November 1999
Corporate Tax Shelters - Negative Strategies in a Changing World
Government data show interesting figures for corporate taxes. In this boom time, the effective corporate tax rate is going down. The statistics show that corporate tax as a percentage of corporate book income is at the lowest level in years. And, it is reported, that high among the suspects is corporate tax shelters. See Sullivan, Despite September Surge, Corporate Tax Receipts Fall Short, 1999 TNT 211-2 (11/2/99). This certainly suggests that there may be something behind the IRS's and Treasury's cry of wolf with respect to corporate tax shelters and that the problem is quite large.
The Tax Court has been active recently in playing its part to discourage corporate tax shelters. The Tax Court has thrice now trashed the Merrill Lynch installment sales gimmick. ACM Partnership v. Commissioner, T.C. Memo. 1997-115, aff'd 157 F.3d 231 (3d Cir. 1998); ASA Investerings Partnership v. Commissioner, T.C. Memo. 1998-305, on appeal to the District of Columbia Circuit; and Saba Partnership, et al. v. Commissioner, T.C. Memo. 1999-359, decided just 10/27/99. The Tax Court has recently trashed the FTC dividend stripping gimmick and applied significant penalties. Compaq Computer Corp. v. Commissioner, 113 T.C. No. 17 (9/21/99); And the Tax Court has just trashed the COLI gambit. Winn-Dixie Stores Inc. v. Commissioner, 113 T.C. No. 21 (10/19/99). The Tax Court thus seems to be a quite unfavorable forum for litigating corporate tax shelters. (One caveat: the Tax Court does appear to the be favorable forum for litigating tax shelters in the guise of transfer pricing. See the companion Compaq case, T.C. Memo. 1999-220, giving Compaq a nice victory; and UPS is explainable under the gross pig theory which is why it lost.)
Other courts are also expressing unhappiness with corporate tax shelters. In IES Industries Inc. v. United States, ___ F. Supp. ___ (N. D. Iowa 9/22/99) unofficially reported at 1999 TNT 196-60 (10/12/99), the court also trashed the FTC dividend stripping gambit, agreeing with Compaq and going a step further to disallow deductibility for all related costs.
The Court of Federal Claims is yet to speak on corporate tax shelters but it is doubtful that it will reverse the trend.
The IRS is stepping up its audit initiative to locate corporate tax shelters and assert significant penalties, consistent with Compaq. The Treasury is stepping up its attack on corporate tax shelters and penalties generally. .See the Treasury Reports titled The Problem with Corporate Tax Shelters: Discussion, Analysis and Legislative Proposals (July 1999); and Report to The Congress on the Interest and Penalty Provisions of the Internal Revenue Code (October 1999).
Pity the poor tax director. What does the tax director do? Lee Sheppard says that tax directors are just getting smarter and more risk averse, seeking to shift the risk to the promoter. Sheppard, Whistling Dixie About Corporate Tax Shelters, 1999 TNT 210-5 (11/1/99) Ms. Sheppard noted that, until recently some tax shelter promoters asked for and in some cases received indemnities from the corporations buying the junk they peddled against the promoter excise fees; Ms. Sheppard in her laid-back style refers to this practice as chutzpah. (My theory is you won't get it unless you ask for it.) Ms. Sheppard see the times achanging and thinks that it is now time for corporate tax directors to shift the risk clearly on the tax shelter promoter.
Shifting the risk is one solution, but that is not a complete solution. Picking a better forum is another solution, but there's not much left. The complete solution for junk is to just say no.
We realize that the pressure is great on tax directors in the world of financial wizardry to play their part and take their risks (via, of course, the audit lottery which is not quite as effective at the large corporate level as it is at the individual level). But at some point it is just not right and, if that is not enough to discourage socially unacceptable behavior, maybe it will be just too risky.
You may download some of the authorities discussed above by clicking below.
Compaq Computer Corp. v. Commissioner, 113 T.C. No. 17 (9/21/99) (PDF)
Saba Partnership, et al. v. Commissioner, T.C. Memo. 1999-359 (PDF)
Winn-Dixie Stores, Inc. v. Commissioner, 113 T.C. No. 21 (10/19/99) (PDF)
The Problem with Corporate Tax Shelters: Discussion, Analysis and Legislative Proposals (July 1999) (PDF)
Return to Townsend & Jones, L.L.P. HomePage