U.S. International Tax Withholding and Reporting Requirements

Payments made by U.S. citizens and resident aliens (“U.S. persons”) to non-U.S. persons are typically subject to U.S. tax withholding and result in U.S. tax reporting requirements. These requirements can be difficult to understand and a misstep can prove to be very costly.

U.S. Tax Withholding

Whether a U.S. person is required to withhold tax depends on the “source” of the income. U.S. persons generally must withhold tax on U.S.-source income that is paid to non-U.S. persons. U.S.-source income includes “fixed or determinable payment of annual or periodic income” or FDAP income. FDAP income consists of interest, dividends, rents, salaries, wages, premiums, annuities, compensation, remunerations, emoluments, and other gains and income that have their origins in the U.S.

The tax withholding rate for U.S.-source FDAP income is generally 30 percent unless there is a different rate provided by law or a U.S. Tax Treaty with the country where the payee resides.

Several types of income are specifically excepted from the tax withholding requirement. For example, non-U.S. source income (such as payments for services performed in foreign countries) and certain other specifically enumerated U.S.-source income (such as portfolio and other interest payments).

U.S. Tax Reporting

There payor may have the payee complete a Form W-9 or Form 8233 to determine how to report the payment to the IRS. The payee may then obtain more specific forms from the payee, including Forms W-8ECI (for income that is “effectively connected” with a U.S. trade or business) or W-BEN (for income that is not “effectively connected” with a U.S. trade or business), or some other form.

If appropriate, the payor can then report the payment to the U.S. government. The payee may need to file Form 1042, 1042-S, and 1042-T to report the payments to the IRS and/or the payee. These forms may need to be filed even if the payor is not required to withhold tax.

Also, when a payee claims a benefit of a tax law or treaty to reduce the rate or withholding amount, the payor may be required to complete a Form 8833. This form is used to make a Treaty-Based Return Disclosure.

This is a very basic overview of these rules. The actual rules are much more involved, as is the process of applying the withholding and reporting rules to specific factual situations. Taxpayers may find Publication 515 helpful in assessing their U.S. tax withholding and reporting requirements. Given the complexity of these rules, taxpayers are well advised to have their tax counsel determine the taxpayer’s correct tax withholding and reporting obligations.

July 5th, 2008 | No Comments »

Considering the Tax Return Preparer Penalty

The IRS has the ability to impose penalties on income tax return preparers for certain conduct. Congress amended the Tax Code just over a year ago to beef up the tax return preparer penalty. This took the IRS and the tax community by surprise. The IRS responded by issuing several Notices, which were subject to criticism by the tax community and, as a result, were partially amended by the IRS. The IRS has now issued Proposed Regulations that incorporate the IRS Notices and amendments thereto. These Notices and Proposed Regulations have varying effective dates and they contain a number of new concepts.  Here is an overview of the tax return preparer penalty and a few issues to consider about the penalty:

Overview of the Tax Return Preparer Penalty

1. A tax return preparer can be the person who prepares a tax return or any person who advises the taxpayer or tax return preparer on a line item on the return,
2. The recent changes drop the concept of “income” from the term “income tax preparer,” which means that the preparation of tax returns that are not income tax returns may subject the preparer to penalties,
3. The penalty is now equal to the smaller amount of $1,000 or 50% of the amount of income the tax return preparer earns for preparing the tax return or providing the tax advice for the specific item on the return that results in an understatement,
4. The penalty is increased to the smaller amount of $5,000 or 50% of the amount of income the tax return preparer ears for preparing the tax return or providing the tax advice for the specific item on the return if willful or reckless conduct is involved,
5. The penalty applies if the tax return preparer does not reasonably believe that the position will “more likely than not” be sustained on the merits if challenged by the IRS,
6. The “more likely than not” standard means that the tax return preparer must believe that there is a 50 percent chance that the position will be sustained,
7. The penalty will not be imposed if the position is properly disclosed so long as there is a “reasonable basis” for the position, and
8. The “reasonable basis” standard means that the tax return preparer must believe that there is approximately a 10 to 25 percent chance that the position will be sustained.

Issues to Consider About the Tax Preparer Penalty

1. Pursuant to the Proposed Regulations, the amount of the penalty is not reduced if the tax return preparer discounts or refunds a portion of their fees (i.e., to reduce the 50 percent of compensation received), but there is no rule that the tax return preparer’s contractual agreement cannot allocate the amount of compensation between tax return preparation and non-tax return preparation services,
2. The penalty only applies to tax return preparation or advice that is provided for compensation, not for services that are provided for free,
3. The penalty does not appear to apply to tax advice that does not end up on a tax return, such as telling a taxpayer not to file a tax return,
4. There are several types of tax documents that are not “tax returns” for purposes of the penalty,
5. There is no clear definition for determining what constitutes a “reasonable” belief,
6. There may be no ability to disclose the lack or records or documents to support a position in order to avoid the tax return preparer penalty (which encourages IRS agents to claim that all adjustments on audit are due to lack of documentation, even if the adjustments should be for a legal or other reason), and
7. There will generally be only one tax return preparer; however, there can be multiple tax return preparers within any one firm (meaning that a subordinate employee can even be a tax return preparer if the supervisor signs off on the tax return).

Both taxpayers and tax professionals should also note that there is no equivalent penalty for IRS personnel who engage in the exact same conduct. This is the same for penalties and sanctions that the government may impose on Attorneys, CPAs, and Enrolled Agents pursuant to Circular 230. As a result, tax practitioners are subject to penalty and sanction for conduct that would not result in any penalty or sanction if the same conduct were carried on by IRS personnel.

July 4th, 2008 | No Comments »

Sluggish Economy May Help Taxpayers With Unpaid Tax Debts

The sluggish economy is impacting all of us in one way or another. This is a scary time. Taxpayers who owe unpaid tax debts may feel even more helpless. This is especially true given the IRS’s focus on tax assessment and collection efforts. Coincidentally, taxpayers who find themselves subject to IRS collection action may also find that the sluggish economy has put them in a superior bargaining position with the IRS.

Loss of Employment

Taxpayers who have recently lost their job may be in a particularly strong bargaining position. Having a high paying job is the primary reason why many taxpayers are not able to reach favorable settlement or payment terms with the IRS. According to the IRS, the term ‘high’ generally refers to a job that pays more than $40,000 per year. When a taxpayer loses a job and the income from the job, the loss will often put the taxpayer in a position to reach a compromise with the government or at least to forestall the IRS collection efforts temporarily or, in some cases, permanently.

Diminished Home Values

Taxpayers whose homes have diminished in value may also be in a strong bargaining position. Having a significant amount of equity in a personal residence or other real property has also precluded taxpayers from reaching favorable settlement or payment terms with the IRS. With home prices falling in many markets, this asset may no longer be a factor for many taxpayers.

Eroded Retirement and Investment Accounts

Taxpayers whose retirement and investment accounts have declined in value may be in a good bargaining position. In my experience, retirement and investment accounts are usually not the reason why the IRS refuses to reach a compromise or payment agreement with taxpayers. Typically, these accounts are merely an agitating factor that precludes taxpayers from obtaining favorable compromises or payment terms for their tax debts. This is not the case for all taxpayers - especially taxpayers whose primary assets consist of stock options and other investment assets that are valued based on publicly traded stocks.

Loss of Lines of Credit

Taxpayers whose lines of credit or home equity loans have diminished may also be in a better position to negotiate favorable terms with the IRS. This usually comes up where the taxpayer has access to an unused home equity line of credit or a business line of credit. The IRS typically counts this type of line of credit as an asset that must, in essence, be turned over to the government as part of the negotiation process. Taxpayers who have recently lost access to this type of credit may have also decreased the amount of the assets that the IRS will consider for collection purposes.

To be fair, taxpayers should understand that obtaining favorable settlements and payment agreements is more difficult today than it has been in a long time. The factors listed above may help, but increased costs of living can make it more difficult for taxpayers. The IRS generally only allows a very minimum amount of expenses in determining how much a taxpayer should pay towards their unpaid tax debts. If the taxpayer’s personal living expenses exceed these very minimal amounts, there is still some chance that the taxpayer will not be able to work out a favorable settlement or payment agreement.

Taxpayers who have unpaid tax debits should contact an experience tax professional to see if they can benefit from our current sluggish economy.

July 3rd, 2008 | No Comments »

Unique Tax Issues Faced by Pilots and Other Interstate Transportation Employees

Where a taxpayer is located when he incurs expenses and receives income can have significant tax implications. This can raise a number of difficult tax issues. This is especially true for pilots and other interstate transportation employees. The recent tax court case, Tucker v. Commissioner, T.C. Summary Opinion 2008-78, highlights a few of these difficulties.

Tucker is a pilot for Southwest Airlines. Tucker maintained a residence in Birmingham, Alabama, and he would travel from Birmingham to Chicago so that he could fly passengers from and to Chicago. Tucker maintained an apartment in Chicago where he would stay overnight on occasion (i.e., he had a ‘crash pad’ in Chicago, in airline lingo). Tucker’s supervisor was located in Dallas.

Tucker was not reimbursed for many of the travel expenses he incurred in going to and from and staying in Chicago. These types of unreimbursed business expenses are generally deductible so long as they are incurred while the taxpayer is away from his ‘tax home.’ Expenses traveling from the taxpayer’s residence to his place of business are generally non-deductible personal expenses.

A ‘residence’ is generally where the taxpayer maintains the most connections. There are several factors that are to be considered in determining what location qualifies as the taxpayer’s residence, such as what state the taxpayer is registered to vote and drive, where the taxpayer’s bills and other correspondence are received, etc.

A ‘tax home’ is typically the place where the taxpayer’s regular place of business is located. If there is more than one regular place of business, the taxpayer’s ‘tax home’ is the taxpayer’s principal place of business.

Tucker believed that his tax home was in Dallas, as that is where his supervisor was located. If this was true, Tucker would have been traveling from his residence to his work in Dallas, and then from his work in Dallas to Chicago. The expenses associated with the later segment may have been tax deductible.

The IRS and the U.S. Tax Court concluded that Tucker’s ‘tax home’ was Chicago, as that is where many of his flights originated and terminated. According to the court, Tucker was merely traveling from his home in Birmingham to his work in Chicago, which makes the travel expenses non-deductible personal expenses. The travel expenses may have been deductible if Tucker’s ‘tax home’ was in some city other than Chicago, such as Birmingham (possibly the airport that Tucker departed from in Birmingham).

Although not discussed in the case, Tucker will also have to consider the state income tax consequences of where his income originates. Federal law provides that certain interstate transportation and commerce employees, such as pilots, are subject to tax in their state of residence and any state in which they earn more than 50 percent of their pay for being a pilot. This is determined by looking to whether the pilot’s flight time in any non-residence state exceeds 50 percent of the total flight time worked by the pilot while employed during the calendar year. The pilot may be entitled to a tax credit in his residence state for taxes on his pay that is paid to other states.

In Tucker’s case, this may mean that he may be subject to state tax on his pay in Alabama. He may also be subject to tax in Illinois or some other state, depending on whether he spends more than 50 percent of his flight time in that state. Tucker may get a tax credit in Alabama for any taxes paid to Illinois or the other state.

Taxpayers, including long-time pilots, are often surprised by these rules. The government usually raises the personal expense issue for the first time when the taxpayer undergoes an audit. With regard to the receipt of income, the state governments usually raise the issue for the first time by providing the taxpayer with a notice of lien or levying on the taxpayer’s assets.  These liens and levies are based on the taxpayer having not filed tax returns in the extra states and the states assessing the tax by sending the notice of assessment to the wrong address.  This is often triggered by the airlines incorrectly withholding and/or reporting income to the state governments.  Advance tax planning can help eliminate these types of tax problems and, in some cases, can produce significant tax savings.

July 2nd, 2008 | No Comments »

A Smattering of Tax Measure Legislation

It is always interesting to review what tax measures the Legislature is or has been considering.  Here are a few of the tax measures that are or were being considered:

Lifetime learning accounts.  Amends the Internal Revenue Code to: (1) establish a tax-exempt lifelong learning account for the payment of certain employee higher education and training expenses; (2) allow individuals a nonrefundable tax credit for contributions to such accounts; and (3) allow employers a business-related tax credit for contributions to such accounts.

Sales tax fairness.  Grants the consent of Congress to the Streamlined Sales and Use Tax Agreement (Agreement), the multistate agreement for the administration and collection of sales and use taxes adopted on November 12, 2002. Expresses the sense of Congress that the Agreement provides sufficient simplification and uniformity to warrant federal authorizations to states that are parties to it (member states) to require remote sellers (sellers without a physical presence in the taxing state) to collect and remit the sales and use taxes of such states and their local taxing jurisdictions.  Authorizes each member state, after 10 states (comprising at least 20% of all states imposing a sales tax) have petitioned for and become member states, to require all sellers, except those sellers with gross remote taxable sales nationwide of less than $5 million, to collect and remit sales and use taxes on remote sales owed to such member state under the terms of the Agreement.  Permits a federally recognized Indian tribe that imposes a generally applicable sales tax to petition to become a member state.   Allows any person affected by the Agreement to petition the Governing Board established by the Agreement for a determination of any issue arising under the Agreement. Provides for judicial review of Governing Board determinations by the U.S. Court of Federal Claims. Sets forth minimum simplification requirements for the Agreement.  Expresses the sense of Congress that member states should work with each other to prevent double taxation where a foreign country has imposed a transaction tax on a digital good or service.

Research tax credit.  Amends the Internal Revenue Code to: (1) modify the tax credit for increasing research expenses to establish a standard 20% credit rate for research expenses exceeding 50% of average expenses over the preceding three year period; (2) establish a uniform 80% reimbursement rate for all contract research expenses (100% for basic research payments); (3) make such tax credit permanent; (4) allow a tax credit for equity investments in small business innovation companies; and (5) allow the issuance of tax exempt facility bonds for research park facilities used in connection with research and experimentation.  Directs the Secretary of the Treasury to: (1) study and report to Congress on taxpayer compliance with the substantiation requirements for claiming the tax credit for increasing research activities; and (2) issue regulations on the application of private activity bond rules to the funding of federal research agreements.

Alternative minimum tax.  Amends the Internal Revenue Code to repeal the alternative minimum tax on individuals.

Business meals and entertainment expenses.  Amends the Internal Revenue Code to increase the income tax deduction for business meals and entertainment expenses from 50 to 75% of such expenses in calendar year 2007, and 80% in 2008 and thereafter.

College tax credit.  Amends the Internal Revenue Code to replace the Hope Scholarship and Lifetime Learning Tax Credits with an increased, partially refundable college opportunity tax credit to cover up to four years (currently, limited to two years) of the tuition and related expenses of full or part-time postsecondary and graduate students.

Health care insurance credit.  Amends the Internal Revenue Code to allow certain small business employers a partially refundable business tax credit for the health insurance costs of employees who are not otherwise covered by a spouse’s insurance or by a federal health insurance program.

Alternative minimum tax and dividend tax rate.  A bill to amend the Internal Revenue Code of 1986 to extend and expand relief from the alternative minimum tax and to repeal the extension of the lower rates for capital gains and dividends for 2009 and 2010.

Education savings accounts.  Amends the Internal Revenue Code to: (1) increase the maximum annual contribution limit for Coverdell education savings accounts from $2,000 to $5,000 and make such increase permanent; and (2) allow a tax deduction up to $5,000 for contributions to an education savings account.

State and local sales tax deduction.  Amends the Internal Revenue Code to make permanent the tax deduction for state and local general sales taxes.

Cell phone tax.  Prohibits states from imposing any new discriminatory tax on mobile services (cell phones), mobile services providers, or mobile services property for three years after enactment of this Act. Defines “new discriminatory tax” as a tax imposed on mobile services, providers, or property which is not generally imposed on other types of services or property or is generally imposed at a lower rate.

Telephone tax.  Amends the Internal Revenue Code to repeal the excise tax on communication services (i.e., local telephone service, toll telephone service, and teletypewriter exchange service).

Indian employment tax credit.  Amends the Internal Revenue Code to permanently extend the Indian employment tax credit and the depreciation rules for property used predominantly within an Indian reservation.

Marriage tax penalty.  Makes provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001 that eliminate the marriage penalty in the standard deduction, the 15-percent tax bracket, and the earned income tax credit, permanent.

Depreciable business property.  Amends the Internal Revenue Code to: (1) increase the expensing allowance for depreciable business property from $100,000 to $200,000; (2) make such allowance permanent; (3) increase to $800,000 the asset cost threshold for calculating reductions in such allowance; (4) allow an annual inflation adjustment to the expensing allowance and the threshold amount after 2007; and (5) allow a taxpayer to revoke an election to expense such business property without the prior consent of the Secretary of the Treasury.
Start-up business tax year.  Amends the Internal Revenue Code to permit certain small start-up businesses to elect a taxable year, other than the required taxable year, which ends on the last day of any of the months of April through November (or at the end of an equivalent annual period).

Retail improvement property.  Amends the Internal Revenue Code to allow qualified retail improvement property a 15-year recovery period for purposes of the tax deduction for depreciation. Defines such property as any improvement to an interior portion of a building which is nonresidential real property, if: (1) such portion is open to the general public and is used in the trade or business of selling tangible personal property or services to the general public; and (2) such improvement is placed in service more than three years after the date the building was first placed in service. Excludes specified improvements, including the enlargement of a building, any elevator or escalator, or the internal structural framework of a building.

Disabled veterans.  Amends the Internal Revenue Code to allow members of the uniformed services whose retired pay in any taxable year is reduced due to an award of disability compensation by the Department of Veterans Affairs an extension of the three-year limitation period for filing tax refund claims until one year after the date of a disability determination. Limits the period for which such refund claims may be filed to taxable years beginning less than five years before the date of a disability determination.

IRS private debt collectors.  Requires the Internal Revenue Service (IRS) to suspend the use of private debt collection companies to collect unpaid taxes and prohibits the use of any IRS funds for tax collection contracts with private companies.

Art tax rate.  Amends the Internal Revenue Code to: (1) eliminate the 28-percent capital gains tax rate for collectibles, thus allowing gain from the sale of collectibles (including art works) to be taxed at the 15-percent tax rate applicable to other investment property; (2) allow the creator of a literary, musical, artistic, or scholarly property a fair market value tax deduction for the donation of such property to a tax-exempt organization, if properly appraised and donated no sooner than 18 months after its creation.

Tax haven countries.  Amends the Internal Revenue Code to treat certain controlled foreign corporations created or organized under the laws of a tax-haven country as domestic corporations for tax purposes. Sets forth a list of “tax-haven countries” and grants the Secretary of the Treasury authority to remove or add a country from such list.

Timber tax.  Amends the Internal Revenue Code to allow a tax deduction (available to taxpayers whether or not they itemize deductions) for up to 60% of gains from certain sales or exchanges of timber.

Volunteer use of personal vehicles.  Amends the Internal Revenue to provide that volunteers who use their automobiles for the benefit of a charitable organization may exclude from their gross income reimbursements for their automobile operating expenses at the same level as business employees (i.e., 48.5 cents per mile in 2007).  Increases criminal sanctions and monetary penalties for: (1) underpayments or overpayments of tax due to fraud; (2) attempts to evade or defeat tax; (3) willful failure to file tax returns, supply information, or pay tax; and (4) fraud and false statements.

Electricity tax credit.  Amends the Internal Revenue Code to eliminate after 2006 the reduction in the rate of the tax credit for electricity produced from open-loop biomass, small irrigation power, landfill gas, trash combustion, and hydropower facilities (thus allowing the same credit rate for all renewable resource facilities).

Electricity tax credit.  Amends the Internal Revenue Code to include kinetic hydropower as a renewable resource eligible for the tax credit for electricity produced from certain renewable resources. Defines “kinetic hydropower” as: (1) ocean free flowing water derived from flows from tidal currents, ocean currents, waves, or estuary currents; (2) ocean thermal energy; or (3) free flowing water in rivers, lakes, man made channels, or streams.

Active duty military.  Amends the Internal Revenue Code to: (1) allow certain small business owners (with 100 or fewer employees) and self-employed individuals a tax credit for wages paid to members of the Ready Reserve of the Armed Forces and to temporary replacement employees for such members while on active military duty; (2) treat differential wage payments made to members of the Ready Reserve as earned income for tax withholding and retirement plan purposes; (3) allow the rollover of military death gratuities to individual retirement accounts, health savings accounts, Archer medical savings accounts, and education savings accounts; (4) increase the standard tax deduction by $1,000 in 2007 and 2008 for members of the uniformed services on active duty for more than 30 days; and (5) make permanent the taxpayer election to treat combat pay as earned income for purposes of computing the earned income tax credit.

Conservation easements.  Amends the Internal Revenue Code to make permanent the tax deduction for charitable contributions by individuals and corporations of real property interests for conservation purposes.

1031 exchanges.  Amends the Internal Revenue Code to allow tax-free exchanges of shares in certain mutual ditch, reservoir, or irrigation companies.

Tax rates.  Repeals the termination date in the Jobs Growth Tax Relief Reconciliation Act of 2003 for provisions reducing individual tax rates on capital gains and dividend income.

Long-term trust accounts.  Amends the Internal Revenue Code to: (1) establish tax-exempt long-term care trust accounts; (2) allow cash contributions to such accounts up to $5,000 annually; (3) allow an exclusion from gross income for certain distributions, including for long-term care services for chronically-ill individuals; (4) impose penalties for excess contributions to such accounts and for failure to provide required reports on such accounts; and (5) allow a refundable tax credit for 10% of the annual contributions to such accounts.

School teachers.  Amends the Internal Revenue Code to: (1) increase the allowable tax deduction for the expenses of elementary and secondary school teachers to $400; (2) allow the deduction of professional development expenses; and (3) make such deduction permanent.

Combat zone compensation.  Amends the Internal Revenue Code to make permanent the taxpayer election to treat combat zone compensation (otherwise excludable from gross income) as earned income for purposes of computing the allowable earned income tax credit.

Agricultural tax safety credit.  Amends the Internal Revenue Code to allow a retailer of agricultural products and chemicals or a manufacturer, formulator, or distributor of certain pesticides a business tax credit for 30 percent of costs for or related to the protection of such chemicals or pesticides, including employee security training and background checks, installation of security equipment, and computer network safeguards. Sets a $2 million annual limit on such credit and a per facility limitation of $100,000 (reduced by credits received for the five prior taxable years). Terminates such credit after 2010.

Exxon Valdez benefits.   Allows taxpayers who are plaintiffs in the civil action In re Exxon Valdez, No. 89-095-CV (HRH) (Consolidated) (D. Alaska), or their heirs or dependents, to: (1) elect to average, for income tax purposes, income received in settlement of such civil action for the period beginning on January 1, 1994, and ending on December 31 of the year in which any settlement income is received; and (2) make contributions of any amount of such settlement income to certain tax-exempt retirement plans in the year such income is received.

Employee benefit cafeteria plan.  Amends the Internal Revenue Code to establish a new employee benefit cafeteria plan to be known as a Simple Cafeteria Plan. Defines “Simple Cafeteria Plan” as a cafeteria plan which: (1) is established and maintained by an employer with an average of 100 or fewer employees during a two-year period; (2) requires employers to make contributions or match employee contributions to the plan; (3) requires participating employees to have at least 1,000 hours of service for the preceding plan year and allows such employees to elect any benefit available under the plan; (4) permits participation by self-employed individuals; and (5) includes long-term care insurance as an qualified benefit. Exempts employers who make contributions for employees under a simple cafeteria plans from pension plan nondiscrimination requirements applicable to highly compensated and key employees. Modifies rules applicable to employee benefit flexible spending arrangements, including health and dependent care arrangements, to permit participants to make or modify elections regarding covered benefits and to carry over up to $500 (indexed for inflation) of unused benefits to the succeeding year or transfer such unused amounts to another plan, including an individual retirement plan or a health savings account. Allows an exclusion from the gross income of an employee of up to $7,500 ($10,000 for employees with one or more dependents) for employer contributions to a flexible spending arrangement. Provides for a cost-of-living adjustment to such exclusion amounts beginning in calendar year 2007.

Adoption tax credit.  Exempts provisions expanding the adoption tax credit and adoption assistance programs enacted by the Economic Growth and Tax Relief Reconciliation Act of 2001 from the general terminating (sunset) provisions of that Act.

Stock broker basis reporting.  Amends the Internal Revenue Code to include within the reporting requirements of investment brokers the adjusted basis of any security owned by customers of such brokers.

September 8th, 2007 | No Comments »

IRS Spin on the Corporate Income Tax

The IRS recently made a series of public statements outlining its distaste with the corporate income tax system.  The purpose of these public statements is to encourage Congress to reduce the corporate income tax rate, in exchange for reducing corporate tax breaks.  The interesting part of this story is why the IRS – an entity which is supported by public tax monies – is openly stepping into the political/legislative arena.

The IRS’s stated position is that a lower tax rate would help keep US businesses competitive in light of slightly lower corporate tax rates enjoyed by corporations in many other industrialized nations.  The IRS cites the corporate research and development tax credit and the low-income housing tax credit as examples of corporate “tax breaks” that should be eliminated.

The other – yet unspoken – side of this one-sided IRS debate is that the corporate research and development and low-income housing credits present Congress with a means of incentivizing certain corporate activities, i.e., keeping the US economy competitive by spurring research and development and by encouraging corporations to provide housing to the poor.  These incentives make the Tax Code more difficult to administer. 

Part of the problem is that corporate tax departments document and report on billions or even trillions of transactions in any one tax period.  It is nearly impossible for the IRS to detect, examine, and determine that these billions or trillions of transactions are correctly reported for tax purposes.  So what the IRS is now saying is “hey, reduce the corporate tax breaks so that it will make our job easier.”  I can respect this position, as administering the Tax Code is no easy task.

August 6th, 2007 | No Comments »

There is no Place Like Home (or is There?)

Have you ever said something like “I can’t wait to go home?”  If so, you may not know what the term “home” means.  According to the IRS, the term “home” means the taxpayer’s “principal place of business.”  I am guessing that very few (if any) taxpayers consider their place of business their home.

Our federal Tax Code does not define the term “home,” even though it comes up in several contexts (such as whether travel expenses are deductible, whether income is excluded from income taxation pursuant to Section 911, and whether one or more states are able to impose their income and other tax on certain taxpayers).

Absent a statutory definition, various courts have stepped in to define the term.  Some courts have tried to formulate their own definition for the term “home.”  Other courts simply accept the definition put forth by the IRS (see, e.g., Jordan v. United States).  In Jordan, the Eighth Circuit Court of Appeals states:

A taxpayer’s “home” … “is his principal place of business, and the taxpayer is ‘away from home’ when required to travel to a vicinity other than his principal place of business for temporary work.”  As an exception to this rule, a taxpayer may also be considered “away from home” if his “‘employment outside the area of his regular abode will be for a ‘temporary’ or ’short’ period of time . . . .’”  With regard to the temporary employment situation, however, “the taxpayer shall not be treated as being temporarily away from home during any period of employment if such period exceeds 1 year.”

In this particular case, the taxpayer lived in Minnesota and his employer paid for him to commute to Alaska for work over a period that exceeded one year.  The court said that the travel expenses to travel to Alaska were not deductible becuase the taxpayer’s “home” was in Alaska.

It seems the fear is that if the term “home” were to be defined in a way that is logical (i.e., to mean where the taxpayer actually lives), then taxpayers would opt to live in remote locations and use their travel expense deductions to offset their taxable income - which would make U.S. business less productive at the expense of the U.S. fisc (i.e., everyone would live in Hawaii and work in the mid-west and deduct the travel expenses).

With that said, taxpayers can easily plan for the rule.  For example, the analysis in Jordan would change dramatically if the taxpayer had a “home office” in his personal residence in Minnesota.  In that case he may have been able to successfully argue that his “home” really was in Minnesota, where he lived, becuase his business was also there - especially if he kept in contact with his “home office” via the internet and by making regular visits to the “home office.”  Sound absurd?  This may sound like semantics, but it isn’t.  The tax consequences are real and the IRS supports the position (see Rev. Rul. 99-7).

June 21st, 2007 | No Comments »