OCTOBER 2002

TAX AND BUSINESS FORUM OCTOBER 16, 2002

The topic for the October 16, 2002 Tax and Business Forum will be Computer Assisted Audits on Business Taxpayers. Brief description: The IRS and other tax agencies are increasing their use of computer assisted audit techniques (CAAT) on business taxpayers. These techniques are applied when the business taxpayer has thousands of rows of data in computer files, such as sales, repairs, and travel expenses. This presentation will cover issues with extracting computer data from the taxpayers’ system, verifying completeness, providing electronic data to the auditor, selecting samples for specific examination, dealing with incomplete supporting documentation, and projecting results. Formal training in statistics or information systems is not required to understand this presentation. Questions and comments from the audience are encouraged.

The presenter is Dr. Will Yancey, CPA. Dr. Yancey earned a PhD in Accounting from the University of Texas at Austin. He has taught accounting and tax courses at TCU, SMU, and the University of Texas. For the past two years he has been an independent consultant specializing in data analysis and sampling for auditors.

The Tax and Business Forum will be from 7:30 - 9:10 AM at the University of Phoenix, Dallas/Ft. Worth Campus. The University of Phoenix Campus is located in Churchill Tower, 12400 Coit Road, Dallas, Texas. Park in the parking garage behind the building. Come to Room 102 which is in the front of the building on the first floor. Registration is $10 per course. Specify on your check the course for which you are registering. CPAs and enrolled agents receive 2 hours of CPE credit. Send checks to Townsend & Jones, L.L.P., 8100 Lomo Alto, Suite 238, Dallas, Texas 75225. Phone 214-696-2661.

Taxpayers to Pay Fee For Requesting Offer in Compromise

The IRS has recently announced that it will soon propose a $150 fee for taxpayers who make an offer in compromise. It does not make a lot of sense to charge a taxpayer who cannot pay his taxes a fees for submitting a offer for less than the amount of taxes owed. This will only reduce the amount the IRS receives in an offer. Below a certain level there will not be a fee charged for submitting the offer.

Taxpayer Wins Equitable Relief in the Tax Court

In the case of Ferrarese v. Commissioner, T.C. Memo. 2002-249, the Tax Court found that the IRS abused its discretion in not allowing innocent spouse treatment to a taxpayer under Section 6015(f). The court covered several factors that should be helpful to a taxpayer in seeking relief under Section 6015(f).

Conversion to Limited Partnership Status Approved by IRS In FSA

In Field Service Advice 200237017, the IRS addressed the issue of whether a corporation which converts under state law to a limited partnership, and subsequently elects under Section 301.7701-3 of the Regulations to be treated as a corporation for federal income tax purposes is eligible to be treated as if it had undergone a reorganization under Section 368(a)(1)(F). In certain instances a corporation undergoing a transaction similar to the one described in the FSA may be treated as if it had undergone a reorganization under Section 368(a)(1)(F).

Appeals Offers Fast-Track Mediation

In IR-2002-80 the IRS has announced that disputes can be settled in fast-track mediation. Small business and self-employed taxpayers can resolve tax disputes through fast-track mediation offered by the IRS. Disputes will be resolved through the new expedited process within 40 days compared to several months through the regular appeal process.

Either the taxpayer or the IRS Small Business/Self- Employed Division can propose mediation of disputed issues related to examinations or collection actions. If both parties agree to mediation, a specially-trained IRS mediator from the Appeals Office helps resolve the dispute. The mediator facilitates discussion, and may request additional information, but cannot impose a resolution. The taxpayer and the IRS must agree on any resolution.

For additional information on fast-track mediation, visit the IRS Web site at www.irs.gov and click on "Businesses" on the left side. From the Businesses page, select "Small Business/Self-Employed" on the left. From the Small Business/Self-Employed page, scroll down and select "Fast-Track Mediation."

Tax Court Denies Attorney Client Privilege

In Johnson v. Commissioner, 119 T. C. 3 (2002), the Tax Court denied the taxpayers' right to assert the attorney client privilege. The IRS was seeking information from the taxpayers' former attorney. The IRS claimed and the Tax Court found that the privilege did not apply, since the taxpayers were relying upon the advice of the former attorney as a defense to the fraud penalty.

Tax Crimes and Nursery Rhymes

This little piggy went to market;
this little piggy stays home;
this little piggy had roast beef;
this little piggy had none;
and this little piggy went wee-wee-wee all the way home.

The piggy we tell you about now went to jail.

This piggy's name was Piggie, Myron Piggie, but we shall refer to him here as just Piggie. Piggie surreptitiously paid high school basketball athletes to play for his summer team. The team made money, and Piggie made money. Piggie knew that, by paying the athletes they would thereby become ineligible to play college ball under NCAA rules, at least if they acknowledged to their respective colleges that they had received money for playing. Four of the athletes involved did in fact submit false statements to their colleges, and thereby qualified for scholarships and team slots that they were not entitled to. Piggie pled guilty to mail and wire fraud and for failing to file a tax return for one year. Piggie was sentenced to 37 months in prison, three years supervised release, and $324,279.87 in restitution.

Piggie appealed his sentence. The Sentencing Guidelines for Fraud base the sentence on the amount of loss actually incurred by the victims or the amount of loss the defendant intended. The loss in question included the scholarships awarded to the players. Piggie, living up to his name, argued that he intended no loss for the colleges because he did not intend for his scheme to be discovered, in which case the players would have played out their college careers just as the colleges had bargained for in granting the scholarships. The Court rejected this argument as follows:

This self-serving argument fails in that it is undisputed that Piggie intended to deprive the Universities, their athletic conferences, and the NCAA of the intangible right to award scholarships to amateur players and maintain a system of amateur athletic competition. Even if his scheme had never been discovered, the Universities would have been deprived of the services of honest, amateur basketball players. We decline to accept Piggie's invitation to calculate intended losses based upon Piggie's succeeding with his fraud and deception. We agree with the district court that all of the losses to Pembroke and the Universities were "intended as the natural and probable consequences of the defendant's actions in this matter."

Finally, Piggie argued that the tax loss has been greatly inflated. The court rejected that argument because Piggie has stipulated to the higher tax loss number in the plea agreement. The Court just would not let Piggie disavow the contract, saying that Piggie must take the benefit and burden of the plea agreement.

Of course, what is sauce for the goose is sauce for the gander too. So, we suppose, the Government will not be heard to disavow the tax loss number stipulated in a plea agreement. We, we should caution, however, that the probation office in developing the pre-sentence report and the sentencing court is not bound by that stipulation if the court chooses to go behind it and determine a more appropriate tax loss number. There are practical reasons why a court is not likely to go behind the numbers. Not many courts (or probation officers) really want to determine criminal tax loss numbers (which are different from the civil tax numbers and which include many arcanities and inanities) if the Government has agreed to the numbers submitted.

Finally, we remind you of the Wall Street Nursery Rhyme -- you can make money being a bull and you can make money being a bear, but you can't make money being a pig. All of us who invested heavily in a wildly exuberant stock market need to heed this elementary lesson, as well as the practical lesson so elegantly illustrated by the tale of Piggie.

See United States v. Myron Piggie, (8th Cir. Court of Appeals 9/16/02).

A Mixed Blessing

In Thosteson v. United States (11th Cir. Court of Appeals 9/11/02), the Court held in a responsible person penalty (aka trust fund penalty) case that, in a tax refund suit (which is usually the initial procedural posture for such a case), the Government, not the responsible person, has the burden of proving that the person is a responsible person. The conventional wisdom in tax refund cases is that the taxpayer bears the burden of proof (both the component burden of production and burden of persuasion). The Eleventh Circuit has now clearly rejected that conventional wisdom at least as to the responsible person requirement for liability. Only after the Government establishes responsible person status will the taxpayer then bear the burden of proving that he or she did not wilfully fail to withhold or pay over the taxes to the IRS. Whether the other circuits, and most particularly our own beloved Fifth Circuit, will fall in line with this holding that departs from the conventional wisdom is not certain. It is certain that they have not yet done so.

This allocation of the burden on the responsible person element did not help the taxpayer, however, for the Court found in the facts of that case ample and overwhelming proof of the presence of that status. The court then moved the willfulness element. The taxpayer attempted the so-called "Nuremberg defense" -- despite his nominal title as corporate officer his superior, the president of the corporation, had ordered him not to pay the taxes and therefore, whatever authority and responsibility he might otherwise have had, was taken away from him as a matter of corporate law and governance. The problem with that defense is that the court of appeals rejected it as the Nuremberg court had rejected it. "Acting, or rather failing to act, under orders from his superior does not negate his culpability under the statute." The Court further found inconsistent the fact that when he became the president of the company he continued in the pattern of conduct.

Finally, asserting that, even if he were willful, he should be relieved of liability under the putative defense of reasonable cause not to pay. The Court noted that it had not yet addressed the issue of whether there was such a defense that could negate a finding of willfulness. The Court quoted a Fifth Circuit case holding that reasonable cause may mitigate against a holding of willfulness (i.e., it is considered as a factor in initially determining willfulness and that, in any event, "no taxpayer has yet carried that pail up the hill."

So, bottom line, although the hapless Thosteson lost, the case may offer future targets of the penalty some hope by shifting the burden of proof on the responsible person element to the Government.
 

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