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American Taxation Association

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Title: American Taxation Association


1
American Taxation Association February 27th,
2004 Denver, Colorado SOX 404 Tax Shelter
Disclosure Regulations
2
Sarbanes-Oxley 404 Tax Role
Robert Lund Director-Tax Services
3
Executive Summary of SOX 404
  • Annual report must contain a report from
    management on internal control that
  • States managements responsibility for
    establishing and maintaining an adequate internal
    control structure and procedures for financial
    reporting, and
  • Contain managements assessment, as of the end of
    the fiscal year of the effectiveness of the
    internal control structure and procedures for
    financial reporting

4
Executive Summary of S-O 404
  • External auditor must attest to and report on
    management's assertion concerning its assessment
    of internal control
  • Effective Date
  • The Act does not impose a deadline for the
    creation of rules to implement 404. If adopted,
    would apply to companies whose fiscal years end
    on or after June 15, 2004. ( Who Knows ?)

5
Internal Control
  • Focus is on reliability of financial reporting
  • Committee of Sponsoring Organizations (COSO) of
    the Treadway Commission provides detailed
    internal control criteria and defines five
    components of internal control

6
Internal Control, continued
Control Environment The control environment sets the tone of an organization, influencing the control consciousness of its people
Risk Assessment Every entity faces a variety of risks from external and internal sources that must be assessed both at the entity and the activity level
Control Activities These policies procedures help ensure management directives are carried out
Information and Communication Pertinent information must be identified, captured and communicated in a form and timeframe that supports all other control components
Monitoring Internal control systems need to be monitored a process that assesses the quality of the systems performance over time
7
Managements Assessment of Effectiveness Should
  • Cover each of the five components of internal
    control and include
  • An inventory and documentation of significant
    controls consistent with managements assertion
    (see next slide)
  • An evaluation of the design effectiveness of
    controls
  • An evaluation of the operating effectiveness of
    controls based on testing or other procedures
  • Include documentation of the results of the
    evaluation
  • Provide for communication of findings to the
    auditor or to others, if applicable

8
Management Supporting the Evaluation
  • Determining which controls are significant
  • Controls that address significant classes of
    transactions, account balances, disclosures and
    related assertions
  • Consider likelihood that control failure could
    cause misstatements and the potential magnitude

9
Management Supporting the Evaluation
  • Should include
  • Fraud programs and controls
  • Controls on which other controls are dependent
    (e.g., general controls)
  • Controls over significant non-routine
    transactions, journal entries, and accounts
    involving judgments and estimates
  • Controls over closing process and preparing F/S

10
Management Evaluating Operating Effectiveness
  • Procedures must be sufficient to verify operating
    effectiveness
  • testing of controls by internal audit or others
    under the direction of management
  • use of service organization reports
  • self-assessment processes
  • Inquiry alone is not adequate
  • Procedures performed and controls and locations
    selected are affected by risk assessment and
    monitoring processes
  • All significant controls and locations must be
    evaluated annually

11
Auditors Consideration of Managements Evaluation
  • Inadequate documentation of controls may result
    in a significant deficiency or a material
    weakness
  • Absence of sufficient evidence to support
    assertion constitutes a material weakness

12
Tax Involvement with Section 404
  • Significant Transactions and Activities
  • Tax is often a significant activity subject to
    significant financial risk and substantial
    disclosure considerations

13
Tax Involvement with Section 404
  • Significant Activities and Risk
  • Tax is based on self-assessment
  • Unlike typical accounts payable
  • Tax functions are often decentralized
  • Estimates and judgments are often utilized in tax
    reserve analysis computations.

14
Tax Integration with S-O 404
  • Scope and Depth of Tax Transactions
  • Tax impacts nearly every line on the income
    statement and balance sheet

15
Tax is Embedded in Every Aspect of Business
Customs duties Transfer pricing issues
PROFIT AND LOSS ACCOUNT Sales X Purchases (X) Manu
facturing (X) Overheads (X) Financing (X) Profit
X Tax charge X Profit after tax X
Location and exploitation of intellectual
property Cross border issues
VAT and sales taxes Cross border issues
Location of activities
BALANCE SHEET Tangible assets X Intangible
assets X Net current assets X X Capital X Reserve
s X Funding debt X X
Trade debts Liabilities
Profit repatriation flows Monetising tax assets
Property taxes Employee taxes International
executive taxation
Treasury Foreign exchange Funding
Tax considerations may impact areas of S-O 404
attest and advisory services
16
Tax Integration with S-O 404
  • Tax Subject Matter Requirement
  • Tax content knowledge is necessary to evaluate
    tax-related internal controls
  • Broad Range of Taxes (Income/Sales)

17
Tax Areas Requiring Internal Controls
Income Tax
Sales Use Taxes
Property Tax
Payroll Tax
Transfer Pricing
FAS109
VAT
Tax Incentives, Holidays, Credits
Non-US Income Tax
International Executive Tax
Excise Taxes
Comp Benefits
Customs
Unclaimed Property
The tax function extends beyond income tax
non-income tax areasmay account for a
disproportionately large share of the risk
18
Significance
  • There is no formula to calculate significance,
    however, there are general guidelines
  • Quantitative factors
  • Value of transactions
  • Volume of transactions
  • Qualitative factors
  • Risk of significant misstatement of a financial
    statement element in the absence of internal
    controls.
  • Management ultimately decides significant
    controls.

19
Risk Indicators
  • High Likelihood of Occurrence
  • Non-routine
  • Non-systematic
  • Subjective
  • Estimates
  • Assumptions
  • Interpretation
  • Complex
  • High Magnitude of Error
  • Significant Class of Transaction
  • Misstatement is material to financial statements

20
I. Obtain background information and high-level
understanding of tax functions
  • Financial statements
  • Organization charts (legal entity and corporate
    personnel)
  • Internal memoranda tax correspondence files
  • Income tax provision workpapers
  • Prior years income tax returns and workpapers
  • Tax audit history and reports
  • History of significant transactions (MA, change
    of control, etc.)

21
II. Obtain general understanding of current
control environment and process
  • Review tax department policies and procedures
    manuals
  • Review tax workpaper and tax research
    documentation (look for process standards,
    work-flow tracking, documentation, etc.)
  • Walk-through tax process and control procedures
  • Management letter comments by audit firm
    concerning tax
  • History of audit adjustments to tax accounts
  • Internal audit review of tax functions
  • Standard forms / checklists / dockets / workpaper
    formats used by tax department
  • Forms for requesting and approving checks or
    electronic tax payments
  • Reporting structure - business unit or financial
    accounting
  • Identify and review systems for which tax
    department has responsibility

22
III. Determine which tax segments and functions
constitute significant control risks
  • Significant class of transaction
  • Strategic business risks
  • Tax department functions that aggregate to
    material risk
  • i.e., support to operating units or HR for sales
    use tax, payroll tax , etc.
  • Consider degree to which tax functions are
    non-routine, non-systematic or subjective
  • Consider level of complexity
  • Consider materiality to financial statements
  • Quantitative analysis
  • Account balances current taxes
    payable/receivable, deferred tax assets
    liabilities, valuation allowance, effective tax
    rate, etc.
  • Comparison of change from prior years

23
IV. Identify Relevant Locations for Significant
Segments
  • Consider significant lines of business.
  • Consider significant decentralized tax functions.
  • Consider significant tax jurisdictions.

24
Possible Scoping Results Example
High
VAT
CB
Income
Sales
Magnitude of Error
Property
Payroll
Customs
Excise
Low
Likelihood of Occurrence
25
Are you Done? Questions to ask
  • Have we identified all of the tax processes that
    have significant risk to the financial
    statements?
  • Does the documentation of the tax process
    adequately represent and provide an understanding
    of the underlying tax process?
  • Have we identified all of the significant risk to
    the financial statements inherent in the tax
    process?
  • Do the identified and designed controls
    adequately mitigate the identified significant
    risk to the financial statements?

26
What Were Seeing in the Marketplace
27
What We're Seeing in the MarketplaceRealities
  • Executives everywhere recognize the need for
    improved corporate governance and more
    transparent financial reporting
  • Organizations are clearly focused on meeting the
    compliance requirements established by the
    Sarbanes-Oxley Act of 2002
  • Non-SEC organizations are adopting similar
    measures as best practice standards
  • Foreign registrants are feeling additional
    pressure from similar initiatives in other
    countries

28
What We're Seeing in the Marketplace Realities
  • A paradox while boosting investor confidence,
    many CFOs claim they arent seeing return on
    investment
  • Compliance is perceived as
  • Expensive
  • Diverting attention from the core business
  • Overburdening limited resources to complete the
    labor-intensive project
  • A one-time project approach for initial
    compliance versus focus on an ongoing,
    sustainable compliance process
  • Sarbanes-Oxley is not the Y2K of accounting
    there will always be financial reporting
    requirements associated with Sarbanes-Oxley and
    future regulations

29
What We're Seeing in the Marketplace Challenges
Internal External
Satisfying managements need for a high level of confidence to support assertions Creating a sustainable compliance process Considering all sections of Sarbanes-Oxley Integrating all internal control activities Achieving return on the compliance investment Changing regulations Sarbanes-Oxley PCAOB AICPA SEC (including accelerated filer requirements) Others The COSO-ERM Framework is evolving
30
What We're Seeing in the MarketplaceResearch
Findings
  • In November 2003, we commissioned a survey of
    175 chief executive officers and chief financial
    offers at top U.S. companies key findings from
    the survey include
  • A majority (68) believe SOX has boosted investor
    confidence in corporate America
  • 70 rank SOX 404 compliance as a high or higher
    priority relative to other major business issues
  • Nearly all (97) report being on or ahead of
    schedule with SOX readiness - however, only 31
    had completed more than 50 of their SOX 404
    preparation as of the survey date
  • Respondents report the most difficulty overall
    with documentation and testing of internal
    controls

31
What We're Seeing in the MarketplaceA Forward
Look
  • Companies are focusing on the regulatory demands
    and how to meet compliance deadlines - in
    documenting ICFR, they are amassing large amounts
    of information about their business processes,
    risks and controls
  • Some senior executives have begun to look beyond
    immediate compliance efforts to leverage into
    long-term business value others will follow
  • Leading companies are beginning to extract value
    from the heightened control environment by using
    compliance efforts as a foundation to
  • Strengthen, streamline and automate internal
    controls
  • Increase an enterprise-wide understanding of all
    risks operational, financial reporting and
    compliance and how to control them
  • Improve and redesign business processes while
    maintaining appropriate awareness and control of
    risks

32
What We're Seeing in the MarketplaceRisk
Performance Optimization
Risk Performance Optimization In leading edge
companies, ICFR control documentation and
evaluation is being leveraged as a foundation for
risk and performance optimization
33
Tax Shelter Disclosure
Darice Henritze Partner International Tax
Services
34
Treasury Shelter Regulations
  • Under 6011, 6111 and 6112
  • February 28, 2000 original temporary and
    proposed regulations issued
  • August 11, 2000 revised temporary and proposed
    regulations issued
  • August 2, 2001 further revised temporary and
    proposed regulations issued
  • March 20, 2002 Treasury announced simplified
    initiative
  • June 14, 2002 further revised temporary and
    proposed regulations issued
  • October 17, 2002 further revised temporary and
    proposed regulations issued
  • February 28, 2003 final regulations issued
  • December 29, 2003 final regulations amended
  • Under 6662 and 6664
  • December 31, 2002 proposed regulations issued
  • December 29, 2003 final regulations issued

35
Final Section 6011 Disclosure Regulations
36
Effective Dates
  • Generally effective for transactions entered into
    on or after February 28, 2003
  • For transactions entered into on or after January
    1, 2003 and before February 28, 2003, taxpayers
    may apply either the final regulations or the
    October 2002 temporary regulations
  • For transactions entered into before January 1,
    2003, see the temporary regulations in effect at
    that time
  • Conditions of confidentiality Transactions
    entered into on or after December 29, 2003 (may
    be applied retroactively by taxpayers)

37
Taxpayers
  • Applies to ALL TAXPAYERS (means any person
    described in 7701(a)(1), including S
    corporations and consolidated groups)
  • Also includes, e.g., partners and S corporation
    shareholders
  • Special Rules Reporting Shareholders of Certain
    Foreign Corporations

38
NOT JUST FOR INCOME TAXES
  • IRS can identify transactions entered into on or
    after January 1, 2003, as listed transactions
    for estate, gift, employment taxes pension and
    exempt organization excise taxes

39
Definition of Transaction
  • Includes all the factual elements relevant to
    the expected tax treatment of any investment,
    entity, plan, or arrangement, and includes any
    series of steps carried out as part of the plan.

40
Reportable Transactions
  • Listed, or substantially similar, transaction
  • Conditions of confidentiality
  • Contractual protection
  • Section 165 loss
  • Significant book/tax difference
  • Brief asset holding period

41
Listed Transactions
  • Currently 31 listed transactions identified in
    IRS notices and other published guidance
  • Rev. Rul. 2004-4 Issued January 23, 2004
  • Notice 2004-8 Issued December 31, 2003
  • Notice 2003-81 Issued December 4, 2003
  • Notice 2003-77 Issued November 19, 2003 and
    clarified December 1, 2003
  • Notice 2003-76 Listed transactions as of
    November 15, 2003
  • Substantially similar
  • Same or similar types of tax consequences, and
    either factually similar or based on same or
    similar tax strategy
  • Broadly construed in favor of disclosure

42
Listed Transactions
  • Rev. Rul. 2004-4 Prohibited Allocations of
    Securities in an S Corporation
  • Notice 2004-8 Abusive Roth IRA Transactions
  • Notice 2003-81 - Tax Avoidance Using Offsetting
    Foreign Currency Option Contracts
  • Notice 2003-77 Transfers to Trusts to Provide
    for the Satisfaction of Contested Liabilities
  • Notice 2003-55 Lease Strips and Other Stripping
    Transactions (superseding Notice 95-53)
  • Notice 2003-54 Common Trust Fund Straddle
  • Notice 2003-47 Transfers of Compensatory Stock
    Options to Related Persons
  • Notice 2003-24 Welfare Benefit Fund
  • Notice 2003-22 Offshore Deferred Compensation
    Arrangements
  • Revenue Ruling 2003-6  Certain S Corporation
    ESOPs

43
Listed Transactions (continued)
  • Notice 2002-70 Certain Reinsurance Arrangements
  • Notice 2002-65 Passthrough Entity Straddle Tax
    Shelter
  • Revenue Ruling 2002-46 401k Accelerators
  • Notice 2002-50 Partnership Straddle Tax Shelter
  • Notice 2002-35 Notional Principal Contracts
  • Notice 2001-21 Inflated Basis CARDS
    Transactions
  • Notice 2001-45 302 Basis-Shifting
    Transactions
  • Notice 2001-17 Certain 351 Transactions 
  • Notice 2001-16 Intermediary Transactions
  • Notice 2000-61 Guam Trust
  • Notice 2000-60 Certain Stock Compensation
    Transactions
  • Notice 2000-44 Inflated Partnership Basis
    Transactions
  • Revenue Ruling 2000-12 Debt Straddles

44
Listed Transactions (continued)
  • Treasury Regulation 1.7701(1)-3 Fast Pay or
    Step-Down Preferred Transactions
  • Notice 99-59 BOSS Transactions
  • Revenue Ruling 99-14 Lease-In /Lease-Out or
    LILO Transactions
  • Treasury Regulation 1.643(a)-8 Certain
    Distributions from Charitable Remainder Trusts
  • ASA Investerings Partnership v. Commissioner --
    Transactions similar to those described in the
    ASA Investerings litigation and in ACM
    Partnership v. Commissioner, 157 F.3d 231 (3rd
    Cir. 1998)
  • Notice 98-5, part II Foreign Tax Credit
    Transactions
  • Notice 95-34 Certain Trusts Purported to be
    Multiple Employer Welfare Benefit Funds Exempted
    from the Limits of 419 and 419A
  • Revenue Ruling 90-105 Certain Accelerated
    Deductions for Contributions to a Qualified Cash
    or Deferred Arrangement or Matching Contributions
    to a Defined Contribution Plan

45
Listed TransactionsParticipants
  • Taxpayers tax return reflects tax consequences
    or a tax strategy described in IRS guidance
    identifying the transaction as listed, or
  • Taxpayer knows or has reason to know that
    taxpayers tax benefits are derived directly or
    indirectly from tax consequences or a tax
    strategy described in IRS guidance identifying
    the transaction as listed

46
Conditions of ConfidentialityTransactions prior
to December 29, 2003
  • Generally facts and circumstances test
  • Situations where treated as confidential
  • Taxpayers disclosure of tax treatment or tax
    structure of transaction is limited by
    understanding or agreement with or for the
    benefit of anyone who provides oral or written
    statement to the taxpayer concerning potential
    tax consequences of the transaction
  • Taxpayer knows or has reason to know that
    taxpayers use or disclosure of information is
    otherwise restricted for the benefit of any
    person other than taxpayer who provides a
    statement concerning potential tax consequences
    e.g., transaction is claimed to be proprietary or
    exclusive

47
Conditions of ConfidentialityTransactions Prior
to December 29, 2003
  • Presumption of non-confidentiality if express
    written authorization is provided from every
    person who makes a statement to the taxpayer as
    to the potential tax consequences
  • The taxpayer (and each employee, representative,
    or other agent of the taxpayer) may disclose to
    any and all persons, without limitation of any
    kind, the tax treatment and tax structure of the
    transaction and all materials of any kind
    (including opinions or other tax analyses) that
    are provided to the taxpayer relating to such tax
    treatment and tax structure.

48
Conditions of ConfidentialityTransactions on or
after December 29, 2003
  • New definition for conditions of confidentiality
  • Advisor who is paid the minimum fee places a
    limitation on disclosure by the taxpayer of the
    tax treatment or tax structure of transaction and
    the limitation protects the confidentiality of
    the advisors tax strategies
  • Proprietary or exclusive assertion is not a
    limitation on disclosure if the advisor confirms
    that the taxpayer may disclose the tax treatment
    or tax structure
  • May be applied retroactively by taxpayer to
    transactions entered into on or after January 1,
    2003

49
Conditions of ConfidentialityTransactions on or
after December 29, 2003
  • Minimum fee
  • 250,000 if taxpayer is a corporation (or a
    partnership or trust in which all partners,
    owners or beneficiaries are corporations)
  • 50,000 for all other taxpayers
  • Determining minimum fee
  • Includes all fees for a tax strategy or for
    services for advice (whether or not tax advice)
    or for the implementation of a transaction
  • Very broad, includes services to analyze,
    implement, and document the transaction and
    services to prepare returns if fees are
    excessive. . .BUT
  • Does NOT include an amount paid to an advisor in
    that persons capacity as a party to the
    transaction

50
Contractual Protection
  • Facts and circumstances determination
  • Taxpayer or a related party (section 267(b) or
    707(b)) has the right to a full or partial refund
    of fees if all or a portion of tax consequences
    are not sustained, or
  • Fees are contingent on taxpayers realization of
    tax benefits from the transaction

51
Contractual ProtectionExceptions
  • Party has a right to terminate transaction upon
    the happening of an event affecting taxation
  • Refundable or contingent fees if statement
    concerning potential tax consequences is made
    only after the taxpayer has entered into the
    transaction and reported consequences of the
    transaction on a filed tax return, and person
    making statement has not previously received fees
    from the taxpayer relating to the transaction

52
Section 165 Loss
  • Corporations 10M in one tax year, or 20M in
    tax year transaction entered into and 5
    succeeding tax years
  • Partnerships with only corporate partners
  • 10M / 20M
  • Other Partnerships 2M / 4M
  • S Corporations, Individuals Trusts
  • 2 M / 4 M
  • Individuals Trusts 50,000 for section 988
    foreign currency transaction losses

53
Section 165 Loss (continued)
  • A section 165 loss includes
  • Any amount deductible under section 165
  • Any deduction treated by the Code as resulting
    from a sale or other disposition
  • A loss resulting from the sale or exchange of a
    partnership interest under section 741
  • A loss resulting from a section 988 transaction

54
Section 165 Loss (continued)
  • Do not take into account offsetting gains, or
    other income or limitations (such as capital loss
    limitations)
  • However, section 165 loss is adjusted for salvage
    value and any insurance or other compensation
    received

55
Section 165 Loss Some Exceptions Rev. Proc.
2003-24
  • Sale of a capital asset with a qualifying basis
    that is not an interest in a passthrough entity,
    is not part of a straddle, and has not been
    separated from any portion of income it generates
  • Qualifying basis cash, 358, 1014, 1015
    (if donor had qualifying basis), or 1031(d)
  • Mark-to-market losses, provided taxpayer computes
    loss using a qualifying basis
  • Loss from hedging transaction or mixed straddle

56
Book/Tax Difference Taxpayers
  • Only applies to
  • Taxpayers that are reporting companies under
    Securities Exchange Act of 1934 (and related
    entities), or
  • Business entities with at least 250 million in
    gross assets for book purposes at the end of the
    financial accounting period ending with or within
    the entitys tax year in which the transaction
    occurs (assets of all related business entities
    are aggregated)

57
Significant Book/Tax Difference
  • Book/tax difference from the transaction exceeds
    10M on a gross basis
  • Offsetting items are not netted for either tax or
    book purposes
  • Book income determined using U.S. GAAP for
    worldwide income, unless the taxpayer, in the
    ordinary course of business, consistently keeps
    books on another basis
  • Transactions only among members of consolidated
    group are disregarded
  • If members of consolidated group, plus third
    party, participate in the transaction, aggregate
    group items

58
Significant Book/Tax DifferenceOther Persons
  • Foreign Persons
  • Only U.S. assets taken into account in
    determining whether gross asset test is met
  • Only transactions giving rise to Effectively
    Connected Income (or losses, etc.) are taken into
    account
  • Disregarded Entity
  • Treat income, loss, etc. as items of owner
  • Disregard transactions between entity and owner
  • Partner
  • Items allocated to partner for tax purposes, but
    to entity for book purposes, are treated as items
    of partner

59
Significant Book/Tax DifferenceSome Exceptions
Rev. Proc. 2003-25
  • Tax income or gain is reported before or without
    book income or gain
  • Book loss or expense is reported before or
    without tax loss or deduction
  • Depreciation, percentage depletion, cost
    depletion, and intangible drilling costs
  • Capitalization and amortization under sections
    195, 248, and 709

60
Brief Asset Holding Period
  • Asset held for 45 days or less, and
  • Transaction results in taxpayer claiming a tax
    credit exceeding 250,000
  • Exception
  • Transactions resulting in a foreign tax credit
    for taxes imposed in respect of a dividend that
    are not disallowed under 901(k).

61
Reporting Shareholders Special Participation
Rules
  • Reporting shareholder means
  • US shareholder under 551(a) in a foreign
    personal holding company under 552 Form 5471
  • US shareholder under 951(b) in a controlled
    foreign corporation under 957 Form 5471, or
  • 10 percent shareholder of a qualified electing
    fund under 1295 Form 8621

62
Reporting Shareholders Special Participation
Rules
  • Rules for listed transactions, loss transactions,
    and brief asset holding period transactions
  • Treat reporting shareholder as participant if
    the foreign corporation would be treated as
    participating if it were a domestic corporation
    filing a tax return that reflects the items from
    the transaction
  • Does not need to have US tax benefits or
    consequences

63
Reporting Shareholders Special Participation
Rules
  • Rules for conditions of confidentiality
    transactions and contractual protection
    transactions
  • Treat reporting shareholder as participant if
    the foreign corporation would be treated as
    participating if it were a domestic corporation
    filing a tax return that reflects the items from
    the transaction
  • Reportable transaction only if
  • Confidentiality Limitation concerns U.S.
    federal income tax treatment or structure
  • Contractual protection Refund or contingent
    fees based on U.S. federal income tax benefits or
    consequences

64
Reporting Shareholders Special Participation
Rules
  • For the book/tax difference reportable
    transaction
  • Treat reporting shareholder as participant if
    the foreign corporation would be treated as
    having a US 10 million book/tax difference for
    an item from the transaction if it were a
    domestic corporation and
  • The transaction reduces or eliminates an income
    inclusion that would otherwise be required under
    section 551, 951, or 1293.

65
Exceptions to the Disclosure Regulations
  • Angel list transactions
  • Notice 2001-18
  • With the exception of listed transactions, the
    disclosure regulations do not apply to regulated
    investment companies (RICs)

66
When Disclosure Is Made
  • General Rule File disclosure statement (Form
    8886) with tax return (or amended return for
    transactions entered into on or after December
    29, 2003) for each tax year for which the
    taxpayer participates
  • Also send copy to Office of Tax Shelter Analysis
    (OTSA) when Form 8886 first filed with return
  • Transaction becomes listed after return filed and
    before statute of limitations closes for the
    final return that is affected by the transaction
    Attach Form 8886 to taxpayers next filed tax
    return
  • Includes loss carrybacks

67
Document Retention
  • Retain copy of all documents and other records
    related to a transaction subject to disclosure
    that are material to an understanding of the tax
    treatment or tax structure of the transaction
    including
  • Marketing materials, written analysis used in
    decision-making, correspondence and agreements
    with advisors and other parties, analysis of tax
    benefits, documents concerning business purpose,
    internal e-mails
  • Retain these materials until the expiration of
    the statute of limitations for the final tax year
    for which disclosure was required

68
Office of Tax Shelter AnalysisInfluence/Relations
hips
Director of Practice
National Office Counsel
LMSB Commissioner
LMSB Counsel
OTSA Review Committee
OTSA
Senior Legal Counsel
Corp. Tax Shelters
IssueTechnicalAdvisers
5 Industry Directors
Area Counsel
(includes tech. specialists)
Guidance CoordinatingCommittee
Territory Managers
Associate Area
Team Managers
Counsel for PFTG
Litigation Vehicles
Audits
Published Guidance
--- Coordination Functions
69
Super IDRs (Continued)
  • Requires taxpayer to describe any listed
    transactions entered into during the year under
    examination
  • Requests, inter alia
  • All legal opinions and memoranda provided by any
    party that promoted, solicited, or recommended
    participation in the transaction
  • All internal documents used by the taxpayer in
    its decision making process

70
Announcement 2002-63
  • Guidelines regarding Tax Accrual Workpapers
  • Generally, for tax returns filed after July 1,
    2002 (but before for listed, if not disclosed)
  • Listed and Disclosed workpapers from
    transaction
  • 2 or more Listed
  • Listed but not Disclosed
  • Chief Counsel Notice CC-2003-012


all workpapers
71
New Penalty Guidelines
If listed transaction examiner MUST consider
6662 and submit to Director of Field Operations
(DFO) If other potentially abusive tax shelter
must coordinate with Office of Tax Shelter
Analysis (OTSA ) If examiner considers 6662
DFO must approve imposition of penalty
72
Section 1.6662-3 for Reportable Transactions
(Dec. 29, 2003)
  • Effective date Returns filed after December 31,
    2002, for transactions entered into on or after
    January 1, 2003
  • Disregard of Regulation
  • Disclosure under Reg. section 1.6011-4 also
    required
  • Position contrary to Rev. Rul. or Notice
  • No realistic possibility test
  • Section 6662 disclosure required
  • Reg. section 1.6011-4 disclosure also required

73
Section 1.6664-4 for Reportable Transactions
(Dec. 29, 2003)
  • Effective Date Returns filed after December 31,
    2002, for transactions entered into on or after
    January 1, 2003
  • Disregard of regulations
  • To rely on opinion that the regulation is
    invalid, must have section 6662 disclosure and
    must have disclosure under Reg. section 1.6011-4
  • Failure to disclose a reportable transaction
    under Reg. section 1.6011-4 is strong
    indication that the taxpayer did not act in good
    faith for the portion of the underpayment
    attributable to the reportable transaction, which
    would bar relief under section 6664(c)

74
Proposed Legislative Changes
  • Background
  • Charity Aid Recovery and Empowerment (CARE) Act
    of 2002 (H.R. 7) (June 18, 2002)
  • Tax Shelter Transparency Act (June 18, 2002)
  • Small Business and Farm Economic Recovery Act
    (September 17, 2002)
  • Economic Recovery Act of 2003 (S. 414) (Feb.
    14, 2003)
  • CARE Act of 2003 (S. 476) (Feb. 27, 2003)
  • Doggett Bill (H.R. 1555) (April 2, 2003)
  • Jobs and Growth Reconciliation Tax Act of 2003
    (S. 1054, previously S.2) (May 8, 2003)
  • Current Bills
  • Tax Incentives Act of 2003 (S. 1149) (May 23,
    2003) currently in the Senate
  • Working Families Tax Credit Act of 2003 (H.R.
    2286) (June 2, 2003) currently in the House
    Committee of Ways and Means
  • American Jobs Creation Act of 2003 (H.R. 2896)
    (July 25, 2003) currently in the House
    Committee on Ways and Means
  • Jumpstart Our Business Strength JOBS Act (S.
    1637) (Chairmans Mark October 1, 2003)
  • Tax Shelter Transparency and Enforcement Act (S.
    1937) Introduced in Senate Finance Committee
    November 24, 2003
  • Tax Shelter Transparency and Enforcement Act (S.
    1937) Introduced in Senate Finance Committee
    (November 24, 2003)
  • Highway Reauthorization and Excise Tax
    Simplification Act of 2004 Senate Finance
    Committee (February 2, 2004)
  • Tax Administration Good Government Act of 2004
    Senate Finance Committee (February 2, 2004)

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Proposed Legislative Change (S. 1149)New 6707A
Failure to Disclose Reportable Transaction
  • Penalty for large entity corporation may be
    200,000 for listed transaction and 100,000 for
    other reportable transactions
  • Almost strict liability penalty
  • Discretion of OTSA to rescind
  • Does not apply to failure to disclose listed
    transactions
  • Applies only to unintentional mistakes of fact
  • No rights to appeal OTSAs decision
  • If rescinded, included in annual report from IRS
    to Congress
  • Disclosed to SEC with new 6662A Accuracy Penalty
  • Slightly different version of penalty in H.R. 2896

76
Proposed Legislative Change (S. 1149 H.R.
2896)New Accuracy-Related Penalty for
Reportable Transaction Understatements (6662A)
  • Increased Penalty for Undisclosed Reportable
    Transactions 30
  • No Section 6011 disclosure
  • Listed
  • Strict Liability
  • Other
  • Almost Strict Liability (OTSAs discretion on
    6707A)
  • 20 Penalty with Disclosure / Heightened
    Requirements
  • Disclosure 6664(d) substantial authority and
    MLTN
  • Penalty Based on an Understatement at highest
    rate
  • Opinion Letters Restricted

77
Proposed Legislative Change (S. 1149 H.R. 2896)
Limited Reliance on Opinions of Tax Advisors
forReportable Transaction Understatement Penalty
  • Cannot rely on opinion for reasonable belief if
    either
  • Advisor material advisor who either
  • Participates (or is related to a person who
    participates) in organization, management,
    promotion, or sale of the transaction
  • Is compensated by another material advisor or
  • Has a contingent fee arrangement OR
  • Opinion is
  • Based on unreasonable facts and assumptions
  • Based on unreasonable reliance on reps or
  • Doesnt identify and consider all relevant facts

78
Proposed Legislative Change (was in S. 1054 but
is not in current Energy Bill in H.R. 2286)
Substantial Understatement and Preparer
Penalty for Nonreportable Transactions
  • Accuracy Penalty Non-Reportable Transaction
  • New Standards
  • Thresholds for Corporations Exceeds the lesser
    of (1) the greater of 10 or 10,000 or (2)
    10,000,000
  • More Likely than Not
  • Disclosure and Reasonable Basis
  • Preparer Penalty Non-Reportable Transaction
  • New Standards
  • More Likely than Not
  • Disclosure and Reasonable Basis
  • Amounts

79
Proposed Legislative Change (was in S. 1054 but
is not in current Energy Bill in H.R. 2286)
Economic Substance Other Related Provisions
  • Codifies economic substance
  • Transaction changes taxpayers economic position
    in a meaningful way
  • Substantial non-tax purpose for entering into
    transaction
  • Transaction is a reasonable means of
    accomplishing that purpose
  • 40 strict liability accuracy-related penalty (no
    economic substance) reduced to 20 if facts are
    adequately disclosed
  • Other provisions
  • No deduction on interest attributable to
    understatement related to reportable transaction
    or noneconomic substance transaction
  • Non-disclosure of listed transaction automatic
    6-year statute on whole return

80
California Tax Shelter Legislation
  • Disclosure by California taxpayer subject to
    California income or franchise tax
  • Federal listed transaction entered into after
    February 28, 2000
  • Other federal reportable transactions
  • California-only transaction identified by the
    California Franchise Tax Board
  • California announced 2 listed transactions on
    December 31, 2003
  • Registration by tax shelter organizer
  • List maintenance by tax shelter organizer, seller
    or material advisor

81
California Tax Shelter Legislation
  • California Penalties
  • Adopted many proposed Federal legislative changes
  • Failure to disclose reportable transaction
  • Listed transaction (30,000)
  • Other reportable transaction (15,000)
  • Additional accuracy-penalties for reportable
    transaction
  • 20 (disclosed)
  • 30 (not disclosed)
  • - Noneconomic substance penalty
  • 20 (relevant facts disclosed)
  • 40 (relevant facts not disclosed)
  • - Interest enhanced penalty
  • Additional 100 of interest due on
    deficiency

82
California Tax Shelter Legislation
  • Voluntary Compliance Initiative
  • Available until April 15, 2004
  • Applies to abusive tax avoidance transactions
    for tax years beginning before January 1, 2003
  • Voluntary Compliance Initiative without appeal
  • Must pay tax and interest
  • Waiver of all penalties
  • No criminal penalties
  • No claims for refund
  • Voluntary Compliance Initiative with appeal
  • Must pay tax and interest
  • Waiver of penalties except for accuracy-related
    penalties (20-40 )
  • No criminal penalties
  • California collected 30 million in the first
    week

83
Ramifications for Noncompliance
  • Request by IRS for tax accrual work papers
  • Increased scrutiny from higher IRS officials
  • Mandatory consideration of accuracy-related
    penalties
  • Failure to disclose reportable transaction is
    strong indication that taxpayer did not act in
    good faith, which precludes relief under section
    6664
  • Proposed legislation
  • Disclosure penalties
  • Accuracy-related penalties
  • Reporting to the Securities Exchange Commission
  • Statute of limitations on assessments extended
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