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Massachusetts DOR Issues Guidelines on 2010 Sales Tax Holiday

Monday, August 9th, 2010 by Moore McLaughlin

The Massachusetts Department of Revenue provided guidelines on the 2010 sales tax holiday for August 14 and 15, 2010, during which most purchases made by individuals for personal use will not be subject to Massachusetts sales or use taxes. During these two days, nonbusiness retail sales of tangible personal property costing $2,500 or less are exempt from sales and use taxes subject to certain exclusions. All motor vehicles, motorboats, meals, telecommunications services, gas, steam, tobacco products, and any single item costing over $2,500 do not qualify for the sales tax holiday exemption and remain subject to tax. ( Massachusetts Technical Information Release 10-10, 08/05/2010 .)

Qualifying purchases. The sales tax exemption applies to sales of tangible personal property for personal use only. Purchases exempt from sales tax are also exempt from use tax. Therefore, eligible items of tangible personal property purchased on the Massachusetts sales tax holiday from out-of-state retailers for use in Massachusetts are exempt from Massachusetts use tax. Alcoholic beverages sold for off-premises consumption by liquor or package stores qualify for the 2010 sales tax holiday.

Nonexempt sales. The sales tax holiday does not apply to sales of motorboats, meals, telecommunications services, gas, steam, electricity, tobacco products, any single item costing in excess of $2,500, and all sales of motor vehicles. Layaway sales do not qualify for the exemption even if the last required payment or payments necessary to complete the transaction are made on August 14 or 15, 2010. Sales of the excluded items remain taxable.

Specific rules. The Department provided specific rules to be applied by retailers in administering the Massachusetts sales tax holiday exemption.

Threshold: Generally, sales or use tax is due on the entire sales price of a single item worth more than $2,500. The sales price is not reduced by the threshold amount. However, since there is no sales tax on any article of clothing worth less than $175, only the increment of the sales price of the article of clothing over $175 is subject to tax.

Multiple items on one invoice: Separate invoices do not have to be prepared when a customer purchases multiple items during the sales tax holiday. As long as each item is priced $2,500 or less, there is no upper limit on the tax-free amount each customer may purchase.

Bundled transactions: When several items are offered for sale at a single price, the entire package is exempt if the sales price of the package is $2,500 or less. Items that are priced separately and are to be sold separately qualify for the sales tax holiday exemption if the price of each item is $2,500 or less.

Coupons and discounts: If a store coupon or discount reduces the sales price of an article, the discounted sales price determines whether the sales price is within the sales tax holiday threshold. If the purchaser bought both an eligible property and a taxable property and the coupon or discount applies to the total amount paid by the purchaser, the seller allocates the discount on a pro rata basis to each article sold.

Exchanges: In case of an even exchange, no tax is due even if the exchange is made after the sales tax holiday.

Special orders: Special order items are eligible for the sales tax holiday exemption provided they are ordered and paid in full on the sales tax holiday weekend and the cost of each item is $2,500 or less even if the items are delivered at a later date. A prior special order purchase with a deposit made before August 14, 2010 will not qualify for the sales tax holiday exemption even if the customer pays the entire remaining balance due on August 14 or 15, 2010.

Rain checks: Eligible property bought with the use of a rain check during the sales tax holiday weekend qualifies for the exemption regardless of when the rain check was issued. Issuance of a rain check during the sales tax holiday weekend will not qualify otherwise eligible property for the sales tax holiday exemption if the property is actually purchased after the sales tax holiday.

Rentals: Generally, rentals for 30 days or less of eligible tangible personal property are eligible for the sales tax holiday even if the rental period covers days before or after the holiday provided payment in full is made during the sales tax holiday weekend.

Rebates: A rebate is generally treated as a cash discount and is excluded from the sales price. So, the discounted sales price determines whether the sales price is within the sales tax holiday threshold, and tax must be charged on the full purchase price if it is over $2,500. If the customer receives a rebate after the sale by mailing a coupon to the manufacturer, the full purchase price of the property determines whether the sales price is within the sales tax holiday price threshold and tax must be charged on the full purchase price if it is over $2,500. If the customer receives a cash discount from the vendor upon the purchase of tangible property and a manufacturer’s rebate after the sale, only the cash discount given by the vendor is excluded from the sales price for purposes of the sales tax holiday exemption.

Internet sales: An eligible property ordered over the Internet is exempt if it is ordered and paid for on August 14 or 15, 2010, Eastern Daylight Time, even if the property is delivered after the sales tax holiday period.

Splitting items normally sold together: Articles normally sold as a single unit cannot be priced separately and sold as individual items in order to qualify for the sales tax holiday exemption.

Returns: Under the law, sales tax may only be refunded if returns are made within 90 days of the sale. During the 90-day period after August 14 or 15, 2010, a retailer may not credit a retail customer who returns an item that could have qualified for the sales tax holiday exemption, unless the customer provides a receipt or invoice showing the tax was paid or the seller’s records show that tax was paid.

Erroneously collected taxes: Customers who were erroneously charged sales tax for an exempt purchase may obtain a tax refund from the vendor. The vendor that has remitted erroneously collected tax to the Department may file an abatement application within three years with satisfactory evidence that the vendor credited or refunded the tax to the purchaser.

Responsibilities of retailers. All Massachusetts businesses normally making taxable sales of tangible personal property on August 14 and 15, 2010 and out-of-state retailers registered to collect Massachusetts sales and use taxes must participate in the sales tax holiday. Any sales or use tax erroneously collected by a retailer during the sales tax holiday must be remitted to the Department. Retailers must keep normal business records showing the date of sale, items purchased and selling price. Purchasers paying for tangible personal property with business credit cards or checks must be charged tax on the items purchased. Normal business records showing the date of sale, items purchased, and selling price must be kept by the retailer/vendor. However, a separate certification of nonbusiness use from the purchaser will not be required for the 2010 Sales Tax Holiday regardless of the amount of the otherwise qualifying purchase.

Penalties. Retailers that back-date sales occurring after August 15, 2010 or that forward-date sales that occurred before August 14, 2010 in order to make them appear to qualify for the sales tax holiday may be subject to the tax evasion penalties of Mass. Gen. L. § 73 , including a felony conviction, a fine of not more than $100,000 or $500,000 in the case of a corporation, or by imprisonment for not more than five years, or both, and may also be required to pay the costs of prosecution.

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

Transfer of home to closely held shareholders was constructive dividend—penalties imposed

Monday, August 9th, 2010 by Moore McLaughlin

A new Tax Court decision illustrates the need for closely held corporations to be wary of constructive dividends when dealing with their owners. In RVJ Cezar Corporation et al, TC Memo 2010 –173 a closely held construction company’s transfer of a home to its shareholders resulted in dividend/capital gain income to them, and taxable gain to the corporation. What’s more, both the shareholders and the corporation were held liable for accuracy related penalties.

Background. A dividend is a distribution of property from a corporation to its shareholders out of the corporation’s earnings and profits. (IRC Section 316(a)) The amount of the distribution equals the fair market value of the distributed property on the distribution date. (IRC Sections 301(b)(1) and (3)) For dividends received before 2011, qualified dividend income is taxed at the same rates as long-term capital gain. (IRC Section 1(h)(11)) After 2010, unless Congress changes the rules, dividend income will be taxed as ordinary income. The amount of a distribution that exceeds earnings and profits, and is therefore not a dividend, is taxable capital gain to the recipient. (IRC Section 301(c)(3)) Under long-established case law, dividends may be formally declared or they may be constructive. A constructive dividend arises when a corporation confers a benefit on a shareholder by distributing available earnings and profits without expectation of repayment.

A corporation that distributes appreciated property to a shareholder recognizes gain as if the property were sold to the shareholder at its fair market value. (IRC Section 311(b)(1)) Gain is recognized to the extent that the property’s fair market value exceeds the corporation’s adjusted basis in the property.

Taxpayers are liable for an accuracy-related penalty for any portion of an underpayment of income tax attributable to negligence or disregard of rules and regulations, unless they establish that there was reasonable cause for the underpayment and that they acted in good faith. (IRC Section 6662(a), IRC Section 6662(b)(1), IRC Section 6664(c)(1)) Under IRC Section 6662(b), an accuracy related applies for a substantial understatement of income tax, i.e., the amount of the understatement exceeds the greater of 10% of the tax required to be shown on the return, or $10,000.

Facts. Mr and Mrs. Cezar were the sole shareholders of RVJ Cezar Corporation, which built “spec” houses that it sold to the public. They paid $500 for their stock. Mr. Cezar, a general contractor, was the sole employee of the corporation. In 2001, Cezar Corp paid $150,000 for a lot, financing part of the purchase price with a mortgage, and spent $502,000 building an amenity-rich home approximately twice the size of its usual spec homes. Cezar Corp was listed as the sole owner of the spec home on the blueprints, permit, and notice of completion. Some of the construction materials were paid with a credit card issued in both Mr. Cezar’s name and Cezar Corp, and the Cezars were unable to document most of the labor costs of building the home.

The home was finished in 2004 and was offered for sale, but there were no takers. That year, Cezar Corp transferred the lot and improvements to the Cezars by quitclaim deed; they assumed the outstanding mortgage of $57,227. At the time of the transfer the lot and improvements had a total fair market value of $920,000. The transfer of ownership report filed with the Assessor’s Office did not indicate that the property interest transferred to the Cezars was a partial interest. The Cezars did not report the receipt of the lot or the improvements on their return for 2004, nor did the corporation report the distribution of the lot and the improvements on its return for 2004.

On audit, IRS determined that the distribution of the lot and the improvements was a constructive dividend from the corporation. It determined that the Cezars received a qualified dividend up to the amount of the corporation’s earnings and profits, and treated the balance of the distribution, less their $500 initial capital contribution, as long-term capital gain. IRS also determined that both the Cezars and their corporation were liable for the accuracy related penalty.

Tax Court sides with IRS. The Cezars conceded that they received the lot as a constructive dividend from the corporation. However, they argued that the improvements were not a constructive dividend because they owned the improvements by having paid for the construction materials and having done all the work to construct the improvements. The Tax Court agreed with IRS’s assessment that improvements are built on land that one owns or else there would be an agreement identifying the rights and responsibilities of the parties. The Cezars failed to show that there was an agreement between them and the corporation that would have allowed them to construct a home on the corporation’s property. Their ownership argument also was directly contradicted by Mr. Cezar’s statements during the audit that the lot and the improvements were both corporate assets. Moreover, there was no credible evidence to support the Cezars’ claim that they owned the improvements by paying the construction costs and personally completing the labor. The only records the Cezars produced to establish that they paid the construction costs were insufficient. Furthermore, the corporation was the sole owner of the lot as well as the improvements from the start of construction until the distribution to the Cezars. The corporation received property tax bills for both the lot and the improvements and did not protest that it had been billed for improvements that it did not own. The Tax Court also find it compelling that the corporation, which was in the business of building and selling homes, offered the lot and the improvements for sale without obtaining any transfer of interest from the Cezars. No prospective buyer would buy only the improvements and not the lot or vice versa. The Tax Court also noted that no other spec home that the corporation sold before or since was owned by the Cezars individually. Rather, all the homes and lots were owned and offered for sale by the corporation.

As a result, the Tax Court found that the Cezars did not establish that they owned the improvements, and sustained IRS’s determination that the Cezars must include the distribution of the lot and the improvements in gross income as a constructive dividend from the corporation. The Tax Court also found that treatment of the home as a constructive dividend to the Cezars caused the corporation to recognize taxable income to the extent that the fair market value of the lot and improvement exceeded its adjusted basis.

The Tax Court also hit the Cezars with an accuracy related penalty for the underpayment of income tax attributable to negligence or disregard of rules and regulations. It also hit Cezar Corp with an accuracy related penalty for substantial understatement of its income tax.

With proper planning, this tax and the penalties could have been avoided.  The tax attorneys at McLaughlin & Quinn, LLC regularly provide planning for taxpayers in situations such as the one faced by the Cezars.  For more information, contact F. Moore McLaughlin, IV, Esq., CPA by e-mail at MMcLaughlin@McLaughlinQuinn.com or by phone at 401-421-5115 ext. 212.

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

President Obama admits his new healthcare program is a tax

Saturday, July 17th, 2010 by Moore McLaughlin

President Obama and the Democrat leaders flat out denied that their mandate for Americans to buy health insurance was actually a new tax.  In recently filed court briefs, President Obama has finally admitted that his new plan is actually a tax on the American people.  Very interesting reading.  Click here for a NY Times article. 

Stay tuned for word about more and even larger tax increases.  The tax attorneys at McLaughlin & Quinn, LLC will be working even harder to help you preserve your hard-earned dollars.  Call founding partner, F. Moore McLaughlin, IV, CPA, Esq. for more information at 401-421-5115 ext. 212 or reach him by e-mail at MMcLaughlin@McLaughlinQuinn.com.

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

RI Senator Sheldon Whitehouse Introduces Estate Tax Reform Bill

Thursday, July 15th, 2010 by Moore McLaughlin

S. 3533, 111th Cong., 2d Sess. (June 23, 2010), the “Responsible Estate Tax Act of 2010,” introduced by Senators Bernard Sanders (I-Vermont), Tom Harkin (D-Iowa) and Sheldon Whitehouse (D-R.I.), would:

  • Retroactively reimpose the estate tax and GST tax;
  • Adopt an applicable exclusion amount and GST exemption of $3.5 million per person;
  • Adopt a progressive rate structure, under which a 45% rate would apply on the taxable estate up to $10 million, 50% on the taxable estate above $10 million and below $50 million, and 55% on taxable estates above $50 million, and a 10% surtax on estates above $500 million;
  • Enact two loophole closures included in President Obama’s Fiscal Year 2011 budget, requiring consistent valuation for transfer and income tax purposes, and requiring a 10-year minimum term for GRATs;
  • Eliminate the use of valuation discounts for entities that do not operate an active trade or business;
  • Allow reduction in the gross estate under Code Sec. 2032A , special use valuation for family farms and certain closely held business real estate, by up to $3 million; and
  • Expand the rules for conservation easements through increasing the maximum exclusion amount to $2 million and increasing the base percentage to 60%.
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Massachusetts Enacts 2011 Budget Act

Tuesday, July 6th, 2010 by Moore McLaughlin
Massachusetts

Massachusetts

On June 30, 2010, Governor Deval Patrick signed the 2011 budget act (H4800), which includes credit transparency provisions, extends the historic rehabilitation tax credit, and provides administrative provisions to facilitate collection. The bill takes effect July 1, 2010, unless otherwise stated.

Credit transparency. Effective January 1, 2011, the head of the administrative agency of each tax credit program must submit, on or before May 15 each year, a report to the Commissioner on each tax credit program authorized for the previous calendar year. Tax credits required to be disclosed include the historic preservation tax credit, dairy farm tax credit, USFDA user fees credit, film tax credit, life sciences investment tax credit, low-income housing tax credit, medical device tax credit, refundable research credit, credit under the economic development incentive program, and any transferable or refundable credits under the corporate and personal income tax laws established after January 1, 2011. The report will contain: (1) the identity of each taxpayer receiving an authorized tax credit and from which tax credit program the credit was received; (2) the amount of the authorized tax credit awarded and issued for each taxpayer and each project, if applicable; and (3) the date that the authorized tax credit was awarded and issued for each taxpayer and each project. The report will be a public record. The report will cover only credits awarded or claimed after January 1, 2011. For purposes of the report, the taxpayer is the initial recipient of an authorized tax credit.

Historic rehabilitation tax credit. The historic rehabilitation tax credit is extended for a 12-year period up to December 31, 2017. Under current law the Commissioner, in consultation with the Massachusetts Historical Commission, is authorize to annually grant a historic rehabilitation tax credit in an amount not to exceed $50 million per year to qualified taxpayers for the 6-year period beginning January 1, 2006, and ending December 31, 2011.

Determination of partner’s distributive share. The budget act also includes a provision clarifying how a partner’s distributive share of an item of income, loss, deduction or credit from a partnership is determined. It provides that a partner’s distributive share is determined in accordance with the partner’s interest in the partnership, determined by taking into account all facts and circumstances, such as, if the allocation to a partner under the agreement of income, gain, loss, deduction or credit had no substantial economic effect or the partnership agreement does not provide as to the partnership’s distributive share of income, gain, loss, deduction or credit. It also provides that the determination of a partner’s distributive share must take into account rules and principles developed under the Internal Revenue Code and any regulations promulgated thereunder, and adjusted as required or appropriate to properly reflect income and other tax items for Massachusetts tax purposes.

Pass-through entity provision. The budget act includes provisions involving unified audit procedures for pass-through entities. It requires members or indirect owners of a pass-through entity to report items of income, expense or credit derived from the pass-through entity in a manner consistent with reporting of the pass-through entity, except to the extent that a taxpayer, member or indirect owner makes a declaration of inconsistency with its original return. The Commissioner is mandated to establish by regulation unified audit procedures.

Penalty provisions. The budget act amends the additional tax liability provision in cases when the federal government determines a difference from the amount previously reported in the taxable income of a person or the federal credit to which such person may be entitled or in cases when the tax due any other state, U.S. territory or the Dominion of Canada or any of its provinces, on account of any item of Massachusetts gross income of a Massachusetts resident, is finally determined by that jurisdiction to be less than the tax previously reported, and such tax was the basis for a credit claimed by the Massachusetts resident. It provides that failure to report such difference under both circumstances is subject to a penalty of 10% of the additional tax found due. Prior law provided that the penalty is $100 or 10% of the additional tax found due, whichever sum is smaller. A new provision provides that a person who fails to pay to the Commissioner any cigarette excise required to be paid will be personally and individually liable. “Person” includes, but not limited to, an officer or employee of a corporation or a member or employee of a partnership or limited liability company who, as such officer, employee or member, is under a duty to pay over the cigarette excise tax.

Installment and deferred payment sales. The budget act also provides a new provision requiring interest to be paid on some deferred tax liabilities generated from the use of installment sales applicable for tax years beginning on or after January 1, 2010 with respect to installment obligations as of the close of the tax year.

Sales tax provision. The budget act repeals the sales tax provision making it unlawful for any vendor to advertise or hold out or state to the public or any customer that the vendor will assume or absorb the tax or that it will not be added to the selling price of the property or services sold or, if added, it will be refunded.

For more information on these new provisions, contact tax attorney and CPA Moore McLaughlin at MMcLaughlin@McLaughlinQuinn.com or by phone at 401-421-5115 ext. 212.

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

Deduction denied to property developer where access to land was challenged in court

Thursday, July 1st, 2010 by Moore McLaughlin

The Tax Court has held in D.L. White Construction, Inc., TC Memo. 2010-141 that a corporation engaged in the business of residential real estate construction could not claim the cost of acquiring unimproved real estate as the cost of goods sold or alternatively deduct that amount as a Code Sec. 165(a) business loss where its easement to access the property through adjacent land was challenged in the courts.Real Estate Development

Background on cost of goods. In a manufacturing, merchandising, or mining business, gross income means total sales less the cost of goods sold, plus any income from investments and from incidental or outside operations or sources. (Reg. § 1.61-3(a)) The amount that a taxpayer claims as cost of goods sold is not subject to the limitations on deductions found in Code Sec. 162 (ordinary and necessary trade or business expense) and Code Sec. 274 (substantiation requirements). Rather, it is treated as a subtraction from gross sales to arrive at a qualifying business’ gross income. (Metra Chem Corp. (1987), 88 TC 654) As a general rule, where the production, purchase, or sale of merchandise of any kind (inventory) is an income-producing factor, inventory on hand at the beginning and end of the year is taken into account in computing the taxable income for the year. If a taxpayer must use an inventory, a taxpayer ordinarily is required to use the accrual method. (Reg. § 1.446-1 , Reg. § 1.471-1) Real property is not generally merchandise for purposes of inventory accounting. (W.C. & A.N. Miller Dev. Co. (1983), 81 TC 619)

Background on business loss deduction. Under Code Sec. 165(a), a taxpayer may deduct a loss sustained during the tax year and not compensated for by insurance or otherwise. To be allowable under Code Sec. 165(a) , the loss must be evidenced by a closed and completed transaction, fixed by identifiable events, and actually sustained during the tax year. If a taxpayer has a claim for reimbursement on which there’s a reasonable prospect of recovery, that “reimbursable” loss can’t be deducted until it’s reasonably certain the reimbursement will or will not be made. This may be ascertained by, among other things, settlement, adjudication or abandonment of the claim. (Code Sec. 165(a), Reg. § 1.165-1(d))

Facts. D.L. White Construction, Inc. (White Construction), is a C corporation that uses the cash method of accounting and a fiscal year ending on September 30. It’s in the business of residential real estate construction. During its 2002 tax year, it bought four parcels of adjoining land in northern Idaho (the Blossom Mountain property), totaling approximately 80 acres, for $290,000 ($90,000 of which was financed through a promissory note). It planned to build four homes on the Blossom Mountain property and sell the homes at a profit. However, to reach the Blossom Mountain property, White Construction used an access road that crossed an adjoining property owned by Mr. and Mrs. Akers. On January 10, 2002, the Akerses filed suit against White Construction in the Idaho district court for negligence and trespass and to quiet title.

White Construction filed its Form 1120, U.S. Corporation Income Tax Return, for the 2002 tax year. It included the $220,000 it spent on the Blossom Mountain property in its cost of goods sold. Although the Akerses’ lawsuit was still ongoing when it filed its Form 1120, White Construction claimed the $220,000 amount because it didn’t have legal access to the Blossom Mountain property and contended that the property was worthless.

The Blossom Mountain litigation was protracted. On January 3, 2003, the Idaho district court found that White Construction did not have a complete easement over the Akerses’ property, had trespassed, was negligent, and had engaged in malicious conduct. On April 1, 2004, the district court reheard the case, again finding against White Construction. This decision was appealed, and the Idaho Supreme Court remanded the case to the district court. On October 6, 2006, the district court again found against White Construction. This decision was appealed, and the case was once again remanded to the district court. On January 22, 2009, the Idaho Supreme Court withdrew its latest decision to remand, and, affirming the district court in part and vacating its judgment in part, once more remanded the case for further proceedings.

After the Idaho district court issued its April 1, 2004 decision, White Construction’s title company’s insurer issued White Construction a $200,000 check.

On audit of the 2002 tax year, IRS reduced White Construction’s cost of goods by $220,000. White Construction sought relief in court, where it acknowledged that its deduction for cost of goods sold might have been incorrect, but argued that it nevertheless should be able to deduct the $220,000 amount as a Code Sec. 165 business loss.

Decision on cost of goods argument. The Tax Court concluded that even if the Blossom Mountain property were properly classified as inventory, White Construction would not be entitled to include the cost of the property in its cost of goods sold.

After first noting the oddness of the fact that White Construction apparently used an inventory in its business even though it claimed to be a cash basis taxpayer, the Court assumed for the sake of argument that merchandise was an income-producing factor in its business and that it was required to use an inventory. That being the case, the Court concluded that White Construction failed to prove that the Blossom Mountain property was merchandise properly includable in calculating its cost of goods sold. White Construction also failed to prove that the Blossom Mountain property, even if properly classified as merchandise includable in inventory, should not have been included in closing inventory for purposes of calculating its cost of goods sold. White Construction continued to own the property on September 30, 2002, and failed to show that it was worthless as of that date.

Decision on business deduction argument. The Court found that White Construction failed to prove any of the elements for a deduction under Code Sec. 165. Its claimed loss for the Blossom Mountain property was not evidenced by a closed and completed transaction, fixed by identifiable events. As of the close of White Construction’s 2002 tax year, the Idaho district court had not issued its first opinion in the lawsuit-a lawsuit that the Court noted was still unresolved. Further, White Construction failed to show that the claimed loss was actually sustained during its 2002 tax year or in any other year. While contending that the Blossom Mountain property was worthless because there was not any access to the property, White Construction continued to own the property. There was no credible evidence that White Construction could not acquire access to the property in some other way or that the property had become worthless as of September 30, 2002. In addition, even if it did establish that it sustained a $220,000 loss with respect to the Blossom Mountain property during the tax year 2002, it still could not deduct the loss because it had a reasonable prospect of recovery as of the end of the year since it had a claim under its title insurance policy. Indeed, White Construction actually received reimbursement of $200,000 for its loss.

For more information about this case or tax planning for real estate developers, contact Moore McLaughlin, Esq. at MMcLaughlin@McLaughlinQuinn.com or by phone at 401-421-5115 ext. 212.

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

Online Legal Documents Company Sued Over Flawed Estate Plan

Sunday, June 27th, 2010 by Moore McLaughlin

LegalZoom, one of the most prominent sellers of do-it-yourself wills and other estate planning documents, is the target of a class action lawsuit in California charging that the company engages in deceptive business practices and is practicing law without a license.

The lawsuit was filed in Los Angeles Superior Court on May 27, 2010, by Katherine Webster, who is the niece of the late Anthony J. Ferrantino and the executor of Mr. Ferrantino’s estate.

Knowing that he had only a few months to live, Mr. Ferrantino asked Ms. Webster in July 2007 to help him use LegalZoom to execute a will and living trust. Based on LegalZoom’s advertising, Ms. Webster says she believed that the documents they created would be legally binding and that if they encountered any problems, the company’s customer service department would resolve them.

But after the living trust documents were created and signed, Ms. Webster could not transfer any of her uncle’s assets into the trust because the financial institutions that held his money refused to accept the LegalZoom documents as valid. Ms. Webster tried to get help from LegalZoom, with no success. The trust was still not funded when Mr. Ferrantino died in November 2007.

Ms. Webster was forced to hire an estate planning attorney, who petitioned the court to allow the post-death funding of the trust. The attorney then had to convince the banks to transfer the funds — a more difficult task following Mr. Ferrantino’s death. The attorney also discovered that the will LegalZoom created for Mr. Ferrantino had not been properly witnessed. All this cost Mr. Ferrantino’s estate thousands of dollars.

legalzoomThe lawsuit claims that Ms. Webster and others like her relied on misleading statements by LegalZoom, including that LegalZoom carefully reviews customer documents, that it guarantees its customers 100 percent satisfaction with its services, that its documents are the same quality as those prepared by an attorney, and that the documents are effective and dependable.

“Nowhere in the [company's] manual do defendants explain that using LegalZoom is not the same as using an attorney and that its documents are only ‘customized’ to the extent that the LegalZoom computer program inputs your name and identifying information, but not tailored to your specific circumstances,” the lawsuit states, adding that “the customer service representatives are not lawyers and cannot by law provide legal advice.”

Ms. Webster is suing not only on her behalf but on behalf of anyone in California who paid LegalZoom for a living trust, will, living will, advance health care directive or power of attorney. The lawsuit estimates this class embraces more than 3,000 individuals.

“LegalZoom’s business is based on nurturing the false sense of security that people do not need to hire a traditional attorney,” says San Francisco attorney Robert Arns, one of the attorneys who filed the lawsuit. “The complaint points out that LegalZoom advertises that you don’t need a real attorney because its work is legally binding and reliable. That’s misleading. Improperly prepared estate planning documents are a ticking time bomb that can result in improper tax consequences and other items that could cost the estate and heirs huge sums.”

“LegalZoom preys on people when they’re at their most vulnerable, when they are of advanced age or poor health and need a will or a living trust,” adds San Francisco elder abuse attorney Kathryn Stebner, Ms. Webster’s lead counsel.

One of the defendants named in the suit is LegalZoom co-founder Robert Shapiro, who appears on the LegalZoom Web page and TV ads and who is best-known for being one of O.J. Simpsons attorneys.

This is not the first suit against LegalZoom. In December 2009, a Missouri man who paid LegalZoom to prepare his will sued the company for engaging in the unauthorized practice of law (Janson v. LegalZoom). The lawsuit is also seeking class action status. LegalZoom is trying to have the case removed from Missouri state court to the United States District Court for the Western District of Missouri.

Estate Planning attorney, Jill E. Sugarman, has encountered documents adopted from an on-line document preparation service.  “In many instances, the documents themselves are not flawed, but the client has either used the wrong form and has left out important provisions,” says Jill.

If you are truly concerned about your estate planning needs and want to ensure that the documents you use are legally binding and appropriate for your particular needs, contact Jill E. Sugarman, Esq. at JSugarman@McLaughlinQuinn.com or by phone at 401-421-5115.

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Posted in Asset Protection Planning, Current Events, Elderlaw/Law For Life, Estate Planning

What Is the Generation-Skipping Transfer Tax?

Monday, June 14th, 2010 by Moore McLaughlin

The estate tax gets all the press, but if you are leaving property to a grandchild, there is an additional tax you should know about. According to Jill E. Sugarman, Esq., elderlaw and estate planning attorney at McLaughlin & Quinn, LLC, the generation-skipping transfer (GST) tax is a tax on property that is passed from a grandparent to a grandchild (or great-grandchild) in a will or trust. The tax is also assessed on property passed to unrelated individuals more than 37.5 years younger. Like the estate tax, it is currently repealed, but is scheduled to return in 2011.

Generation Skipping TaxThe GST tax was designed to close a loophole in the estate tax. Normally, grandparents would leave their estates to their children, incurring estate taxes. Then the children would pass on the estates to the grandchildren, incurring estate taxes again. Wealthy individuals realized they could leave their estates to their grandchildren directly and avoid one set of estate taxes. Congress established the GST tax to prevent this by taxing transfers to related individuals more than one generation away and to unrelated individuals more than 37.5 years younger.

A GST tax is imposed even when property is left in trust for a grandchild. For example, suppose a grandparent sets up a trust that leaves income to her children for life and then the remainder to her grandchildren. The part of the trust left to the grandchildren will be subject to a GST tax.

The GST tax has tracked the estate tax rate and exemption amounts. In 2009, the federal government exempted $3.5 million from the tax and the tax rate was 45 percent. The GST tax expired in 2010 along with the estate tax, but it is scheduled to return in 2011. Unless Congress acts in the meantime, the 2011 GST tax exemption amount will be $1 million and the tax rate will be 55 percent.

For more information on estate taxes, contact Founding Partner F. Moore McLaughlin, IV, CPA, Esq. at 401-421-5115 ext 212 or by e-mail at MMcLaughlin@McLaughlinQuinn.com or Jill E. Sugarman, Esq. at 401-421-5115 ext 217 or by e-mail at JSugarman@McLaughlinQuinn.com.

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Posted in Elderlaw/Law For Life, Estate Planning, Tax planning

Rhode Island Governor Approves Significant Personal Income Tax Reform Measure

Friday, June 11th, 2010 by Moore McLaughlin

Rhode Island FlagOn June 9, 2010, Governor Donald Carcieri signed legislation bringing significant reform to the personal income tax system beginning with the 2011 calendar year. The legislation reduces the highest marginal income tax bracket from 9.9% to 5.99%, and reduces the number of income tax brackets from five to three. The legislation eliminates the option to itemize deductions, increases the amounts of the standard deduction, reduces the amount of the personal exemption, and limits the types of credits that may be taken. Finally, the alternative flat tax is eliminated. (L. 2010, H8196A/S2921A, effective 01/01/2011.)

Tax rates. The tax rates have been revised, providing three taxable income brackets for married individuals filing jointly, qualifying widows, head of households, unmarried individuals, married individuals filing separately and bankruptcy estates, effective for tax years beginning after December 31, 2010: $0-$55,000, 3.75%; $55,000-$125,000, 4.75%; and over $125,000, 5.99%. Previously, there were five brackets with rates ranging from 3.75% to 9.9%, and the income brackets differed depending on the filing status. In addition, the revised tax rates provide three taxable income brackets for an estate or trust: $0-$2,230, 3.75%; $2,230-$7,022, 4.75%; and over $7,022, 5.99%. Previously, the rates for an estate or trust were based on five taxable income brackets: $0-2,150, 3.75%; $2,150-$5,000, 7%; $5,000-7,650, 7.75%; $7,650-10,450, 9%; and over $10,450, 9.9%.

Deductions. The legislation eliminates the option to itemize deductions and increases the amounts of the standard deduction based on the filing status as follows: single, $7,500; married filing jointly, $15,000; married filing separately, $7,500; and head of household, $11,250. Previously, the amounts of the standard deductions based on the filing status were as follows: single, $5,700; married filing jointly, $9,550; married filing separately, $4,750; and head of household, $8,400. In addition, the standard deduction is phased out for taxpayers whose adjusted gross income exceed $175,000 such that the standard deduction is reduced by 20 percentage points for each $5,000 by which the taxpayer’s adjusted gross income for the taxable year exceeds $175,000.

Personal exemption. For purposes of computing the personal exemption, the legislation reduces the exemption amount from $3,650 to $3,500. In addition, the personal exemption is phased out for taxpayers whose adjusted gross incomes exceed $175,000 such that the personal exemption is reduced by 20 percentage points for each $5,000 by which the taxpayer’s adjusted gross income for the taxable year exceeds $175,000.

Credits. The legislation limits the types of credits that may be taken against personal income tax to the following: earned income credit; property relief credit; lead paint credit; credit for income taxes of other states; historic structures tax credit; motion picture productions tax credit; child and dependent care credit; tax credits for scholarships to scholarship organizations; and credit for tax withheld. For purposes of the property tax relief credit against personal income tax, the calculation of “income” does not include any deductions for rental losses, business losses, capital losses, exclusion for foreign income, and any losses received from pass-through entities.

Alternative flat tax. The alternative flat tax option is eliminated for tax years 2011 and thereafter.

For more information about these changes, contact Moore McLaughlin, Esq. at 401-421-5115 ext 212 or by e-mail at MMcLaughlin@McLaughlinQuinn.com.

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

Final regulations clarify and strengthen partnership Code Sec. 704(c) anti-abuse rule

Wednesday, June 9th, 2010 by Moore McLaughlin

The IRS has issued final regulations providing that the Code §704(c) anti-abuse rule takes into account the tax liabilities of both the partners in a partnership and certain direct and indirect owners of the partners. The regulations, which apply to tax years beginning after June 9, 2010, also provide that a Code §704(c) allocation method cannot be used to achieve tax results inconsistent with the intent of subchapter K of the Code.Internal Revenue Service

Background. Code §704(c) requires partnerships to allocate income, gain, loss, and deductions for property contributed by a partner so as to take into account variations between the property’s adjusted tax basis and its fair market value at the time of contribution. The allocations must be made using a reasonable method that’s consistent with Code §704 ‘s purpose. Reg. §1.704-3 provides three allocation methods: the traditional method, the traditional method with curative allocations, and the remedial method.

Under the anti-abuse rule of Reg. §1.704-3(a)(10) (as in effect before amendment by T.D. 9485, 06/08/2010), an allocation method (or combination of methods) is not reasonable if the contribution of property (or event that results in reverse Code Sec. 704(c) allocations) and the corresponding allocation of tax items for the property are made with a view to shifting the tax consequences of built-in gain or loss among the partners in a manner that substantially reduces the present value (PV) of the partners’ aggregate tax liability.

Under the anti-abuse rule of Reg. §1.701-2(b), if a partnership is formed or availed of in connection with a transaction a principal purpose of which is to reduce substantially the PV of the partners’ federal tax liability in a manner inconsistent with the intent of subchapter K, IRS may recast the transaction as appropriate to achieve tax results that are consistent with the intent of subchapter K. Thus, IRS may disregard: (a) purported partnerships, in whole or part, so that partnership assets are treated as owned by the partner; (b) one or more contributions; or (c) one or more purported partners.

In 2003, the Staff of the Joint Committee on Taxation issued “The Report of Investigation of Enron Corporation and Related Entities Regarding Federal Tax and Compensation Issues, and Policy Recommendations,” (JCS-3-03, February 2003) (Enron Report). Although the Enron Report noted that the anti-abuse rule of Reg. §1.704-3(a)(10) (as in effect before amendment by T.D. 9485, 06/08/2010 ), was an effective tool, it recommended strengthening the reg for partnership allocations for property contributed to a partnership, especially for partners that are members of the same consolidated group, to ensure that the allocation rules are not used to obtain unwarranted tax benefits.

The final regs address the recommendation in the Enron Report by clarifying certain aspects of the anti-abuse rule.

Final regulations. The regulations amend the anti-abuse rule of Reg. § 1.704-3(a)(10) to provide that the tax effect of an allocation method (or combination of methods) on both direct and indirect partners is considered. (Reg. § 1.704-3(a)(10)(i)) An indirect partner is any direct or indirect owner of a partnership, S corporation, or controlled foreign corporation (CFC, as defined in Code §957(a) or Code §953(c)), or direct or indirect beneficiary of a trust or estate, that is a partner in the partnership, and any consolidated group of which the partner in the partnership is a member (under Reg. §1.1502-1(h)). However, a CFC owner is treated as an indirect partner only for allocation of items that: (1) enter into the computation of a U.S. shareholder’s inclusion under Code §951(a) for the CFC; (2) enter into any person’s income attributable to a U.S. shareholder’s inclusion under Code §951(a) for the CFC; or (3) would enter into these computation if the items were allocated to the CFC. (Reg. §1.704-3(a)(10)(ii))

The final regs also provide that the principles of Code §704(c), together with the allocation methods in Reg. §1.704-3(b) (the traditional method, the traditional method with curative allocations, and the remedial method) only apply to contributions of property to the partnership. Further, in determining if a purported contribution of property to a partnership should be recast to avoid results that are inconsistent with subchapter K, one factor that might be relevant is the use of the remedial method in which allocations of remedial items of income, gain, loss or deduction are made to one partner and allocations of offsetting remedial items are made to a related partner. (Reg. §1.704-3(a)(1))

For more information on these Final Regulations or other partnership tax matters, contact Moore McLaughlin, Esq. at 401-421-5115 ext 212 or by e-mail at MMcLaughlin@McLaughlinQuinn.com.

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Posted in Tax Current Events and News, Tax planning

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