Coordinated Issue Paper
on S Corps. • Spousal
Waiver Avoids CRT Disqualification (Box) • IRS
Forums for Tax Advisers (Box)
Lesli S. Laffie, J.D.,
LL.M.
From the IRS
Coordinated Issue Paper on S Corps.
On May 9, 2005, the
Service issued a coordinated issue paper (CIP), “Notice
2002-65” Tax Shelter, intended to assist its
examiners in implementing Notice 2002-65, which addressed
transactions in which taxpayers claim immediate losses
while deferring offsetting gains from an S corporation
investment.
A transaction typically
subject to the notice includes a number of precisely
arranged actions intended to result in a deductible
noneconomic loss for the S investor; the transactions are
generally marketed by promoters charging a fee of 5% of
the capital losses and 6% of the ordinary losses.
Promoters may also reap management fees from the S
corporation established to execute the tax strategy.
Subjects covered: The
new CIP addresses various issues for transactions covered
by Notice 2002-65:
- The circumstances
under which S corporations and their investors
should be denied losses under Sec. 165.
- Whether covered
transactions should be recharacterized under Sec.
988’s foreign-currency transaction
anti-abuse regulations.
- Whether the
deduction of legal and promoter fees assessed in
relation to disallowed tax practices should be
allowable.
- Whether promoters
should be treated as shareholders, thus voiding
the S election and S corporation tax treatment.
- When
accuracy-related penalties listed in the notice
should apply.
The CIP also examines
legal theories and judicial histories for each issue and
suggests actions that examiners could take when reviewing
taxpayers involved in transactions covered by Notice
2002-65.
Loss disallowance:
The CIP provides several scenarios for disallowing
losses:
- Examiners should
apply Sec. 165’s “primary profit
motive” language and limit deductions to
losses incurred in a trade or business or in
transactions entered into for profit that are not
connected with a trade or business.
- Transactions subject
to Sec. 269 should be disallowed when an investor
purchases control of an S corporation for the
principle purpose of avoiding income tax.
Penalties:
The CIP also outlines when to apply Sec. 6662, which
imposes accuracy-related penalties on certain taxpayers.
Penalties can total as much as 40% of a gross valuation
misstatement.
Loss of S status:
The CIP also discussed cases in which purported S
shareholders are actually transaction promoters. In such
cases, the corporation might lose its S status. Gains and
losses would then be netted for a minimal gain or loss
and would not flow through to shareholders.
Other consequences:
According to the CIP, transactions involving S
corporations that are a “substantially meaningless
series of steps that manipulate tax rules to artificially
create tax losses for the investor” in an S
corporation, should be disallowed.
While taxpayers are
generally entitled to deduct ordinary and necessary
expenses paid or incurred during the tax year in carrying
on any trade or business under Sec. 162, those incurred
for a transaction designed solely to provide tax benefits
for participants would not be deductible.
Caveat: The
IRS develops CIPs to identify, coordinate and resolve
complex and significant industrywide tax issues. The
papers provide guidance to its field examiners to ensure
uniform application of the tax laws. While CIPs are not
official agency pronouncements, they do set forth the
Service’s current thinking about the issues
discussed.
Rev. Proc.
2005-24 Requires Spousal Waiver to Avoid CRT
Disqualification
by
Steven A. Thorne, CPA, Deloitte Tax LLP, Chicago,
IL, and Vice Chair, AICPA Tax Division’s
Trust, Estate and Gift Tax Technical Resource
Panel (TRP), and Eileen Sherr, CPA, MT, AICPA Tax
Division Technical Manager
The IRS recently issued
controversial Rev. Proc. 2005-24, requiring
spousal waivers to avoid disqualification of
certain charitable remainder trusts (CRTs),
regardless of whether they are charitable
remainder annuity trusts or unitrusts.
Background
Virtually all common law states provide a
statutory right to a surviving spouse, allowing
him or her to elect to receive a statutory
portion of the probate estate of a deceased
spouse in lieu of amounts bequeathed to the
survivor under the decedent’s testamentary
plan. Some states have gone further, enacting
“augmented share” provisions that allow
claims against assets outside the probate estate
(such as lifetime gifts or inter vivos
trusts). The IRS is concerned that such statutes
could result in a surviving spouse having a claim
against assets otherwise passing to a charity via
a CRT.
New Rule
Accordingly, Rev. Proc. 2005-24 requires a
spouse to affirmatively waive the right to
elect against CRT property for all CRTs created
after June 27, 2005 in states with
augmented share provisions. Existing CRTs can
also be affected if a surviving spouse actually
exercises a right of election under a state
statute.
Strategy
Rev. Proc. 2005-24 has the potential to put
tax advisers at great risk if a waiver is not
obtained, as it will disqualify a CRT. AICPA Tax
Division members with clients owning or
interested in CRTs are encouraged to read the
procedure carefully to identify situations in
which immediate action may be required. The AICPA
Tax Division’s Trust, Estate and Gift Tax
TRP’s CRT Task Force continues to analyze
this procedure and is considering commenting to
the IRS.
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IRS to Host
Forums for Tax Advisers
According to IR-2005-56,
the Service will host several nationwide tax
forums this summer for the tax practitioner
community. The forums will feature a variety of
basic and advanced seminars, to provide
professionals with the latest information on IRS
policies and programs. The seminars are conducted
by the Service’s experts and tax industry
leaders from the AICPA and American Bar
Association, among others.
Tax advisers are invited
to bring unresolved cases or questions to IRS
representatives for on-site resolution. In
addition, staff will be on hand to help attendees
complete the Service’s e-file
application, register for e-Services products and
provide information about electronic payments and
other electronic business tools.
The forums will also
benefit practitioners by giving them the
opportunity to meet and exchange ideas with
others, and sample the latest offerings from tax
industry vendors. The locations and dates are:
| City |
Date |
| Houston, TX |
July 12–14 |
| Atlanta, GA |
July 26–28 |
| New York, NY |
August 9–11 |
| Las Vegas, NV |
August 23–25
|
| Chicago, IL |
August
30–September 1 |
Fees/Registration
The fees are $119 per
person per city for pre-registration; $259 for
late or on-site registration. Pre-registration
ends two weeks prior to the start of a forum.
Reduced fees are available for AICPA members. For
a full program, hotel accommodations and online
registration, visit www.taxforuminfo.com/. Information is
also available in the “Tax
Professionals” section of the IRS website,
at www.irs.gov/taxpros/.
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