Prop. Regs Clarify Calculation of Code Sec. 6707A Penalties on Reportable Transactions.

(Parker Tax Publishing September 21, 2015)

Proposed regulations clarify the calculation of the penalty under Code Sec. 6707A for failing to include on any return or statement any information required to be disclosed under Code Sec. 6011 with respect to a reportable transaction. REG-103033-11.

The regulations are proposed to be effective when finalized.

Background

Code Sec. 6707A imposes a penalty on a taxpayer who has a duty to disclose a reportable transaction and fails to do so. It also imposes a requirement that certain taxpayers disclose in filings with the Securities and Exchange Commission (SEC) any requirement to pay a penalty under (1) Code Sec. 6707A with respect to a listed transaction, (2) Code Sec. 6662A with respect to an undisclosed reportable transaction, or (3) Code Sec. 6662(h) with respect to an undisclosed reportable transaction.

Code Sec. 6707A was amended by the Small Business Jobs Act of 2010 (Jobs Act). Before the Jobs Act, the penalty was $10,000 in the case of a natural person ($50,000 in any other case) and, in the case of a listed transaction, $100,000 in the case of a natural person ($200,000 in any other case). In some cases, this structure resulted in penalties that were potentially disproportionate to the tax benefit derived from the transaction.

The Jobs Act amended Code Sec. 6707A(b) to make the penalty 75 percent of the decrease in tax shown on the return as a result of a reportable transaction, with a minimum penalty amount of $10,000 ($5,000 in the case of a natural person). The maximum penalty amount is $200,000 ($100,000 in the case of a natural person) for failure to disclose a listed transaction, or $50,000 ($10,000 in the case of a natural person) for failure to disclose any other reportable transaction.

The IRS notes that proposed regulations are necessary because previously issued regulations did not take the Jobs Act amendments into consideration. The proposed regulations (1) simplify the meaning of the term "return," (2) define the term "decrease in tax" for purposes of calculating the penalty, (3) clarify the reporting obligations of a taxpayer for transactions subsequently identified in guidance that the taxpayer participated in before issuance of the guidance, (4) clarify the minimum and maximum amount of a penalty under Code Sec. 6707A(b)(2) and Code Sec. 6707A(b)(3), and (5) discuss a technical correction which the IRS believes need to be made with respect to SEC reporting.

Proposed Clarify Code Sec. 6707A Penalty Calculations

Currently, the regulations generally refer to original returns, amended returns, and applications for tentative refund in every case where all three terms are relevant. The proposed regulations streamline these references by defining the term return'' to include all three.

The proposed regulations define "decrease in tax" generally as the difference between the amount of tax reported on the return as filed and the amount of tax that would be reported on a hypothetical return where the taxpayer did not participate in the reportable transaction. The amount of tax shown on the hypothetical return will reflect adjustments that result mechanically from backing out the reportable transaction, such as tax items affected by an increase in adjusted gross income resulting from non-participation in the reportable transaction. In some situations, a taxpayer's participation in a listed transaction creates a liability for a tax that would not exist absent participation in the transaction. To capture this tax, the proposed regulations include in the definition of the decrease in tax any other tax that results from participation in the reportable transaction but was not reported on the taxpayer's return.

Example: Robert participated in a nonlisted reportable transaction and, because he failed to disclose his participation, is subject to a penalty under Code Sec. 6707A. After offsetting gross income with the losses generated in the reportable transaction, Robert's return reported adjusted gross income of $100,000. The return also reported $12,000 of medical expenses, $2,000 of which were deductible after applying the 10 percent floor. If Robert's return had not reflected participation in the reportable transaction, his adjusted gross income would have been $140,000. The decrease in tax shown on Robert's return as a result of the transaction would take into account both the tax on the $40,000 difference in adjusted gross income and the tax on the $2,000 adjustment to Robert's deductible medical expenses caused by the increase in adjusted gross income.

Once a listed transaction or a transaction of interest is identified by published guidance, a taxpayer has a reporting obligation if the taxpayer participated in the transaction before the issuance of the guidance and the statute of limitations for the year of the taxpayer's participation remains open. Under the proposed regulations, the taxpayer may use a single disclosure statement to disclose multiple years of participation in a reportable transaction. Because the taxpayer can disclose multiple years of participation on a single statement, the taxpayer's failure to complete and submit the disclosure statement properly will result in no more than one penalty under Code Sec. 6707A. The proposed regulations provide, however, that the amount of that penalty is determined by taking into account the aggregate decrease in tax shown on all of the returns for which disclosure was not provided. Thus, the decrease in tax will be determined separately for each year of participation for which only a single disclosure statement was required and the amount of the penalty will be 75 percent of the aggregate decrease in tax in all years for which disclosure was required, subject to the minimum and maximum penalty amount limitations.

The proposed regulations also clarify that because each separate failure to disclose a reportable transaction gives rise to a new penalty under Code Sec. 6707A(a), the minimum and maximum limits on the amount of the penalty apply separately to each failure to disclose.

Finally, the proposed regulations clarify a technical error the IRS believes Congress made in Code Sec. 6707A(e) with respect to a reference to Code Sec. 6707A(b)(2). The IRS said it did not believe that Congress intended its reference to Code Sec. 6707A(b)(2) to impose the maximum penalty on violations of Code Sec. 6707A(e). According to the IRS, this would be contrary to the purpose of the 2010 amendments to Code Sec. 6707A, which sought to make the penalty proportionate to the tax benefit derived by the transaction. Code Sec. 6707A(e) deals with the required reporting to the SEC of penalties imposed on the taxpayer under Code Secs. 6707A, 6662A, or 6662(h).

For a discussion of the penalty under Code Sec. 6707A, see Parker Tax, ¶253,170. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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