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IRS Criminal Investigation Division Continues to Face Core Mission Challenges Due to Budget Cuts

by | Feb 28, 2017 | ,

This week, the Internal Revenue Service (IRS) Criminal Investigation Division (CID) released its annual report for 2016, continuing a message sent for several years now: that IRS CID’s staffing declines are affecting its core mission tax work. Core mission tax work is distinguished from other types of IRS CID investigations—such as terrorism or health care fraud—where tax elements are not the central focus of the investigation. Over the past four years, since 2012, the division has lost 447 agents, and this loss has resulted in a decline in “core mission” prosecutions (485 fewer cases than in 2012).

Despite these challenges, IRS CID continues to possess a high success rate, with an incarceration rate at or around 80 percent for at least the last 4 years. In 2016, IRS CID initiated 3,395 investigations, down from 5,314 in 2013. Of those, 2,699 were sentenced, with an average sentence of 41 months.

Practice Point: The 2016 annual report is yet more documentation of the long-term decline in IRS CID investigations; however, practitioners and taxpayers cannot count on this trend continuing in the new administration. In his confirmation hearings, Steven Mnuchin, the new Treasury Secretary expressed concern about lowered IRS staffing levels overall, but it is unclear whether these comments will result in substantive changes to reverse this trend. In this report, IRS CID is sending a clear message that budget restrictions and staffing attrition are impacting the division’s core mission of encouraging voluntary compliance through criminal deterrence.



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Giving Back – Providing Pro Bono Tax Assistance

by , and | Feb 23, 2017 | ,

Here at McDermott, we value giving back to the community through pro bono efforts.  In particular, we provide substantial assistance in pro bono tax cases to low-income individuals through our relationships with low-income taxpayer clinics throughout the country.  Over the years, we have settled dozens of cases for low-income taxpayers in docketed tax cases and routinely reduced or eliminated deficiencies asserted by the Internal Revenue Service (IRS).  When settlement has not been possible, we have litigated cases in the Tax Court and obtained favorable results not just for our clients but for the low-income taxpayer community as a whole.  For example, we represented a husband and wife on a penalty issue involving an issue of first impression and convinced the Tax Court that the IRS had for years been improperly asserting and collecting penalties on improperly claimed refundable tax credits. In a recent article, we detail some of the pro bono efforts by low-income taxpayer clinics and private practitioners.

Practice Point:  In addition to assisting low-income individuals who cannot afford legal representation, providing pro bono tax services benefits tax practitioners in many ways.  It provides the opportunity for younger attorneys to take responsibility for a case and to get valuable experience in dealing with clients, negotiating with the IRS, and potentially gaining courtroom experience.  Assisting taxpayers on a pro bono basis is also rewarding and can make a significant difference in the lives of low-income individuals.



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Revenue Procedure 2017-23: IRS Releases Guidance on Form 8975 and Country by Country Reporting

by | Feb 6, 2017 | , ,

As a follow-up to regulations issued last June, the Internal Revenue Service (IRS) has issued Revenue Procedure 2017-23, which sets forth the process for filing Form 8975, Country-by-Country (CbC) Report, and accompanying Schedules A, Tax Jurisdiction and Constituent Entity Information (collectively, Form 8975), by ultimate parent entities of US multinational enterprise (MNE) groups for reporting periods beginning on or after January 1, 2016, but before the applicability date of §1.6038-4 (early reporting periods).

The Treasury Department and the IRS published final regulations on June 30, 2016 –Treas. Reg. 1.6038-4– that require ultimate parent entities of US MNE groups to report CbC information about the group’s income, taxes paid and location of economic activity. The impacted taxpayers must report this information annually via Form 8975. The CbC reporting regulations apply to reporting periods of ultimate parent entities of US MNE groups that begin on or after the first day of the first taxable year of the ultimate parent entity that begins on or after June 30, 2016.

For annual accounting periods beginning on or after January 1, 2016, some jurisdictions have adopted CbC reporting that would require an entity in that jurisdiction to report CbC information if it is part of an MNE group in which the ultimate parent resides in a jurisdiction without CbC reporting requirements for the same annual accounting period. This can result in constituent entities of a US MNE group being subject to various local CbC filing requirements for early reporting periods unless the ultimate parent entity files a Form 8975 in the US, or reports CbC information through surrogate filing in another jurisdiction.

The preamble to the US CbC reporting regulations addressed this issue by indicating that the Treasury Department and the IRS would provide a procedure for ultimate parent entities of US MNE groups to file Form 8975 for early reporting periods; Revenue Procedure 2017-23 is the resulting procedure.

The Revenue Procedure provides that, beginning on September 1, 2017, taxpayers may file Form 8975 for an early reporting period with their income tax return or other return as provided in the Instructions to Form 8975 for the taxable year of the ultimate parent entity of the US MNE group with or within which the early reporting period ends. Taxpayers can amend an income tax return for a taxable year that includes an early reporting period without a Form 8975 attached if they follow the normal procedures for filing an amended return, and attach the Form 8975 to the amended return within twelve months of the close of the taxable year that includes the early reporting period. Filing an amended return for the sole purpose of attaching Form 8975 will have no effect on the statute of limitations. Ultimate parent entities are encouraged to file their returns and Forms 8975 electronically through the IRS Modernized e-File system in Extensible Markup Language (XML) format. The IRS plans to provide information on the Form 8975 to the software industry to [...]

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IRS Issues IPU on Summons of Foreign Owned US Businesses

by and | Feb 2, 2017 | , , , , ,

On January 30, 2017, the Internal Revenue Service (IRS) released an International Practice Unit (IPU) on the use of a summons under IRC Section 6038A (IRC Section 6038A Summons) when a US corporation is 25-percent owned by a foreign shareholder.  See IPU here. The IPU describes the steps that the IRS should take when issuing an IRC Section 6038A Summons, and what to do when the US corporation does not substantially comply with the summons.

In general, IRC Section 6038A imposes reporting and recordkeeping requirements (together with certain procedural compliance requirements) on domestic corporations that are 25-percent foreign-owned, which the regulations refer to as a domestic reporting corporation (DRC).  Among other requirements, a DRC is required to keep permanent books of account or records per IRC Section 6001 that are sufficient to establish the correctness of the federal income tax return of the DRC, including information, documents, or records to the extent they may be relevant to determine the correct US tax treatment of transactions with related parties. See Treas. Reg. Section 1.6038A-3.

The IRS may issue an IRC 6038A Summons when:  (i) the taxpayer under exam is a DRC; (ii) there was a transaction between the DRC and the 25 percent foreign shareholder or any foreign person related to the DRC or to such 25 percent foreign shareholder; and (iii) the DRC is appointed to act as a limited agent with respect to any request by the IRS to examine its records or produce testimony that may be relevant to the tax treatment of any transaction between the DRC and a foreign related party.  If the DRC does not substantially comply in a timely manner with the IRC 6038A Summons, the IRS has sole discretion to determine the amount of the DRC’s deductions related to transactions with, and the cost of property purchased from (or transferred to), the foreign related party.

The IPU is particularly relevant in light of final regulations published in the Federal Register on December 13, 2016 (TD 9796) which treat a domestic disregarded entity wholly owned by a foreign person as a domestic corporation for purposes of the reporting, record maintenance and associated compliance requirements under IRC Section 6038A.  The regulations are effective for tax years beginning after December 31, 2016, and ending on or after December 13, 2017.  The IPU refers to these regulations in describing the criteria which must be met before the IRS issues an IRC Section 6038A Summons.

Practice Point:  For US entities that are owned by foreign entities and file US tax returns, it is crucial to have all of the relevant information for the entity in the US. US taxpayers are required to support all of the positions claimed on a return.  For example, if there are expenditures of the US entity that are paid for by the foreign affiliate, there should be adequate documentation in the US to support those payments.



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What to Expect During a Change of Administration

by , , and | Jan 25, 2017 | , , ,

With the inauguration of President Trump, and the accompanying change of administration, the American people have been promised great change in all areas of the federal government. One question we at McDermott have been frequently asked since the election is: what should a taxpayer expect from the Internal Revenue Service (IRS) and the Department of Justice (DOJ) Tax Division while the transitions in the executive branch are taking place? Major tax policy changes are being discussed, but what about the immediate practical effects of a turnover in high-level personnel within these agencies, particularly if a taxpayer is under audit or investigation?

During a change in administration, taxpayers may be affected by any of the following:

  • If under audit, the exam team may ask for longer statute extensions than would otherwise apply, to account for possible delays in internal managerial-level approvals.
  • If a taxpayer is negotiating a settlement, and that settlement requires approval by the IRS National Office or the Assistant Attorney General for Tax, settlement approvals may be delayed due to personnel changes.
  • This applies to civil settlements reached with IRS Appeals, in Tax Court litigation, or in federal district court litigation. Delays are also possible for criminal agreements, including plea agreements, deferred prosecution agreements and non-prosecution agreements.
  • Ongoing litigation (particularly appellate litigation) may be stayed or delayed, to the extent a case involves a policy position that the administration may want to change.
  • The regulatory freeze enacted by the Trump administration also affects procedural regulations, including proposed regulations related to the new partnership audit rules.

Initial comments from prospective Secretary of Treasury Steven Mnuchin indicate that he believes IRS staffing should be increased, which would be a welcome change.  Any significant changes like this are likely to be long-term, however, so we are unlikely to see their effect for some time.



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National Taxpayer Advocate Releases 2016 Annual Report to Congress

by | Jan 19, 2017 | ,

On January 10, 2017, the National Taxpayer Advocate Nina E. Olson released her 2016 Annual Report to Congress.

According to the Taxpayer Advocate Service (TAS), the report was delivered to Congress with no prior review by the Internal Revenue Service (IRS) Commissioner, the Secretary of the Treasury or the Office of Management and Budget.  The primary sections of the report include:

  • 2016 Special Focus – IRS Future State: The National Taxpayer Advocate’s Vision for a Taxpayer-Centric 21st Century Tax Administration
  • Most Serious Problems Encountered by Taxpayers
  • Recommendations to Congress
  • Most Litigated Issues
  • Taxpayer Advocate Service Research and Related Studies
  • Literature Reviews

Practice Point: TAS, an independent organization within the IRS, is an excellent (and often underutilized) resource for individual and corporate taxpayers who may be at a standstill with the IRS – especially on a technical, administrative, or “red-tape” issue. Taxpayers of all shapes and sizes should consider, where appropriate, utilizing the TAS in appropriate circumstances where they are encountering delays in the administration of their tax disputes.

This post is the first in a four-part series addressing highlights of the Annual Report that may be of interest to our readers.



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Chief Counsel William J. Wilkins Resigns Effective January 20, 2017

by | Jan 12, 2017 |

William J. Wilkins has tendered his resignation as Chief Counsel effective as of noon on January 20, 2017. Mr. Wilkins was nominated by President Obama to replace Donald L. Korb, who resigned from the position in late 2008. Mr. Wilkins was confirmed by the Senate to serve as Chief Counsel in July 2009. Prior to becoming Chief Counsel, Mr. Wilkins was a partner with WilmerHale and previously worked for the United States Senate Committee on Finance and as an associate at King & Spalding. He previously served as Chair of the Section of Taxation of the American Bar Association. William M. Paul has been named as Acting Chief Counsel.

The Chief Counsel is appointed by the President of the United States with the advice and consent of the United States Senate. The Chief Counsel is the chief legal advisor to the Commissioner of Internal Revenue on all matters pertaining to the interpretation, administration and enforcement of the Internal Revenue Laws and provides legal guidance and interpretive advice to the Internal Revenue Service, Treasury and taxpayers.



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IRS Audits and IRS Appeals — A Year in Review

by | Jan 6, 2017 | , , ,

This year has been marked with substantial changes in the manner in which the Internal Revenue Service (IRS) operates. Shrinking resources and retiring IRS professionals have marred the IRS and its efficiency. The pervasive theme for 2016 was trying to do the job with fewer resources.  For example, IRS audits continue to devolve with standardized information document requests (IDRs), international practice unit guides and issue-focused examinations (mostly focused on international tax issues). We say “goodbye” to old friends [au revoir Compliance Assurance Process (CAP) Program] and hello to new rules (e.g., partnership entity audit rules and adjustments). And we have born witness to the slow evisceration of the independence of IRS Office of Appeals.

As we turn the corner to a new year, we expect the IRS’s war on taxpayers to manifest itself in “campaign” after “campaign,” reminiscent of the tiered issue system of days gone by. We expect coordination on a national level to reside with IRS “issue specialists” controlling and dictating audits and appeals, which will increasingly challenge the efficiency of pre-litigation resolution techniques. The end result of these contractions may very likely be an increase in tax litigation as frustration with the administrative process boils over. But the wild card, of course, is what changes will be ushered in by the new administration. Will it be business as usual, or will we see a complete overhaul of the system? Only time will tell, as we wait with bated breath for the ball to drop.  (more…)



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Tax Court Inconsistent on IRS’s Use of ‘Secret Subpoenas’

by | Dec 7, 2016 | , ,

We have previously written about Judge Mark V. Holmes’ dislike of the Internal Revenue Service’s (IRS) practice of issuing subpoenas to non-parties without informing the taxpayer. To recap, Tax Court Rule 147 allows a party to issue a subpoena to a non-party but does not specifically require that prior notice be given to the other side of the issuance of the subpoena. Rather, the subpoena is enforceable as of the beginning of the court’s trial session. In contrast, Fed. R. Civ. Proc. 45 requires notice to other parties before service of non-party subpoenas for the production of documents, information or tangible things.  In two prior orders, Judge Holmes ordered that the IRS must serve on taxpayers all non-party subpoenas together with all responses and documents that the non-parties produced have been in the form of unpublished orders. In his orders, Judge Holmes adopted the notification requirement of Fed. R. Civ. Proc. 45, and explained his rationale for his orders.

Unfortunately for taxpayers, Tax Court orders are not to be treated as precedent under Tax Court Rule 50(f), and therefore are not binding on any other Judge of the Tax Court. This point is illustrated by Judge Carolyn P. Chiechi’s December 2, 2016, orders in six related cases (see, e.g., Tangel v. Commissioner), where she stated that “[a] party that issues a subpoena under Rule 147(a) and/or (b) is not required to give prior notice to the other party.” Judge Chiechi further noted that under the facts and circumstances presented the IRS did not issue the subpoenas to harass, annoy, embarrass, oppress or cause an undue burden on the taxpayers. (more…)



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‘Medtronic v. Commissioner’: A Taxpayer Win on Transfer Pricing, Commensurate with Income, and Section 367 Issues

by | Nov 9, 2016 | , , , , ,

On June 9, 2016, the US Tax Court released its opinion in Medtronic, Inc. and Consolidated Subsidiaries v. Commissioner. The Internal Revenue Service had taken issue with the transfer pricing of transactions between Medtronic, Inc. and its Puerto Rican manufacturing arm under §482 of the Internal Revenue Code. Finding the IRS’s application of the comparable profits method (CPM) to the transactions arbitrary and capricious, and taking issue as well with the taxpayer’s comparable uncontrolled transaction (CUT) methodology, the court ultimately made its own decision as to arm’s-length pricing, arriving at new allocations by making adjustments to the taxpayer’s original CUT approach.

Read the full Tax Management International Journal article.

© 2016 Tax Management Inc., a subsidiary of The Bureau of National Affairs, Inc.



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