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Like-kind exchange relief for those snared by QIs in bankruptcy or receivership

Monday, March 8th, 2010 by Moore McLaughlin

The IRS has at long last granted relief for taxpayers who were unable to timely complete a like-kind exchange because their qualified intermediary (QI) entered into bankruptcy or receivership. IRS will not treat taxpayers as being in actual or constructive receipt of exchange proceeds if they cannot complete an exchange because of a default of a QI in bankruptcy or receivership. Affected taxpayers may use a special safe harbor method to report gain or loss.

The IRS received many comments on this issue and has been promising action on it for a long time.  As far back as 2007, when the real estate market started heading south in many areas, the IRS wrote Rep. Barney Frank (D-MA) to say that IRS was considering whether it was appropriate for it to extend relief where QIs went bankrupt.  In substantially similar letters written to a number of Washington legislators in mid-2009, the IRS again said it was considering relief measures.

Background.  In general, no gain or loss is recognized on the exchange of property held for productive use in a trade or business or for investment if the property is exchanged solely for property of a like kind which is held either for productive use in a trade or business or for investment. (Code Sec. 1031 )  Under Code Sec. 1031(a)(3), for a deferred exchange to be treated as tax-free, a taxpayer must identify the replacement property within 45 days of the transfer of the relinquished property and must acquire the replacement property by the earlier of 180 days after the date on which the taxpayer transfers the property relinquished in the exchange, or the due date (determined with regard to extensions) of the taxpayer’s federal income tax return for the year in which the transfer of the relinquished property occurs.  Absent relief, if the statutory timing requirements are met, a taxpayer would have to treat the relinquished property as having been disposed of in a taxable sale or exchange.

The regulations allow a taxpayer to use a QI to facilitate a like-kind exchange. (Reg. §1.1031(k)-1(g)(4))  When a taxpayer uses a QI, generally he will transfer the relinquished property to the QI, who sells the property to a buyer.  The QI then takes the proceeds of the sale of the relinquished property, buys the replacement property, and transfers the replacement property to the taxpayer. If the taxpayer receives the replacement property within the period in Code Sec. 1031(a)(3) and meets the other Code Sec. 1031 requirements, he is treated as having engaged in a like-kind exchange of property with the QI and he will not recognize gain on the exchange.

Victims of the recession and the troubled real estate markets. In Rev Proc 2010-14, IRS says it is aware of situations in which taxpayers initiated like-kind exchanges by transferring relinquished property to a QI but were unable to complete the exchanges within the statutory time period solely due to the failure of the QI to acquire and transfer replacement property to the taxpayer (a “QI default”). In many of these cases, the QI enters bankruptcy or receivership, thus preventing the taxpayer from obtaining immediate access to the relinquished property’s sale proceeds.

The IRS says it’s generally of the view that in such situations, a taxpayer should not have to recognize gain from the failed exchange until the tax year in which he receives a payment attributable to the relinquished property.

Who is entitled to relief. A taxpayer is entitled to relief under Rev Proc 2010-14 if he:

(1) Transferred relinquished property to a QI in accordance with Reg. §1.1031(k)-1(g)(4).

(2) Properly identified replacement property within the identification period (unless the QI default occurs during that period).

(3) Did not complete the like-kind exchange solely because of a QI default involving a QI that becomes subject to a bankruptcy proceeding or a receivership proceeding under federal or state law.

(4) Did not, without regard to any actual or constructive receipt by the QI, have actual or constructive receipt of the proceeds from the disposition of the relinquished property or any property of the QI before the QI entered bankruptcy or receivership. For purposes of this condition, relief of a liability under the exchange agreement before the QI default, either through the assumption or satisfaction of the liability in connection with the transfer of the relinquished property or through the transfer of the relinquished property subject to the liability, is disregarded.

Relief provisions. Rev Proc 2010-14, Sec. 4, provides that a taxpayer meeting the above conditions recognizes gain on the disposition of the relinquished property only as required under the safe harbor gross profit ratio method, and only as he receives payments attributable to that property.

Under the safe harbor gross profit ratio method, the portion of any payment attributable to the relinquished property that is recognized as gain is found by multiplying the payment by a fraction, having the taxpayer’s gross profit as the numerator, and having the taxpayer’s contract price as the denominator. For this purpose:

  • A payment attributable to the relinquished property means a payment of proceeds, damages, or other amounts attributable to the disposition of the relinquished property (other than selling expenses), whether paid by the QI, the bankruptcy or receivership estate of the QI, the QI’s insurer or bonding company, or any other person. Unless it exceeds adjusted basis, satisfied indebtedness is not a payment attributable to the relinquished property.
  • Gross profit means the selling price of the relinquished property, minus the taxpayer’s adjusted basis in it (increased by any selling expenses not paid by the QI using proceeds from the sale of the relinquished property).
  • The selling price of the relinquished property is generally the amount realized on its sale, without reduction for selling expenses. But if a court order, confirmed bankruptcy plan, or written notice from the trustee or receiver specifies, by the end of the first tax year in which the taxpayer receives a payment attributable to the relinquished property, an amount to be received by the taxpayer in full satisfaction of his claim, the selling price of the relinquished property is the sum of the payments attributable to the relinquished property (including satisfied indebtedness in excess of basis) received or to be received and the amount of any satisfied indebtedness not in excess of the adjusted basis of the relinquished property.
  • The contract price is the selling price of the relinquished property minus the amount of any satisfied indebtedness not in excess of the property’s adjusted basis. Satisfied indebtedness means any mortgage or encumbrance on the relinquished property that was assumed or taken subject to by the buyer or satisfied in connection with the transfer of the relinquished property.

Rev Proc 2010-14, Sec. 4, has detailed rules covering situations involving satisfied indebtedness exceeding adjusted basis, recapture income, and imputed interest.

A Code Sec. 165 loss deduction may be claimed for the amount, if any, by which the adjusted basis of the relinquished property exceeds the sum of (1) the payments attributable to that property (including satisfied indebtedness in excess of basis), plus (2) the amount of any satisfied indebtedness not in excess of basis. Those claiming a loss deduction may also claim a Code Sec. 165 loss deduction for the amount of any gain recognized in accordance with Rev Proc 2010-14, Sec. 4, in a prior tax year.

Illustration: Mr. Able, a calendar year taxpayer owned investment property (Property 1) with a fair market value of $1.5 million and an adjusted basis of $500,000.  He entered into an agreement with QI to facilitate a deferred like-kind exchange. On May 6, Year 1, Able transferred Property 1 to QI and QI transferred the property to a third party in exchange for $1.5 million. Able intended that the QI use the money held by it to acquire Able’s replacement property. On June 1, Year 1, Able identified Property 2 as replacement property. On June 15, Year 1, QI notified Able that it filed for bankruptcy protection and could not acquire replacement property. As a result, Able failed to acquire Property 2 or any other replacement property within the exchange period. As of December Year 1, QI’s bankruptcy proceedings are on-going and Able has received none of the $1.5 million proceeds from QI or any other source.

On July 1, Year 2, QI exits from bankruptcy and the bankruptcy court approves the trustee’s final report, which shows that Able will be paid $1.3 million in full satisfaction of QI’s obligation under the exchange agreement. Able receives the $1.3 million on August 4, Year 2 and does not receive any other payment attributable to the relinquished property.

Under Rev Proc 2010-14, Able is not required to recognize gain in Year 1 because he did not receive any payments attributable to the relinquished property in that year. He recognizes gain in Year 2, as follows:

… His selling price is $1.3 million, i.e., the payments attributable to the relinquished property (the amount specified by the trustee before the end of the first tax year in which he receives a payment attributable to the relinquished property).

… His contract price also is $1.3 million because there is no satisfied or assumed indebtedness.

… His gross profit is $800,000 (the selling price of $1.3 million less his $500,000 adjusted basis).

… His gross profit ratio is 80/130 (gross profit over the contract price).

… Able’s recognized gain in Year 2 is $800,000 (the $1.3 million payment attributable to the relinquished property multiplied by the gross profit ratio (80/130)).

Even though the payment attributable to the relinquished property ($1.3 million) is less than the $1.5 million that the QI received, Able is not entitled to a Code Sec. 165 loss deduction because the payment attributable to the relinquished property exceeds his adjusted basis in the relinquished property ($500,000). (Rev Proc 2010-14, Sec. 4.10, Ex. 1)

Rev Proc 2010-14 carries four other detailed examples illustrating nuances of the new safe-harbor relief.

Effective date of relief. Rev Proc 2020-14 is effective for taxpayers whose like-kind exchanges fail due to a QI default occurring on or after January 1, 2009.  A taxpayer who is within the scope of Rev Proc 2020-14 may, subject to the Code Sec. 6511 limitations on credit or refund, file an original or amended return to report a deferred like-kind exchange that failed due to a QI default in a tax year ending before January 1, 2009, in accordance with Rev Proc 2010-14.

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Supreme Court lets stand decision that using qualified intermediary cannot avoid §1031 related party rule

Wednesday, February 24th, 2010 by Moore McLaughlin
Supreme Court of the United States of America

Supreme Court of the United States of America

The Supreme Court has declined to review a Ninth Circuit holding that a taxpayer could not avoid the Code §1031 like-kind-exchange related-party rule by using a qualified intermediary (QI). Teruya Brothers, Ltd. & Subsidiaries , (CA 9 2/11/2009) 104 AFTR 2d ¶ 2009-5345 , cert denied 2/22/2010.

Background. If statutory identification and replacement period requirements are met, gain or loss is not recognized currently on the exchange of property held for productive use in a trade or business or for investment for property of like kind that will be held for productive use in a trade or business or for investment. (Code §1031) QIs may be used to structure like-kind exchanges. However, under Code §1031(f), gain or loss on an exchange between related persons (under Code §267(b) or Code §707(b)(1)) must generally be recognized if either the property transferred or the property received is disposed of within two years after the exchange. Nonrecognition treatment under the like-kind exchange rules does not apply to any exchange that is part of a transaction or series of transactions structured to avoid the purposes of the related party exchange rule. (Code §1031(f)(4)) However, under Code §1031(f)(2)(C), a disposition will not trigger the related party bar if it is established to IRS’s satisfaction that neither the original transaction nor the later disposition had as one of its principal purposes the avoidance of federal tax.

Facts. Teruya Brothers Ltd. (Teruya) owned 62.5% of the common shares of Times Super Market Ltd (Times), so the two entities were related.  In 1995, in one series of planned transactions, Teruya transferred Real Property 1 to TGE, a QI, which then sold it to an unrelated third party. TGE used the sale proceeds, as well as additional funds from Teruya, to buy like-kind Replacement Property 2 for Teruya from Times, and then transferred Replacement Property 2 to Teruya. In another series of planned transactions, Teruya transferred Real Property 3 to TGE, which sold it to an unrelated party. TGE used the sale proceeds from Real Property 3, plus some cash from Teruya, to buy like kind Replacement Properties 4 and 5 from Times.

Teruya realized a $1.3 million gain on Property 1 and a $10.7 million gain on Property 3. Times realized and recognized a $1.3 million gain on Property 2 and a $2.2 million gain on Property 5, but these gains were offset by a large net operating loss. Times realized a $6.4 million loss on Property 4, but did not recognize it because of the Code §267 related-party restriction on loss recognition.

Teruya treated its transactions as tax-deferred like-kind exchanges under Code §1031, but IRS said the transactions ran afoul of the Code §1031(f)(4) related-party rule and hit Teruya with a $4 million deficiency.

Tax Court. In 2005, the Tax Court held that the transactions were economically equivalent to direct exchanges of properties between Teruya and Times (with boot from Teruya to Times), followed by the sales of the properties by Times to unrelated third parties. The interposition of a QI couldn’t obscure the end result.

Observation: In 2009, the Tax Court applied its Teruya reasoning and decision to rule against another taxpayer on the QI- Code §1031(f) issue (see Ocmulgee Fields, Inc., (2009) 132 TC No. 6).

Ninth Circuit. In 2009, the Ninth Circuit concluded that the Tax Court did not err in determining that the transactions were structured to avoid the purposes of Code §1031(f)(4). It rejected Teruya’s contention that the economic consequences of the transactions to Times were irrelevant, and that Teruya’s continued investment in real property was dispositive. Code §1031(f)(1)(C)(i) disallows nonrecognition treatment if a related party disposes of exchanged property within two years, regardless of whether the taxpayer does as well. Thus, examining the taxpayer and related party’s economic position in the aggregate is often the only way to tell if Code §1031(f) applies.

The legislative history indicating Congress’s desire to bar like-kind exchange treatment where related parties have, in effect, cashed out of the investment, confirmed that a taxpayer and a related party should be treated as an economic unit to see if Code §1031(f) applies. The Ninth Circuit pointed out that the changing economic positions of Teruya and Times readily showed that the related parties used the exchanges to cash out of an investment in low-basis real property. Before the exchanges, Teruya owned Property 1 and Property 3, and Times owned Properties 2, 4, and 5. After the exchanges, Properties 1 and 3 had been sold, Teruya owned Properties 2, 4, and 5, and Times had the cash from the sale of Properties 1 and 3 (along with boot from Teruya). All in all, Teruya and Times decreased their investment in real property by approximately $13.4 million, and increased their cash position by the same amount. By allowing Teruya and Times to cash out of a significant investment in real property under the guise of a nontaxable like-kind exchange, the Ninth Circuit concluded that the transactions were undoubtedly structured to contravene Congress’s desire that nonrecognition treatment only apply to transactions where a taxpayer can be viewed as merely continuing his investment.

The Ninth Circuit said Teruya could have exchanged its properties directly with Times, followed by Times’s selling Property 1 and Property 3 to the third-party purchasers, but this would not have had a tax-free result, since direct exchanges between related parties are ineligible for nonrecognition treatment when the exchanged property is sold within two years. Instead, Teruya employed TGE; the latter’s involvement as a QI served no purpose besides rendering simple, but tax disadvantageous, transactions more complex in order to avoid Code §1031(f)’s restrictions.

The Ninth Circuit also affirmed the Tax Court’s conclusion that Code Sec. 1031(f)(4) applied because improper avoidance of federal income tax was one of the principal purposes of the transactions.

Late in 2009, Teruya appealed the Ninth Circuit’s decision to the Supreme Court. However, on February 22, 2010, the Supreme Court declined to review the decision.

For more information on 1031 exchanges, or to ask specific questions regarding the related party rule of §1031, please contact Alexandra L. Hart, CES® at All States 1031 Exchange Facilitator, LLC by e-mail at AHart@AllStates1031.com or McLaughlin & Quinn, LLC Managing Partner and Owner of All States 1031 Exchange Facilitator, LLC Moore McLaughlin, Esq., CPA, CES® by e-mail at FMM@AllStates1031.com or either of them by phone toll-free at 877-395-1031.

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Posted in 1031 Exchanges, Current Events, Tax Current Events and News, Tax planning

Tax consequences of debt discharge income

Sunday, February 14th, 2010 by Moore McLaughlin

Many financially distressed borrowers may have had some or all of their debts cancelled or forgiven by their lender last year. As tax time approaches, these individuals may not realize that they may have to report the canceled debt as income on their 2009 tax returns. McLaughlin & Quinn, LLC partners Moore McLaughlin, Esq., CPA and Thomas P. Quinn, Esq. are apprising existing and prospective clients of how discharged debts can trigger income unless one of numerous exceptions or exclusions applies.  Note that even if there is not an exception or exclusion in a given case, the taxable amount can be reduced if the amount reported from the lender can be shown to be incorrect.

In these troubled economic times, many financially distressed borrowers may have had some or all of their debt cancelled or forgiven by their lender last year. While such relief was no doubt welcome to people who received it, what they may not have realized is that debt forgiveness may have tax consequences. Specifically, debt forgiven in 2009 may have to be included as income on your 2009 return. However, not all canceled debts trigger taxable income. And, even if there is no exception or exclusion in a particular case, that may not be the last word. The tax bite may be reduced or eliminated if you can show that the amount reported by the lender is incorrect.Cancellation of debt

General rule. The tax laws specifically include income from the discharge of indebtedness in gross income. However, there are several exceptions to this rule. In addition, there are numerous exclusions from gross income for certain types of forgiven debts.

Exceptions. If the cancellation of debt by a private lender, such as a relative or friend, is intended as a gift, there is no income. Likewise, a debt cancelled by a private lender’s Last Will and Testament triggers no income to the borrower.

There is also an exception for certain student loans. For example, doctors, nurses, and teachers agreeing to serve in rural or low income areas in exchange for cancellation of their student loans will not have income from the cancellation if they meet certain conditions.

Also keep in mind that there is no income from cancellation of deductible debt. For example, if a lender cancels home mortgage interest that could have been claimed as an itemized deduction on Schedule A of Form 1040, there is no tax problem to contend with.

Price adjustment. There is no income if an individual purchases property and the seller later reduces the price. The purchaser’s basis (yardstick for measuring gain or loss on a later sale) in the property, however, is reduced by the amount of the purchase price adjustment.

Exclusions. In addition to the above exceptions, there are exclusions from the general rule for reporting canceled debt as income for:

  • discharge of debt through bankruptcy,
  • discharge of debt of an insolvent taxpayer,
  • discharge of qualified farm debt,
  • discharge of qualified real property business debt, and
  • discharge of qualified principal residence debt.

These exclusions are quite complicated and a detailed discussion of them is beyond the scope of this post. However, it is worth pointing out that the qualified principal residence debt exclusion applies where individuals restructure their acquisition debt on a principal residence, lose their principal residence in a foreclosure, or sell a principal residence in a short sale (where the sales proceeds are insufficient to pay off the mortgage and the lender cancels the balance). Also, the exclusions require certain tax attributes to be reduced and must be reported to the IRS on its Form 982.

Repurchased business debt. Income from certain repurchased business debt can be stretched out over several years. Although all of the deferred debt discharge income will eventually be recognized, you benefit from the deferral of tax to later years.

Form 1099-C, Cancellation of Debt. A taxpayer should receive a Form 1099-C from a federal government agency, financial institution, or credit union that forgives a debt of $600 or more. The amount of the canceled debt is shown in box 2. Any forgiven interest included in the amount of canceled debt in box 2 will also be shown in box 3. As noted above, if the interest would otherwise be deductible, it does not have to be included in income.

An individual who does not agree with the amount shown on Form 1099-C should contact the lender in writing and request it to issue a corrected Form 1099-C showing the proper amount of canceled debt. Even if the lender refuses to issue a corrected report, there still may be recourse if you have adequate documentation to show that the lender incorrectly reported the amount canceled.

If you had a debt forgiven last year, we can determine how it may affect your 2009 taxes, make sure you gain maximum advantage from any exception or exclusion that may apply, and guide you through various choices that may be available to you, depending on the specific circumstances of your situation. We also may be able to help you to resolve any discrepancy concerning the amount reported by the lender.

Contact Moore McLaughlin, Esq, CPA by e-mail at mmclaughlin@mclaughlinquinn.com or Thomas P. Quinn, Esq. by e-mail at tquinn@mclaughlinquinn.com, or either of them by phone at 401-421-5115.

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Posted in Asset Protection Planning, Bankruptcy, Financial workout, IRS and state tax collections, Tax Current Events and News, Tax planning

The Truth About Frivolous Tax Arguments

Wednesday, February 10th, 2010 by Moore McLaughlin

Don't go to jailThe IRS has issued a detailed, 80-page document discussing and rebutting many of the more common frivolous arguments made by individuals and groups that oppose compliance with federal tax laws. An accompanying news release reminds taxpayers that the penalty for frivolous tax returns is $5,000, and applies when a person submits a tax return or other specified submission, and any portion of the submission is based on a position that IRS identifies as frivolous. The tax attorneys at McLaughlin & Quinn, LLC frequently see taxpayers try to raise these arguments.  Partners Moore McLaughlin, Esq., CPA and Thomas P. Quinn, Esq. generally convince them to be realistic and deal with the IRS in a forthright manner.

The IRS’s “The Truth About Frivolous Tax Arguments” responds to some of the more common frivolous “legal” arguments about the federal tax system. Each contention is briefly explained, followed by a discussion of the legal authority that rejects the contention.

The document covers these broad categories of frivolous arguments: 

  • Various contentions that: the federal income tax system is voluntary; terms in the Code such as taxable income, gross income and “the taxpayer” are improperly defined; and payment of taxes is unconstitutional. Other arguments in the category have fictional legal bases, for example, that IRS is not an agency of the U.S., or that taxpayers are entitled to the refund of social security taxes paid over their lifetime. 

 

  • Frivolous arguments in collection due process cases, including various contentions that assessments are invalid, or that the statutory notice of deficiency, notice of federal tax lien or statutory notice and demand is invalid.

 

  • Contentions that the Tax Court is not authorized to decide legal issues, or that IRS personnel do not have the authority to seize property in satisfaction of unpaid taxes, or that IRS employees lack credentials.

 

A final section of the IRS’s frivolous tax arguments document explains in detail the penalties that courts may impose on those who pursue tax cases on frivolous grounds, and cites scores of cases rejecting various frivolous arguments and imposing penalties.

For a copy of this complete report, contact Moore McLaughlin, Esq., CPA by e-mail at mmclaughlin@mclaughlinquinn.com.

If you or someone you know owes taxes and needs help dealing with the IRS or state taxing authority, please contact Thomas P. Quinn, Esq. by e-mail at tquinn@mclaughlinquinn.com or Moore McLaughlin, Esq., CPA by e-mail at mmclaughlin@mclaughlinquinn.com or either of them by phone at 401-421-5115.

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Posted in Current Events, IRS and state tax collections, Tax Current Events and News, Tax planning

IRS Commissioner Doesn’t Prepare His Own taxes - Too Complicated

Sunday, January 24th, 2010 by Moore McLaughlin

Douglas ShulmanThe Commissioner of the IRS, Douglas Shulman, recently admitted that the tax code is too complex for even the commissioner of the IRS.  Click here for full story.  I have long been a proponent of the flat tax as a way to ensure a higher degree of compliance.  The tax attorneys at McLaughlin & Quinn, LLC represent taxpayers before the IRS and state taxing authorities on a daily basis.  Many times, any errors that are found come from an honest misunderstanding of the tax code.  Often, the IRS proposes changes based on uncertain areas of the law, where no one is really sure what the right answer is.

Until Congress decides to stop its social engineering experiments, and picking winners (homeowners, ethanol) and losers (renters), Tom, Frank and I will have plenty of work.  In my opinion, the tax code should be used solely for raising revenue, not for dictating to people how to live their lives.

In the meantime, taxpayers, such as the IRS Commissioner, will have to rely on paid professionals.

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Posted in Current Events, IRS and state tax collections, Tax Current Events and News, Tax planning

Many business tax law changes go into effect in 2010

Thursday, January 7th, 2010 by Moore McLaughlin

Many important tax changes go into effect in 2010.  These non-indexing changes result from various laws that were enacted and regulations and other guidance issued over the past few years. This post reviews the non-indexing tax law changes for 2010 for businesses.

Deduction for domestic production activities increases. For tax years beginning after 2009, the IRC §199 deduction for domestic production activities increases. Taxpayers will be able to claim a deduction generally equal to 9% (up from 6% for tax years beginning in 2007-2009) of the lesser of: (1) the taxpayer’s “qualified production activities income” (QPAI) for the tax year or (2) taxable income (modified adjusted gross income, for individual taxpayers) without regard to this deduction, for the tax year. (IRC §199(a); Reg. §1.199-1(a)).  The deduction is further limited to 50% of the W-2 wages of the employer for the tax year.

Smaller employers may establish combined plans. For plan years beginning after 2009, employers with 500 or fewer employees may establish a combined defined benefit-401(k) plan (a “DB(k) plan”). In general, the defined benefit rules apply to the defined benefit portion of the plan and the defined contribution rules apply to the defined contribution portion of the plan. The 401(k) component must have automatic enrollment and must meet minimum matching contribution requirements. (IRC §414(x)(2))

Nonspouse beneficiary rollover option mandatory for qualified plans. Under §108(f) of the Worker, Retiree, and Employer Recovery Act of 2008 (WRERA, P.L. 110-458), qualified retirement plans must offer nonspouse beneficiaries the opportunity to roll over an inherited plan account balance to an IRA set up to receive the rollover on the nonspouse beneficiary’s behalf, effective for plan years beginning after December 31, 2009. For earlier plan years, plans could, but were not required to, offer nonspouse beneficiaries this rollover option.

Increased penalty for failure to file partnership or S corporation returns. Civil penalties apply for failure to file a partnership and S corporation returns. The penalty is a statutory dollar amount times the number of partners or shareholders for each month (or fraction of a month) that the failure continues, up to a maximum of 12 months. The base amount on which a penalty is computed for a failure with respect to filing either a partnership or S corporation return for a tax year beginning after December 31, 2009, increases from $89 to $195 per partner or shareholder. (IRC §6698(b)(1) and IRC §6699(b)(1))

Electronic filing changes go into effect. Beginning in 2010, IRS will allow the electronic filing of Schedule R (Form 941), Allocation Schedule for Aggregate Form 941 Filers, using the Employment Tax e-file System. Schedule R is a new form that must be completed by consolidated Form 941 filers, beginning with the first quarter 2010 Form 941. Form 2678, Employer/Payer Appointment of Agent, must be mailed to the applicable address listed on the instructions for the agent to be eligible to file Schedule R. After receiving IRS approval, the agent must file one Form 941 return for each tax period, using the agent’s own employer identification number (EIN), regardless of the number of employers for whom the agent acts. The agent must maintain records that will disclose the full wages paid for each of his or her clients, as reported on the Schedule R. (IRS Publication 3823, Employment Tax e-file System Implementation and User Guide)

Standard mileage rate changes. The optional mileage allowance for owned or leased autos (including vans, pickups or panel trucks) is 50¢ per mile for business travel after 2009 (down from 55¢ per mile for 2009). For 2010, the depreciation component of the mileage rate is 23¢ per mile (up from 21¢ per mile for 2009 and 2008).

Employers that require employees to supply their own autos may reimburse them at a rate that doesn’t exceed 50¢ per mile for employment-connected business mileage during 2010 (down from 55¢ per mile for 2009), whether the autos are owned or leased. The reimbursement is treated as a tax-free accountable-plan reimbursement if the employee substantiates the time, place, business purpose, and mileage of each trip. Additionally, an employee’s personal use of lower-priced company autos during 2010 may be valued at 50¢ per mile if the conditions specified in Reg. §1.61-21(e)(1) are met. (Rev Proc 2009-54, 2009-51 IRB)

Many business tax breaks expired at the end of 2009. Unless Congress acts to retroactively revive them, all of the following business tax breaks won’t be available this year because they expired at the end of 2009. Note that tax breaks that would be extended by the “Tax Extenders Act” as passed by the House of Representatives in December of 2009 are indicated with an asterisk.

… Additional first-year 50% bonus depreciation for qualified property under IRC §168(k)(2) (but note that certain aircraft and long-production-period property continues to be eligible if placed in service in 2010). In addition, the $8,000 increase in the first-year depreciation limit for passenger automobiles that are qualified property also expired at the end of 2009.

 … For tax years beginning in 2010, (a) the maximum amount that may be expensed under IRC §179 is $134,000 (down from $250,000 for tax years beginning in 2008 or 2009); and (b) the maximum annual expensing amount generally is reduced dollar-for-dollar by the amount of IRC §179 property placed in service during the tax year in excess of $530,000 (down from $800,000 for tax years beginning in 2008 or 2009).

 … Incremental research credit under IRC §41.*

 … Election to accelerate AMT and research credits in lieu of additional first-year depreciation under IRC §168(k)(4).

 … Five-year depreciation for farming business machinery and equipment under IRC §168(e)(3)(B)(vii).*

 … Fifteen-year straight-line cost recovery for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail improvements under IRC §168(e)(3)(E)(iv), IRC §168(e)(3)(E)(v), and IRC §168(e)(3)(E)(ix).*

 … Deduction allowable for income attributable to domestic production activities in Puerto Rico under IRC §199.*

 … Expensing of “brownfields” environmental remediation costs under IRC §198(h).*

 … Credit for construction of new energy efficient homes under IRC §45L.

 … Encouragement of contributions of capital gain real property made for conservation purposes under IRC §170(b)(1)(E) and IRC §170(b)(2)(B).*

 … Enhanced charitable deduction for contributions of food inventory under IRC §170(e)(3)(C).*

 … Enhanced charitable deduction for contributions of book inventories to public schools under IRC §170(e)(3)(D).*

 … Enhanced deduction for corporate contributions of computer equipment for educational purposes under IRC §170(e)(6)(G).*

 … The active financing exception from Subpart F of the Code. (IRC §953, IRC §954)*

 … The look-through treatment of payments between related controlled foreign corporations. (IRC §954(c))*

 … Seven-year straight line cost recovery period for property used for land improvement and support facilities at motorsports entertainment complexes. (IRC §168(i)(15))*

 … The railroad track maintenance credit. (IRC §45G )*

 … Film and television producers’ election to expense the first $15 million of production costs incurred in the U.S. ($20 million if the costs are incurred in economically depressed areas in the U.S.). (IRC §181)*

 … The credit for training mine rescue team members. (IRC §45N)*

 … Election to expense 50% of the cost of qualified underground mine safety equipment. (IRC §179E)*

 … The credit for eligible small business employers equal to 20% of the sum of differential wage payments to activated military reservists. (IRC)*

 … The tax treatment of interest-related dividends, short-term capital gain dividends, and other special rules applicable to foreign shareholders that invest in regulated investment companies (RICs). (IRC §871(k))*

 … Suspension on the taxable income limit for purposes of claiming depletion deductions on a marginal oil or gas well. (IRC §613A(c)(6))

 … The new markets tax credit. (IRC §45D(f)(1))*

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Posted in Current Events, Tax Current Events and News, Tax planning

Estate Tax Likely to Expire, Spelling Higher Taxes for Less Wealthy Heirs

Sunday, December 20th, 2009 by Moore McLaughlin

Estate Tax 2010With the estate tax set to expire in two weeks, it appears that Senate Democrats will be unable to persuade Republicans to extend the current law for even a couple of months until a more permanent solution can be devised. This means that there will be no estate tax during 2010. Although Congress may well reinstate the tax retroactively in 2010, it’s entirely possible that it won’t. If that happens, a few thousand very wealthy families will have reason to celebrate, while tens of thousands of taxpayers of more modest means could face significant tax bills following the death of a loved one — as well as great confusion for executors.

Congress has had nine years to prevent this from happening but hasn’t been able to. Under the provisions of a Bush-era tax-cut bill enacted in 2001, the value of estates exempt from the tax has been gradually raised over the past eight years while the tax rate on estates has been reduced, so that in 2009 only an individual estate worth $3.5 million or more is taxed, at a rate of 45 percent. For the year 2010, according to the 2001 law, the estate tax disappears entirely, only to be restored in 2011 at a rate of 55 percent on estates of $1 million or more, which is where things stood before the 2001 change.

Loss of Step-Up Means Step Down for Many Taxpayers

The catch for taxpayers of more modest means, however, is that for 2010 the estate tax is replaced with a 15 percent capital gains tax on inherited assets that are later sold. Normally someone inheriting propery at an individual’s death gets a “step-up in basis” in the property. That is, the value of the property for determining capital gains tax due is calculated at the time it is inherited, not when it was originally bought.

But the law eliminating the estate tax in 2010 also largely does away with the basis step-up rules. This means that those inheriting estates will have to pay capital gains taxes on any assets sold based on the original price paid for the asset, after an exemption for the first $1.3 million in capital gains (plus $3 million for assets transferred to a surviving spouse).

Let’s say your father dies and leaves you a home worth $1.5 million and a $500,000 portfolio of stocks purchased at various times over the past 40 years. If you decided to sell any of these assets, you’d normally pay little or no capital gains tax on the sales. The new provisions mean that you have to calculate capital gains based on the value of the home and the stocks when your father bought them, not when you inherited them. That could be very expensive, not to mention time-consuming in trying to ascertain the original price your father paid for everything.

“If we do not extend our estate tax law, all taxpayers, all heirs will be subject to massive, massive confusion in trying to determine the value of their underlying asset,” Senate Finance Committee Chairman Max Baucus (D-MT) said on the Senate floor.

The chief tax counsel for the House Ways and Means Committee estimates that while extending the current estate tax law would affect about 6,000 estates, 71,400 estates could face new capital gains taxes if the estate tax disappears. According to the Center on Budget and Policy Priorities, “at least 62,500 of these are estates that would not owe any estate tax if the 2009 rules were continued and that thus would be adversely affected by estate tax repeal. Farm and business estates would constitute a disproportionately large share of this group.” Small farms and businesses are the groups whose interests opponents of the estate tax have claimed they are defending.

The House passed a bill in early December permanently extending the 2009 estate tax rules, which will bring in an estimated $25 billion this year by imposing the 45 percent rate on estates over $3.5 million (or $7 million for a couple). The Senate’s Democratic leadership wanted to pass a similar bill and put it on President Obama’s desk before the estate tax expired at the end of the year, but they have been blocked by united Senate Republicans who prefer a lower tax rate of 35 percent and a higher exclusion amount of $5 million ($10 million for couples).

“Republicans who claim to have accomplished something by blocking an extension need to explain why raising taxes on the middle class while lowering them for the very rich is something to be proud of,” the Los Angeles Times editorialized.

The Perils of Going Retroactive

Sen. Baucus has pledged to try to restore the estate tax retroactively in 2010. This would undo the capital gains increase, but it could also create fertile ground for lawsuits by those whose family members die between January 1, 2010, and the date when any retroactive law is enacted.

“I can guarantee this: if they succeed in getting retroactive in hiking the death tax from zero to 45 percent, there are going to be lawsuits,” said Dick Patten, president of the American Family Business Foundation, which opposes the estate tax. “Its going to be messy, its going to be noisy.” (For an excellent discussion by Forbes.com of the mess that a lapse in the estate tax could create, click here .”Beneficiaries will deal with uncertainty for years,” warns one tax expert.)

In a 1994 decision, the U.S. Supreme Court ruled that the Constitution’s ban on the enactment of ex-post facto laws doesn’t apply to tax legislation, provided the retroactive application is “supported by a legitimate legislative purpose furthered by rational means”. United States v. Carlton, 512 U.S. 26 (1994). Since most estates don’t file tax returns until about nine months after someone dies, if Congress can come to an agreement quickly in 2010 the problems caused by a retroactive law may be limited. But Bloomberg.com notes that “The pressure to reach agreement may breathe new life into” into the Republicans’ “compromise proposal” of a 35 percent tax on couples’ estates worth more than $10 million.

For more information on how the estate tax laws will affect you, contact F. Moore McLaughlin, Esq. at 401-421-5115 x212 or by e-mail at mmclaughlin@mclaughlinquinn.com or Jill E. Sugarman, Esq. at 401-421-5115 or by e-mail at jsugarman@mclaughlinquinn.com.

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Posted in Asset Protection Planning, Current Events, Elderlaw/Law For Life, Estate Planning, Tax Current Events and News, Tax planning

IRS Releases New Estate Tax Return But Is Silent on 2010 repeal

Wednesday, October 7th, 2009 by Moore McLaughlin

IRS has released a revised Form 706 for use by estates of decedents dying after December 31, 2008 and before January 1, 2010.  Changes reflected in the revision include some law and indexing changes. The revision makes no mention of next year’s scheduled repeal of the estate tax.IRS Form 706

Items reflected on the revised form. The instructions stress that this revision is to be used only for decedents dying in calendar year 2009. They also note these changes:

  • The applicable exclusion amount for estates of decedents dying in calendar year 2009 is $3.5 million.
  • Various dollar amounts and limitations relevant to Form 706 are indexed for inflation. For decedents dying in 2009, the following amounts have increased: (a) the ceiling on special-use valuation is $1 million; and (b) the amount used in computing the 2% portion of estate tax payable in installments is $1.33 million. IRS says it will publish amounts for future years in an annual revenue procedure.

Reminder. The instructions also point out that, in 2008, IRS added a worksheet to help executors figure how much of the estate tax may be paid in installments under Code Sec. 6166.

Which estates must file. For decedents dying in 2009, Form 706 must be filed by the executor for the estate of every U.S. citizen or resident whose gross estate, plus adjusted taxable gifts and specific exemption, is more than $3.5 million.
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Posted in Asset Protection Planning, Current Events, Elderlaw/Law For Life, Estate Planning, Tax Current Events and News, Tax planning

Taxman may be your “Friend”

Wednesday, September 30th, 2009 by Moore McLaughlin

According to a recent article in the Wall Street Journal, state revenue agents have been looking at MySpace and Facebook postings to catch tax scofflaws.  Click here for the full article.

For example, in Minnesota the tax authorities found a tax evader after he announced on his MySpace page that he was returning to his home MySpacetown to work and mentioned his new employer.  Genius!

Agents in Nebraska caught a DJ after announcing one of his gigs.  Brilliant!

California caught wind of a rigger of sails through an on-line thread to collect a 4-figure sum.  Outstanding!Facebook

Personally, I love these stories.  Can’t get enough of them.  Of course, I also watch all of the “Caught in the Act” and “World’s Dumbest Criminals” episodes I can.

Back in the real world, Tom Quinn and I help people with their IRS, Rhode Island and Massachusetts tax problems on a daily basis.  If you owe the IRS, Rhode Island or Massachusetts taxes, contact us at 401-421-5115 or by e-mail at mmclaughlin@mclaughlinquinn.com or tquinn@mclaughlinquinn.com for more information on how we can help you.

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Posted in Current Events, Financial workout, IRS and state tax collections, Tax Current Events and News

Preparing for more permissive IRA-to-Roth-IRA conversion rules in 2010

Wednesday, August 12th, 2009 by Moore McLaughlin

2010 will be a pivotal one for retirement planning, as it will be the first year in which taxpayers will be able to convert funds in regular IRAs (as well as qualified plan funds) to Roth IRAs regardless of their income level. The tax attorneys at McLaughlin & Quinn, LLC are currently advising clients and CPAs on these new rules.  This new conversion option poses significant tax planning challenges and opportunities for 2009, 2010 and 2011. The following takes a look at the new conversion option, and explains how to prepare for it.

Conversions to Roth IRAs. For 2009, taxpayers (other than married persons filing separately) with modified adjusted gross income (AGI) of $100,000 or less may convert IRA-to-Roth Conversionamounts in a traditional IRA to amounts in a Roth IRA. Amounts from a SEP-IRA or a SIMPLE IRA also may be converted to a Roth IRA, but a conversion from a SIMPLE IRA may be made only after the 2-year period beginning on the date on which the taxpayer first participated in any SIMPLE IRA maintained by the taxpayer’s employer.

For purposes of conversions to Roth IRAs, AGI is defined as it is for traditional IRA purposes except that it does not include income resulting from the conversion from a traditional IRA to a Roth IRA. AGI-for purposes of determining conversion eligibility only-does not include any required minimum distribution from an IRA under Code Sec. 408(a)(6) and Code Sec. 408(b)(3).

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Posted in Asset Protection Planning, Estate Planning, Self-directed IRAs, Tax Current Events and News, Tax planning

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