Federal Tax Bulletin - Issue 75 - November 10, 2014

Year-End Business Tax Planning Focuses on Tangible Property Rules and Tax Extenders

It's that time of year for tax practitioners to reach out to their business clients with last-minute tips for lowering 2014 taxes. The following article on year-end planning for businesses is the second and final installment in Parker's year-end tax planning series. For in-depth discussion of year-end planning for individuals, see the October 24, 2014, issue of Parker's Federal Tax Bulletin.

CLIENT LETTERS for both businesses and individuals are available online now:

Practice Aid: See ¶320,134 for a sample client letter dealing with 2014 year-end planning issues for businesses, and ¶320,135 for a year-end letter for individuals.

While 2014 saw developments in the courts and the IRS that could impact a client's tax bill, there is still a big question mark as to whether Congress will vote to pass the Expiring Provisions Improvement Reform and Efficiency (EXPIRE) Act of 2014 (i.e., the tax extenders bill), which was approved by the Senate Finance Committee earlier this year. Many believe that Congress is waiting until after the November elections to bring the bill to a vote. Even if the legislation is not passed until 2015, the provisions could still be made retroactive to 2014, as has been done in the past.

Perhaps the biggest development for businesses in 2014 that doesn't require guesswork, and which may require certain actions before December 31, is the IRS's overhaul of the tangible property rules. These rules affect any business that owns property and may require some modifications to a client's fixed asset policies to either comply with, or take advantage of, the new rules. The rules also offer opportunities for filing amended returns and reaping tax refunds for clients.

Tangible Property Rules

Safe Harbor Election for Expensing Items

One of the more favorable rules in the tangible property regulations is the $5,000 de minimis safe harbor election for expensing an item rather than capitalizing it. To take advantage of this election, the taxpayer must have had written accounting procedures in place at the beginning of the year and have been following those rules for book and tax accounting purposes. If such procedures were in place at the beginning of 2012 or 2013, the election can be made for those years as well but will require amended returns. If the taxpayer did not have such procedures in place, it's not too late to implement them for 2015, but it must be done by the end of this year.

In addition, the taxpayer must have an applicable financial statement (AFS) to rely on the $5,000 de minimis safe harbor. Without an AFS, the taxpayer may rely on the de minimis safe harbor only if the amount paid for property does not exceed $500 per invoice, or per item as substantiated by the invoice. If the cost exceeds $500 per invoice (or item), then the taxpayer cannot use the de minimis safe harbor. Alternatively, if the taxpayer does not qualify for the $5,000 safe harbor, the taxpayer may still be able to deduct amounts over $500 or even over $5,000, if the taxpayer has a written policy in place, follows it for book purposes, and can prove that it meets materiality thresholds. Various types of statements qualify as an AFS, so if the taxpayer doesn't currently have an AFS, practitioners should evaluate whether one of the available options will work for a client's business.

Finally, the de minimis safe harbor rule also applies to amounts paid for property having a useful life less than a certain period of time.

Partial Disposition Election

Another favorable item in the final tangible property regulations that may save a client some money this year is the partial disposition election. While initially the election could only be made for tax years beginning before January 1, 2014, the IRS extended the time for making the election to any tax year beginning before January 1, 2015. Using this election, the taxpayer can claim a loss on the disposition of a structural component of a building or on the disposition of a component of any other asset without needing to make a general asset account election. The partial disposition rule also minimizes circumstances in which an original part and any subsequent replacements of the same part must be simultaneously capitalized and depreciated. Thus, for example, if the taxpayer replaced an engine in a truck, the old engine would generally continue being depreciated as part of the truck, while the new engine would also be depreciated. Under the partial disposition rule, the taxpayer can now retire the old engine and recognize a loss on that disposition.

Deductions Available for Rehabilitation of Buildings and Other Property

The final rules contain a routine maintenance safe harbor that allows the expensing, rather than capitalizing, of costs of performing certain routine maintenance activities for buildings or the structural components, as well as other property. If a taxpayer has done any such maintenance this year or plans to do so next year, it may fall under the "routine" safe harbor and be currently deductible. Practitioners should review any changes to maintenance routines going forward to ensure that such costs, when appropriate, qualify for immediate expensing.

Bonus Depreciation

Although bonus depreciation is not currently available for 2014, there is a good possibility it will return if the tax extenders bill is passed. As previously noted, the drawback is that taxpayers may not know until late 2014 or even early 2015 whether purchases in 2014 will qualify for the bonus depreciation and the amount that will qualify. On the assumption that the bill passes as written, a 50-percent additional first-year depreciation deduction would be effective for qualified property purchased and placed in service before 2016, or before 2017 for certain longer-lived and transportation assets.

Section 179 Deduction

The Section 179 deduction is also in limbo until the fate of the tax extenders bill is known. Currently, for taxable years beginning in 2014 and thereafter, businesses may immediately expense up to $25,000 of Section 179 property annually, with a dollar for dollar phase-out of the maximum deductible amount for purchases in excess of $200,000. If the EXPIRE bill becomes law, it would increase the maximum amount and phase-out threshold in 2014 and 2015 to the levels in effect in 2010 through 2013 ($500,000 and $2 million respectively). The law would also extend the definition of Section 179 property to include computer software and qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property.

Research Tax Credit

Perhaps one of the most popular provisions in the tax extenders bill on both sides of the aisle is the extension of the tax research credit through 2015. It is almost a given that if any provision gets extended, this one will. Additionally, the EXPIRE bill would allow qualifying startup businesses to claim unused credits against their payroll tax after applying the credit to income tax liability. And it is worth noting that in 2014, two taxpayer-favorable court cases (Trinity Industries, Inc. v. U.S., 2014 PTC 326 (5th Cir. 2014); Suder v. Comm'r, T.C. Memo. 2014-201) rejected IRS attempts to rein in taxpayers' ability to take full advantage of this credit. If a taxpayer has taken research tax credits in the past couple of years, it may be worthwhile to review the calculation of those credits in light of these cases to see if additional expenses can be claimed based on the court holdings.

S Corporations

Earlier this year, the IRS loosened the rules relating to S corporation shareholder debt. Under the new rules, it is easier for such debt to give the shareholder basis against which the shareholder can deduct losses from the S corporation. The rules generally eliminated the "actual economic outlay" doctrine replacing it with a clearer "bona fide debt" requirement, and made the changes retroactive. Thus, if a shareholder previously could not deduct losses because the actual economic outlay doctrine wasn't met, amended returns may be in order.

Real Estate Developers

For real estate developers, two court cases this year (Shea Homes, Inc. v. Comm'r, 142 T.C. No. 3 (2014); Howard Hughes Company, LLC v. Comm'r, 142 T.C. No. 20 (2014)) drew a distinction between the type of contracts that will qualify as home construction contracts eligible for the completed contract method and those that will not. As a result of these decisions, it is worth taking a second look at client's construction contracts to see if they meet the requirements for using the completed contract method.

Affordable Care Act ("Obamacare")

The Affordable Care Act includes several provisions that may affect business clients, including the shared responsibility provision, also known as the "employer mandate." Under the employer mandate, which is effective January 1, 2015, a penalty is imposed on certain large employers that do not offer health insurance coverage, offer health insurance coverage that is unaffordable, or offer health insurance coverage that consists of a plan under which the plan's share of the total allowed cost of benefits is less than 60 percent.

It is important to note that this provision only applies to an employer who employed an average of at least 50 full-time employees on business days in the preceding calendar year. Additionally, subject to certain requirements, no employer shared responsibility payments will apply during 2015 for employers with fewer than 100 full-time employees.

The penalty is assessed for any month in which a full-time employee is certified to the employer as having purchased health insurance through an Exchange with respect to which a premium tax credit or cost-sharing reduction is allowed or paid to the employee.

Observation: It is worth noting that several courts have ruled that insurance purchased on a federal Exchange does not qualify for the subsidies that trigger the tax on the employer. This has the possibility of negating the penalty tax on employers. The issue may end up before the Supreme Court, which would determine the ultimate outcome.

Small Employer Credit

With respect to health insurance, certain small employers may be eligible for a credit for contributions to purchase health insurance for employees. The amount of the credit increased in 2014 to 50 percent (35 percent for tax-exempt organizations) of premiums paid. The tax credit is subject to a reduction for employers with more than 10 full-time employees or if average annual full-time employee wages exceed $25,000.

Mass Transit Benefits

For taxpayers that subsidize their employee's commuting expenses, there is a tax extender provision that would increase, for 2014 and 2015, the monthly exclusion from income for employer-provided transit and vanpool benefits from $130 to $250, so that it would be the same as the exclusion for employer-provided parking benefits. Also, the definition of qualified bicycle commuting reimbursement would be modified to include expenses associated with the use of a bike sharing program for two years. The benefits that are excludible from income would not be includible in the employee's wages on Form W-2 and would be deductible by employers as fringe benefits.

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Proposed Partnership Regulations Embrace "Hypothetical Sale" Approach for Hot Asset Distributions

On November 3, the IRS issued proposed regulations embracing the "hypothetical sale" approach for measuring whether a distribution reduces a partner's interest in the partnership's Section 751 property, and allowing greater flexibility in determining tax consequences when a reduction occurs. The proposed regulations also provide new rules under Code Sec. 704(c) to help partnerships compute partner gain in Section 751 property more precisely, and describe how basis adjustments under Code Secs. 734(b) and 743(b) affect the computation of partners' interests in Section 751 property.

The proposed regulations affect partners in partnerships that own unrealized receivables and inventory items and that make a distribution to one or more partners. Issued in REG-151416-06 (11/03/14), the regulations are generally proposed to apply to distributions occurring in taxable periods ending on or after the date they are finalized.

Background to Code Section 751

In 1954, Congress enacted Code Sec. 751 to prevent the conversion of potential ordinary income into capital gain by way of partnership distributions. Code. Sec. 751(a) provides that amounts a transferor partner receives in exchange for all or part of that partner's interest in the partnership's unrealized receivables and inventory items (Section 751 property) is considered as an amount realized from the sale or exchange of property other than a capital asset. Further, Code Sec. 751(b) overrides the nonrecognition provisions of Code Sec. 731 to the extent a partner receives a distribution from the partnership that causes a shift between the partner's interest in the partnership's Section 751 property and the partner's interest in the partnership's other property. Whether Code Sec. 751(b) applies depends on the partner's interest in the partnership's Section 751 property before and after a distribution. Read more...

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Healthcare Plans Lacking Hospital Coverage Do Not Meet Employer Mandate Requirements

The IRS has determined that plans lacking coverage for in-patient hospitalization services or for physician services do not meet the Affordable Care Act's minimum value (MV) requirement; large employers adopting such a plan may be exposed to penalties under the healthcare law's employer mandate regardless of whether the plan passes muster with IRS's online MV Calculator. Notice 2014-69 (11/04/14).

In conjunction with the Department of Health and Human Services (HHS), the IRS has concluded that certain group health plans that do not provide coverage for in-patient hospitalization services or for physician services (Non-Hospital/Non-Physician Services Plans) do not meet the minimum value requirements under Code Sec. 36B. According to the IRS, such plans have been designed by their promoters to garner favorable determinations from the online MV calculator even though the plans do not provide minimum value as envisioned under Code Sec. 36B. A plan is considered to provide minimum value if it covers at least 60 percent of the total allowed cost of benefits that are expected to be incurred under the plan.

The IRS states in Notice 2014-69 that Non-Hospital/Non-Physician Services Plans will not be considered as meeting the Code Sec. 36B minimum value requirement, even if the MV calculator indicates otherwise. Large employers (generally those with 50 or more employees) adopting such plans may be subject to penalties under Code Sec. 4980H.

Observation: Penalties for employers offering coverage that fails the MV requirement are assessed under Code Sec. 4980H(b). Such penalties can be as high as $3,000 per year ($250 per month) for each employee who is offered coverage under an employer-sponsored healthcare plan and instead purchases health insurance on an exchange and qualifies for a Code Sec. 36B premium assistance tax credit. Generally, an employee who is eligible to enroll in an employer-sponsored plan that meets the MV requirement will not qualify for a premium assistance tax credit.

The IRS has indicated that it will soon propose regulations implementing the provisions discussed in Notice 2014-69, with the intention of finalizing such regulations in 2015. For employers that, based on reliance on the MV Calculator, have entered into a binding written commitment to adopt, or have begun enrolling employees in, a Non-Hospital/Non-Physician Services Plan before November 4, 2014 (a Pre-November 4, 2014 Plan), the IRS anticipates that the final regulations will not apply until after the end of the plan year that begins no later than March 1, 2015.

Pending issuance of final regulations, employees will not be required to treat a Non-Hospital/Non-Physician Services Plan as providing minimum value for purposes of an employee's eligibility for a premium assistance tax credit under Code Sec. 36B, regardless of whether the plan is a Pre-November 4, 2014 Plan.

An employer that offers a Non-Hospital/Non-Physician Services Plan (including a Pre-November 4, 2014 Plan) to an employee (1) is prohibited from stating or implying in any disclosure that the offer of coverage under the Non- Hospital/Non-Physician Services Plan precludes an employee from obtaining a premium assistance tax credit, if otherwise eligible, and (2) must timely correct any prior disclosures that stated or implied that the offer of the Non-Hospital/Non-Physician Services Plan would preclude an otherwise tax-credit-eligible employee from obtaining a premium assistance tax credit.

For a discussion of the large employer healthcare mandate and related penalties, see Parker Tax ¶191,100.

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IRS Releases Inflation-Adjusted Amounts for 2015

The IRS has released annual inflation-adjusted amounts for deductions, credits, phaseouts, and retirement plan limitations for 2015. Rev. Proc. 2014-61(10/30/14); IR-2014-99 (10/23/14).

The following is a roundup of the key inflation adjusted tax numbers for 2015.

Taxable Income Subject to the Maximum Rates

The tax rate of 39.6 percent affects singles whose income exceeds $413,200 and married taxpayers filing a joint return whose income exceeds $464,850 (up from $406,750 and $457,600, respectively). The other marginal rates 10, 15, 25, 28, 33 and 35 percent and the related income tax thresholds are described in the revenue procedure.

Standard Deduction Amounts

The standard deduction rises to $6,300 for singles and married persons filing separate returns and $12,600 for married couples filing jointly (up from $6,200 and $12,400, respectively). The standard deduction for heads of household rises to $9,250 (up from $9,100).

The standard deduction amount for an individual who may be claimed as a dependent by another taxpayer cannot exceed the greater of (1) $1,050 (up from $1,000 in 2014), or (2) the sum of $350 and the individual's earned income (the same as in 2014).

The additional standard deduction amount for the aged or the blind is $1,250 (up from $1,200 in 2014). The additional standard deduction amount is $1,550 (the same as in 2014) if the individual is also unmarried and not a surviving spouse.

Itemized Deduction Limitation

The limitation for itemized deductions to be claimed on tax year 2015 returns of individuals begins with incomes of $258,250 or more ($309,900 for married couples filing jointly).

Personal Exemption and Phaseout Amounts

The personal exemption for tax year 2015 rises to $4,000 (up from the 2014 exemption of $3,950). However, the exemption is subject to a phase-out that begins with adjusted gross incomes of $258,250 ($309,900 for married couples filing jointly). It phases out completely at $380,750 ($432,400 for married couples filing jointly.)

Alternative Minimum Tax Exemption

The Alternative Minimum Tax exemption amount for tax year 2015 is $53,600 ($83,400, for married couples filing jointly). The 2014 exemption amount was $52,800 ($82,100 for married couples filing jointly).

Social Security Wage Base

The maximum wage base for the social security portion of FICA and the Self-Employment Tax for 2015 is $118,500, up from $117,000 in 2014 (announced by the Social Security Administration at 78 F.R. 66413, October 28, 2014).

Earned Income Credit

The 2015 maximum Earned Income Credit amount is $6,242 for taxpayers filing jointly who have three or more qualifying children (up from a total of $6,143 for tax year 2014). The revenue procedure has a table providing maximum credit amounts for other categories, income thresholds and phaseouts.

Estate Tax Exclusion

Estates of decedents who die during 2015 have a basic exclusion amount of $5,430,000 (up from a total of $5,340,000 for estates of decedents who died in 2014).

Limit on Employee Contributions to FSAs

The annual dollar limit on employee contributions to employer-sponsored healthcare flexible spending arrangements (FSA) rises to $2,550 (up $50 from the amount for 2014).

Small Employer Health Insurance Credit

Under the small business health care tax credit, the maximum credit is phased out based on the employer's number of full-time equivalent employees in excess of 10 and the employer's average annual wages in excess of $25,800 for tax year 2015 (up from $25,400 for 2014).

Gift Tax Exclusions

The annual exclusion for gifts is $14,000 (which is the same as in 2014).

For 2015, the exclusion from tax on a gift to a spouse who is not a U.S. citizen is $147,000 (up from $145,000 for 2014).

Kiddie Tax

The amount used to reduce the net unearned income reported on a child's tax return subject to the kiddie tax, is $1,050 (up from $1,000 in 2014).

Foreign Earned Income Exclusion Amount

For 2015, the foreign earned income exclusion breaks the six-figure mark, rising to $100,800 (up from $99,200 for 2014).

U.S. Savings Bond Interest Exclusion for Higher Education Expenses

The exclusion from income for U.S. savings bond interest for taxpayers who pay qualified higher education expenses, begins to phase out for modified adjusted gross income above $115,750 for joint returns (up from $113,950 in 2014) and $77,200 (up from $76,000 in 2014) for other returns. The exclusion is completely phased out for modified adjusted gross income of $145,750 (up from $143,950 in 2014) for joint returns and $92,200 (up from $91,000 in 2014) for other returns.

Medical Savings Accounts

For purposes of medical savings accounts, a "high deductible health plan" means, for self-only coverage, a health plan that has an annual deductible that is not less than $2,200 (same as in 2014) and not more than $3,300 (up from $3,250 in 2014), and under which the annual out-of-pocket expenses required to be paid (other than for premiums) for covered benefits do not exceed $4,450 (up from $4,350 in 2014).

For family coverage in tax years beginning in 2015, the term "high deductible health plan" means a health plan that has an annual deductible that is not less than $4,450 (up from $4,350 in 2014) and not more than $6,650 (up from $6,550 in 2014), and under which the annual out-of-pocket expenses required to be paid (other than for premiums) for covered benefits do not exceed $8,150 (up from $8,000 in 2014).

Long-Term Care Premiums

The limitations for eligible long-term care premiums includible in the term "medical care" are: for individuals with an attained age of 40 or less before the close of the tax year, $380 (up from $370 in 2014); more than 40 but not more than 50, $710 (up from $700 in 2014); more than 50 but not more than 60, $1,430 (up from $1,400 in 2014); more than 60 but not more than 70, $3,800 (up from $3,720 in 2014); and more than 70, $4,750 (up from $4,660 in 2014).

Attorney Fee Award Limitation

The attorney fee award limitation is $200 per hour (up from $190 in 2014).

Child Adoptions

The credit allowed for an adoption of a child with special needs is $13,400 (up from $13,190 in 2014). The maximum credit allowed for other adoptions is the amount of qualified adoption expenses up to $13,400 (up from $13,190 in 2014). The available adoption credit begins to phase out for taxpayers with modified adjusted gross income in excess of $201,010 (up from $197,880 in 2014) and is completely phased out for taxpayers with modified adjusted gross income of $241,010 (up from $237,880 in 2014) or more.

Hope Scholarship Credit/Lifetime Learning Credit

The Hope Scholarship Credit is an amount equal to 100 percent of qualified tuition and related expenses not in excess of $2,000 plus 25 percent of those expenses in excess of $2,000, but not in excess of $4,000 (the same as for 2014). Accordingly, the maximum Hope Scholarship Credit is $2,500 (the same as for 2014). A taxpayer's modified adjusted gross income in excess of $80,000 ($160,000 for a joint return) (the same as for 2014) is used to determine the reduction in the amount of the Hope Scholarship Credit otherwise allowable. A taxpayer's modified adjusted gross income in excess of $55,000 ($110,000 for a joint return) (up from $54,000 and $108,000, respectively, in 2014) is used to determine the reduction in the amount of the Lifetime Learning Credit otherwise allowable.

Qualified Transportation Fringe Benefit

For taxable years beginning in 2014, the monthly limitation regarding the aggregate fringe benefit exclusion amount for transportation in a commuter highway vehicle and any transit pass is $130 (same as in 2014). The monthly limitation for the fringe benefit exclusion amount for qualified parking is $250 (same as in 2014).

Retirement Plans

The 2015 tax-related cost-of-living adjustments (COLAs) for retirement plans were released in IR-2014-99 (10/23/14) and were covered in detail in the October 24, 2014, issue of Parker's Federal Tax Bulletin. The following is a brief summary of the key changes:

IRA Contributions. The limit on annual contributions to an individual retirement arrangement (IRA) remains unchanged at $5,500. The additional catch-up contribution limit for individuals aged 50 and over is not subject to an annual cost-of-living adjustment and remains $1,000.

IRA Phaseout Amounts. The deduction for taxpayers making contributions to a traditional IRA is phased out for singles and heads of household who are covered by a workplace retirement plan and have modified adjusted gross incomes (AGI) between $61,000 and $71,000 (up from $60,000 and $70,000 in 2014). For married couples filing jointly, in which the spouse who makes the IRA contribution is covered by a workplace retirement plan, the income phase-out range is $98,000 to $118,000 (up from $96,000 to $116,000). For an IRA contributor who is not covered by a workplace retirement plan and is married to someone who is covered, the deduction is phased out if the couple's income is between $183,000 and $193,000 (up from $181,000 and $191,000 in 2014). For a married individual filing a separate return who is covered by a workplace retirement plan, the phase-out range is not subject to an annual cost-of-living adjustment and remains $0 to $10,000.

Roth IRA AGI Phaseout Amounts. The AGI phase-out range for taxpayers making contributions to a Roth IRA is $183,000 to $193,000 for married couples filing jointly (up from $181,000 to $191,000 in 2014). For singles and heads of household, the income phase-out range is $116,000 to $131,000 (up from $114,000 to $129,000 in 2014). For a married individual filing a separate return, the phase-out range is not subject to an annual cost-of-living adjustment and remains $0 to $10,000.

Contributions to SEP IRAs and other Defined Contribution Plans. The Code Sec. 415 limitation on contributions to SEP IRAs and other defined contribution plans is increased in 2015 to $53,000 (up from $52,000 in 2014).

Elective Deferrals. The elective deferral (contribution) limit for employees who participate in 401(k), 403(b), most 457 plans, and the federal government's Thrift Savings Plan increased to $18,000 for 2015 (up from $17,500 for 2014).

Catch-up Contributions. The catch-up contribution limit for employees aged 50 and over who participate in 401(k), 403(b), most 457 plans, and the federal government's Thrift Savings Plan increased to $6,000 (up from $5,500 in 2014). The dollar limitation under Code Sec. 414(v)(2)(B)(ii) for catch-up to a SIMPLE 401(k) plan described in Code Sec. 401(k)(11) or a SIMPLE IRA described in Code Sec. 408(p) for individuals aged 50 or over is increased to $3,000 (up from $2,500 in 2014).

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Challenge to IRS Annual Filing Season Program Dismissed; AICPA Can't Prove Risk of Injury

A federal district court dismissed the AICPA's challenge to the IRS's new Annual Filing Season Program, rejecting a myriad of theories claiming that the program would cause injury to AICPA members. AICPA v. IRS, 2014 PTC 555 (D. D.C. 10/27/14).

In 2011, the IRS issued regulations that mandated testing and continuing education (CE) for paid tax return preparers and created a Registered Tax Return Preparer (RTRP) credential. The RTRP designation was for preparers with valid preparer tax identification numbers PTINs, who passed an IRS competency test, and completed 15 hours of CE. However, in 2013, the D.C. Circuit Court of Appeals upheld the D.C. district court's holding in Loving v. IRS, 2013 PTC 10 (2013), that the IRS regulations mandating competency testing and CE for paid tax return preparers were invalid.

In the wake of the courts' rejection of the RTRP program, the IRS announced a new voluntary program, called the Annual Filing Season Program (Program), which it designed to encourage education and filing season readiness for paid tax return preparers. The program is scheduled to be in place for the 2015 filing season. Shortly after the IRS announcement, the American Institute of Certified Public Accountants (AICPA) filed a lawsuit in the D.C. district court alleging that the Program constitutes arbitrary and capricious agency action promulgated in excess of the agency's statutory authority. The IRS moved to dismiss the complaint, contending that the AICPA whose membership consists of individual CPAs and accounting firms, rather than uncredentialed tax preparers lacks standing to challenge the Program.

The AICPA put forth three theories for why it was entitled to bring suit against the IRS regarding the Program. It claimed that its members: (1) employ uncredentialed tax preparers who will be injured by the additional regulatory burdens created by the Program; (2) will be directly injured by the Program because it requires firms to take reasonable steps to ensure that their newly regulated employees comply with Circular 230; and (3) will suffer injuries because the rule will cause confusion among consumers.

To have standing to sue: (1) a party must have suffered an actual or imminent injury; (2) there must be a causal connection between the injury and the conduct complained of; and (3) it must be likely that the injury will be redressed by a favorable decision.

The court held that the AICPA did not have standing to sue the IRS over its implementation of the Program, and dismissed the case. The court noted that the AICPA's first argument was a nonstarter, as an employer does not have standing to bring claims based on the injuries of its employees. Additionally, any injuries to the employees that might affect employers in the form of reimbursed compliance costs would be self-inflicted, as employers are not required to reimburse the cost of voluntary compliance with the Program.  

Next, the court pointed out that the Program would not increase any AICPA member's supervisory duties under Circular 230, contrary to what the AICPA claimed, as the duty extends to all employees involved in tax preparation, regardless of the preparer's status.  

Finally, the court was unconvinced that the Program would cause confusion among the AICPA members' customers as to the credentials of participating preparers, stating that this fear was far too speculative to support a claim of injury. As none of the AICPA's claims offered reasonable ground for believing an injury would arise from the Program, the court held that the AICPA did not have standing to sue, and dismissed the case.

For more on the Registered Tax Return Preparer program and its subsequent shut down, see Parker Tax ¶ 271,127

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Innocent Spouse Relief Granted Due to Lack of Knowledge or Control of Corporate Finances

Despite being listed as a director and incorporator, the taxpayer had no access to or control over corporate accounts, and had no knowledge of the distributions to her husband that gave rise to a tax deficiency; thus, the taxpayer was entitled to innocent spouse relief. Varela vs. Comm'r, T.C. Memo. 2014-222 (10/22/14).

Jose Lozano was the president and sole shareholder of JL Unique Homes (JL), a C corporation engaged in the business of building homes. His wife, Elizabeth Varela, was initially named a director and incorporator of the company, but was never employed by JL, never performed any services as a director, and never received dividends; her only contribution was to briefly help a new office manager organize paperwork.

Mr. Lozano paid his share of household and other expenses out of JL's corporate accounts. Ms. Varela did not have access to those accounts or to the corporation's books and records. She did not learn of Mr. Lozano's withdrawal of funds from the corporation until 2010. In addition, on their 2007 and 2008 returns, Ms. Varela and Mr. Lozano reported, among other items, wages, nonemployee compensation from JL, and a capital gain. Attached to each of the returns was a Schedule E, Supplemental Income and Loss, on which they reported losses in connection with several rental properties. Only Mr. Lozano and JL's employees, not Ms. Varela, had information relating to the income and expenses associated with the rental properties. The properties were managed by Mr. Lozano and JL's employees, and rents received went to an account to which Ms. Varela did not have access.

After examining the couple's joint returns for 2007 and 2008, the IRS determined that the withdrawals were constructive dividends, made adjustments to the rents and expenses reported in connection with the rental properties and assessed a deficiency. Ms. Varela did not contest the adjustments, but filed a petition for innocent spouse relief on the grounds that she had no knowledge of her husband's withdrawals from JL and no knowledge of the understatement with respect to the rental properties..

Generally, under Code Sec. 6013(d)(3), married taxpayers are jointly and severally liable for the tax reported or reportable on their returns. Code Sec. 6015, however, allows a spouse to obtain some relief from liability in certain circumstances. Code Sec. 6015 provides for three types of innocent spouse relief:  

(1) full or apportioned relief under Code Sec. 6015(b),  

(2) proportionate tax relief for divorced or separated taxpayers under Code Sec. 6015(c), and  

(3) equitable relief under Code Sec. 6015(f) when relief is unavailable under the other sections.  

In particular, Code Sec. 6015(b) provides relief to a joint filer if on the joint return there is an understatement of tax attributable to one of the filers, the other establishes that he or she neither knew nor had reason to know of the understatement when the return was signed, and it would be inequitable to hold that filer liable for the other's error. Under Alt v. Comm'r, 119 T.C. 306 (2002) factors to consider in determining if liability would be inequitable include (1) whether there has been a significant benefit to the spouse claiming relief and (2) whether the failure to report the correct tax liability on the joint return results from concealment, overreaching, or any other wrongdoing on the part of the other spouse.

Over the protests of Mr. Lozano, the Tax Court and the IRS agreed that Ms. Varela was entitled to full relief under Code Sec. 6015(b). The court noted that both the 2007 and 2008 returns contained understatements of tax attributable to constructive dividends from JL and erroneous deductions for rental property expenses, all of which were attributable to Mr. Lozano. Additionally, even though Ms. Varela was listed as a director and incorporator of JL, she could avoid liability, as she did not actually participate in the management of the company, was never issued formal stock certificates, and never received a formal dividend. Ms. Varela also had no hand in managing the rental properties, nor did she have access to information about the related expenses.

Finally, the court found that Ms. Varela neither knew nor had reason to know of the understatements of tax, as she had no access to either Mr. Lozano's or JL's bank accounts, and thus could not know that he was improperly withdrawing funds from the company. The court realized Mr. Lozano concealed the fact that the withdrawn funds were inappropriately taken from JL, and Ms. Varela did not learn of his withdrawal of the funds until 2010, during the couple's divorce proceedings. Moreover, while the funds were used to pay household expenses for the family, the court was convinced that Ms. Varela did not receive a benefit that is traceable to the funds beyond ordinary support. Thus, the Tax Court held that Ms. Varela had established that she was entitled to relief from joint and several liability under the innocent spouse relief provisions of Code Sec. 6015.

For more on innocent spouse relief, see Parker Tax ¶ 260,560.

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Court Dismisses Suits Over Alleged IRS Mishandling of Requests for Tax-Exempt Status

The District Court for the District of Columbia dismissed nine allegations from 41 conservative organizations regarding alleged IRS misconduct relating to their requests for tax-exemption, for lack of jurisdiction and failure to state cognizable claims. Linchpins of Liberty v. U.S., 2014 PTC 552 (D. D.C. 10/23/14).

Forty-one organizations that sought or are still seeking tax-exempt status from the IRS filed a civil action against the United States, the IRS, and several IRS officials in their official and individual capacities, alleging multiple constitutional and statutory violations. The lawsuits sought both injunctive relief and monetary damages.

The organizations alleged that as early as February 2010, the IRS began identifying tax-exempt applications for additional scrutiny, including issuing letter requests for additional information from organizations with conservative-sounding names. An IRS "Be On The Lookout" (BOLO) list allegedly contained terms that would identify organizations with conservative-sounding names that had applied for tax-exempt status under Code Secs. 501(c)(3) or 501(c)(4).

According to the organizations, IRS officials pulled applications from conservative organizations, delayed processing those applications for sometimes well over a year, and then made harassing, probing, and unconstitutional requests for additional information. The organizations claimed this had a dramatic impact on targeted groups, causing many to curtail lawful activities, expend considerable unnecessary funds, lose donor support, and devote countless hours to responding to onerous IRS information requests that were outside the scope of legitimate inquiry.

After the organizations instituted this action, the IRS publicly released a memorandum on its website stating that the challenged IRS scheme had been suspended as of June 20, 2013, and that remedial steps had been taken to address the scheme. The IRS sought dismissal of the complaints.

After examining the allegations, the district court granted the IRS's motions to dismiss, finding that the court either did not have jurisdiction to hear the complaints or the complaints failed to state a cognizable claim.

For counts one through three of the complaint, the organizations sought monetary remedy, commonly known as a Bivens remedy. However, the court noted that circuit court precedent did not permit a Bivens remedy against the individual IRS defendants. A recent D.C. circuit case, Kim v. U.S., 632 F.3d 713 (2011), dealt with a similar situation where taxpayers sought monetary relief from IRS employees for alleged unconstitutional conduct. In that case, the court noted that it was well established that Bivens remedies do not exist against officials sued in their official capacities. As the court found no compelling reason to depart from this precedent, it dismissed counts one through three for failure to state a cognizable claim (in effect, concluding that the complaints did not contain enough factual matter to make a plausible case).

In counts four through seven of the complaint, the organizations sought declaratory and injunctive relief for the IRS's violations of the Administrative Procedure Act (APA), based on the implementation of the BOLO policy. The court noted, however, that unless an actual, ongoing controversy exists, the court was without power to decide it. As the IRS had already publicly announced that it had suspended the unconstitutional conduct complained of by the organizations and implemented changes to the tax-exempt review process to assure the public that the conduct would not recur, the court dismissed counts four through seven for lack of jurisdiction.

The eighth count in the complaint was brought on behalf of the four organizations that were still awaiting a determination of their tax-exempt status under Code Sec. 501(c)(3). As two of the organizations were granted tax-exempt status after the complaint was filed, the court dismissed this count with respect to those organizations. The matter remains open with respect to the remaining two organizations.

In count nine of the complaint, the organizations sought monetary judgments under Code Sec. 7432 against the IRS due to its allegedly illegal obtainment, inspection, handling, and disclosure of the organizations' tax return information, in violation of Code Sec. 6103. The court, however, pointed out that Code Sec. 6103 addresses improper disclosure of tax return information, not improper obtainment of related information. Thus, the court noted, although the organizations challenged the IRS's inspection of their tax return information, it was actually the IRS's alleged unconstitutional conduct in acquiring that information that formed the basis for count nine.  

In the court's view, there is a clear dichotomy between the means by which tax return information is acquired and the disclosure or inspection of that information thereafter; thus, the validity of the means by which the return information was disclosed was irrelevant to whether the disclosure of the information violated Code Sec. 6103. As the organizations were unable to show that the IRS either improperly obtained tax return information or improperly disclosed that information, the court dismissed count nine for failure to state a proper claim for relief.

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Taxpayer Denied Mortgage Interest Deduction; Equitable Ownership Claim Rejected

Tax Court held that a taxpayer could not take mortgage interest deductions for payments she made on her brother's behalf as she was unable to prove that she was an equitable owner of her brother's house. Puentes v. Comm'r, T.C. Memo. 2014-224 (10/27/14).

In 2002, Lourdes Puentes's brother, Benjamin Puentes (Benjamin), bought a house in South San Francisco. Benjamin made the required down payment and financed the balance of the purchase price with a mortgage loan secured by the property. Lourdes started living in the house in 2003, when she moved to San Francisco to attend college, and was later joined by her ailing father in 2005. Benjamin made all required mortgage payments on the property until he became unemployed in 2009, at which point Lourdes took over the mortgage payments, even though she was not obligated to do so. In 2010 she continued to make the mortgage payments and also paid the property taxes and homeowner's insurance in full.

On her 2010 tax return, Lourdes claimed a mortgage interest deduction with respect to her payments. The IRS issued her a notice of deficiency disallowing this deduction, and she petitioned the Tax Court.

After conceding that she was not the legal owner of her brother's house, Lourdes contended that she was nonetheless entitled to claim a mortgage interest deduction as an equitable owner of the property because she resided in it during 2010 and made the required mortgage payments.

Observation: The Tax Court had previously rejected this claim when Lourdes had taken the same position in a prior case involving her 2009 tax year. As additional support for the 2010 deduction, Lourdes pointed to the facts that in 2010, she paid the homeowner's insurance, paid the property taxes, and made contributions toward maintenance of the property.

Under Reg. Sec. 1.163-1(b), a taxpayer may deduct interest paid on a mortgage upon real estate of which he or she is the legal or equitable owner (as determined by state law), even though the taxpayer is not directly liable for the bond or note secured by the mortgage. A taxpayer becomes the equitable owner of property when he or she assumes the benefits and burdens of ownership. Under California law, the owner of legal title to property is presumed to be the equitable owner as well. One way to overcome this presumption is by showing that there exists an agreement or understanding between the parties transferring the benefits and burdens of ownership. The presumption cannot be overcome solely by tracing the funds used to pay for the property.

The Tax Court held that Lourdes was not an equitable owner of her brother's property, The court pointed out that she offered no evidence of an agreement with Benjamin providing her with an ownership interest in the property. The court further concluded that the fact that she paid the mortgage, home insurance, and property taxes during 2010 was not sufficient to make her an equitable owner of the property under California law. Noting that the record was devoid of any other evidence that she had an ownership interest in the property, the court held that Lourdes was not entitled to deductions for mortgage interest she paid on her brother's behalf.

For more on mortgage interest deductions, see Parker Tax ¶83,515.

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IRS Reminds Practitioners to Renew PTINs

The IRS reminds professional tax return preparers to renew their Preparer Tax Identification Numbers (PTINs) if they plan to prepare returns in 2015. IR-2014-100 (10/27/14).

In a news release issued last week, the IRS reminded professional tax return preparers to renew their Preparer Tax Identification Numbers (PTINs) if they plan to prepare returns in 2015. Current PTINs expire December 31, 2014. Tax professionals can obtain or renew their PTINs at irs.gov/ptin.

Those renewing their PTINs can complete the process in about 15 minutes, according to the IRS. The renewal fee is $63. Tools are available to assist any preparers who have forgotten their user name, password, or email address.

New tax return preparers who are obtaining a first-time PTIN must create an online PTIN account as a first step and then follow directions to obtain a PTIN. Their fee is $64.25.

For a discussion of the PTIN requirement, see Parker Tax ¶275,100.