2008 federal tax update: the calm before the storm rick j. taylor, cpa 1 2008 federal tax update:...

2008 Federal Tax Update: The Calm Before the Storm

Rick J. Taylor, CPA

1

2008 Federal Tax Update:The Calm Before the Storm

Rick J. Taylor, CPA

All page numbers refer to Parts 1 and 2 of “2008 Federal Tax Update: The Calm Before the Storm” (November 6 and November 19, 2008; 227 pages) Rick J. Taylor. If you would like a copy of the entire outline, please send an email request – [email protected]

2

FIN 48 Delayed One More Year

• The Financial Accounting Standards Board (FASB) has granted to all nonpublic entities a one-year deferral on implementing FIN 48 until fiscal years beginning after Dec. 15, 2008. Decrease in FMV of assets.

• P. 195

3

S Corp Open Account Debt

• T.D. 9428, 10/17/2008; Reg. § 1.1367-2, Reg. § 1.1367-3.

• Final regulations that limit open account debt and the basis adjustments for an S corporation's debt to its shareholder under Code Sec. 1367(b)(2).

• $25,000 aggregate principal threshold amount per shareholder for open account debt.

• P. 195

4

Forgo Bonus and Accelerated Depreciation

• Rev Proc 2008-65, 2008-44 IRB • Guidance on recently enacted Code Sec.

168(k)(4), which allows corporations to elect to treat certain unused research and alternative minimum tax (AMT) credits as refundable in lieu of claiming bonus and accelerated depreciation for “eligible qualified property.”

• Elect to forgo bonus and accelerated depreciation and then will be able to claim unused credits from tax years beginning before Jan. 1, 2006.

• P. 196

5

Bad Loans Not Subject to 382

• Notice 2008-83, 2008-42 IRB.• For purposes of Code Sec. 382(h),

any deduction properly allowed after an ownership change (as defined in Code Sec. 382(g)) to a bank with respect to losses on loans or bad debts (including any deduction for a reasonable addition to a reserve for bad debts) will not be treated as a built-in loss or a deduction that is attributable to periods before the change date.

• P. 199

6

Key Provisions - Bailout Bill

• AMT exemption amounts for 2008 are increased to $46,200 for unmarrieds, to $69,950 for joint filers, and to $34,975 for marrieds filing separately

• Research credit is retroactively extended to apply to amounts paid or incurred after Dec. 31, 2007 and before Jan. 1, 2010

• Alternative simplified research credit is increased to 14% for tax years ending after Dec. 31, 2008 (remains at 6% if no history)

• Rule allowing tax-free treatment of IRA distributions donated to charity is extended to 2008 and 2009

• More-likely-than-not standard for preparer penalty for understatements due to unreasonable positions is replaced by substantial authority standard, except for tax shelters and reportable transactions

• Most new farming machinery and equipment placed in service during calendar year 2009 is designated as MACRS 5-year property

• P. 211- 227

7

Key Provisions - Farm Bill

• Two-year extension for favorable tax treatment (50% rather than 30% limit) of capital gain property donated for qualified conservation.

• Limitation on deduction of farm losses.• Dollar thresholds for optional methods of

computing net earnings from self-employment are increased and indexed. • Voluntarily pay SE tax to get increased SE

benefits.

• Added tax more than offset by benefit of earned income credit.

• P. 201- 204

8

Key Provisions - Housing Act

• First-time homebuyers temporary refundable tax credit equal to 10 percent of the purchase price of a home, up to $7,500 ($3,750 for married individuals filing separately).

• The credit begins to phase out for taxpayers with adjusted gross income in excess of $75,000 ($150,000 in the case of a joint return).

• The credit is effective for homes purchased on or after April 9, 2008, and before July 1, 2009.

• Unlike other credits, however, the first-time homebuyer credit must be repaid in equal installments over 15 years, essentially making it an interest-free loan from the government for most qualifying homeowners.

• P. 205 - 211

9

Favorable PAL Grouping

• Candelaria v. United States, No. EP-06-CV-0126-KC (W.D. Tex. 10/5/07).

• Real estate activity may be grouped with trade or business.

• Reg. §1.469-4(c) provides that one or more trade or business activities or rental activities may be treated as a single activity if the activities constitute an “appropriate economic unit.”

• P. 1

10

IRS Ruling on Favorable PAL Grouping

• TAM 200747018.• Truck leasing activity engaged in by a

QSUB is a rental activity under §469, but it may be grouped with the trade or business activities of the S corporation’s other QSubs.

• Since the S corporation’s shareholder materially participated in these other trade or business activities, the passive activity loss limitations did not apply to the rental activity.

• P. 3411

“Item” Narrowly Defined

• Capital One Financial Corporation v. Commissioner, 130 T.C. No. 11 (5/22/08).

• Credit card issuer may not retroactively change its method of accounting for late-fee income on credit cards.

• Excellent discussion of “item” which was narrowly defined.

• Can adopt any acceptable method when encounter new “item.”

• P. 3

12

Accounting Method Rev. Proc. Upheld

• Lehrer v. Commissioner, No. 06-75584 (9th Cir. 5/23/08).

• The Ninth Circuit affirmed the Tax Court's denial of taxpayer’s attempted late mark-to-market election.

• Rejected argument Rev. Proc. 99-17 is not an agency pronouncement carrying the force of law.

• Taxpayer’s position that such an election can be made at any time after the relevant returns are filed, without seeking or qualifying for an extension, was unreasonable.

• P. 413

§481(a) Adjustment is BIG

• MMC Corporation v. Commissioner, T.C. Memo 2007-354 (11/29/07).

• Positive §481(a) adjustment resulting from change from mark-to-market method required under the 1998 RRA, was recognized built-in gain under §1374.

• Incorrect decision.• If a change in method of accounting is from

one permissible method of accounting to another permissible method (other than a change from cash to accrual method), the resulting §481(a) adjustment should not be built-in gain, by application of the accrual-method rule, even if the §481(a) adjustment relates to amounts attributable to a C year.

• P. 4

14

Investment Sub Respected

• PSB Holdings, Inc. v. Commissioner, 129 T.C. No. 15 (11/1/07).

• Bank is not required under §§265(b) and 291 to include a subsidiary investment company's tax-exempt obligations that were purchased and owned by the subsidiary, in calculating the bank's average adjusted bases of tax-exempt obligations.

• IRS has indicated it intends to issue regulations that would require non-financial institution subsidiaries to be taken into account for purposes of §265(b) calculations.

• P. 6

15

§108(e)(5) is a Narrow Exception

• Payne v. Commissioner, T.C. Memo. 2008-66 (3/18/08).

• A taxpayer received cancellation of indebtedness income when he settled with a bank for less than the amount owed on his credit card.

• Court refused to allow use of purchase money indebtedness exception included in §108(e)(5).

• P. 6

16

No Deduction for Loss of Customers

• Technicolor USA Holdings, Inc. v. Commissioner, No. 07-2398 (3d Cir. 7/28/08).

• A corporation could not take a deduction for the loss of relationships with its film processing customers because the client relationships had no useful life and, therefore, had a zero basis.

• Valuation was not considered credible.

• P. 717

Ordinary Loss Abandonment Securities

• T.D. 9386, 2008-16 I.R.B. (4/21/08). • Final regulations clarifying the tax treatment

of losses from abandoned stock or securities under §165(g).

• Loss established by the abandonment of a security that is a capital asset is treated as a loss arising from the sale or exchange of a capital asset on the last day of the tax year, unless §165(g)(3) (relating to certain worthless securities in a corporation affiliated with the taxpayer) applies.

• Abandonment requires that the taxpayer permanently surrender and relinquish all rights in the security for no consideration.

• P. 11

18

Escrow Account Taxable Currently

• T.D. 9413, 73 Fed. Reg. 39,614 (7/10/08).• Final regulations under §468B on the

taxation of income earned on escrow accounts, trusts, and other funds used during deferred exchanges of like-kind property under §1031, and under §7872 on the treatment of below-market loans associated with like-kind exchanges.

• Interest on a taxpayer's exchange funds is taxable in the year earned or credited, instead of when the interest is paid.

• P. 12

19

Rebates Reduce Gross Income

• Rev. Rul. 2008-26, 2008-21 I.R.B. 985.• Medicaid rebates paid by a

pharmaceutical manufacturer to a state Medicaid agency are adjustments to the sales price in calculating gross income.

• Price adjustment is not an ordinary and necessary business expense. Instead, it is a deduction in arriving at gross income.

• Lack of guidance as to the timing of recognition.

• P. 1520

§118 Change is Account Method Change

• Rev. Rul. 2008-30, 2008-25 I.R.B. 986.• Public utility’s change from treating

payments received from customers as non-taxable contributions to capital to treating the payments as taxable customer connection fees is a change in method of accounting requiring the consent of the IRS.

• Change only applies to timing differences and not something that results in permanent difference.

• P. 1621

Pending Nonautomatic Changes

• Rev. Proc. 2007-67, 2007-48 I.R.B. 1072.

• Procedures for obtaining IRS consent to change an accounting method where a filed Form 3115, Application for Change in Accounting Method is pending in the National Office.

• IRS acknowledgment that nonautomatic changes are taking too long and causing problems for taxpayers.

• P. 1722

Safe-harbor §1031 Qualification

• Rev. Proc. 2008-16, 2008-10 I.R.B. 547.• Safe harbor under which IRS will not

challenge whether a dwelling unit qualifies as property held for productive use in a trade or business or for investment for purposes of §1031.

• Relinquished property and replacement property owned for 24 months.

• For 12 months before and after, property is rented to third party for FMV rental for at least 14 days. Personal days cannot exceed more than 14 days or 10% of days rented.

• P. 18

23

Accelerate FICA, FUTA and SUTA

• Rev. Proc. 2008-25, 2008-13 I.R.B. 686.• Safe harbor method of accounting for

taxpayers using an accrual method of accounting and incurring FICA and FUTA liabilities.

• Automatic consent procedures to change to the safe harbor method of accounting.

• §19.04 of the Appendix in Rev. Proc. 2008-52 extends the treatment to SUTA as well.

• P. 21

24

Automatic Method Changes

• Rev. Proc. 2008-52 makes a number of significant changes to Rev. Proc. 2002-9 including:

• Amplification of the requirements for a complete application (e.g., Form 3115);

• Increase in number of changes qualifying for automatic change;

• Clarifies need to include UNICAP considerations in determination of §481(a) adjustment;

• P. 23

25

Fiscal Yr Trap §179 Expense Confirmed

• Rev. Proc. 2008-54, 2008-38 I.R.B. 722.• Increased §179 expensing election

applies on a fiscal year basis.• Bonus depreciation applies on a

calendar year basis. • Utilization of increased §179

deduction by fiscal year passthrough entity can result in loss of §179 deduction.

• Fix by electing or revoke election on amended return.

• P. 27

26

Ptrship Exchange Qualifies for §1031

• PLR 200807005.• A taxpayer's receipt of all the interests in a

partnership holding real property, through a disregarded entity created by the taxpayer to receive the real property, will qualify for like-kind exchange treatment.

• This is the first ruling IRS addressed a taxpayer’s acquisition of 100% of the interest in a “regarded” partnership that holds replacement property for purposes of §1031.

• Reinforces Rev. Rul. 99-6 (i.e., the acquirer is treated as acquiring the partnership property directly from the partners).

• Taxpayer limited partner; SMLLC general.• P. 29

27

Bank Not Disqualified Person

• PLR 200803003 and 200803014.• A proposed qualified intermediary

(QI) (that is a bank as defined in §581) will not be a “disqualified person” under Reg. §1.1031(k)-1(k), because the QI and its controlled group members provide investment advisory, brokerage, private planning, insurance, trust, and retail banking services for the proposed QI’s customers and clients.

• P. 29

28

Development Rights Like Kind Property

• PLR 200805012.• A taxpayer's exchange of a parcel of

real property for development rights was considered a like-kind exchange.

• Development rights were real property under local law.

• P. 30

29

Incentive Payments Not Income

• PLR 200816027.• Customers who received payments

for participating in a promotion did not have to include the payments in their gross incomes because the payments represent a reduction in the purchase price.

• P. 31

30

Extension Documenting Success Fees• PLR 200817010.• Taxpayers granted extension to complete success-

based fees documentation. • §263(a) and Reg. §1.263(a)-5(a) require capitalization

of amts paid to facilitate acquisition transactions. • Under a special exception, success fee is an amount

paid to facilitate the transaction except to the extent the taxpayer maintains sufficient documentation to show that a portion of the fee is allocable to activities that do not facilitate the transaction.

• The documentation must be completed on or before the due date of the taxpayer’s timely filed original federal income tax return (including extensions) for the tax year during which the transaction closes.

• P. 31

31

All Events Test Not Met

• CCM 200835019.• An accrual-based retailer could not

treat its cash rebate liability as incurred on the date the product was sold to a customer because the liability was not fixed until the customer later mailed a properly completed rebate form with the necessary attachments.

• P. 32

32

Loss for Abandoned Transaction

• TAMs 200749013 and 200749014• §165 loss deduction allowed for transaction

costs of abandoned transactions. • When a taxpayer investigates and pursues

multiple separate transactions, costs properly allocable to any abandoned transactions are deductible even if some transactions are completed.

• If the proposals are mutually exclusive alternatives, then no abandonment loss is proper unless all transaction proposals are abandoned.

• Demonstrates IRS’ narrow view of what constitutes non-mutually exclusive transactions.

• P. 35

33

IRS Attacks Tool Reimbursement

• CCA 200745018.• Tool reimbursement plan that

recharacterized wages failed the business connection, substantiation, and return of excess payment requirements for an accountable plan and might have demonstrated a pattern of abuse.

• In Rev. Rul. 2005-52, 2005-2 CB 423, IRS also attacked a tool allowance plan paid to auto mechanics based on estimated, rather than actual expenses, finding it failed the substantiation and return of excess payment requirements.

• P. 35

34

Ethanol Property 7 Yr

• CCA 200835032 revoking CCA 200814025.• Earlier this year, IRS released CCA

200814025 that concluded assets used in an integrated facility for converting corn to bioethanol should be depreciated over seven years rather than over a five-year MACRS recovery period.

• While Chief Counsel has withdrawn its memo, this appears to be for procedural rather than substantive reasons.

• Published guidance will indicate that 7 yrs is correct.

• P. 35

35

Expansive §1031 Ruling

• CCA 200836024. • Taxpayer may engage in a reverse

like-kind exchange and a traditional deferred like-kind exchange using the same relinquished property in both exchanges.

• P. 36

36

Gift Card Income Mismatch

• LAFA20082801F. • A subsidiary that managed corporation's

gift card sales had income from the sale of those gift cards when its right to the sale proceeds was fixed and the amount could be determined with reasonable accuracy.

• This occurred when the gift cards were purchased by a customer or reloaded by the subsidiary or a retail store.

• The subsidiary could deduct the expense of the redeemed card when economic performance occurs, i.e., when the gift card customers redeemed the gift cards.

• P. 3737

Location Incentives

• Coordinated Issue Paper All Industries—State and Local Location Tax Incentives (LMSB-04-0408-023, 5/23/2008).

• Location tax incentive, whether in the form of an abatement, credit, deduction, rate reduction, or exemption, is not an item of gross income under §61.

• Incentive is a reduction of state or local tax expense.

• Applies whether the taxpayer first pays the tax and then receives a rebate or refund, or pays the net.

• Location tax incentive is not a nonshareholder contribution to capital under §118 that reduces a taxpayer's basis in assets under §362(c).

• P. 38

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Rick J. Taylor

Charitable Contributions Challenged

• Bergquist v. Commissioner, 131 T.C. No. 2 (7/22/08).

• The Tax Court slashed the charitable contribution deductions claimed by a group of doctors and hit them with an accuracy-related penalty for gross valuation misstatements.

• Doctors could not avoid penalties by relying on appraisal because the planned from the beginning to donate the stock on the brink of the consolidation as a way to reap a potential windfall.

• Moreover, the court said that the doctors' knowledge of the letter from the tax-exempt entity, the fact that they were advised not to bring their own tax advisers to the stockholders meeting, and were directed to withhold information from their own tax advisers, should have put them on notice as to the inaccuracy of the claimed donations.

• P. 41

39

Business Use Required for §179

• Birdsill v. Commissioner, T.C. Summary 2008-55 (5/20/08).

• Taxpayer was subject to recapture of §179 expense because he failed to comply with the strict substantiation requirements to prove that he used a vehicle more than 50 percent of the time for business.

• P. 42

40

Travel Expense Denied

• Burski v. Commissioner, T.C. Summary 2007-212 (12/17/07).

• The term “home” means a taxpayer’s principal place of business and not where the taxpayer’s personal residence is located, if different from the principal place of business.

• An exception to the rule exists when a taxpayer accepts work away from the taxpayer’s personal residence and the work is temporary rather than indefinite (1 year or less).

• P. 43

41

Travel Expense Denied – 2

• Cornelius v. Commissioner, T.C. Summary 2008-42 (4/23/08).

• Taxpayer could not deduct travel and meal expenses for work assignments in other cities because he was in each city for more than one year; however, a moving expense deduction could be appropriate.

• P. 43

42

Travel Expense Allowed

• Estate of Lease v. Commissioner, T.C. Summary 2008-11 (1/30/08).

• A millwright who had to find jobs far from his usual work area when work was scarce was entitled to a travel expense deduction for travel costs to the farther locations.

• P. 45

43

Travel Expense Denied - 3

• Walker v. Commissioner, T.C. Summary 2008-41 (4/22/08).

• A Union electrician who worked sporadically up and down the east coast could not deduct his meals and lodging expenses as business expenses incurred while traveling away from home because they related to a period for which he had no tax home.

• Taxpayer found to have no tax home. • P. 66

44

Travel Expense Denied - 4

• Yanke v. Commissioner, T.C. Memo 2008-131 (5/15/08).

• An individual who was training to become a journeyman electrical power lineman could not deduct expenses for travel, meals, and lodging relating to his training in California because he lacked a business reason for maintaining a tax home in another state.

• Taxpayer did not have a reasonable business reason or justification for maintaining a tax home in Boise.

• According to the court, when taxpayer enrolled in the lineman training program, he knew that for the next 3-1/2 years he would be working with contractors only in California and/or Nevada.

• P. 68

45

Leasing Arrangement Ignored

• Doyle v. Commissioner, T.C. Summary 2008-107 (8/21/08).

• Married taxpayers could not claim Schedule C deductions with respect to their claimed business of leasing out a truck where the lease agreement was really a financing arrangement that merely served to pass money between the bank and the supposed truck lessor.

• IRS attack probably inspired by fact lease was to taxpayer’s father.

• P. 44

46

No Deduction for Alimony

• Emmel v. Commissioner, T.C. Summary 2007-205 (12/6/07).

• Payments a taxpayer made to his estranged wife under an oral agreement are not deductible as alimony because they were not required by a written divorce or separation instrument.

• A divorce or separation agreement must be made in writing. A payment made pursuant to an oral agreement is not a payment made pursuant to a divorce or separation instrument unless there is some type of written instrument memorializing the agreement.

• P. 45

47

No Deduction for Alimony - 2

• Katchmeric v. Commissioner, T.C. Summary 2007-213 (12/19/07).

• An individual was not entitled to an alimony deduction for payments made to his ex-wife before the entry of an order providing for alimony because the payments were not made pursuant to a written separation agreement.

• P. 52

48


• Rafferty v. United States, No. 07-cv-00903-EWN-BNB (D. Colo. 7/8/08).

• A district court held that an ex-husband was not entitled to an alimony deduction for payments he deposited into the couple’s joint bank account after they separated because the amounts were paid prior to the execution of a written divorce or separation agreement.

• P. 64

49


• Raga v. Commissioner, T.C. Summary 2008-46 (4/29/08).

• Unallocated payments an individual received from her ex-husband were alimony includible in her income because state law provided that the ex-husband's obligation to make the payments would end on her death.

• P. 64

50


• Salzman v. Commissioner, T.C. Summary 2007-190 (11/7/07).

• A taxpayer's payments to his former spouse would not have terminated on her death and, thus, were not deductible alimony.

• P. 64

51

Spousal Health Insurance Allowed

• Frahm v. Commissioner, T.C. Memo. 2007-351 (11/27/07).

• Taxpayers were entitled to a deduction for amounts husband, as wife’s employer, paid to wife to reimburse her for the premiums that she paid for the policies issued in husband's name.

• The paperwork establishing the plan was in order.

• All the checks for premiums and reimbursement were properly drawn.

• P. 4652

Spousal Health Insurance Disallowed

• Eyler v. Commissioner, T. C. Memo 2007-350 (11/27/07)

• Taxpayers denied deduction because no written plan, no reimbursement, proper paperwork flow not evident.

• No - Francis, TCM 2007-33 (2/8/07) insufficient documentation of spouses’ services.

• No – Snorek, TCM 2007-34 (2/8/07) improper payment by employer rather than spouse.

• No – Albers, TCM 2007-144 (6/7/07) improper reimbursement.

53

Gambler was in Trade or Business

• Gagliardi v. Commissioner, T.C. Memo. 2008-10 (1/24/07).

• Slot machine gambling losses claimed by a pathological gambler were sufficiently substantiated by documentary evidence and the testimony of the taxpayer and expert witnesses.

• It accepted clinical psychologists opinion that taxpayer was a pathological gambler.

• Found the methodology and assumptions made by casino gambling expert to calculate the likelihood and extent of taxpayer's losses to be reasonable.

• Further, although taxpayer's claimed losses were less than the casino gambling expert’s estimate of losses, the claimed losses were within the error range calculated.

• P. 47

54

Gambler Not in Trade or Business

• Merkin v. Commissioner, T.C. Memo. 2008-146 (6/5/08).

• Because a psychiatrist relied on a casino for his recordkeeping, he could not adequately substantiate that he was in the trade or business of gambling.

• The court based its determination primarily on its view that taxpayer did not carry on his gambling activity in a businesslike manner.

• The court noted that taxpayer did not maintain any receipts, books, or records but relied solely on the casino to track all of his playing time, betting history, wins, and losses through his player's club card.

• P. 60

55

Gambler in Trade or Business

• Myers v. Commissioner, T. C. Summary 2007-194 (11/19/07).

• Taxpayer was able to successfully rebut IRS assertions that she was not a professional gambler. As a result, the Tax Court held that she could deduct her gambling losses as an above-the-line deduction.

• P. 61

56

Theft Loss for Portion of Loss

• Johnson v. United States, Nos. 01-428T, 03-2803T, 05-1265T (Fed. Cl. 1/9/08).

• A married couple who were victims of a fraud scheme were entitled to a theft loss deduction for the portion of the loss that they determined they had no prospect of recovering.

• Taxpayers were not required to wait until the total amount of recovery from every source was established to take a theft loss deduction for a portion of their loss.

• In this case, the taxpayers did establish with reasonable certainty that a portion of their loss would not be recovered.

• P. 49

57

Theft Loss for Loss Not Allowed

• Kaplan v. United States, No. 8:05-cv-1236-T-24 (M.D. Fla. 8/15/07).

• A couple could not claim a theft loss deduction for phantom gains that disappeared when a Ponzi scheme collapsed, or for taxes paid on the purported gains. Could not deduct because prospect for recovery was unknown.

• P. 51

58

Theft Loss not Allowed for Corp Fraud

• Taghadoss v. Commissioner, T.C. Summary 2008-44 (4/29/08).

• An individual could not take a theft loss deduction for the loss of value in his stock options and holdings based on fraud committed by company officials.

• One in a series of similar cases involving WorldCom.

• P.65

59

No Theft Loss for Bad Workmanship

• Wanchek v. Commissioner, T.C. Memo. 2007-366 (12/11/07).

• A couple could not claim a theft loss deduction for poor workmanship in the construction of their home where they could not show fraudulent intent on the contractor’s part.

• Taxpayers fell short of proving that the contractor had the specific intent to cheat or deceive them when he took their money in exchange for building their house. At most, contractor’s failure to carry out the construction plans constituted a breach of contract or negligence on his part, but not fraud.

• P. 67

60

No Theft Loss for Bad Workmanship

• Electronic Picture Solutions, Inc., TC Memo 2008-212.

• Corporation was not entitled to a theft loss deduction under §165 for an investment in stock that became worthless because of alleged fraud by the issuer and a stockbroker.

• P. 77

61

No De Minimis Rule Charitable Substantiation

• Gomez v. Commissioner, T.C. Summary 2008-93 (7/30/08).

• Couple denied deduction for cash gifts that were undisputed made to their church but for which they did not have the proper substantiation.

• Despite the fact that the taxpayer’s clearly made the contributions, the Code requires a contemporaneous written acknowledgment for contributions of $250 or more for a charitable contribution deduction to be allowed.

• The acknowledgment letter was dated January 22, 2008, and was not received by the earlier of the taxpayer’s filing of their income tax return or the return's due date of April 17, 2006.

• P. 48

62

Must Seek Daily Profit to be “Trader”

• Holsinger v. Commissioner, T.C. Memo. 2008-191 (8/11/08).

• Where a significant amount of the taxpayers’ stock holdings were held for more than 31 days, it indicated that the taxpayers were not traders, but rather investors that could not take ordinary loss deductions on their stock sales.

• To be a trader must seek to profit from daily swings in the market.

• P. 4963

COD Income Calculation

• Keith v. Commissioner, T.C. Summary 2007-214 (12/26/07).

• A married couple that was forgiven the debt on a home lost in foreclosure was insolvent at the time of foreclosure and the discharged debt was substantially excluded from their gross income.

• Financial status immediately after the discharge is not relevant, and since they were insolvent before the foreclosure they could exclude most of the discharged debt from income.

• Take a lesson from the unreasonableness in the IRS position – and this position was litigated!

• P. 53

64

Investment Advisory Subject 2% Floor

• Knight v. Commissioner, No. 06-1286, (S. Ct. 1/16/08).

• Unanimous Supreme Court holds that investment advisory fees incurred by trusts are subject to the 2-percent floor for miscellaneous deductions.

• The decision may give trustees an angle to argue that other expenses should be fully deductible. The question that courts will now have to answer is what expenses would or would not have been incurred by an individual in the same situation as a trustee.

• The court suggested that some trust-related investment advisory fees may be fully deductible if an investment advisor were to impose a special, additional charge applicable only to its fiduciary accounts.

• P. 54

65

Implications of Disallowance

• Subjecting fees to this 2-percent limitation will shrink the allowable deduction for regular tax purposes and increase taxable income.

• More importantly, such amounts are subject to AMT.

• As usual, IRS “jumps the gun” and adopts and unreasonable position in proposed regulations that applies the 2-percent floor to all expenses of an estate or trust except those that are “unique” to an estate or trust.

• P. 57

66

“Unique” Fully Deductible-Prop Regs

• Fiduciary accountings;• Required judicial filings;• Preparation of fiduciary income tax and

estate tax returns;• Distributions to beneficiaries;• Trust or will contests or constructions;• Fiduciary bond premiums; and• Communications with beneficiaries

regarding estate or trust matters.• P. 57

67

Not Fully Deductible-Prop Regs

• Custody or management of property;• Investment advice;• Preparation of gift tax returns;• Defense of claims by creditors of the

decedent or grantor; and• The purchase, sale, maintenance,

repair, insurance, or management of non-trade or business property.

• P. 58

68

Unbundling Postponed

• Interim guidance does not require unbundling of fiduciary fees for any taxable year beginning before January 1, 2008 (Notice 2008-32).

• The full amount of the bundled fiduciary fee is deductible until unbundling guidance is issued.

• This does not apply to payments by the fiduciary to third parties for expenses that are readily identifiable as being subject to the 2-percent floor.

• P. 58

69

IRS Challenges Mortgage Interest Deduction

• Njenge v. Commissioner, T.C. Summary 2008-84 (7/15/08).

• A couple was entitled to mortgage interest and property tax deductions with respect to their home which had been purchased by their son and was held in his name. Couple had filed for bankruptcy in 2001 and were unable to obtain a mortgage. As a result, their son purchased the house for them.

• Courts have a long history of recognizing agency relationships and the IRS should never have challenged the deduction in this case.

• See Roccaforte v. Commissioner, 77 T.C. 263 (1981), and National Carbide Corporation v. Commissioner, 336 U.S. 422 (1949).

• P. 63

70

FLP Charitable Strategy Failed

• Smith v. Commissioner, T.C. Memo 2007-368 (12/17/07).

• Three related couples were denied deductions for non-cash charitable contributions of family limited partnerships; and two of the couples were also denied business expense deductions for activities that were not run with a profit motive.

• P. 64

71

Must Separate After Reach 55

• Williams v. Commissioner, T.C. Summary 2008-53 (5/19/08).

• An individual who retired from his job at age 53 and withdrew funds from his retirement plan at age 55 did not meet the age 55 exception to the early distribution penalty.

• The "age 55 exception" applies only where the taxpayer separates from employment after reaching age 55.

• P. 68

72

Lesson in Bad Bookkeeping

• Bynum v. Commissioner, T.C. Memo 2008-14 (1/28/07).

• A married couple was not entitled to business bad debt deductions for amounts the husband advanced on behalf of their corporation because the advances were not bona fide loans.

• Could have gotten deductions if paid inside the corporation.

• Could have taken 1244 loss.• P. 43

73

Strict Charitable Prop Regs

• Reg–140029-07, 73 Fed. Reg. 45,908 (8/7/08).• Proposed regulations related to Congressional

efforts to end charitable contribution abuses. Incorporates 2004 and 2006 tax law changes.

• Implement the requirement (§170(f)(17)) that no deduction is allowed for any contribution by cash, check, or other monetary gift unless the donor maintains a bank record or written communication from the donee.

• The bank record or written communication must show the name of the donee, the date of the contribution, and the amount of the contribution. No de minimis exception.

• Exemption where the charitable beneficiary has not yet been identified or because the charitable beneficiary has no firsthand knowledge of the amount of the payment.

• P. 69

74

Condition of Goods Must be Listed on Receipt

• The proposed regulations provide that no deduction is allowed for any contribution of clothing or a household item unless it is in good used condition or better.

• If a donor claims a deduction of less than $250, the proposed regulations require that the donor obtain a receipt from the donee or maintain reliable written records of the contribution. Prop. Reg. §1.170A-16(a).

• A reliable written record for a contribution of clothing or a household item must include a description of the condition of the item.

• P. 70

75

Body Scan Deductible Medical Expense

• Rev. Rul. 2007-72, 2007-50 I.R.B. 1154.• Amounts paid by individuals for

whole body scanning diagnostic, pregnancy test, or annual physical, not compensated by insurance are deductible medical care expenses.

• P. 71

76

Restitution is Deductible Expense

• PLR 200834016.• Under New Jersey law, restitution is

primarily compensatory in nature with the goal of compensating the victim for the victim’s loss; as a result, the restitution is deductible.

• P. 73

77

QJV does not Create SE Income

• CCM 200816030.• If rental real estate business income is

otherwise excludable from net earnings from self-employment, the election of qualified joint venture status does not convert such income into net earnings from self-employment.

• The Office of Chief Counsel advised that if income is otherwise excludable from NESE, the election of QJV status will not convert such income into NESE.

• P. 75

78

Prejudgment Interest Not Deductible

• CCA 200836025.• Prejudgment interest is not deductible

under §163 since it is not interest on indebtedness;

• Prejudgment interest stemming from product liability is ordinary and necessary business expense deductible under §162; and post-judgment interest relating to product liability is deductible under either §162 or §163.

• Prejudgment and/or post-judgment interest on product liability claims does not qualify as product liability damages under §172(f)(4) and thus is not eligible for 10-year carryback.

• P. 78

79

PSC Found Regardless of EE-Owner Time

• Grutman-Mazler Engineering, Inc. v. Commissioner, T.C. Memo. 2008-140 (5/21/08).

• In determining if a corporation is a qualified personal service corporation, there is no requirement that employee-owners perform a certain percentage of their time in the qualifying field or in connection with the qualifying field.

• P. 80

80

Use of S Corp to Avoid SE Shot Down

• Jarrett v, Commissioner, T.C. Summary 2008-94 (7/31/08).

• Taxpayers were subject to self-employment taxes on income earned through their sole proprietorships but passed through to them by their S corporation set up to engage in tax return preparation.

• Held taxpayers operated their businesses as sole proprietors and the passthrough income from the S corporation is considered earned by the taxpayer individually and is subject to self-employment taxes.

• P. 80

81

S Corp Attribute Reduction for COD• REG-102822-08, 73 Rd. Reg. 45,656, August 6,

2008.• Proposed regulations on the manner in which

an S corporation must reduce its tax attributes for tax years in which it has discharge of debt income that is excluded from gross income.

• Unless a taxpayer elects to first reduce the basis of depreciable property, the first attribute reduced is any NOL for the year of discharge and any NOL carried over to the year of discharge.

• The rules for the exclusion of COD income and for the reduction of tax attributes are applied at the corporate level.

• The reduction of tax attributes occurs after the S corporation’s items of income, loss, deduction, and credit for the tax year of the discharge pass through to its shareholders.

• P. 83

82

Prop Regs-Modify Antiabuse Rule 704(c)

• REG-100798-06, 73 F.R. 28765-28767, 5/19/08.

• For purposes of apply the §704(c) anti-abuse rule, the tax liabilities of both the partners in a partnership and the direct and indirect owners of such partners should be taken into account.

• Also provide that a §704(c) allocation method cannot be used to obtain tax results that are inconsistent with the intent of subchapter K.

• P. 85

83

Election Treat Disposition as Taxable Sale

• REG-143544-04, 73 Fed. Reg. 49,965 (8/25/08).• Proposed regulations that would provide an

election to treat qualified dispositions of another corporation's stock as taxable sales of that corporation's assets; the regs are proposed to apply only to domestic transactions.

• The proposed regs are designed to provide relief from the potential multiple taxation of the same economic gain that can result when a transfer of appreciated stock is taxed to a corporation without providing a corresponding step-up in the basis of the assets of the corporation.

• Because §336(e) requires a corporate seller, the election isn't available in transactions involving the stock of an S corporation.

• P. 86

84

Accounting Method Consistency

• REG-151884-03, 72 Fed. Reg. 64,545 (11/16/07).• Proposed regulations that seek to provide

consistency on which accounting method or combination of methods should be used after certain corporate reorganizations and tax-free liquidations under §381(a).

• General rule that the principal method generally is that used by the acquiring corporation before the §381(a) transaction.

• If the distributor or transferor corporation is larger than the acquiring corporation, the principal methods for the overall accounting method and for the method for a particular item or type of goods are the methods used by the distributor or transferor corporation before the transaction.

• The proposed regs explain the rules for determining whether the distributor or transferor corporation is larger than the acquiring corporation.

• P. 87

85

Definition W-2 Wages for DPAD

• T.D. 9381, 73 Fed. Reg. 8,798 (2/15/08).• Final regulations on the definition of W-2 wages for

purposes of the domestic production activities deduction.

• §199 deduction for any tax year may not exceed 50 percent of the W-2 wages of the taxpayer for the tax year.

• Under a change made by the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA), W-2 wages, for purposes of calculating the §199 deduction, include only amounts that are properly allocable to domestic production gross receipts (DPGR).

• The regulations provide safe harbors for determining the amount of W-2 wages properly allocable to DPGR.

• The wage expense safe harbor may be used by taxpayers using either the §861 method of cost allocation or the simplified deduction method.

• P. 89

86

Alternative Simplified Credit

• T.D. 9401, 6/13/2008; Reg. § 1.41-6T, Reg. § 1.41-8T, Reg. § 1.41-9T.

• Temporary and proposed regs to provide rules relating to the alternative simplified credit (ASC), which may be elected under §41(c)(5) to figure a taxpayer's research credit.

• At the election of the taxpayer, the credit is equal to 12% of so much of the QREs for the tax year as exceeds 50% of the average QREs for the three tax years preceding the tax year for which the credit is being determined.

• A special rule provides that the credit is equal to 6% of the QREs for the tax year if the taxpayer does not have QREs in each of the three tax years preceding the year for which credit is being determined.

• ASC election applies to the tax year for which made and all succeeding tax years unless revoked with IRS consent.

• P. 94

87

Investment Interest Passthrough

• Rev. Rul. 2008-12, 2008-10 I.R.B. 520.• The Service determined that a

noncorporate limited partner’s distributive share of interest expense, on debt allocable to the partnership’s trade or business of trading securities, is subject to the §163(d)(1) limitation on the deduction of investment interest, if the limited partner does not materially participate in the trading activity.

• P. 96

88

Investment Interest Can Be Sch E Deduction

• Rev. Rul. 2008-38, 2008-31 I.R.B. 249. • The IRS issued Announcement 2008-65 concurrently.• Limited partner in first situation of Rev. Rul. 2008-38

would properly include the allowable amount of its distributive share of the securities trading partnership’s interest expense in computing the limited partner’s ordinary business income or loss on Schedule E.

• Consistent with the reporting requirements of Notice 88-37, 1988-1 C.B. 522, the interest deduction of the limited partner that is properly reportable on Schedule E should be identified on a separate line in Part II, Line 28, column (a), as “investment interest,” followed by the name of the trading partnership that paid or incurred the interest expense, and the amount of such interest expense should be entered in column (h).

• P. 98

89

S Corp Property Contributions

• Rev. Rul. 2008-16, 2008-11 I.R.B. 585.• Guidance on the amount of the deduction

for shareholders of S corporations that made charitable contributions of appreciated property in tax years beginning after December 31, 2005, and before January 1, 2008, in light of changes made by the Pension Protection Act of 2006 and the Tax Technical Corrections Act of 2007.

• Treatment extended 1 yr by Bailout Bill. See page 222.

• P. 96

90

“Protective” S Corp Election

• Rev. Rul. 2008-18, 2008-13 I.R.B. 674.• Guidance on employer identification

numbers (EINs) when an S corporation becomes a qualified subchapter S subsidiary (QSub) in a transaction treated as an F reorganization.

• The Service recognized that its Service Centers may have difficulty in recognizing the S corporation status of Newco without an S election being filed for Newcompany

• Taxpayers engaging in similar transactions to Situation 1 or Situation 2 should consider filing a protective S election for Newcompany.

• P. 97

91

Merger then Liquidation not Tax-free Reorg

• Rev. Rul. 2008-25, 2008-21 I.R.B. 986.• Acquisition of target’s stock in a statutory merger

followed by target liquidation not a tax-free reorganization under §368(a).

• This ruling reaffirms the principle that, absent a §338 election, a stock acquisition, followed by a prompt liquidation of the acquired corporation into the acquiring corporation, does not result in a taxable asset acquisition with a stepped-up basis in the acquired assets.

• Depending on what type of consideration is issued, corporate taxpayers can plan their transactions by essentially choosing between either making a taxable stock acquisition and acquiring the assets of the target corporation via liquidation or acquiring the assets of the target corporation in reorganization.

• They can also plan whether to obtain a stepped-up basis in the assets of the target corporation by choosing whether to make a §338 election.

• P. 9792

Flow Through Investment Fees

• Rev. Rul. 2008-39, 2008-31 I.R.B. 252.• Guidance on a limited partner’s tax

treatment of its distributive share of management fee expense from an upper tier partnership engaged solely in holding limited partnership interests in lower tier partnerships that are securities trading partnerships.

• P. 100

93

LI Premiums do not Reduce AAA

• Rev. Rul. 2008-42, 2008-30 I.R.B. 175.• Premiums paid by an S corporation on an

employer-owned key-man life insurance policy, of which the S corporation is either a direct or indirect beneficiary, do not reduce an S corporation’s accumulated adjustment account.

• The benefits received by reason of the death of the insured from an employer-owned life insurance contract that meets an exception under §101(j)(2) do not increase the S corporation’s AAA.

• P. 101

94

Surrender Shares to Cancel Debt=Redemption

• PLR 200750001.• An individual shareholder’s surrender

of corporate shares in cancellation of a debt owed to the corporation is a redemption that is a complete termination of the shareholder’s interest in the corporation.

• P. 102

95

Administrative Dissolution No Tax Impact

• PLR 200806006 and 200835002.• The Service ruled that a corporation that

was administratively dissolved under state law for failure to pay franchise taxes, but continued to file Form 1120, continued to pay all corporate taxes, and reincorporated under state law after learning of the administrative dissolution, did not terminate its corporate status for federal tax purposes, resulting in no distribution or transfer of property.

• It appears that the Service viewed the administrative dissolution and subsequent reincorporation of Taxpayer as not giving rise to a realization event for federal tax purposes (i.e., nothing happened).

• P. 104 and 107

96

No §382 Issue if Move Below Parent

• PLR 200810008.• The Service has determined that a for-profit

corporation will not have an owner shift or an ownership change within the meaning of §382(g) as a result of a distribution of all of its stock by a tax-exempt hospital to a tax-exempt holding corporation, the contribution by the tax-exempt holding corporation of all of the distributed stock to another for-profit entity, and a merger between the for-profit corporations.

• This ruling illustrates that an internal restructuring of a group below a parent corporation often has no §382 ramifications.

• P. 105

97

SMLLC Ignored – S Election Preserved

• PLR 200816002.• The IRS ruled that the contribution of

S corporation stock by the S corporation's sole shareholder to a limited liability company in exchange for a 100-percent membership interest in the LLC did not terminate the S corporation election.

• P. 105

98

Methodology for Allocating 704(c) Gain

• PLR 200829023.• The IRS approved a partnership’s

proposed methodology for allocating excess §704(c) tax gain resulting from a like-kind exchange.

• P. 105

99

Allocation of Merger Costs

• PLR 200830009. • The surviving company that was acquired in a

merger was allowed to allocate merger transaction costs either to itself or to the acquisition company, which merged into it, based on the entity to which services were rendered and/or on whose behalf services were provided.

• §1.263(a)-5(f) does not require time records. Other records are suitable to establish an appropriate allocation.

• Costs related to the securitization financing plan were eligible for an abandonment loss under §165. The financing plans were not mutually exclusive and when the final financing plan was adopted, Company received no further benefit from the securitization plan financing that was never implemented.

• P. 106

100

S Corp Deduction Health Insurance

• Notice 2008-1 2008-2 IRB 251.• This notice reverses unreasonable IRS position that

an S corporation's sole shareholder-employee could not buy health insurance in his or her own name and get the above-the-line deduction for the premium expense.

• Now a deduction is allowed if: • the S corporation makes the premium payments for the

accident and health insurance policy covering the 2-percent shareholder-employee (and his or her spouse or dependents, if applicable) in the current tax year; or

• the 2-percent shareholder makes the premium payments and furnishes proof of premium payment to the S corporation and then the S corporation reimburses the 2-percent shareholder-employee for the premium payments in the current tax year.

• P. 108

101

Amended Returns Possible

• In order for the 2-pecent shareholder-employee to deduct the amount of the accident and health insurance premiums, the S corporation must report the accident and health insurance premiums paid or reimbursed as wages on the 2-percent shareholder-employee’s Form W-2 in that same year.

• Taxpayers who did not claim deductions for fringe benefits described in Notice 2008-1 may file amended tax returns to claim the deduction under Code §162(l) if the taxpayers satisfy the necessary requirements. The statement “Filed Pursuant to Notice 2008-1” should be written on the top of any amended return.

• P. 110

102

Request for PAL Grouping Comments

• Notice 2008-64, 2008-31 I.R.B. 268.• Require taxpayers to report to the IRS, as

part of their regular annual return, changes to a taxpayer’s groupings.

• A written statement would be required for:• The first tax year in which one or more trade or

business activities or rental activities are originally grouped as a single activity or as separate activities;

• The first tax year in which a taxpayer adds a new trade or business activity or a rental activity to an existing grouping; and

• A tax year in which the taxpayer disposes of a specific trade or business activity or a rental activity from an existing grouping.

• P. 110

103

Not Grouping Precludes Later Grouping

• If a taxpayer is engaged in two or more trade or business activities or rental activities and fails to report whether the activities have been grouped as a single activity or as separate activities in accordance with the proposal, then each trade or business activity or rental activity will be treated as having been grouped as a separate activity for purposes of applying the passive activity loss and credit limitation rules.

• In Thomas P. Krukowski, et ux., 114 TC 366, the 7th Circuit stated “to make an election, a taxpayer must clearly notify the Commissioner of the taxpayer’s intent to do so.”

• P. 111

104

IRS Aggressively Auditing Research Credit

• Research Credit Claims Audit Techniques Guide (RCCATG): Credit for Increasing Research Activities Code Sec. 41 (LMSB-04-0508-030, May 2008).

• The audit guide targets prepackaged material submitted to support research credit claims that frequently fails to substantiate that the taxpayer paid or incurred qualified research expenses.

• The Audit Guide is concerned that a significant number of research credit claims are prepared using a method that does not properly establish the required nexus between the qualified research expenses and qualified research activities.

• According to IRS, §41 requires a taxpayer to identify qualified research expenses by business component (qualified activity).

• While project based accounting captures research costs at the “business component” level, generally establishing the required nexus, cost center accounting does not always provide the nexus between qualified activities and their related costs.

• P. 112105


• Taxpayers employ a variety of methodologies to reconstruct the amount claimed for the research credit. Most research credit studies reflect a combined (project and cost center methods) hybrid approach.

• Typically, the manner in which the information is compiled does not support the relationship between the accounting records and the research activities or qualified research expenses, failing to establish nexus. In other words, there is an inability to connect specific research projects and the underlying activities to the qualified expenses.

• P. 113106


• A common example of the hybrid/nexus problem is in qualified wages established by capturing W-2 wage amounts by cost center and multiplying a qualified percentage to individual employee's wages or department total wages.

• The determination of the qualified percentage is often based on a manager's recollection or estimate of the amount of time particular employees devoted to an activity.

• The Audit Guide cautions that arbitrary and unsupported allocations should not be accepted. These estimates are not sufficient to support a claim.

• P. 113

107


• In Eustace v. Comm. (2001), TC Memo 2001-66, affd (2002, CA7) 90 AFTR 2d 2002-7661, a case that the Audit Guide found to be a typical research credit claim involving an accounting firm study and a prepackaged submission, the Court found the taxpayer's reconstruction of qualifying expenses to be unreliable, inaccurate, incomplete, and wholly insufficient. The Court held that the taxpayer was required to tie salaries to qualified activities at the subcomponent level. Further, the Court refused to apply the Cohan rule and make a reasonable allocation of salaries to the activities. The taxpayer must show what expenses it paid or incurred in the performance of qualified research activities.

• The Audit Guide also advises that a taxpayer should be treated as having made a valid reduced credit election under Code Sec. 280C(c)(3) only if it clearly indicates its intent to claim the reduced research credit on its timely filed original return for the tax year.

• P. 113

108

QDRO Not Found

• Amarasinghe v. Commissioner, No. 08-1226 (4th Cir. 6/23/08).

• A state court order for a taxpayer to cash out his pension plan and distribute the proceeds to his ex-wife to satisfy obligations related to his divorce was not a qualified domestic relations order.

• If a QDRO, then the alternate payee is taxable on the distribution.

• A domestic relations order (DRO) qualifies as a QDRO if it: (1) creates or recognizes the existence of an alternate payee’s right to, or assigns to an alternate payee the right to, receive all or a portion of the benefits payable with respect to a participant under a plan; (2) clearly specifies certain facts; and (3) does not alter the amount or form of the plan benefits.

• P. 115

109

FLP Discounts Revised Downward

• Astleford v. Commissioner, T.C. Memo 2008-128 (5/5/08).

• The Tax Court adjusted discounts for lack of control and lack of marketability applied to gifts of interests and assets in a family limited partnership.

• The court generally felt the appraiser was overly aggressive and so reduced the discounts from 40 to 30%.

• In addition, it valued partnership interest as general interest rather than assignee interest.

• Finally, court used a 10% discount rate to determine discount required to reflect true value of land that would flood the market and therefore need four years to sell.

• P. 115

110

SEP Denied Where Wife Not Covered

• Brown v. Commissioner, T. C. Summary 2008-56 (5/20/08).

• S corporation's shareholder denied deduction for the corporation's contributions to his SEP account because it did not also make contributions for the only other employee of the corporation, his wife.

• P. 115

111

Loans not Equity for Estate Purposes

• Estate of Farnam v. Commissioner, 130 T.C. No. 2 (2/4/08).

• Loan interests held by the decedents, directly and indirectly through controlled partnerships, were not qualified family owned business interests and, thus, the decedent's estates were denied a deduction.

• P. 117

112

FLP Respected-Death Unexpected

• Estate of Mirowski v. Commissioner, T. C. Memo. 2008-74 (3/26/08).

• Tax Court disagrees with IRS argument that taxpayer’s gifts were made with retained rights causing them to violate §2036.

• Taxpayer’s primary reasons for forming MFV included: (1) joint management of the family's assets by her daughters and eventually her grandchildren; (2) maintenance of the bulk of the family's assets in a single pool of assets in order to allow for investment opportunities that would not be available if Taxpayer were to make a separate gift of a portion of her assets to each of her daughters or to each of her daughters' trusts; and (3) providing for each of her daughters and eventually each of her grandchildren on an equal basis.

• The Tax Court held that Taxpayer’s asset transfers to MFV were bona fide sales for adequate and full consideration in money or money's worth.

• P. 119

113

FLP Ignored for 92 Yr Old Invalid

• Estate of Rector v. Commissioner, T.C. Memo. 2007-367 (12/13/07).

• Value of real property transferred to a limited partnership was includible in a decedent’s gross estate because the decedent had an implied understanding that she would retain possession, income, and the right to economic enjoyment from the property, and that the transfer was not a bona fide sale for adequate and full consideration.

• FLP established to hold elderly taxpayer’s assets when she was 92 as she was moving to a nursing home. Court found the payment of personal expenses a persuasive factor.

• P. 122

114

FLP-6 Days Enough to Beat Step Transaction

• Holman v. Commissioner, 130 T.C. No. 12 (5/27/08),

• The Tax Court rejected the IRS's argument that a gift of LP interests of an FLP was an indirect gift of stock to the children for whose benefit the transfers were made.

• The step transaction doctrine did not apply because the six days separating the contribution of stock to the FLP and the taxpayers' gift of LP interests subjected the taxpayers to a real economic risk of a significant change in the value of the LP interests.

• P. 122

115

FLP 2703(b) Applies-Discounts Reduced

• Holman Continued• 2703(b) applies so cannot take restrictive

agreement into consideration in valuing the interests.

• In assessing the appropriate level of discounts to be given the gifts, the court found more persuasive the computations of discounts for minority and marketability interests presented by the IRS's expert.

• Lack of marketability discount of 35% reduced to 12.5%. Minority discount of between 5 and 15% allowed.

• P. 122

116

100% Reduction for Corp Double Tax

• Jelke v. Commissioner, No. 05-15549 (11th Cir. 11/15/07).

• 11th CA reversed Tax Court holding when valuing a decedent's stock in a closely held company, the estate is entitled to a 100 percent dollar-for-dollar discount for the company's entire contingent capital gains tax liability.

• Follows rationale of the 5th CA in Estate of Dunn v. Commissioner, 301 F.3d 339 (5th Cir. 2002), noting that such rationale eliminates the crystal ball and coin flip approach and provides certainty and finality to valuing closely held stock.

• P. 123

117

Not Disable for Penalty Purposes• Kowsh v. Commissioner, T.C. Memo. 2008-204

(8/28/08).• Although a taxpayer received insurance disability

payments for depression, he was not disabled for purposes of avoiding the 10-percent additional tax on an early pension distribution.

• Held that the taxpayer was not disabled and depression was not reasonable cause for his failure to timely file his return and pay his taxes.

• Qualifying for disability insurance is not dispositive in determining whether an individual is disabled for purposes of the 10-percent additional tax.

• Taxpayer offered no documentary evidence to corroborate his depression or anxiety. No doctors testified nor did the taxpayer provide any affidavits from medical professionals.

• P. 126

118

Extension of Time for GST Elections

• REG-147775-06, 73 Fed. Reg. 20,870 (4/17/08).

• The IRS issued proposed regulations providing guidance as to the circumstances and procedures under which an extension of time will be granted to individuals (or their estates) who failed to make a timely allocation of the generation-skipping transfer exemption to a transfer, and individuals (or their estates) who failed to make a timely election under Code §2632(b)(3) or (c)(5).

• P. 133

119

Estate Inclusion Rules for GRATs and QPRTs

• T.D. 9414, 73 Fed. Reg. 40,173 (7/14/08).

• Final regulations provide guidance on the portion of property transferred to a trust that is includible in a grantor’s gross estate if the grantor has retained the use of the property or the right to an annuity, unitrust, or other payment from such property for life.

• P. 133

120

Wash Sale Rules Apply Individual and IRAs

• Rev. Rul. 2008-5, 2008-3 I.R.B. 271.• Purchase of securities by IRA or Roth

IRA taken into account in determining whether individual taxpayer is subject to the wash sale rules on stock he or she sold individually.

• P. 135

121

IRS Again Provides Favorable IDGT Ruling

• Rev. Rul. 2008-22, 2008-16 I.R.B. 796.• A grantor's retained power, exercisable in a

nonfiduciary capacity, to acquire property held in trust by substituting property of equivalent value will not, by itself cause the value of the trust corpus to be includible in the grantor's gross estate, provided certain conditions exist.

• Essentially, this ruling along with Rev. Rul. 2004-64 gives the “green light” to the classic intrafamily sale using a defective grantor trust.

• P. 135

122

No Discount for Restricted Mgmt Account

• Rev. Rul. 2008-35, 2008-29 I.R.B. 116.• The fair market value of an interest in

a restricted management account for estate and gift tax purposes is determined based on the fair market value of the assets held in the account without any discount for restrictions imposed by the account agreement.

• P. 137

123

Gain on Sale after Death not IRD

• PLR 200744001.• The gain from a sale of real property by a

decedent's revocable trust was not income in respect of decedent.

• Gain realized from the sale of the property after the decedent's death does not constitute income in respect of a decedent because important issues still needed to be addressed before the sale of the property could be closed. The closing was delayed until after the decedent's death because of these issues. The trust needed to attend to substantive as well as ministerial matters.

• P. 139

124

Rare Case Allowing Innocent Spouse Relief

• Nihiser v. Commissioner, T.C. Memo. 2008-135 (5/20/08).

• The IRS abused its discretion in denying a request for equitable innocent spouse relief.

• Although she and husband remained under the same roof because of their financial situation, wife (innocent spouse claimant) was living apart from her husband. This factor favored granting relief.

• The court also found that taxpayer had been subject to psychological abuse, which also favored granting relief.

• For the most part, this case was decided based on equitable factors. The facts were good and the court sympathized with the taxpayer.

• P. 157125

Taxpayer Failed Provide Adequate Documents

• Qi v. Commissioner, T.C. Memo. 2008-200 (8/27/08).

• Taxpayer who could not show that she provided adequate materials to her tax return preparer or that she adequately examined her return did not qualify for the reasonable cause and good faith exception to the accuracy-related penalty.

• Three requirements: • The adviser was a competent professional who

had sufficient expertise to justify reliance;• the taxpayer provided necessary and accurate

information to the adviser, and • the taxpayer actually relied in good faith on the

adviser's judgment.

• P. 159

126

Revised Preparer Penalty Rules

• REG-129243-07, 73 Fed. Reg. 34,559 (6/17/08).• Expand the definition of a non-signing preparer

and include a de minimis rule under which a preparer will not be considered a non-signing preparer.

• Substitute a one-preparer-per-position rule for the current one-preparer-per-firm rule.

• Determining whether a tax return preparer is a signing tax return preparer or non-signing tax return preparer is important because a signing tax return preparer will generally be considered the person who is primarily responsible for all the positions on the return or the claim for refund.

• If there is no individual that meets the definition of a signing tax return preparer, a non-signing tax return preparer will be primarily responsible for the return or claim for refund positions.

• P. 164

127


• Any time spent on advice that is given with respect to events that have occurred that is less than 5 percent of the aggregate time incurred by the person with respect to the position giving rise to an understatement will not be taken into account in determining whether an individual is a non-signing tax return preparer.

• This less-than-5-percent test will encourage tax professionals who principally rendered advice regarding events that have not yet occurred to provide follow-up advice requested by a taxpayer without the concern that, by providing such advice, the advisor would become a tax return preparer

• The more-likely-than-not standard was retroactively changed to substantial authority as a result of the passage of H.R. 1424 – Emergency Economic Stabilization, Energy Improvement and Extension, and Tax Extenders and AMT Relief Acts of 2008 – Signed into law on October 3, 2008. The proposed regulations obviously do not reflect this important law change.

• P. 165

128


• The proposed regulations expand on the current regulations to provide that a return preparer may rely in good faith and without verification on information furnished by another advisor, another tax return preparer, or other party.

• Similarly, a tax return preparer may rely in good faith without verification on a tax return that has been previously prepared by a taxpayer or another tax return preparer and filed with the IRS.

• The preparer, however, may not ignore the implications of information furnished to or actually known by the preparer, and must make reasonable inquiries if the information appears to be incorrect or incomplete.

• P. 166

129

Strict Disclosure Rules

• T.D. 9375, 73 Fed. Reg. 1,058 (1/7/08). • Disclosure and use of return information by return

preparers and the requirements for a valid taxpayer consent to such disclosure or use.

• Must obtain taxpayer consent, either by paper or electronically depending on how the return is being filed, before tax return information can be disclosed to any third party or used for any purpose other than filing the return.

• The rules also provide that tax return information encompasses a wider range of information than what taxpayers literally furnish to a tax return preparer.

• If taxpayers fail to set a time period, the consent is valid for a maximum of one year.

• Paper consent documents to be in 12-point type on 8 1/2 by 11 inch paper, and require electronic consent requests to be in the same type as the Web site's standard text, all to prevent consent requests from being too difficult to read.

• P. 171

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Shorten Due Date Partnerships and Trusts

• T.D. 9407, 73 Fed. Reg. 37,362 (7/1/08); REG-115457-08, 73 Fed. Reg. 37,389 (7/1/08).

• The IRS issued final, temporary, and proposed regulations which reduce from six months to five months, the automatic extension period for partnerships filing Form 1065, U.S. Partnership Return of Income, or Form 8804, Annual Return for Partnership Withholding Tax, and estates and trusts filing Form 1041, U.S. Income Tax Return for Estates and Trusts.

• P. 172

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Adequate Disclosure Circumstances

• Rev. Proc. 2008-14, 2008-7 I.R.B. 435.• The circumstances under which the

disclosure on a taxpayer's return with respect to an item or a position is adequate for the purpose of reducing the understatement of income tax and for the purpose of avoiding the preparer penalty have been updated.

• P. 174

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Contingent Fees Rarely Allowed

• Notice 2008-43, 2008-15 I.R.B. 748, clarifying T.D. 9359, 72 Fed. Reg. 54,540 (9/26/07).

• IRS examination.• Interest and penalty reviews. • Services rendered in connection with

any judicial proceeding arising under the Code.

• P. 176

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Questions?

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