Document summaries for the week of Sept. 17, 2018
IRS modifies safe-harbor explanations for eligible rollover distributions
The IRS modified the two safe-harbor explanations in Notice 2014-74 that may be used to satisfy the requirement under Sec. 402(f) that certain information be provided to recipients of eligible rollover distributions. The safe-harbor explanations as modified by the IRS take into consideration certain legislative changes and recent guidance and include other clarifying changes. Notice 2018-74 (9/18/18).
Professional society did not receive unrelated business taxable income from advertisements in journal
The IRS National Office advised that Sec. 501(c)(6) professional society that publishes a scholarly journal under a contract with a for-profit entity did not receive unrelated business taxable income from advertising under the terms of the agreement with the publisher because commercial advertising was not regularly carried on by the professional society within the meaning of Sec. 512(a). TAM 201837014 (9/14/18).
Retirement buyback payments did not constitute a liability for determining insolvency
The Tax Court held that, because retirement buyback payments that a taxpayer deposited to his retirement account (as opposed to offsetting a debt to a third party) did not carry legal consequences for nonpayment, those payments did not constitute a liability under Sec. 108(d)(3). As a result, the taxpayer was not insolvent when he realized income attributable to discharge of indebtedness and was not entitled to exclude the discharge of indebtedness from gross income under Sec. 108(a)(1)(B). Jackson, T.C. Summ. 2018-43 (9/17/18).
Couple cannot deduct real estate taxes and mortgage interest paid by their S corporation
The Tax Court held that a couple that owned an S corporation, through which they conducted a steel transportation business, was not entitled to deduct payments made by the S corporation for the couple’s personal expenses such as real estate taxes and mortgage interest. The court also held that the couple failed to establish sufficient bases in their S corporation stock and thus were not entitled to deductions for losses incurred for the years in issue. Lawson, T.C. Summ. 2018-44 (9/17/18).
Split-dollar life insurance arrangement generated current taxable income
The Tax Court, citing its decision in Our Country Home Enterprises, Inc., 145 T.C. 1 (2015), held that an arrangement where a wholly owned S corporation made contributions of $1.8 million to an employee welfare benefit plan, which purchased a life insurance policy with a face value of $12.5 million covering the lives of the sole shareholder and his wife, generated current taxable income for the couple as a split-dollar life insurance arrangement under Regs. Sec. 1.61-22(b). The court concluded that the couple had current access to the entire cash value of the policy during 2011 and 2012 and that the economic benefit provided to them during those years was not limited to the cost of current life insurance protection, but also included the amount of policy cash value to which they had current access, to the extent that such amount was not actually taken into account for a prior tax year. De Los Santos, T.C. Memo. 2018-155 (9/18/18).
Termination payment was not for goodwill; payments were ordinary income
The Tax Court held that a termination payment received by a taxpayer in his capacity as the sole owner of a corporation that served only one client did not amount to the sale of goodwill but instead was a payment made for the taxpayer’s right to service the customers of his client and, thus, was ordinary income subject to self-employment tax. The court also found that the subsequent activity embarked on by the taxpayer — horseback-riding competitions — was carried on by the taxpayer’s company and thus the hobby loss rules of Sec. 183 did not apply. Potter, T.C. Memo. 2018-153 (9/17/18).
Court refuses to grant IRS summary judgment on issue of taxing worldwide income
The Tax Court refused to grant an IRS request for summary judgment on the issue of whether a taxpayer, who was a citizen of both Israel and Austria and who was married to an individual who was a citizen of the United States and Israel, was subject to U.S. tax on her worldwide income in the absence of a Sec. 6013(g) election to treat her as a resident of the United States. The court concluded that, without access to the couple’s returns, it could not discern what facts the couple provided to the IRS about the taxpayer’s residency, and thus it was not able to determine the nature of couple’s representation of the wife’s residency or whether the IRS had actual or constructive knowledge that the couple erroneously filed joint returns. Zuhovitzky, T.C. Memo. 2018-158 (9/20/18).
Wife cannot deduct mortgage interest on home she shared with husband
The Tax Court held that a married taxpayer, whose husband was the legal owner of real property used by the couple and their children as a second home, was not entitled to deduct the mortgage interest on that home on her separate tax return because she was not the equitable owner. While the couple had entered into an agreement providing that the taxpayer would assume responsibility for the mortgage and would be responsible for all mortgage, tax, and maintenance expenses, the court found that the taxpayer did not assume the burdens and benefits of ownership because she had no legal written right to use the home, did not bear the risk of loss, and failed to show that she paid all expenses since some of the household expenses were paid from a joint account. Frankel, T.C. Summ. 2018-45 (9/19/18).
Husband liable to tax due on income relating to wife’s fraudulent actions
The Tax Court held that a taxpayer was not eligible for innocent spouse relief, including equitable relief under Sec. 6015(f), for the nonpayment of tax liabilities relating to a joint tax return he filed with his wife because he knew or had reason to know that his wife could not pay the liability reported on their 2011 tax return because she was going to prison. Although the unpaid tax liability related to income from a fraud the wife perpetrated , the court noted that the relevant issue was not whether the taxpayer had knowledge of the fraud, it was whether he knew or had reason to know that the tax liability reported on the 2011 return would not and could not be paid by his wife. Benson, T.C. Memo. 2018-157 (9/19/18).
Taxpayer eligible for innocent spouse relief
The Tax Court held that a taxpayer was eligible for Sec. 6015(f) equitable relief after finding that it would be inequitable to hold her jointly and severally liable for an underpayment of taxes from a joint return filed with her ex-husband. The court reached its conclusion after determining that the taxpayer’s ex-husband instructed his accountant not to disclose information to the taxpayer about his finances and that the taxpayer’s ex-husband had changed the mailing address on file with the IRS so that the taxpayer would not receive correspondence from the IRS. Neitzer, T.C. Memo. 2018-156 (9/19/18).
Couple liable for tax on income they diverted to children
The Tax Court held that the majority of income paid to a couple’s children by a Sec. 501(c)(3) organization cofounded by the children’s father was really income to the taxpayer and his wife and that: (1) by purporting to pay five of his six children, instead of himself, the husband attempted to disguise his and his wife’s receipt of over $260,120 during the years at issue; (2) the couple exercised complete dominion and control over the bank accounts, including those into which the couple and their children deposited cash from the tax-exempt organization; and (3) the couple’s children would regularly endorse checks they received over to their father, who then either deposited the checks into his and his wife’s bank account or cashed them and used that cash to pay the couple’s household expenses. The court also concluded that the couple failed to carry their burden of establishing that they were not liable for the accuracy-related penalties for underpayments attributable to negligence, or, alternatively, substantial understatements of income tax. Ray, T.C. Memo. 2018-160 (9/20/18).
IRS modifies certain safe harbor explanations used to satisfy Sec. 402(f) requirement
The IRS announced the modifications of two safe harbor explanations in Notice 2014-74 that may be used to satisfy the requirement under Sec. 402(f) that certain information be provided to recipients of eligible rollover distributions. The safe harbor explanations, as modified, take into consideration certain legislative changes and recent guidance, including changes related to qualified plan loan offsets (as defined in Section 13613 of the Tax Cuts and Jobs Act of 2017, P.L. 115-97) and guidance issued on self-certification of eligibility for a waiver of the deadline for completing a rollover (described in Rev. Proc. 2016-47), and includes other clarifying changes. Notice 2018-74 (9/19/18).
Certain moving reimbursements to employees are not subject to federal income or employment taxes
The IRS issued guidance providing that reimbursements an employer pays to an employee in 2018 for qualified moving expenses incurred in a prior year are not subject to federal income or employment taxes. The same is true if the employer pays a moving company in 2018 for qualified moving services provided to an employee prior to 2018. Notice 2018-75 (9/21/18).
Distributions from CFCs were taxable as ordinary income; ‘act of state’ doctrine did not apply
The Tax Court held that (1) because a Hong Kong controlled foreign corporation (CFC) was neither a domestic corporation nor a qualified foreign corporation, a $12.3 million dividend paid to the taxpayers by the CFC was taxable at ordinary income rates, and (2) the taxpayers received a constructive dividend of $21.1 million, also taxed as ordinary income, from a Cypriot CFC that had canceled a debt owed to it by an S corporation owned by the taxpayers. The court also concluded that the taxpayers had not established that the “act of state” doctrine applied to require that the court accord dispositive effect to a residency certificate issued by the Cyprus Ministry of Finance asserting that the Cypriot CFC was a resident of Cyprus during 2009. Smith, 151 T.C. No. 5 (9/18/18).
German resident working for U.S. government not entitled to foreign earned income exclusion
The Tax Court held that, under 22 U.S.C. Section 2669(c), a German resident who signed a personal service agreement with the U.S. State Department is considered an employee of the U.S. government for income tax purposes and, therefore, is not entitled to the Sec. 911 foreign earned income exclusion for the wages paid to him. The court noted that, under Section 2669(c), individuals are employees of the federal government for purposes of any law not administered by the Office of Personnel Management and Sec. 911, which is administered by the Secretary of the Treasury, is not a law administered by the Office of Personnel Management. O’Kagu, 151 T.C. No. 6 (9/19/18).
IRS to amend Sec. 871(m) regulations
The IRS announced that it intends to amend the Sec. 871(m) regulations to delay the effective/applicability date of certain rules in those final regulations. This IRS also said it was extending the phase-in period provided in Notice 2017-42 and Notice 2018-5 for certain provisions of the Sec. 871(m) regulations. Notice 2018-72 (9/20/18).
IRS issues October 2018 applicable federal rates
The IRS issued a ruling that prescribes the applicable federal rates for October 2018. This guidance provides various prescribed rates for federal income tax purposes including the applicable federal interest rates, the adjusted applicable federal interest rates, the adjusted federal long-term rate, and the adjusted federal long-term tax-exempt rate and are determined as prescribed by Sec. 1274. Rev. Rul. 2018-27 (9/18/18).
Failure to make estimated tax payment precludes qualification for collection alternatives
The Tax Court sustained an IRS filing of a Notice of Federal Tax Lien (NFTL) and a proposed levy to collect a taxpayer’s unpaid 2011 and 2013 federal income tax liabilities after finding that the taxpayer did not qualify for a collection alternative due to his failure to comply with estimated tax payment obligations. The court held that it was not an abuse of discretion for the IRS to reject a collection alternative on the ground of the taxpayer’s current noncompliance with his estimated tax payment obligations. Hartmann, T.C. Memo. 2018-154 (9/17/18).
IRS waives dyed fuel penalty in North Carolina
In response to shortages of undyed diesel fuel caused by Hurricane Florence, the IRS will not impose a penalty when dyed diesel fuel is sold for use or used on the highway in North Carolina, effective from Sept. 17 through Sept. 28. IR-2018-189 (9/18/18).
Taxpayer did not have reasonable cause for not timely paying tax
The Eighth Circuit affirmed a district court decision dismissing the taxpayer's suit for refund, abatement, and recovery of delinquent tax penalties. The court held that the taxpayer's reliance on third-party tax advice did not give it reasonable cause for not timely paying its employment taxes. Deaton Oil Co., LLC, No. 17-2326 (8th Cir. 9/21/18).
Failure to attach Form 8283 to partnership return precludes charitable donation deduction
The Tax Court held that, because a partnership failed to attach to its 2009 tax return a fully completed “appraisal summary” on Form 8283, Noncash Charitable Contributions, and did not disclose on that form the cost or adjusted basis of a conservation easement that it had donated, the partnership was not entitled to a charitable contribution deduction for the donation because the substantiation requirements of Regs. Sec. 1.170A-13(c) were not met. However, for a penalty the IRS assessed the court found that disputes of material fact existed as to whether the partnership had reasonable cause for failing to supply a fully completed appraisal summary. Belair Woods, LLC, T.C. Memo. 2018-159 (9/20/18).
IRS addresses change in method relating to new FASB and IASB rules
The IRS modified Rev. Proc. 2018-29 and Rev. Proc. 2018-31 to allow a taxpayer that adopted a method of recognizing revenues described in the new financial accounting standards issued by the Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) early to change its method of accounting for the recognition of income for federal income tax purposes. The procedure is effective on May 10, 2018, and may only be used for a tax year ending on or before May 10, 2021. Rev. Proc. 2018-49 (9/19/18).