2 - 1 ©2004 Prentice Hall, Inc. The Tax Practice Environment Chapter 2.
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Transcript of 2 - 1 ©2004 Prentice Hall, Inc. The Tax Practice Environment Chapter 2.
2 - 1©2004 Prentice Hall, Inc.
The Tax PracticeEnvironment
Chapter 2
2 - 2©2004 Prentice Hall, Inc.
Tax Practice
Tax compliance Preparing returns Representation of client at IRS audit
Tax planning Evaluating the tax consequences
associated with a transaction and making recommendations that will achieve the desired objective at a minimal tax cost
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Taxes and Cash Flow
Tax cost is the increase in tax for the period and is a cash outflow
Tax savings is a decrease in tax for a period and is a cash inflow Expense payment generates an outflow but
deduction generates a tax reduction Reducing income taxes paid is a pure cash
inflow because tax savings are not taxable
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Taxes and Cash Flows
Cash flows in future years are discounted to their present value so they can be compared using comparable dollars
The marginal tax rate is the rate that applies to the next dollar of income and is used when evaluating transactions that increase or decrease taxable income
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Tax Planning Strategies
Timing income and deductions Defer recognition of income and accelerate
recognition of deductions Income shifting
Lower the total tax paid by splitting income among two or more taxpayers in the same family or between different entities owned by the same individual
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Tax Planning Strategies
Changing the character of income Structure transaction to qualify for favorable
long-term capital gains rate Other factors affecting tax planning
Discount rate Inflation Uncertainty Nontax (personal) objectives Cost of implementation
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Judicial Doctrines
Business purpose doctrine Transaction must have some business or economic
purpose other than a tax avoidance motive
Substance-over-form doctrine Taxability of a transaction is determined by the reality
of the transaction, rather than its appearance
Step transaction doctrine IRS can collapse a series of intermediate transactions
into a single transaction to determine the tax consequences
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Sources of Authority
Primary authorities – statutory, administrative, and judicial
Secondary authorities – tax services, books, journals, and newsletters Secondary authorities used to locate and
interpret primary sources
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Sources of Authority
Statutory sources – U.S. Constitution, tax treaties, and Internal Revenue Code
Legislative process – revenue bills begin in the House of Representatives
Committee reports indicate the legislative intent of a bill House Ways & Means Committee Senate Finance Committee Joint Conference Committee
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Internal Revenue Code
A tax bill passed by Congress is usually enacted as a revenue act that amends the existing Internal Revenue Code
The Internal Revenue Code is divided into subtitles, chapters, subchapters, and sections
Citations to the Code usually are to sections (Sec. or §)
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Administrative Sources
Treasury regulations provide explanations, definitions, examples, and rules that explain the language in the Code The root element of the regulation number (to the
right of the decimal) corresponds to the related section of the Code
Revenue rulings are published by IRS to clarify ambiguous tax situations
Letter rulings (PLR) can be requested by taxpayers who are uncertain about the correct tax treatment of a transaction
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Judicial Sources
Case first heard by a trial court (U.S. Tax Court, District Court, U.S. Court of Federal Claims)
If either party is dissatisfied with the trial court decision, that party may ask an appellate court to review that decision
The controversy may be appealed to and decided by the U.S. Supreme Court
Each case has precedential value for future cases with the same fact pattern
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JudicialJudicial
LegislativeLegislative
Primary Sources of Authority
AdministrativeAdministrative
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Legislative Sources
Committee Reports
&
Floor StatementsThe
Internal Revenue Code
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Administrative Sources
Internal RevenueService
Revenue Rulings
TreasuryRegulations
Revenue Procedures
Letter Rulings& other pronouncements
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Judicial Sources
U. S. Court ofFederal Claims
U. S. Court ofAppeals for
Federal Circuit
U. S. District Court
U. S.Tax Court
U. S. Court ofAppeals
TheSupreme
Court
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Tax Research
Purpose of research is to find solutions to tax problems
Steps in research process1. Gather the relevant facts and identify the
issues
2. Locate and evaluate the relevant authority
3. Communicate the recommendations
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Tax Research
Identifying the issues is the most difficult step for many new researchers
Experienced professionals can state the relevant questions in terms of specific statutory authority and their questions frequently suggest the location of answers
Tax services (reference services) can be used to locate the authorities (refer to Appendix A for step-by-step instructions)
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Tax Research
Reading the Code – read every Code section that is applicable and watch for language that indicates quantities or time period
Committee Reports – it is usually best to start with the Joint Conference Committee report as that will indicate whether the House or Senate version was enacted
Regulations – check the publication date to see if updated for the current Code
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Tax Research
Revenue rulings – reflect current IRS policy and carry considerable weight
Letter rulings – apply on the taxpayers to whom they were issued
Acquiescence – IRS acquiesces when it agrees with a court decision it has lost and it issues a nonacquiescence when it disagrees with a decision
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Tax Research
When a case involves a number of issues, the court will decide each issue separately
The party who raises an issue generally has the burden of proof (usually the taxpayer except for fraud)
The opinion is the court’s statement of the reasons for its decision
A reversal by an appellate court means that the party who won in the lower court now loses and the other party becomes the winner on that issue
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Tax Research
Under the Golsen rule, the Tax Court must follow the decision of the Court of Appeals that has direct jurisdiction over the taxpayer
Citations for decisions should be checked in a citator to find out: The decision’s history What other courts have said about that case
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Communicating the Recommendations
Memo to the file Facts Issues Conclusions Discussion of reasoning and authorities
Client letter
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Filing a Tax Return
Returns for individuals, partnerships, estates, and trusts due 15th day of 4th month (April 15)
Corporate returns due 15th day of 3rd month (March 15)
Extension of time to file Individuals: 4 months + 2 extra months Corporations: 6 months
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Penalties
Failure-to-pay penalty ½ percent for each month (or part of month)
payment is late (maximum 25%) Failure-to-file penalty
5 percent per month (or partial month) up to 25% maximum
If both apply, rate is combined 5 percent for first 5 months and ½ percent thereafter (47½ percent maximum)
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Penalties
No failure-to-file penalty if no tax is owned Fraudulent failure to file can increase late
filing penalty to 15% a month (75% maximum)
Installment agreement possible if unable to pay tax when due (late payment penalties apply)
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Statute of Limitations
Period of time beyond which legal actions or changes to the tax return cannot be made by taxpayer or IRS 3 years from date of filing or due date of return
(whichever is later) 6 years if more than 25% of gross income
inadvertently omitted No time limit for fraud
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Statute of Limitations
Refund claims must be initiated by taxpayer within later of: 3 years of filing date for return 2 years from date tax is paid
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Selecting Returns for Audit
Information document matching program Mathematical/clerical error program Unallowable items program Discriminant function (DIF) formula Information provided by informant
Up to 10% reward Undercover operations
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Audits and Appeals
Types of Audits Correspondence audit Office audit Field audit
30-day letter 30 days to request conference with Appeals
Division Appeals officer can consider hazards of
litigation
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Appeals
90-day letter (statutory notice of deficiency) File petition with Tax Court within 90 days Pay the tax; can then go to court to sue for
refund Take no action and be subject to IRS enforced
collection procedures
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Appeals
Trial Courts Tax Court is the only court that does not require
the taxpayer to first pay the tax and then sue for refund
Small Case Division of the Tax Court can hear disputes not exceeding $50,000 (but no appeal)
District Court and Court of Federal Claims cannot hear the case unless a suit for refund
Appellate Courts - Circuit Court of Appeals and Court of Federal Claims
Supreme Court – chooses the cases it will hear and accepts very few tax cases
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Taxpayer Penalties
Noncompliance penalties 20% of tax underpayment for negligence 75% of tax underpayment for civil fraud Fines and prison for tax evasion (criminal
fraud) Burden of proof is on IRS to establish
beyond a reasonable doubt that the taxpayer committed fraud
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Collection Procedures
IRS sends bill to taxpayer If no response, letter demanding payment in
10 days IRS can impose lien on taxpayer’s property
and seize assets Offer in compromise Innocent spouse relief
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Professional Responsibilities
Avoidance versus evasion Preparer penalties
Penalties may not be covered by malpractice insurance
Penalties are not deductible Penalties may result in an IRS review of the
preparer’s entire practice Criminal tax evasion penalties include fines
and prison
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Professional Responsibilities
Tax professionals have responsibilities to both tax system and to clients
Sources of Guidance Circular 230 AICPA Code of Professional Conduct Statements on Standards for Tax Services
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The End