax refunds” were not tax refunds; they were a return of Social Security and pension income. If the taxpayers were correct, the income would retain its exempt status under New York and bankruptcy law. This would allow them to keep the tax refunds. If the bankruptcy trustee was right, the “tax refunds” would belong to and have to be turned over to the bankruptcy trustee.

The bankruptcy court considered New York law and a prior court case from the Tenth Circuit Court of Appeals. In considering these laws, the bankruptcy court concluded that the status as wages is lost once the wages were withheld as a tax. The key is withholding.

The case does not address whether the withholding was made in error or in an amount that was excessive.

The case does also not address tax refunds that stem from estimated payments made to the IRS for exempt income that is received. These payments do not have taxes withheld from them. It is up to the taxpayer to pay estimated payments to the IRS. One is left wondering whether the act of remitting the payment to the IRS in an amount in excess of the amount of income tax owed would convert the overpayment to a tax refund in bankruptcy.

Regardless, the message for taxpayers who are considering whether to file bankruptcy is that they need take steps to ensure that they do not generate a “tax refund” during the course of their bankruptcy case. This may mean adjusting withholding amounts (and possibly estimated payments) or looking for ways to defer tax benefits to later years. This may include electing to capitalize and depreciate or amortize property rather than deduct the expenses for the property immediately, foregoing loss carrybacks, or even paying some expenses after the close of the tax year. It may also involve accelerating the receipt of income or gains to earlier years.

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