May 31, 2007
WSJ: Judge Preparing to Dismiss KPMG Case?
The Wall Street Journal's Law Blog notes today that federal district judge Lewis Kaplan may be preparing to dismiss the criminal tax shelter indictments against the 16 KPMG defendants.
Luke Presents Risk, Return, and Economic Substance Today at Florida State
Charlene Luke (Florida State) presents Risk, Return, and Economic Substance today at Florida State as part of its Faculty Enrichment Speaker Series. The project focuses on a relatively narrow aspect of the court-created economic substance doctrine - the objective inquiry into profit or risk - and explores shifting this inquiry from a pre-tax to a post-tax perspective. Here is the abstract:
The economic substance doctrine is used by courts to assess the claims made by taxpayers who have designed complicated, non-intuitive paths to tax benefits — paths unforeseen by government authorities but which nonetheless technically satisfy various statutory and regulatory checkpoints. While courts have not settled on a uniform framing of the doctrine, the doctrine converges around the question of whether a taxpayer earned (or could reasonably have expected to earn) a pre-tax profit on the suspect transaction. This pre-tax inquiry remains controversial. First, the use of pre-tax profit test fails to deal adequately with implicit taxes. Second, the pre-tax profit test as applied by several courts has come to focus on whether the taxpayer undertook market risk or not in a particular transaction. As a result, the test ignores the possibility of risk-free returns and may cause taxpayers to take on risk unnecessarily. Finally, the amount of pre-tax profit required (whether in absolute or relative terms) has never been established. This raises the possibility that taxpayers will be able to pass scrutiny by taking an insignificant amount of market risk or by inserting extraneous low or no risk profit generators into a transaction.
This project (still at a preliminary stage) raises the possibility that an initial inquiry into economic substance should focus on whether a taxpayer’s after-tax return is substantially commensurate with the riskiness of the transaction, assessed objectively and with the benefit of hindsight. Such a viewpoint shift should resolve the problem of implicit taxes and ties the amount of profit to an objectively determinable position. The possibility would remain that taxpayers could object on the ground of having to take on unnecessary risk. For example, if the after-tax return is large relative to the risk involved, a taxpayer may assert that the transaction was simply a golden economic opportunity and that it should not be penalized for taking it.
Should the taxpayer raise this or similar explanations for a return that appears non-standard relative to the risk, a taxpayer would have the opportunity to bring forward evidence indicative of a realistic and subjective expectation of such a non-standard return. Pre-tax profit claims could be used by the taxpayer to demonstrate this intent. Such claims should, however, remain anchored to the post-tax return and to actual results. That is, the pre-tax and post-tax positions should bear a standard relationship to each other. For example, if the taxpayer claims a windfall transaction, one would expect the pre-tax profit to be larger than the post-tax return.
More Press Commentary on Yesterday's Indictment of 4 E&Y Partners, but Not the Firm
Follow up on yesterday's post on the indictment of four Ernst & Young partners, but not the firm, for tax shelter activities:
Lawyer Who Told Judge "You're a Few French Fries Short of a Happy Meal" Loses Client, May Lose Ability to Practice Before Judge
A follow-up on William P. Smith, the McDermott Will & Emery partner who told a Miami bankruptcy judge in open court: "[Y]ou're a few french fries short of a Happy Meal" (blogged here). Law.com reports that the comment has already cost him his client, and may cost him the ability to practice before the U.S. Bankruptcy Court for the Southern District of Florida. For more, see David Lat.
Does This Remind You of Your Annual Review with Your Dean?
Hopefully today's Dilbert does not remind you of your annual performance review with your dean!
The Empire Strikes Back: Casebook Publishers Try to Limit Resale of Comp Copies
Have folks come across the legend now stamped on the cover of complimentary review copies of Thomson-West casebooks sent to professors -- "PROFESSOR REVIEW COPY. NOT FOR RESALE" -- apparently in an effort to undercut the after-market spawned by book resellers that now prowl the corridors of most law schools? Have folks seen similar language on the covers of complimentary review copies of casebooks from the other law school book publishers (Aspen, Foundation Press, and LexisNexis)?
I could not find anything on the publishers' web sites restricting faculty use of complimentary review copies:
Caron Presents Law School Rankings: Past, Present, and Future Today at LSAC Annual Meeting
I am presenting Law School Rankings: Past, Present, and Future at the LSAC Annual Meeting and Education Conference today in Tucson, Arizona. I am speaking on a panel on The Future of Law School Rankings. Here is the description of the panel:
As consumers, prospective students want answers to questions about law school. Like it or not, an ever–growing number of applicants rely on rankings to answer those questions. This session will explore whether law school rankings in general remain relevant and the impact rankings have. How can admission professionals use substantive information gleaned from rankings to inform and recruit students, and what else can law school administrators do to improve the situation? Are candidates aware of the drawbacks and limitations of the U.S. News & World Report rankings? Are there other methodologies, resources, or ranking systems available that offer candidates better comparative data? A law professor and the author of a book comparing law schools will offer their thoughts on the future of rankings.
My co-panelist is Richard Montauk, Stanford Law grad, former Latham & Watkins lawyer, founder of the Degree of Difference educational consulting firm, and author of How to Get Into the Top Law Schools (part of his series of books How to Get Into the Top MBA Programs and How to Get Into the Top Colleges).
It has been fun getting to know some law school admissions folks at the conference, and the location -- the JW Marriott Starr Pass Resort and Spa -- definitely trumps the Marriott locale of the AALS annual meeting!
Tax Court Denies Like-Kind Exchange Treatment to Vacation Homes Not Held for Investment Purposes
The Tax Court yesterday, in Moore v. Commissioner, T.C. Memo. 2007-134 (5/30/07), held that a married couple's exchange of vacation homes did not qualify for like-kind exchange treatment because the homes were not held for investment purposes as required by § 1031(a):
As a preliminary matter, we accept as a fact that petitioners hoped that both the Clark Hill and Lake Lanier properties would appreciate. However, the mere hope or expectation that property may be sold at a gain cannot establish an investment intent if the taxpayer uses the property as a residence. See Jasionowski v. Commissioner, 66 T.C. 312, 323 (1976). ... Moreover, a taxpayer cannot escape the residential status of property merely by moving out. [See] Newcombe v. Commissioner, 54 T.C. 1298, 1302 (1970). ...
This Court has frequently applied the reasoning of one or both of Jasionowski and Newcombe in rejecting taxpayer arguments that because a second or vacation home was held for appreciation (i.e., investment) the taxpayer was entitled to a deduction, under § 212(2), for expenses incurred to maintain or improve the property. ... [T]he holding of a primary or secondary (e.g., vacation) residence motivated in part by an expectation that the property will appreciate in value is insufficient to justify the classification of that property as property "held for investment" under § 212(2) and, by analogy, § 1031. ...
[T]he evidence overwhelmingly demonstrates that petitioners' primary purpose in acquiring and holding both the Clark Hill and Lake Lanier properties was to enjoy the use of those properties as vacation homes; i.e., as secondary, personal residences.
The Tax Court also rejected the taxpayer's motion to reject the Government's post-trial brief in the case. Although the brief was filed one day outside of the 60-day period prescribed by Rule 151(b), the Tax Court rejected the motion because the Court had erred in setting the due date of the brief. For the court's discussion of this issue, see below the fold.
On the basis of Rule 151(b), Time for Filing Briefs, petitioners argue that we must disregard respondent's opening brief because respondent filed that brief 1 day late and did not move before the due date for an extension of time to file. Petitioners also argue that, because respondent "failed to file" an opening brief and did not seek leave of the Court to file a reply brief, he is not permitted to file a reply brief. See Rule 151(b).
Petitioners argue that respondent should have filed his opening brief no later than August 15, 2005, the last day of the 60-day period allotted by the Court for such filings at the conclusion of the trial on June 15, 2005, even though the trial transcript furnished to the parties records both the trial clerk and the Court as stating that due date to be August 16, 2005, the date upon which respondent's opening brief was actually filed.
Because the Court identified a due date one day after the close of the 60-day period allocated by the Court for the filing of opening briefs, the Court must accept some responsibility for the tardiness, if any, in respondent's filing of his opening brief. Moreover, 1 day is negligible, and we do not believe that it prejudiced petitioners in preparing their answering brief. In fact, petitioners do not allege that they were so prejudiced; they allege only that we "must strike and disregard" respondent's brief pursuant to Rule 151. Under the circumstances, we find it inappropriate to disregard or strike respondent's opening (or reply) brief, and we decline to do so.
Interestingly, the Tax Court does not quote the language in Rule 151(b) imediately prior to the 45-day deadline: "The following times for filing briefs shall prevail in the absence of any different direction by the presiding Judge."
Both Parties Mischaracterize Tax Components of Democrats' 2008 Budget
Does the Democratic budget contain the "largest tax increase in American history" or "not one penny" of increase? Answer: neither.
Summary: The Democrats’ proposed 2008 budget is being spun by both sides. Democrats claim it will not raise taxes by even a penny, while Republicans say it will impose the largest or second-largest tax increase in history. Obviously, the budget can’t be the largest tax increase in history and zero tax increase simultaneously. So which is it? The answer depends on a couple of questions: What constitutes an increase? And an increase compared with what?
The budget does not propose a new tax hike, compared with current law. It would, however, allow many of President Bush’s tax cuts to expire, meaning some Americans will pay more compared with what they pay now. We suspect that those affected will see that as a tax increase, contrary to the Democratic spin. But the Republican claim that it would be “the largest in history” is off base, too. Measured by the yardstick most economists favor, it's not even in the top 10.
For the detailed analysis, see here.
Sunset Provisions in the Tax Code: A Critical Evaluation and Prescriptions for the Future
Manoj Viswanathan (J.D. 2007, NYU) has published Note, Sunset Provisions in the Tax Code: A Critical Evaluation and Prescriptions for the Future, 82 N.Y.U. L. Rev. 656 (2007). Here is the abstract:
In this Note, the author argues that sunset provisions associated with tax legislation are, in their current form, the product of political maneuvering designed to bypass budgetary constraints and are exploited as a means of enacting what is, in reality, permanent legislation. The use of sunsets in this manner has lead to considerable uncertainty regarding the future of their associated tax provisions. This uncertainty, in turn, has created opportunities for legislators to extract rents from lobbyists, generated inefficiencies for both taxpayers and the government, and increased overall tax code complexity. These problems can be minimized, however, if sunsets are used in a more principled manner. This Note argues that sunset clauses in tax legislation can be made more efficient by limiting both the occasions in which sunsets are employed as well as the procedures used to implement them. First, sunsets should only be used in conjunction with certain kinds of tax incentives: The incentives should be simple, of limited duration, and provide diffuse rather than concentrated benefits. Second, sunsets should only be implemented through a limited set of congressional budgetary procedures: They should only be included as part of the reconciliation process for enacting fiscal legislation if the underlying bill increases rather than decreases revenue, and if Congress enacts and adheres to a revenue-neutral, pay-as-you-go set of budgetary rules. These changes, both substantive and procedural, will increase overall efficiency in the use of sunset provisions in tax legislation.
May 30, 2007
Four Ernst & Young Partners Indicted for Tax Shelter Activities; DOJ Will Not Prosecute Firm
Zolt Presents Evidence from the Americas on How Inequality May Influence Tax Institutions Today at Tel Aviv University
Eric M. Zolt (UCLA) presents Inequality and Taxation: Evidence from the Americas on How Inrquality May Influence Tax Institutions, 59 Tax L. Rev. 167 (2006) (with Kenneth L. Sokoloff (UCLA, Department of Economics)), at Tel Aviv University today as part of its Tax Policy Colloquium hosted by Yoram Margalioth. Here is part of the abstract:
Tax scholars generally focus on how taxation influences inequality. In this article, we examine how inequality may influence the design and implementation of tax systems. We focus on the societies of the Americas over the 19th and 20th centuries to see how and why institutions of taxation differ across and within countries, and how they evolve over time. We examine North America and Latin America for two major reasons. First, despite the region having the most extreme inequality in the world, the tax structures of Latin America are generally recognized as among the most regressive in the world, even by developing country standards. Second, the colonization and development of the Americas constitute a natural experiment of sorts that students of economic and social development can exploit. The different circumstances meant that largely exogenous differences existed across these societies, not only in national heritage, but also in the extent of inequality.
Several salient patterns emerge. The United States and Canada (like Britain, France, Germany and even Spain) were much more inclined to tax wealth and income during their early stages of growth, and into the 20th century, than developing countries are today. Although the United States and Canadian federal governments were similar to those of their counterparts in Latin America in relying primarily on the taxation of foreign trade (overwhelmingly tariffs) and excise taxes, the greater success or inclination of state (provincial) and local governments in North America to tax wealth (primarily in the form of property or estate taxes) and income (primarily in the form of business taxes), as well as the much larger relative sizes of these sub-national governments in North America, accounted for a radical divergence in the overall structure of taxation. Tapping these progressive sources of government revenue, state and local governments in the United States and Canada, even before independence, began directing substantial resources toward public schools, improvements in infrastructure involving transportation and health, and other social programs. In contrast, the societies of Latin America, which had come to be characterized soon after initial settlement by rather extreme inequality in wealth, human capital, and political influence, tended to adopt tax structures that were significantly less progressive in incidence and manifested greater reluctance or inability to impose local taxes to fund local public investments and services. These patterns persisted well into the 20th century, indeed up to the present day.
WSJ Tax Articles
IBM Hones the Stock Buyback; New Offshore Arm Drives Accelerated Repurchase, Easing the Tax Burden, by William M. Bulkeley:
IBM said it has spent $12.5 billion to buy back its stock in one of the largest uses of an "accelerated share repurchase," a tactic that allows a company to boost per-share earnings more rapidly than it would using a conventional buyback approach. In the complex deal, IBM created a Netherlands unit to finance the stock repurchase with overseas earnings and avoid having to repatriate funds, which would make them subject to higher U.S. taxes.
Bill to Expand R&D Tax Break Divides Supporters; Simpler Formula Hurts Some Firms, by Jesse Drucker & Sarah Lueck:
Congress is considering a major increase in the multibillion-dollar tax break for corporate research, but a proposal to change how the credit is calculated is prompting an unusual split among its beneficiaries.
Congress Closes "Kiddie Tax" Loophole; New Law Prevents Parents From Shifting Assets to Students Under Age 24, by Tom Herman & Rachel Emma Silverman:
A new tax law further tightens the screws on wealthy parents who make gifts to a child in order to take advantage of a lower tax rate on children's investment income. The law, part of wide-ranging legislation signed by President Bush last week, marks the second time in just over a year that Washington has extended the reach of the so-called kiddie tax, which subjects a child's income to a parents' higher tax rate.
What prompted Congress to further expand the kiddie tax were reports that some wealthy parents were planning to take advantage of a tax-law change designed for low-income people that will be effective next year. By extending the reach of the kiddie tax, Congress effectively eliminated many of the benefits of this strategy. But the changes to the kiddie tax could affect many other parents who have made gifts of stock and other securities to a child. ...
The tax-saving strategy that touched off the latest law change, which was outlined in this column on Jan. 17 [blogged here] involved people in high tax brackets transferring ownership of large amounts of stock, mutual-fund shares and other assets to children in lower tax brackets. Under current law, the top tax rate on long-term capital gains and most corporate dividends this year generally is 15%. But for taxpayers whose income puts them in the two lowest ordinary income brackets (10% and 15%), the rate is only 5% this year -- and zero next year. For people in higher brackets, the top long-term capital-gains rate on securities sales is to remain 15% next year, as is the rate on most types of dividends.
Anticipating this change, some investment advisers had been suggesting that high-income family members consider making gifts of securities that have gone up in value over the years to low-income family members, who could then sell those securities, tax-free, next year. The new law doesn't affect transfers to elderly parents or other relatives.
Senate Pushes for More Disclosure by Colleges in Form 990
Interesting article in today's Inside Higher Ed: Open the Blinds, by Doug Lederman:
The leaders of the Senate Finance Committee have urged the U.S. treasury secretary to change the federal tax form that many tax-exempt entities file each year, with the goal of ramping up scrutiny of the complex financial operations of private nonprofit colleges and hospitals. The letter from Sens. Max Baucus (D-Mont.) and Charles Grassley (R-Iowa) offers some new insights — worrisome to college tax experts — into the senators’ interest in the possibility of penalizing institutions that are perceived as spending too small a proportion of their endowment assets.
Scotland Considers "Graduate Tax"
According to the BBC, Scotland is considering a "graduate tax" to help fund higher education:
Brian Lang, the principal of St Andrews University ... [proposed a] commission [to do] a proper review of higher education funding which would include investigating the feasibility of a graduate tax. "There are significant advantages to a graduate tax," said Dr Lang. "For one thing, the rate of tax levied can be in direct proportion to the financial benefit from enhanced earnings that the four or so years of university have brought to the graduate." ... "The tax payments would, in reality, be made by rather well-educated graduates, and even then only when they have found paid employment," he said. ...
The National Union of Students Scotland has said it is opposed to the graduate tax. Its president, James Alexander, said: "Graduates that have financially benefited from their course already pay higher tax because they have increased earnings. "There are also a large number of students who never benefit financially from their degrees, such as student nurses and those entering the voluntary sector. "Many of them have to spend years paying off loans. If there was another tax on top of that it would put them off going into these professions.
Pratt on Deficits and the Dividend Tax Cut
Katherine T. Pratt (Loyola-L.A.) has published Deficits and the Dividend Tax Cut: Tax Policy as the Handmaiden of Budget Policy, 41 Ga. L. Rev.503 (2006). Here is the abstract:
Tax policy has dominated President Bush's domestic policy agenda. The centerpiece of that agenda is the dividend tax cut enacted in 2003. The dividend tax cut is scheduled to expire in 2010, but President Bush continues to urge Congress to make it permanent. President Bush argues that the dividend tax cut promotes long-term economic growth, stimulates the economy, makes the tax system fairer, provides a steady source of income for needy senior citizens, and pays for itself. This Article evaluates the various rationales President Bush offered to justify the dividend tax cut, with an emphasis on the long-term growth rationale.
The economic effects of the dividend tax cut, determined without regard to the fact that it was deficit financed, are controversial and the subject of continuing debate among economists. Early evidence suggests that the tax cut increased the size of dividend payouts and the initiation of dividend payouts. Other evidence suggests, however, that the dividend increases may not be as large as some studies indicated, may not be attributable to the dividend tax cut, and may be temporary. Taking into account the deficit financing of the dividend tax cut, the economic effects of the dividend tax cut are clearer. The deficit financing of the dividend tax cut creates negative growth consequences that offset any positive growth consequences of dividend tax relief. The dividend tax cut also is inequitable. It disproportionately benefits high-income Americans but disproportionately burdens low-income and middle-income Americans due to the effects of cuts in discretionary spending, such as the 2004 and 2005 federal budget cuts that stalled necessary maintenance work on the New Orleans levee system before Hurricane Katrina hit. Congress should not make the dividend tax cut permanent and should repeal the dividend tax cut immediately. Cutting the shareholder-level tax on dividends could have been a viable way of reforming the corporate tax if the dividend tax cut had been structured to ensure that corporate income is taxed at least once and Congress had made up the lost revenue in an equitable and efficient manner or had enacted offsetting spending cuts in an equitable and efficient manner. As enacted, the dividend tax cut does not ensure that corporate income will be taxed at least once and was deficit financed without regard for the harmful future economic and distributional consequences of that deficit financing.
WSJ Plugs TaxProf Blog
Tom Herman gives a nice plug to TaxProf Blog in today's Wall Street Journal:
A POPULAR BLOG assembles tax information for the military.
Continuing a Memorial Day tradition, TaxProf Blog (www.taxprof.typepad.com), a site run by Paul Caron, a professor at the University of Cincinnati College of Law, has assembled links to IRS tax information for members of the U.S. Armed Forces and their families. See his posting last Monday.
Mr. Caron's widely read Blog is important reading for anyone trying to keep up with tax-related news, ranging from court cases and IRS news releases to coverage of tax geeks who appear in strange music videos.
My only quibble: I have previously taken good natured umbrage at the term "tax geeks" in Tax Myopia, Or Mamas Don't Let Your Babies Grow Up to be Tax Lawyers, 13 Va. Tax Rev. 517 (1994):
Tax courses are perceived to be reserved for what in my day used to be called "tax geeks"[Fn.4].
Fn.4: After I became one, I preferred the less pejorative term "tax jocks." I am unsure, however, whether the term caught on among anyone other than my fellow tax geeks.
OECD Opines on U.S. Tax Reform
The Organisation for Economic Cooperation and Development yesterday published its annual Economic Survey of the United States. Here is the tax discusison:
Tax Reform Would Enhance Efficiency.
On the revenue side, it may be difficult to sustain the recent reductions in marginal tax rates, while meeting the fiscal burden from entitlement programmes, although this would be clearly desirable. To the extent that revenues have to be raised, the tax base should be broadened, rather than reversing reductions in marginal tax rates. Since the comprehensive tax reform in 1986, which broadened tax bases and reduced marginal rates, most of the resulting gains in simplicity and efficiency have been lost through a renewed expansion in tax expenditures. To be sure, not all of them are undesirable. However, tax expenditures, which are distorting, ill targeted and ineffective, should be reduced or abolished. The President’s Advisory Panel for Federal Tax Reform has recommended, inter alia, that tax preferences for mortgage interest payments, employers’ contributions to health insurance plan premiums, and state and local tax payments should be reduced. But, in addition to the Panel’s proposals, consideration should also be given to shifting the tax burden from direct taxes to consumption based indirect taxes – such as a national sales tax or a value added tax. This would produce efficiency gains, including reducing disincentives to saving. Furthermore, higher taxation of carbon based energy consumption would help reduce greenhouse gas emissions.
Can Schools Improve Teaching Without Hurting Scholarship?
Interesting op-ed in this week's Chronicle of Higher Education: Harvard, Be Honest, by Leonard Cassuto (Fordham University, English Department):
Dear Harvard: It was with eager anticipation that I opened your recently released task-force report, A Compact to Enhance Teaching and Learning at Harvard, on the charged topic of the role of teaching in the research university. As a graduate-school alumnus, I had high hopes.
But I confess that I am disappointed. You say that you must value teaching more, and you speak of the need to "make choices" to achieve that goal. Yet you refuse to acknowledge the most important choice. In fact, your report implicitly suggests that you don't have to make any choices at all. ...
Try as you may to avoide or elide the fact, faculty members at Harvard (and most other institutions) play in a zero-sum game. Will your new focus on teaching detract from Harvard's renowned research chops? No, you insist, faculty members will "commit themselves equally" to excellence in research and teaching. No loss, then. You'll just add more teaching to the mix. But you can't keep adding more and more air to the same size balloon. Good teaching takes time. Spend more time on teaching, and you'll spend less on research — or on leisure, vacation, or family time. Devote more time to teaching, and you'll have two choices: less research or no life. ...
What you're really doing is calling for achieving institutional priorities on the backs of faculty members. And the faculty members who will suffer most are the ones striving for tenure.
Supreme Court Grants Cert in CSX Transportation
The U.S. Supreme Court yesterday granted certiorari in CSX Transportation, Inc. v. Georgia Board of Equalization (06-1287). Here is the question presented:
Whether, under the federal statute prohibiting state tax discrimination against railroads, 49 U.S.C. § 11501(b)(1), a federal district court determining the “true market value” of railroad property must accept the valuation method chosen by the State.
Bogdanski on New Tax Qualification Rules and Special Penalties for Appraisers
Jack Bogdanski (Lewis & Clark) has published For Appraisers, New Tax Qualification Rules and Special Penalty, 34 Est. Plan. 16 (June 2007). Here is the abstract:
Appraisers who perform valuations for federal tax purposes must now operate under several significant professional responsibility constraints, including greater required professional credentials and potential application of monetary penalties.
ABA Tax Section Offers Teleconference & Webcast Today on Like-Kind Exchanges
The ABA Tax Section offers a teleconference and webcast today on Trends and Traps Under Section 1031: What Does and Doesn’t Work Under Recent Like-Kind Exchange Guidance from 1:00 - 2:30 p.m. EST:
In recent months, a number of developments have affected practice under section 1031. This program will consider the most important of those topics, including securing exchange balances; fallout from a recent QI defalcation; recent developments regarding related party exchanges; and current trends in non-safe harbor reverse exchanges. The program will be useful to both the section 1031 novice and the seasoned section 1031 practitioner.
- Brad Borden (Professor, Washburn Law School, Topeka, KS)
- Mary B. Foster (President, 1031 Services, Inc., Bellevue, WA)
- David Shechtman (Partner, Drinker Biddle & Reath LLP, Philadelphia, PA)
- Lou Weller (Deloitte Tax, LLP)
May 29, 2007
Hillary's Tax Plan
From today's Reuters: Clinton Proposes Cutting Corporate Tax Breaks:
Sen. Hillary Rodham Clinton said on Tuesday she might seek to scrap certain corporate tax breaks and subject CEO pay to public scrutiny if elected president in November 2008. ... She said she would advocate tax code changes that would keep jobs at home although she offered little in the way of specifics. She said she would require oil companies to invest in alternative technologies or pay higher taxes. "It is one thing for the marketplace to encourage overseas investment, it's another thing for our tax code to do it," Clinton said in what her campaign billed as a major policy address. "We will consider eliminating the deduction for the actual cost of moving jobs. There should be no advantage given to anyone who takes jobs and ships overseas at the disadvantage of our workforce."
From the Hillary for President web site:
ABA Tax Section Publishes Spring 2007 Issue of News Quarterly
- From the Chair (Susan P. Serota) (pp. 3-4)
- Interview with Nina Olson (pp. 5-9)
- Challenge Point: Balancing Competing Goals in Structuring Transactions (pp. 10-11)
- 2007 Pro Bono Award Recipient: Leslie M. Book (p. 12)
- Points to Remember
- Taxpayers' Reliance Interest and the Service's Need to Interpret the Law (pp. 13-15), by Reginald Mombrun (Florida A&M)
- New "Substantial Assistance" Rules: Notice 2007-12 Is Welcomed Relief! (pp. 15-16), by Juan Carlos Ferrucho, Nadia Bustos & Michelle M. Robles (Alvarez & Marsal, Miami, FL)
- Maintaining Tax Privilege to Documents and Legal Advice in Light of FASB Interpretation 48, Accounting for Uncertainty in Income Taxes (pp. 16-19), by B. Shawn Martin (Hirschler Fleischer, Richmond, VA)
- The New Section 7122 OIC Rules (pp. 19-20), Robb A. Longman (Joseph, Greenwald & Laake, Greenbelt, MD)
- Spotlight on Committees: Bankruptcy & Workouts (p. 20)
- Government Submissions Boxscore (p. 21)
- CLE and Section Meeting Calendars (p. 22)
- Tax Bites: When Buying a Home, Expect the Unexpected (p. 24)
Jost on The Role of Tax Law in American Health Policy
Timothy Stoltzfus Jost (Washington & Lee) has published Shifting Risk of Ruin to Consumers: The Role of Tax Law in American Health Policy, 51 St. Louis U. L.J. 353 (2007). Here is part of the conclusion:
Only time will tell whether HSAs in fact will save the American health care system, or whether they will be just one more failed panacea, like health planning in the 1970s or HMOs in the 1980s and 1990s. One thing that we can confidently predict, however, is that health policy in the United States will continue to be tax policy and that the tax laws will continue to be used in efforts to save the health care system. We can also predict that tax policies that end up shifting more and more risk to individual Americans, and particularly lower income Americans, will leave more and more of these Americans in financial ruin.
Federal Judge Slashes Victorious Pro Se Taxpayer's Attorneys' Fee Request
Interesting article in today's New York Law Journal: Federal Judge Slashes Fees Sought by Attorney in Pro Se Tax Victory, by Joel Stashenko:
A federal bankruptcy court judge has slashed the fees sought by an attorney for representing himself in an action against the IRS. Northern District of New York Bankruptcy Judge Robert E. Littlefield Jr. last May took the unusual step of allowing Paul S. Hudson to seek attorneys fees for his successful pro se efforts. [In re Hudson, No. 00-116839 (Bankr. N.D.N.Y. 6/16/06)]. Shortly afterward, Hudson submitted a bill for $21,206. But in a recently completed review of Hudson's application, which Littlefield described as "replete with deficiencies and problems," he reduced the fee award to $6,831. [In re Hudson, No. 00-116839 (Bankr. N.D.N.Y. 4/27/07)]. In fact, Littlefield suggested in In re: Hudson, 00-11683, he was so frustrated with the application that he considered exercising his discretion to deny it entirely. Hudson filed a motion for Littlefield to reconsider the fees determination. The judge scheduled a hearing for May 30 in Albany, N.Y.
For exceprts from the judge's opinion, see below the fold.
Hudson’s application is replete with deficiencies and problems. Except for Exhibit A, “Schedule of Attorney Time by Paul Hudson,” attached to the application, Hudson’s application does not address the substance of the services he provided or, as indicated above, his own professional credentials. (Hudson’s First Application for Litigation Expense Award (“Hudson’s Application”), Ex. A, No.434.) Instead, Hudson uses his application as a vehicle to rehash the arguments in support of his underlying claim objection. Overall, several features of Hudson’s fee application trouble the court, including failure to maintain contemporaneous time records, lumping of tasks, vague descriptions of services performed, and compensation being sought for tasks clerical in nature rather than legal. These inadequacies are addressed in more detail infra. Based upon the foregoing, the court could deny the fee request in its entirety, however, the court acknowledges that it did find Hudson to be a prevailing party, and he did perform some legal services that resulted in an overall benefit to the estate. Rather than deny the fee request, the court believes an overall fee reduction of 50% to be appropriate to address its concerns.
Fall Out Tax Prof
Following up on last week's post on taking my daughter and three of her friends to the Fall Out Boy concert here in Cincinnati: here is the picture of the four of us with the band at the pre-show meet and greet:
An Empirical Study of the Law Review Article Selection Process
Last year, I previewed the results of a survey of the article selection processes at more than 150 law reviews conducted in 2005-06 by Jason P. Nance and Dylan J. Steinberg, Articles Editors of the University of Pennsylvania Law Review. Among the many interesting results:
Strongest positive influences in article selection process -- author:
- Author is highly influential in her respective field
- Author has published frequently in highly ranked law reviews
- Author is employed at a highly ranked law school
- Author has a large number of previous publications
- Author has practice experience related to the manuscript submitted
How frequently do you ask a faculty member to read the article before extending an offer of publication?
- Always: 7%
- Occasionally: 44%
- Never: 49%
They have now posted a draft of the article, The Law Review Article Selection Process: Results from a National Study, on SSRN. Here is the abstract:
The student-edited law review has been a much criticized institution. Many commentators have expressed their belief that students are unqualified to determine which articles should be published in which journals, but these discussions have been largely based on anecdotal evidence of how journals make publication decisions. It was against that backdrop that we undertook a national survey of law reviews in an attempt to determine how student editors responsible for making publication decisions went about their task. This article compiles the results of that survey, which received 191 responses from 163 different journals. We analyzed 56 factors that influence the selection process and then grouped similar items together to form 17 constructs using factor analysis. Finally, we disaggregated the results to determine whether the results were significantly different based on the prestige of the journals involved. While many of our results confirm what has been widely assumed to be true, there are also some surprising findings. We found, for example, that Articles Editors seek to publish articles from well-known and widely-respected authors. It appears, however, that editors do not assume that prestigious authors produce the best scholarship, but instead they pursue the work of well-known authors because it can increase their journals' prestige within the legal academic community. The survey reveals that editors are not nearly as likely to seek out articles dealing with hot or trendy topics as some commentators have assumed, and that author diversity plays almost no role in the article selection process. We hope that our study will provide some structure to the ongoing debate about how best to use students in the law review publication process and will allow a more informed consideration of whether students are sufficiently well-trained to evaluate articles and whether they are using the proper criteria.
Call for Tax Papers: Canadian Law and Economics Association
The Canadian Law & Economics Association has issued a call for tax papers for its annual meeting to be held September 28-29, 2007, at the Faculty of Law, University of Toronto. The tax session will be headed by Ben Alarie (University of Toronto). Anyone wishing to present at the conference should email an abstract, paper, or Internet link here.
TaxProf Blog Holiday Weekend Roundup
- Internet Taxes Are Coming
- Tax Prof Profile: John Mylan
- Tax Policy Center Reports
- Ordower on Demystifying Hedge Funds: A Design Primer
- Top 5 Tax Paper Downloads
- NY Times & WSJ on FIN 48 and Disclosure of Potential Tax Liabilities
- McGeorge Confers Order of the Pacific on Retiring Tax Prof Wile
- The Rise and Fall of Accounting as an Academic Discipline
- Memorial Day Tax Resources for U.S. Armed Forces and Their Families & Employers
- NY Times Shifts AMT Stance, Embraces Tax Policy Center Plan
- WSJ: Financial Problems of Qualified Intermediaries May Bring More Regulation of 1031 Like-Kind Exchanges
- Free File Alliance Blasts Senate's Proposed IRS Web Portal for Free Tax Return Preparation and eFiling
- IRS Names Terri McField Special Counsel to Chief Counsel (Legislation)
May 28, 2007
Memorial Day Tax Resources for U.S. Armed Forces (Plus Their Families & Employers)
Continuing a TaxProf Blog Memorial Day tradition (2006 and 2005), I want to pass along links to the Tax Information for Members of the U.S. Armed Forces material maintained on the IRS web site:
The tax laws provide some special benefits for active members of the U.S. Armed Forces, including those serving in combat zones. For federal tax purposes, the U.S. Armed Forces includes officers and enlisted personnel in all regular and reserve units controlled by the Secretaries of Defense, the Army, Navy and Air Force. The Coast Guard is also included, but not the U.S. Merchant Marine or the American Red Cross. However, these and other support personnel may qualify for certain tax deadline extensions because of their service in a combat zone.
For dozens of links to military tax resources, see below the fold.
- Questions & Answers on Combat Zone Tax Provisions
- A Combat Zone E-mail Address for members of the Armed Forces or their families worldwide to alert the IRS that they are serving in a combat zone
- IR-2007-46: Free Online Tax Filing Available to Many Military Members
- IR-2006-152: Active Duty Reservists Get Relief on Retirement Plan Payments; Refunds of 10-Percent Tax Available Back to 2001, New Law Says
- IR-2006-129: New Law Expands IRA Options for Military; Many Can Still Contribute for 2004 and 2005
- Tax Tip 2006-39: Reservists, Enlistees May Get Deferral for Back Taxes
- Military Family Tax Relief Act of 2003: Tax breaks related to military service, including two provisions that may require amended returns
- IR-2003-132: IRS Helps Military Personnel Get New Law's Tax Breaks
- IR-2003-63: New Tax Scam Targets Families of Armed Forces Members
- Notice 2003-21: Tax Relief for Those Involved in Operation Iraqi Freedom
- IR-2003-43: Tax Assistance for Military Families; New Web Site for Armed Forces
- Fact Sheet 2003-11: Information for Taxpayers Serving in the Armed Forces
- News Release IR-2002-18: Tax Relief for Troops in the Afghanistan Combat Zone
- Notice 2002-17: Tax Relief for Those Involved in Operation Enduring Freedom
NY Times Shifts AMT Stance, Embraces Tax Policy Center Plan
An editorial in today's New York Times prescribes Fixing the Alternative Tax:
The nonpartisan Tax Policy Center has come up with a plan [blogged here] that deserves lawmakers’ careful attention. It would get rid of the AMT altogether, and in its place impose a new 4% tax on income above $200,000 a year for married couples and above $100,000 for single taxpayers. Under the proposal, most taxpayers with incomes under $500,000 would pay lower taxes than if they remained subject to the AMT. Taxpayers at higher incomes would pay more taxes, especially those with incomes above $1 million. Thus the surtax would be most significant for those at the highest income levels, among the biggest beneficiaries, by far, of the Bush-era tax cuts.
In the past, this page has advocated exempting upper-middle-income taxpayers from the AMT and revising the AMT rules to include many millionaire investors. Such investors were the original targets of the tax because they enjoy a huge break in the form of superlow capital gains tax rates. But for the past decade, they have largely escaped having to pay the alternative tax. The plan from the Tax Policy Center gets to more or less the same place, with less complexity.
Most investment income is concentrated among the wealthiest Americans. So by focusing the surtax at the highest levels, the plan could tax investment income at a rate that is more in line with the rates that everyone else pays. The only alternative to a permanent fix is to pass annual relief measures. But such stopgaps cost tens of billions of dollars a year — an estimated $70 billion in 2007 alone — all of which must be borrowed.
That’s not smart or fair. The plan from the Tax Policy Center is both.
WSJ: Financial Problems of Qualified Intermediaries May Bring More Regulation of 1031 Like-Kind Exchanges
Interesting article in the Weekend Wall Street Journal: Tax Strategy For Real Estate Hits Rocky Turf; "QI" Ploy Draws Focus as Middlemen Develop Financial Difficulties, by Peter Lattman & Kemba Dunham:
A popular tax-deferral trick for real-estate investors is facing scrutiny as key middlemen in the strategy run into financial trouble. The problems are starting to leave investors with significant losses, and raising the possibility of increased oversight of a lightly regulated corner of the real-estate investment world. In at least one instance, a firm that helps investors defer taxes this way is facing allegations of fraud.
The strategy, known as a 1031 exchange, lets investors who sell investment properties defer capital-gains taxes if they invest the proceeds in "like kind" property within 180 days. To qualify for the benefit, the seller can't touch the money from the sale. Instead, the funds must go into an account until they are used for the purchase of a new property. That's where the money can be vulnerable.
These exchanges have been around for nearly 90 years, but their popularity has increased in the past decade as the number of real-estate investors has exploded. In a 2005 study by Deloitte Tax LLP there were about 220 million 1031 exchange transactions in 2003 totaling about $200 billion in value, the most recent data available.
The accounts for 1031 exchanges are typically handled by a party called a "qualified intermediary," also called an accommodator or facilitator. While many so-called QIs are part of banks or title-insurance companies, the QI business is largely unregulated. There are hundreds of independent QI businesses across the country. Furthermore, a QI can do virtually anything with the funds in its possession, subject to its agreement with the taxpayer. "There isn't any kind of prohibition in the tax code that says where those dollars can be placed," says John King, senior vice president at a subsidiary of Fidelity National Financial Inc. in Jacksonville, Fla. that serves as a qualified intermediary. ...
The past several months have seen at least two big cases of independent QIs running into trouble. [See TaxProf coverage here.] Clarissa Potter, deputy chief counsel of the IRS, says the agency is following the trouble. "We know taxpayers may face disruptions when an intermediary cannot meet its obligations," she says.
Free File Alliance Blasts Senate's Proposed IRS Web Portal for Free Tax Return Preparation and eFiling
I previously have blogged (here and here) the Senate Finance Committee's criticism of the Free File Program, a partnership between the IRS and the Free File Alliance LLC, a group of private sector tax software companies (blogged here). Since Free File’s debut in 2003, more than 15.4 million returns have been prepared and e-filed through the program. Free File allows taxpayers with an AGI of $52,000 or less (70% of all taxpayers) to e-file their federal tax returns for free.
The Free File Alliance has issued a press release with a copy of a letter sent to the Senate Finance Committee expressing concern over the proposed government-funded "web portal" for the preparation and eFiling of income tax returns:
The proposal would threaten the continued viability of the government-industry partnership and the free tax preparation services that the Alliance provides to the neediest Americans. ... The proposed web portal would make the federal government a direct, government-subsidized competitor with the private sector. All costs, technical infrastructure and customer service burdens currently borne by the Free File Alliance would shift to the federal government, thus creating an added tax burden for the American taxpayer.
IRS Names Terri McField Special Counsel to Chief Counsel (Legislation)
The IRS has named Terri McField Special Counsel to the Chief Counsel (Legislation). From IR-2007-107:
Since 2001, McField has served as the Vice President and General Counsel for Black Entertainment Television’s subsidiary, BET Interactive. In this position she was responsible for legal matters pertaining to BET’s internet company. From 1998-2001, McField was Vice President and Associate General Counsel for BET, where she assisted with the company’s legislative and tax matters. Prior to those positions, she worked as a Legislative Tax Counsel to a member of Congress on the House Committee on Ways and Means and served as a Senior Tax Associate at Coopers & Lybrand. She began her tax career as a Revenue Agent for IRS in New Orleans where she obtained her CPA certificate.
She will be replacing Clarissa Potter, who became the Deputy Chief Counsel in September 2006.
May 27, 2007
Top 5 Tax Paper Downloads
There is a lot of movement in this week's list of the Top 5 Recent Tax Paper Downloads, with a new #1 paper and three new papers debuting on the list at #3, #4, and #5:
1. [180 Downloads] The Play's the Thing: A Theory of Taxing Virtual Worlds, by Bryan Camp (Texas Tech) [blogged here]
2. [94 Downloads] Policy and Theoretical Dimensions of Qualified Tax Partnerships, by Bradley T. Borden (Washburn) [blogged here]
4. [82 Downloads] Why Worldwide Welfare as a Normative Standard in U.S. Tax Policy?, by Daniel N. Shaviro (NYU) [blogged here]
NY Times & WSJ on FIN 48 and Disclosure of Potential Tax Liabilities
New York Times: Risky Bets on Winning Tax Fights, by Floyd Norris:
Death may still be certain, but taxes are something else entirely. Disclosures are now appearing in quarterly reports from American public companies, showing that companies are betting billions on tax breaks that may not work out. The disclosures also show that some companies keep fighting over taxes for decades. While most companies say they have cleaned up tax disputes from the 1990s and even up to 2002 or 2003, others are far slower. Some are still fighting over audits that began in the 1980s — leaving the companies at risk of paying billions in taxes and penalties. ...
The new rule from the Financial Accounting Standards Board is supposed to make all companies account for taxes in the same way, something that has not happened in the past, when accounting rules were vague and practices seem to have varied greatly.
Wall Street Journal: Lifting the Veil on Tax Risk: New Accounting Rule Lays Bare a Firm's Liability if Transaction Is Later Disallowed by the IRS, by Jesse Drucker:
Hundreds of companies could be on the hook to the IRS and other authorities for tens of billions of dollars in back taxes due to transactions they believe could be challenged, newly required regulatory disclosures show. Investors are getting a first peek into one aspect of the world of corporate taxes, thanks to a new accounting rule that took effect in January.
The rule, known as FIN 48, forces companies to better disclose how much they have set aside, or reserved for financial-reporting purposes, to pay governments in case tax-saving transactions are successfully challenged by taxing authorities.
In the past, companies had to reveal little information about transactions that could face some risk in an audit by the IRS or other government entities. Now, companies are being required to disclose the amount they have put into tax reserves, along with other potentially challengeable amounts related to past tax benefits. These sums are being disclosed as a liability for "unrecognized tax benefits" in quarterly 10-Q reports filed with the SEC. Most of the first such disclosures have been filed in the past few weeks.
McGeorge Confers Order of the Pacific on Retiring Tax Prof Wile
It is the highest award that can be conferred upon a retiring faculty member and recognizes someone who has made an outstanding contribution in teaching, scholarship and service to the University. Wile, who joined the faculty in 1987, has served as director of the law school’s Tax Programs and taught numerous subjects in that area over a 20-year span.
The Rise and Fall of Accounting as an Academic Discipline
Timothy J. Fogarty (Case Western Reserve University, Department of Accountancy) & Garen Markarian (Instituto de Empresa) have posted An Empirical Assessment of the Rise and Fall of Accounting as an Academic Discipline on SSRN. Here is the abstract:
The history of accounting as an academic discipline is a short one. Although the study of accounting in institutions of higher education is roughly coextensive with the rise of the business school, the need for a dedicated group of full-time faculty in this area is not as well-established as other business disciplines. The paper pertains to the recent trajectory of the accounting professoriate. Disciplinary success should be evidenced by the broader recognition of importance, high demand for its work, and the numerical increase of its practitioners. Although the value and importance of accounting is a maintained hypothesis within the field, how accepted this idea is in the business school is an empirical question. This paper illustrates the number and distribution of accounting faculty over a twenty-year period through the consideration of a number of specific research questions. The results show that after a decade-long increase, the number of the full-time accountancy faculty in the USA in the last decade has declined. This decline is not uniform, but instead is patterned in ways that raise further doubts about the future of the discipline.
May 26, 2007
Internet Taxes Are Coming
Interesting article on CNET News: The Taxman Cometh Back, by Steven Musil:
If you once scoffed at those e-mails warning of an e-mail tax, brace yourself: you may soon be paying a lot more to use the Internet. The era of tax-free e-mail, Internet shopping and broadband connections could end this fall, if recent proposals in the U.S. Congress prove successful. State and local governments this week resumed a push to lobby Congress for far-reaching changes on two different fronts: gaining the ability to impose sales taxes on Net shopping, and being able to levy new monthly taxes on DSL and other Internet-service connections. One senator is even predicting taxes on e-mail.
Pro-tax advocates this week advanced a flurry of proposals pushing in that direction. A bill was introduced that would usher in mandatory sales tax collection for Internet purchases. Then, during a House of Representatives hearing the same day, politicians weighed whether to let a temporary ban on Net access taxes lapse when it expires on November 1. A House backer of another pro-sales tax bill said to expect a final version by July.
The SMU Graduate Tax Program began more than 50 years ago and prospered under Dean Charles O. Galvin. Today, U.S. News ranks SMU among the Top 20 law schools in tax and among the Top 10 graduate tax programs. In recent years, the SMU Law Review has published a special tax issue, including
In this five-part series, TaxProf Blog will profile SMU's full-time Graduate Tax Faculy.
- B.S. 1961, Fordham
- J.D. 1964, Stanford
- LL.M. (Tax) 1965, NYU
I am a native New Yorker and graduate of Fordham with a degree in mathematics. I changed both career path and geographic location upon graduation by attending Stanford Law School, I certainly had no thought of becoming a tax lawyer until I took the basic income tax course from Professor Joseph T. Sneed, a gifted and charismatic teacher whose insights into the tax system I still find valuable today. After Stanford, I returned to New York for a year to earn a graduate tax degree from NYU. My year as a student with that outstanding tax faculty was a great intellectual opportunity.
During my five years of tax practice in Southern California, I taught in the UC system to professional groups in the evenings and on weekends. Realizing these teaching experiences were the high points of my work life, I decided to try full-time teaching. My wife and I and our two small daughters then moved to Oregon and I taught at Willamette Law School for eleven years.. I enjoyed the intimacy and sense of community offered by teaching at a small law school. That was balanced by the three occasions in those eleven years when I was invited to teach in graduate tax programs. In my third year of teaching, I spent a year as a visiting professor in the NYU Graduate Tax program, a truly memorable experience to be on the faculty for a year with so many of my former teachers. I was later a visiting professor on the Florida graduate tax faculty, another exceptional group of individuals. Finally, we came as visitors to Dallas for a year so I could teach in SMU's J.D. and LL.M. tax programs. That visitorship has turned into a twenty six year affiliation with a tax program which was built by Charley Galvin in his years as Dean at SMU. I have appreciated having my former NYU student Hank Lischer and Christopher Hanna, another NYU LL.M., as tax colleagues.
I enjoy studying and teaching tax law with all that it reveals not only about commerce, law and politics, but about the human condition as well. I derive different satisfactions teaching in the J.D. and the LL.M. tax programs. I still find the vast landscape of the four-hour basic income tax course to be the most challenging to teach, but in many ways the most rewarding. I have taken particular satisfaction in having students with no prior interest in tax indicate that they now want to pursue tax as a career. I also find the basic tax course to be the best venue to engage in my secret desire to be a stand up comedian. On the other hand, the graduate tax courses I teach give me an opportunity to master some really complex Code provisions and, hopefully, make them understandable to our students.
I have published numerous tax articles and in 1990 co-authored a multi-volume treatise, Federal Taxation of Close Corporations (Thomson-West 1991), with my good friend Ed Hood of UMKC. This work is supplemented twice a year. For a number of years I have supplemented the twenty-four chapters covering Subchapter C, Subchapter S, and Employee Benefit Plans without the assistance of my co-author. I have also co-authored a treatise, Closely Held Businesses in Estate Planning (Aspen 2d ed. 1998), which we supplement annually.
In my 37 years of law teaching, there has rarely been a day that I have not looked forward to being in the classroom. I feel fortunate to have come upon the perfect career for me. Even after I retire from full-time teaching, I hope to teach as a visitor from time to time.
For prior SMU Graduate Tax Faculty Profiles, see:
Each Saturday, TaxProf Blog shines the spotlight on one of the 700+ tax professors in America's law schools. We hope to help bring the many individual stories of scholarly achievements, teaching innovations, public service, and career moves within the tax professorate to the attention of the broader tax community. Please email me suggestions for future Tax Prof Profiles. For prior Tax Prof Profiles, see here.
Tax Policy Center Reports
The Tax Policy Center has published a number of tax reports:
- A Simple, Progressive Replacement for the AMT, by Len Burman & Greg Leiserson
- Eligibility for Child Tax Credit by Age of Child, by Leonard E. Burman & Laura Wheaton
- Energy Taxation: Principles and Interests, by Eric Toder
- Fixing the AMT by Raising Tax Rates, by C. Eugene Steuerle
- Restoring Professionalism to Professions, by C. Eugene Steuerle
- State Savings Prop Up Spending After 2001 Recession, by Elaine Maag & David Merriman
- Still Crazy After All These Years: Understanding the Budget Outlook, by Alan J. Auerbach, Jason Furman & William G. Gale
- Subsidizing Higher Education Through Tax and Spending Programs, by Elaine Maag, David Mundel, Lois Rice & Kim Rueben
- Two-Thirds of Tax Units Pay More Payroll Tax Than Income Tax, by Leonard E. Burman & Greg Leiserson
Ordower on Demystifying Hedge Funds: A Design Primer
The media sometimes vilify “hedge” funds for their secretiveness and elitism and rue the hedge fund industry’s economic power and apparent ability to disrupt the smooth operation of financial markets and national economies. This article seeks to provide readers, who are generally familiar with mutual funds, a basic understanding of the structure and characteristics of “hedge” funds in their regulatory context. The article compares hedge funds with mutual funds and explains that most hedge funds are private investment companies that their promoters design so that they need not register under the Investment Company Act of 1940. Those unregistered funds do not make a public offering of their securities and come in two basic varieties: (i) funds that admit no more than 100 investors (referred to by the applicable exception under the Investment Company Act as section 3c1 funds) and (ii) funds that admit as many as 499 investors (the limit only to avoid registration under the Securities Exchange Act of 1934), all of whom must be qualified purchasers (referred to as section 3c7 funds). Qualified purchasers, in the case of individuals, are people who own at least $5 million in investments. Since 1998, there are registered hedge funds that restrict their investor base to qualified clients, who are, in the case of individuals, people with at least $1.5 million in investments.
The article identifies and explains the two principle reasons for avoiding Investment Company Act registration: (i) incentive fees for investment advisers to the funds and (ii) no restrictions on borrowing to create leverage for the fund. Registered hedge funds may pay incentive fees to their investment advisers but may not borrow except within the narrow three times asset coverage limits applicable to mutual funds. In addition, the article explains the taxation of hedge funds and the need to provide different fund structures for different classes of investors, partnerships that are transparent for tax purposes for taxable U.S. investors and corporations, usually offshore, for tax exempt U.S. investors and non-U.S. investors. Finally, the article briefly comments on the need for additional regulation of hedge funds.
After introducing some history of hedge funds and comparing the liquidity of hedge fund investing with mutual fund investing, part 2 of the article describes the structuring of hedge funds to exempt them from regulation under the Securities Act, the Exchange Act, and the Investment Company Act. Part 3 explains how the exemption of hedge funds from regulation under the Investment Company Act enables the funds’ investment advisers to avoid regulation under the Advisers Act but, more importantly, to remain free from the limitations on the fees the advisers may collect. Part 4 identifies federal income tax rules that contribute to structural choices and result in a mixture of domestic and offshore funds to meet the needs of differing classes of investors. Part 5 discusses hedge fund strategies and the importance of leverage. Part 6 concludes by synthesizing the regulatory frameworks to an understanding of the simple fundamental nature of hedge funds and briefly explores the question of the need for additional regulation of the hedge fund industry.
May 25, 2007
Proposed Senate Legislation to Require Brokers to Report Securities Basis
The Senate Finance Committee today released a bipartisan staff proposal that would require brokers to report to customers and to the IRS the basis in securities that are sold:
Update: Wall Street Journal: Brokers Would Report "Basis" of a Stock Under Tax Proposal, by Rob Wells
Tax Provisions of Minimum Wage Bill
Here are legislative materials on the tax provisions of the minimum wage bill passed by the House and Senate:
- Legislative Language
- Joint Committee on Taxation Explanation
- Joint Committee on Taxation Revenue Estimate
- Ways & Means Committee Press Release
- Ways & Means Committee Summary
- House Roll Call Vote
- Senate Report
- Senate Finance Committee Press Release
- Senate Roll Call Vote
IRS Wins Another Tax Shelter Case
The IRS won another tax shelter case yesterday: H.J. Heinz & Co. v. United States, No. 03-2847T (Ct. Fed. Cl. 5/24/07). The court denied Heinz's claimed $42.6 million tax refund on economic substance grounds. The opinion is noteworthy in at least two respects: (1) the court's description of the role of basis in the income tax (an issue much discussed in the context of the Murphy case), and (2) the court's pithy conclusion:
 All tax students are familiar with the concept of “basis,” which, in the income tax law, is the touchstone for measuring income and loss. Generally speaking, it is basis that prevents the double taxation of income reflected in a property’s cost, by allowing that cost to be recovered, tax-free, upon the asset’s disposition. And it is basis, again, that measures the loss realized if the seller recovers less than its investment in property. Sometimes, the process for determining basis is straight-forward, with the amount readily traceable, for example, to specific costs incurred by the taxpayer with respect to the asset being sold. Other times, however, the origins of basis are more obscure, particularly, when the tax law attributes costs previously incurred by a taxpayer to the sold asset. Those attribution rules are fairly complicated, providing opportunities both for bona fide tax planning and undue manipulation of the tax system. Sometimes it falls to a court to discern which of these has occurred. ...
 A Heinz promotion from the late 1950s and early 1960s touted its tomato ketchup by stating – “It’s Red Magic Time!” But no amount of magic, red or otherwise, can hide the meat of the transactions in question, the connective tissues and gristle of which have been revealed by the multi-tined substance-over-form doctrine. Sans sa sauce, it becomes plain that plaintiffs’ transaction simply was not “the thing which the statute intended.” Gregory, 293 U.S. at 469.
For a description of the precise tax issue in the case, see below the fold.
This tax refund case is before the court following a three-day trial in Washington, D.C. Plaintiffs seek a refund of $42,586,967. At issue is whether H.J. Heinz Credit Company (HCC), a subsidiary of the H.J. Heinz Company (Heinz), may deduct a capital loss of $124,134,189 on a sale of 175,000 shares of Heinz stock in May 1995. In 1994, HCC purchased 3,500,000 shares of Heinz stock, 3,325,000 shares of which were transferred to Heinz in January of 1995 in exchange for a convertible note issued by Heinz. Heinz asserts that this was a redemption which should be taxed as a dividend, and that HCC’s basis in the redeemed stock should be added to its basis in the 175,000 shares it retained. HCC sold the latter stock in May of 1995 and, in plaintiff’s view, recognized a capital loss arising from the increase in basis that occurred upon the earlier redemption. That loss, plaintiffs argue, should then be carried back to reduce their taxes in their 1994, 1993 and 1992 taxable years.
Not so, defendant argues, asserting that Heinz did not, in fact, effectuate a redemption of stock from HCC. In this regard, it asseverates that a redemption did not occur because HCC’s ownership of the 3,325,000 shares of Heinz stock was transitory and should be disregarded. It further claims that no redemption occurred because Heinz had no business purpose for interposing a subsidiary between itself and the shareholders from whom HCC purchased stock, save to engineer an artificial tax loss. And, finally, it contends that while Heinz structured the second purchase as an exchange for property under section 317(b) of the Internal Revenue Code of 1986,2 the steps of the transaction should be collapsed under the so-called “step transaction doctrine,” with Heinz again viewed as having repurchased its stock directly from the outside investors. As such, defendant contends, the basis in the 3,325,000 shares allegedly “redeemed” by Heinz should not be added to the 175,000 shares that HCC retained, with the effect that no capital loss was produced upon the sale of the latter shares.
Galle on Interpretative Theory and Tax Shelter Regulation
This Article responds to an important recent essay in the Columbia Law Review by Marvin Chirelstein and Larry Zelenak. Chirelstein and Zelenak propose a dramatic change in tactics in the way that the government attempts to combat tax shelters - that is, efforts by corporations and high-earning individuals to avoid tax by clever manipulations of the technical terms of the Tax Code. For the past seventy years or so, the IRS has responded to these manipulations by urging courts to read the tax statutes purposively, rather than literally, and thus to deny favorable tax treatment to business transactions entered into with no real business purpose or economic substance. However, as textualism has grown in influence, the IRS's purposivist entreaties have diminished in effectiveness. Chirelstein and Zelenak propose to respond to this problem by doing away with the notion of business purpose and economic substance and instead enacting a pair of bright-line rules that would make rather more difficult some of the most popular shelters.
My claim in this Article is that the Chirelstein/Zelenak approach reaches a bit farther than it needs to, but that it contains some very important elements that are worth preserving. In particular, I argue that Chirelstein and Zelenak seem to assume that there is no principled argument we could present to textualist judges to convince them to analyze a transaction for economic substance. I respond by analyzing various strands of textualist theory to demonstrate that, in fact, Congress could likely resolve many textualist objections with a carefully crafted statute. However, I also respond to other commentators who have assumed that there are no constitutional limits on Congress's power to command textualists to apply economic substance analysis. That argument overlooks the constitutional roots of many textualist theories. I thus offer, I believe for the first time, an analysis of whether Congress can constitutionally displace certain textualist interpretative methods by statute.
The Article then applies these insights to suggest a fairly radical re-shaping of the meaning of economic substance, although one that draws on earlier work by others. I argue that Congress ought to enact a statute that would prohibit favorable tax treatment of all tax-motivated transactions, except where, as Chirelstein and Zelenak suggest, expressly authorized by Congress or the IRS. This arrangement, I argue, would reduce waste not only in the private sector but also in government, forcing Congress to make plain when it has agreed to treat its lobbyists generously.
Why Do Most Countries Set High Tax Rates on Capital?
Nicolas Marceau (Centre Interuniversitaire sur le Risque, les Politiques Economiques et l'Emploi (CIRPEE)) Steeve Mongrain (Simon Fraser University, Department of Economics) & John D. Wilson (Michigan State University, Department of Economics) have posted Why Do Most Countries Set High Tax Rates on Capital? on SSRN. Here is the abstract:
We consider tax competition in a world with tax bases exhibiting different degrees of mobility, modeled as mobile and immobile capital. An agreement among countries not to give preferential treatment to mobile capital results in an equilibrium where mobile capital is nevertheless taxed relatively lightly. In particular, one or two of the smallest countries, measured by their stocks of immobile capital, choose relatively low tax rates, thereby attracting mobile capital away from the other countries, which are the left to set revenue maximizing taxes on their immobile capital. This conclusion holds regardless of whether countries choose their tax policies sequentially or simultaneously. In contrast, unrestricted competition for mobile capital results in the preferential treatment of mobile capital by all countries, without cross-country differences in the taxation of mobile capital. Nevertheless our main result is that the non-preferential regime generates larger global tax revenue, despite the sizable revenue loss from the emergence of low-tax countries. By extending the analysis to include cross-country differences in productivities, we are able to resurrect a case for preferential regimes, but only if the productivity differences are sufficiently large.
Pirates of the Caribbean and Tax
[D]ying in the Pirates of the Caribbean world is sort of like being audited by the IRS: Sure, it's a drag, but as long as you talk to the right people and pony up the loot, it'll be over with soon enough. The tax lawyer for the Black Pearl crew is Tia Dalma (Naomie Harris), a voodoo priestess who, it turns out, happens to be the sea goddess Calypso in human form, hence her power to revive the dead.
(Hat Tip: Sarah Lawsky.)
Southern Federal Tax Institute Offers Free Tuition and Materials to Tax Profs
The Trustees of the Southern Federal Tax Institute are again offering full-time tax law professors tuition-free attendance at this year's Institute in Atlanta (October 1-5, 2007). Full-time tax law professors who cannot attend this year's Institute can get a CD-ROM of Institute papers from 1998 through 2007. If you would like to attend, or would like to receive a copy of the CD-ROM after the Institute this October, please e-mail Myra Whorton.