North American pipeline operators restructure after tax change

By Akshara P; Bengaluru, Arun Koyyur, Anirban Paul and Saumyadeb Chakrabarty

(Reuters) – Pipeline operators Enbridge Inc, Williams Cos and Cheniere Energy Inc said on Thursday they would restructure after a U.S. rule change removed a key tax benefit for publicly traded partnerships controlled by those companies.

Williams said it would buy all common units of its master limited partnership (MLP) Williams Partners in a deal valued at $10.5 billion.

Enbridge said it would buy its independent units including Spectra Energy Partners and Enbridge Energy Partners as well as its pipeline assets and bring then under a single listed entity for C$11.4 billion ($8.94 billion).

Cheniere said it will buy out shares it does not already hold in Cheniere Partners Holdings for about $6.54 billion.

MLPs are tax-exempt corporate structures that pay out profit to investors in dividend-style distributions.

In 2016, a U.S. Appeals Court ruled that energy regulators were allowing these companies to benefit from a “double recovery” of taxes.

In March, the U.S. Federal Energy Regulatory Commission (FERC) said the companies, largely oil and natural gas pipeline firms, will no longer be allowed to recover an income tax allowance as part of the fees they charge to shippers under a “cost of service” rate structure.

“I would expect more of them to be rolled up in a similar fashion. If the reaction to Enbridge is stronger you might see TransCanada do the same thing but it’s not nearly as material to them”, said Ryan Bushell, president and portfolio manager at Newhaven Asset Management.

The transaction will not hurt Enbridge’s three-year financial outlook, the company said.

“Under the newly changed FERC tax policy, holding certain interstate pipelines in MLP structures is highly unfavorable to unitholders and is no longer advantageous”, Enbridge said.

The Calgary-based company, which has been trying to recast itself as a pipeline utility, has been under pressure to sell non-core assets and reduce its debt of more than $60 billion as of Dec. 31.

“This is the first step of the board taking control and taking steps to put the company in good standing”, Bushell said.

The company has been saddled with debt following its $28 billion takeover of U.S.-based Spectra Energy last year. Earlier this month, it sold some assets worth $2.5 billion.

Rolling up Spectra will allow Enbridge to mitigate impact from the tax related changes by 21 percent, compared with a zero percent benefit if long-haul assets are held in a MLP structure, analysts at Tudor Pickering and Holt said.

($1 = 1.2753 Canadian dollars)

Sourced from CHECKPOINT NEWSSTAND, Reuters

TAX COURT: ADVANCES BETWEEN ENTITIES WERE LOANS; BELOW-FMV PROPERTY SALES CAUSED CONSTRUCTIVE DISTRIBUTIONS

Dynamo Holdings Limited Partnership, TC Memo 2018-61

The Tax Court, siding with the taxpayers, has held that a series of advances among two commonly-controlled real estate development entities were bona fide loans, not gifts, despite the fact that the advances failed to observe many formalities associated with a debtor-creditor relationship. However, the Court sided with IRS in holding that a number of property sales between the entities were for significantly less than the property’s fair market value (FMV) and resulted in a constructive distribution to the individual with ownership interests in both entities.

Background—debt vs. gift. In determining the existence of a bona fide debtor-creditor relationship, a court must determine that at the time the advances were made there was “an unconditional obligation on the part of the transferee to repay the money, and an unconditional intention on the part of the transferor to secure repayment”. (Haag, (1987) 88 TC 604) Special scrutiny is applied to intrafamily transfers and transactions between entities in the same corporate family or with shared ownership. (Kean, (1988) 91 TC 575)

The Tax Court has used the following 9-factor, facts-and-circumstances test to determine whether two parties entered into a valid debtor-creditor relationship, which considers whether:

  1. There was a promissory note or other evidence of indebtedness,
  2. Interest was charged,
  3. There was security or collateral,
  4. There was a fixed maturity date,
  5. A demand for repayment was made,
  6. Any actual repayment was made,
  7. The transferee had the ability to repay,
  8. Any records maintained by the transferor and/or the transferee reflected the transaction as a loan, and
  9. The manner in which the transaction was reported for Federal tax is consistent with a loan. (Jones, TC Memo 1997-400)

Background—constructive distributions. A transfer of property from one entity to another for less than adequate consideration may constitute a constructive distribution to an individual who has ownership interests in both entities. (Cox Enters., Inc., & Subs., TC Memo 2009-134)

For a court to find a constructive distribution, two tests must be satisfied: an objective test, which asks whether the transfer caused “funds or other property to leave the control of the transferor corporation” and whether it “allow[ed] the stockholder to exercise control over such funds or property either directly or indirectly through some instrumentality other than the transferor corporation”; and a subjective test, which asks whether the transfer occurred primarily for the common shareholder’s personal benefit rather than for a valid business purpose. (Wilkof, TC Memo 1978-496)

Facts. The Moog family had a real estate development business that originated in Canada then eventually expanded into the U.S.

During the years at issue (2005 through 2007), Beekman Vista, Inc. (Beekman Vista) was a U.S. holding company formed in ’84, the principal business activity of which was real estate management and development. Beekman Vista also had a hedge fund portfolio that produced investment income.

Beekman Vista was wholly owned by a Canadian entity and was, through a complex tiered ownership structure, indirectly controlled by Delia Moog, who was also an officer and director. Ms. Moog’s nephew, Robert Julien, who was also an officer and director, handled most of the development projects.

By the early 2000s, the business of Beekman Vista and its subsidiaries had changed substantially, and its management team decided to focus its efforts on Florida real estate development and to relocate its office and management team there.

Mr. Julien was concerned about certain implications of Beekman Vista being Canadian-owned so he and Ms. Moog decided to form a U.S. partnership. Beekman Vista continued to operate profitably from 2005 to 2007.

Dynamo Holdings Limited Partnership (Dynamo) was formed in early 2005 as a Delaware limited partnership. It was owned by two dynasty trusts—the Christine Moog (Ms. Moog’s daughter) Family Delaware Dynasty Trust, with a 59.9995% limited partnership interest, and the Robert Julien Family Delaware Dynasty Trust, with a 39.9995% limited partnership interest—with the 0.001% general partnership interest held by an entity that was indirectly controlled by Ms. Moog.

Dynamo had the same management team as Beekman Vista, and it also provided management services to Beekman Vista.

The cash advances. For efficiency purposes, Dynamo centralized its operations, including cash management, so as to easily allow for intercompany advances among the related entities.

Upon formation and through the years in issue, Beekman Vista advanced funds to Dynamo to fund operating expenses and to acquire assets, and Dynamo recorded the funds on its ledgers as an account payable to Beekman Vista. The year-end balances of the advances were approximately $240 million, $501 million, and $176 million in 2005, 2006, and 2007, respectively.

Beekman Vista and Dynamo treated the recorded transfers as debt. Dynamo made repayments to reduce the outstanding balance each year via proceeds received from capital contributions, wire transfers, paying Beekman Vista’s outstanding obligations to third parties, and providing management services to Beekman Vista for which it would otherwise collect fees. In 2007 and 2008, Dynamo engaged in a series of transactions that restructured the advances, including executing promissory notes evidencing prior advances, but it didn’t abide by State laws that serve to formalize lending agreements.

Expert testimony was offered by both the taxpayers and by IRS at trial that

  1. Generally supported the year-end balances described above, the charging of interest, and that the outstanding balances were entirely repaid by 2011;
  2. Concluded that no reasonable commercial lender would have entered into loans like those in this case, i.e., without any collateral, stated interest payments, fixed maturity dates, etc.; and
  3. Determined that Dynamo was sufficiently able to repay the advances such that it would have been able to borrow from a third-party lender (albeit under more commercially acceptable terms).

The asset transfers. In addition to providing advances to Dynamo, Beekman Vista also transffered to it real property, its hedge fund portfolio, and its interest in an LLC.

At the time of the real property transfers Beekman Vista and Dynamo did not obtain independent appraisals of the property because the members of the management team believed that, as experts in property valuation and real estate development, they had accurately priced the properties.

Expert testimony at trial was offered by both sides as to the value of the properties. While the parties didn’t dispute a number of the values, in general, the taxpayers’ experts provided values that were lower than those provided by IRS experts. And, the property values were generally lower than the payment that Beekman Vista received from Dynamo—in the form of increasing the amount of the outstanding balance owed to Beekman—at the time that the property was transferred.

With respect to the LLC interest transferred to Dynamo, Dynamo increased the outstanding balance due to Beekman Vista by $14.5 million, which reflected Beekman Vista’s partnership contribution for that interest.

The hedge fund portfolio had an FMV of $228 million on Dec. 31, 2005, and the assets of the fund were transferred to Dynamo during the first half of 2006 in exchange for $198 million (again, payments recorded as increases in the outstanding balance due).

Issues before the Tax Court. The primary issues raised in the case were

  1. Whether the advances from Beekman Vista to Dynamo were gifts or loans (i.e., whether the advances were bona fide debt), and
  2. Whether there were transfers of property from Beekman Vista to Dynamo at less than FMV.

Court’s decision. The Tax Court first concluded that the advances at issue were loans. Although at the time the advances were made there was no contemporaneous promissory note identifying all the terms of the agreement, there was no collateral set aside to ensure repayment, there was no invoice or demand made by Beekman Vista, and there was no fixed maturity date or intent to force Dynamo into bankruptcy if required to ensure repayment, there nonetheless were many meaningful formal indicia of debt, including that the taxpayers maintained records that reflected advances as debt in their general ledgers, and they executed promissory notes.

The Court also found economic indicia of debt, including the charging and paying of interest, which was reported and deducted by the taxpayers appropriately; that the advances were continuously repaid and that they were repaid in their entirety in 2011; and that Dynamo had the ability to repay—all of which supported the conclusion that Dynamo and Beekman Vista entered into a bona fide creditor-debtor relationship.

With respect to the property transfers, the Court found that Beekman Vista transferred property to Dynamo at less than FMV. Specifically, the first property was worth $23.5 million but sold for $12.3 million, the second property was worth $116.6 million but sold for $40.7 million; the third (a group of properties considered as a unit) was worth $12.8 million but sold for $9.9 million; and the final property was worth $140 million but sold for $49.5 million.

The Court also sided with the taxpayers that the LLC interest was transferred at FMV, but sided with IRS that the hedge fund portfolio was transferred for approximately $30.2 million less than its FMV.

The cumulative effect of the value differences described above resulted in a transfer from Beekman Vista to Dynamo of almost $211 million.

The Court then determined that this transfer constituted a constructive distribution to Ms. Moog. It easily concluded that the objective prong was met, given the control that she exercised over both Beekman Vista and Dynamo. It also found that the subjective test was met, given that the benefit of the transfer was primarily to Dynamo and, by extension, to the dynasty trusts, furthering Ms. Moog’s estate planning.

References: For constructive dividends, see FTC 2d/FIN ¶ C-2512; United States Tax Reporter ¶ 3014.08.

Sourced from CHECKPOINT NEWSSTAND, Reuters

Penalties increase for failure to file FBAR for foreign financial account

Inflation Adjustment of Civil Monetary Penalties (Mar. 19, 2018)

The Financial Crimes Enforcement Network (FinCEN), a bureau of the Treasury Department, has announced the inflation-adjusted increase in the penalty amounts for a failure to file a Report of Foreign Bank and Financial Accounts (FBAR) reporting an interest in a foreign financial account.

Background on FBAR. Each U.S. person who has a financial interest in or signature or other authority over any foreign financial accounts, including bank, securities, or other types of financial accounts in a foreign country, must file an FBAR (Report of Foreign Bank and Financial Accounts, i.e., FinCEN Form 114) if the aggregate value of the foreign financial accounts exceeds $10,000 at any time during the calendar year.

A U.S. person means a U.S. citizen (including a child), a individual who is a resident alien under Code Sec. 7701(b) of the U.S., the District of Columbia, the Indian lands (as that term is defined in the Indian Gaming Regulatory Act), and the Territories and Insular Possessions of the U.S., and an entity, including a corporation, partnership, trust or limited liability company organized or formed under U.S. laws or the law of any State, the District of Columbia, the U.S. Territories and Insular Possessions or Indian Tribes.

A “foreign financial account” is a financial account located outside the U.S. The U.S. includes the states, the District of Columbia, territories and possessions of the U.S., and certain Indian lands. An account maintained with a branch of a U.S. bank that is physically located outside of the U.S. is a foreign financial account. An account maintained with a branch of a foreign bank that is physically located in the U.S. is not a foreign financial account.

A U.S. person has a financial interest in a foreign financial account for which:

  1. The U.S. person is the owner of record or holder of legal title, regardless of whether the account is maintained for the benefit of the U.S. person or for the benefit of another person; or
  2. The owner of record or holder of legal title is one of certain listed entities, which include
    1. An agent, a nominee, attorney, or a person acting in some other capacity on behalf of the U.S. person with respect to the account, or
    2. Any of certain entities controlled by the U.S. person.

The civil and criminal penalties for noncompliance with the FBAR filing requirements are significant. Civil penalties for a non-willful violation can range up to $10,000 per violation (31 U.S.C. 5321(a)(5)(B)(i)), as adjusted for inflation, and civil penalties for a willful violation can range up to the greater of $100,000 (31 U.S.C. 5321(a)(5)(C)), as adjusted for inflation, or 50% of the amount in the account at the time of the violation. As adjusted for inflation, these amounts are, for penalties assessed after 8/1/2016 but before 1/16/2017, $12,663 and $126,626, respectively. A “reasonable cause” exception exists for non-willful violations, but not for willful ones.

Inflation adjustment. For penalties assessed after 1/15/2017, the FBAR penalty for a non-willful failure to report penalty increases from $12,663 to $12,921, and the penalty for a willful failure to report increases from $126,626 to $129,210.

References: For foreign financial accounts reporting requirements, see FTC 2d/FIN S-3650; United States Tax Reporter 60,114.06.

The devil is in the details

The Tax Cuts and Jobs Act (TCJA) has been touted for cutting the corporate tax rate, but the law also contains some valuable goodies for smaller businesses that operate as pass-through entities, including partnerships, limited liability companies, S corporations and sole proprietorships. These businesses stand to see their tax liabilities fall significantly, but determining just how much they will benefit can be complicated.

Pass-through tax cuts

The owners and shareholders of pass-through entities pay taxes on their net income at individual ordinary income tax rates, which had reached as high as 39.6% under prior law. The TCJA reduced individual tax rates, though, with the highest rate now at 37%. It also raised the thresholds for individual tax brackets, and the top rate doesn’t take effect until taxable income exceeds $500,000 for single filers and $600,000 for married couples filing jointly.

Moreover, the TCJA added a generous new business deduction for pass-through businesses that will slash taxable income. The qualified business income (QBI) deduction generally allows taxpayers to deduct 20% of QBI received. QBI is the net amount of income, gains, deductions and losses, exclusive of reasonable compensation, certain investment items and payments to partners for services rendered. The calculation is performed for each qualified business and aggregated. (If the net amount is below zero, it’s treated as a loss for the following year, thereby reducing that year’s QBI deduction.)

Once taxable income — not QBI — exceeds $157,500 for single filers or $315,000 for married couples filing jointly, a wage limit begins to phase in, under which taxpayers can deduct only the lesser of 20% of QBI or 50% of their allocable share of W-2 wages paid by the business. The wage limit is intended to deter high-income taxpayers from converting wages or other compensation for personal services to QBI that qualifies for the deduction.

Alternatively, taxpayers can deduct the lesser of 20% of QBI or 25% of wages plus 2.5% of their allocable share of the unadjusted basis of qualified business property (QBP) — essentially, the purchase price of tangible depreciable property held at the end of the tax year. This option makes it easier for capital-intensive firms with relatively low wages (for example, real estate, construction or manufacturing businesses) to take advantage of the deduction.

The wage limit phases in completely when taxable income exceeds $207,500 for single filers and $415,000 for joint filers. When it applies but isn’t yet fully phased in, the gross (without any wage limit) deduction is reduced by the same ratio of the difference between the amount of the gross deduction and the fully wage-limited deduction as the ratio of 1) the amount by which the taxable income exceeds the threshold to 2) $50,000 for single filers or $100,000 for married couples filing jointly.

The amount of the deduction may not exceed 20% of the taxable income less any net capital gains. So, for example, if the QBI for a married couple is $400,000 and their taxable income is $300,000, the deduction is limited to 20% of $300,000, or $60,000.

The QBI deduction is further limited for specified service trades or businesses (SSTBs). SSTBs include businesses involving law, financial, health care, brokerage and consulting services firms, as well as any business where the principal asset is the reputation or skill of one or more of its employees. The QBI deduction for SSTBs begins to phase out at $157,500 in taxable income for single filers and $315,000 for joint filers, phasing out completely at $207,500 and $415,000, respectively (the same thresholds by which the wage limit phases in).

The QBI deduction applies to taxable income and doesn’t come into play when computing adjusted gross income (AGI). It’s available to both itemizing and nonitemizing taxpayers.

Examples for non-SSTBs

The amount of the deduction for “qualified trades or businesses” depends largely on taxpayers’ taxable income — that is, their AGI less itemized deductions (excluding the QBI deduction). It’s most easily calculated when taxable income is under $157,500 for single filers and $315,000 for married joint filers so the wage limit doesn’t apply. For example, joint filers Bob and Mary have taxable income of $150,000, including $75,000 in QBI. They can deduct 20% of $75,000, or $15,000, from their taxable income.

Computing the deduction also is fairly straightforward when taxable income exceeds $207,500 for single filers or $415,000 for married joint filers. Let’s assume Bob and Mary have taxable income of $575,000, including $75,000 of Mary’s QBI. She pays $20,000 in wages and has $90,000 of QBP. The first option for the wage limit calculation in this situation is $10,000 (50% of $20,000), and the second option is $7,250 (25% of $20,000 + 2.5% of $90,000) — making the wage limit, and the deduction, $10,000.

What if Bob and Mary’s taxable income falls into the range between $315,000 and $415,000, where the wage limit is phasing in, with everything else remaining the same? If their taxable income is, say, $400,000, their deduction is partially capped by the wage limit. As in the immediately preceding example, the full wage limit is $10,000, but, with taxable income of $400,000, only 85% of the full limit applies:

($400,000 taxable income – $315,000 threshold)/$100,000 = 85%

To calculate the amount of their deduction, the couple must deduct 85% of the difference between the gross deduction of $15,000 and the $10,000 deduction if the full wage limit applied:

($15,000 – $10,000) × 85% = $4,250

That amount is deducted from the gross deduction for a final deduction of $10,750 ($15,000 – $4,250).

Example for SSTBs

When taxable income doesn’t exceed $157,500 for single filers or $315,000 for married couples filing jointly, SSTBs are treated in the same manner as qualified businesses (see first example above) when it comes to the QBI deduction. And, if the taxable income equals or exceeds $207,500 for single filers or $415,000 for married joint filers, SSTB owners receive no QBI deduction.

It’s when taxable income falls between those thresholds that things get trickier because the QBI, W-2 wages and QBP all gradually phase out on a prorated basis over this income range. The percentage that a taxpayer can take into account is 100% less the percentage equal to the ratio of 1) the amount by which taxable income exceeds the threshold amount to 2) $50,000 for single filers or $100,000 for joint filers:

1- (taxable income – applicable threshold)/$50,000 or $100,000 = applicable percentage

For example, let’s say Bob and Mary have joint taxable income of $400,000, and Mary has an SSTB with $75,000 in QBI. She pays $20,000 in wages and owns $90,000 in QBP. Only 15% of the QBI, or $11,250, qualifies for the deduction:

1- ($400,000 – $315,000)/$100,000 = 15% × $75,000 = $11,250

The gross deduction is 20% of $11,250, or $2,250. But, because only 15% of the QBI qualifies for the deduction, the couple can take account of only 15% of wages ($3,000) and QBP ($13,500) when calculating the wage limit. Fifty percent of wages for purposes of the limit, therefore, is $1,500, and 25% of wages plus 2.5% of QBP is $1,087.50 — setting the full wage limit at the greater amount of $1,500.

As for a non-SSTB, though, the wage limit phases in gradually over this income range. In this case, 85% of the limit applies:

($400,000 – $315,000)/$100,000 = 85%

The couple must reduce their QBI deduction by 85% of the difference between the gross deduction amount and the deduction amount if the full wage limit applied:

($2,250 – $1,500) × 85% = $637.50

As a result, their allowable deduction is $1,612.50 ($2,250 – $637.50).

What’s next?

It’s still early in the life cycle of the TCJA, and extensive regulations are expected in the near future. Among other things, the Treasury Department must draft regulations addressing the allocation of items and wages, along with reporting requirements, and the application of the QBI deduction to tiered entities. We’ll keep you abreast of important developments.

© 2018

Dirty Dozen Tax Scams — Part II

IRS continues to publish a daily entry on its list of “Dirty Dozen” tax scams for 2018. While reports of tax-related identity theft “have declined markedly” for several years, the practice “is still widespread” and serious,

IRS said on March 7. (IR 2018-42) The number of identity theft returns has dropped some 65% between 2015 and 2017. “Because of these successes, criminals are devising more creative ways to steal more in-depth personal information to impersonate taxpayers”, the agency said. IRS also reminded business filers to remain alert to the possibility of cybercriminals filing fraudulent Forms 1120, U.S. Corporation Income Tax Return, using stolen business identities.

Consumers of tax preparation services should be on the lookout for “unscrupulous tax preparers looking to make a fast buck from honest people seeking tax assistance”, IRS said on March 8. (IR 2018-45) “There are some dishonest preparers who operate each filing season to perpetrate refund fraud, identity theft and other scams that hurt honest taxpayers”, the agency said. Unscrupulous preparers “who prey on unsuspecting taxpayers with outlandish promises of overly large refunds” is a serious enough problem to earn a place on the Dirty Dozen list, it added. On March 9, IRS warned taxpayers about “scam groups masquerading as charitable organizations, luring people to make donations to groups or causes that don’t actually qualify for a tax deduction”. (IR 2018-47) These phony charities try to secure donations from unsuspecting contributors, “using a charitable reason and a tax deduction as bait for taxpayers”, the agency said. “Perpetrators of illegal scams can face significant penalties and interest and possible criminal prosecution”, IRS said, adding that “to help protect taxpayers, IRS Criminal Investigation works closely with the Department of Justice to shut down scams and prosecute the criminals behind them”. The agency offered a number of basic tips to people making charitable donations.

(In my personal experience I have noticed some individuals who promote tax scams under the guise of tax advice. Their revenue stream comes from the products they sell to make these tax scams work. In my experience these people design and set up the entire mechanism, which involves buying something from the individual, such as insurance policies. Everything’s verbal. They never prepare or sign returns. They refer everyone to a tax-practitioner who prepares and signs the return and probably kicks part of the fee back to the individual. If the IRS discovers the scam, they will go after the taxpayer and the person who signed the return, but the actual villain may go scott free.)

IRS has announced that registration is now open for the 2018 IRS Nationwide Tax Forum which will be held in Atlanta, National Harbor (Washington, D.C.), San Diego, Chicago and Orlando. (e-News for Tax Professionals 2018-9) As described by the agency, seminars will be presented by IRS experts and national association partners including the American Bar Association, the American Institute of Certified Public Accountants, the National Association of Enrolled Agents, the National Association of Tax Professionals, the National Society of Accountants and the National Society of Tax Professionals. Attendees can earn up to 18 continuing professional education (CPE) credits. The forum will once again feature the Case Resolution Program which allows tax professionals “to bring [their] toughest unresolved IRS case” before agency representatives with specialized expertise for a one-on-one scheduled meeting. “If we can’t resolve the case onsite or it needs more research, we’ll assign it to the appropriate IRS unit for follow-up”, IRS said. For more information and to register, go to irstaxforum.com/index

Unclaimed federal income tax refunds totaling $1.1 billion are waiting to be claimed by taxpayers who have not filed 2014 returns, according to IRS. (IR 2018-44) An estimated one million taxpayers have until April 17 to file their 2014 return. These returns must be properly addressed, mailed and carry a postmark by that date. However, those seeking 2014 refunds may have theirs held if these taxpayers have not filed returns for 2015 and 2016, IRS noted. Refunds also will be applied to any amounts owed to IRS or a state tax agency. “Time is running out for people who haven’t filed tax returns to claim their refunds”, said Acting IRS Commissioner David Kautter. “Students, part-time workers and many others may have overlooked filing for 2014. And there’s no penalty for filing a late return if you’re due a refund”, he added.

Club for world’s super rich to open Swiss advice exchange

By Brenna Hughes Neghaiwi and Alexander Smith

ZURICH (Reuters) – Switzerland’s super rich will soon be able to discuss their financial problems and questions from estate planning to how to start an art collection with wealthy peers in an exclusive club where U.S. membership costs $30,000 a year.

An outpost of the TIGER 21 peer network, founded in the United States in the 1990s, will help Switzerland’s rich run their affairs, said Eric Sarasin, an ex-private banker whose forebears ran the family’s namesake bank for over a century.

A dozen individuals will gather once a month to discuss investment strategies and trade advice on issues ranging from wealth preservation and estate planning to family dynamics, tax and philanthropy, Sarasin said.

These sessions would address “simple questions” such as: ‘I would like to build up an art collection and have no clue how to do that’, Sarasin said, adding that bank clients may be getting short-changed due to stricter regulation and a tax clampdown.

“Account officers in a bank used to spend 80 percent of their time advising clients, 20 percent on administration. Today it’s the other way around”, Sarasin, who resigned as deputy CEO of J. Safra Sarasin in 2014 and now sits on a family office board and manages technology assets and private equity, said.

SWISS CHANGING

Founded by a real estate investor looking for neutral investment advice following a “major liquidity event”, TIGER 21 counts 600 members, most of them based in the United States, who manage a combined $60 billion in personal assets, or around $100 million each.

The Swiss chapter marks the group’s second foray outside North America after one opened in 2016 in London, and its first push onto continental Europe.

“Americans are much more open about their business activities, about their financials, than the Swiss are. But it is changing”, Sarasin said.

He hopes to recruit a group ranging in age from 30 to 70 or older, and has so far met with individuals working in real estate, asset management, hedge funds and industry.

EU set to add Bahamas, US Virgin Islands to tax haven blacklist

By Francesco Guarascio and Mark Heinrich

BRUSSELS (Reuters) – The Bahamas, the U.S. Virgin Islands and Saint Kitts and Nevis are set to be added next week to a European Union blacklist of tax havens, raising to nine the number of jurisdictions on it, an EU document seen by Reuters shows.

The decision, taken by EU tax experts, is set to be endorsed by EU finance ministers at a regular monthly meeting on Tuesday, when the 28 EU governments are also expected to delist Bahrain, the Marshall Islands and Saint Lucia.

As a result of both moves, the blacklist would maintain nine jurisdictions deemed to facilitate tax avoidance. The other six are American Samoa, Guam, Namibia, Palau, Samoa and Trinidad and Tobago.

The document, prepared by EU officials and dated March 8, also adds Anguilla, The British Virgin Islands, Dominica and Antigua and Barbuda to a so-called grey list of jurisdictions which do not respect EU anti-tax avoidance standards but have committed to change their practices.

The grey list includes dozens of jurisdictions from all over the world.

Blacklisted jurisdictions could face reputational damage and stricter controls on their financial transactions with the EU, although no sanctions have been agreed by EU states yet.

Those who are in the grey list could be moved to the blacklist if they do not honour their commitments.

Caribbean islands hit by hurricanes last year were given more time to comply with EU tax transparency standards when the bloc’s blacklist was established in December.

Earlier this month, EU experts decided to propose the delisting of Bahrain, the Marshall Islands and Saint Lucia, a document dated March 2 showed.

That attracted criticism from anti-corruption activists who called for disclosure of the commitments made by the delisted jurisdictions. These engagements remain secret.

The initial blacklist included 17 jurisdictions, but after one month eight were removed. They were Barbados, Grenada, South Korea, Macau, Mongolia, Tunisia, the United Arab Emirates and Panama. That move was also widely criticised by some EU lawmakers and activists.

Panama’s delisting caused a particular outcry as the EU process to set up the tax-haven blacklist was triggered by publication of the Panama Papers – documents that showed how wealthy individuals and multinational corporations use offshore schemes to reduce their tax bills.

EU countries were not screened. They were deemed to be already in line with EU standards against tax avoidance, though anti-corruption activists and lawmakers have repeatedly asked for some EU members such as Malta and Luxembourg to be blacklisted.

U.S. Treasury to close ‘carried interest’ loophole in new tax law

By Kevin Drawbaugh and David Morgan

WASHINGTON (Reuters) – The U.S. Treasury said on Thursday it will close an unintended loophole created by the Republican tax overhaul that let some Wall Street financial managers dodge new limits on “carried interest” by operating as businesses known as S-corporations.

Carried interest refers to a longstanding Wall Street tax break that let many private equity and hedge fund financiers pay the lower capital gains tax rate on much of their income, instead of the higher income tax rate paid by wage-earners.

President Donald Trump vowed to close the loophole during the 2016 presidential election campaign.

Republican tax legislation signed into law by Trump in December required fund managers to hold investments for at least three years before becoming eligible for the lower capital gains rate, but it exempted corporations.

Media reports soon followed saying that some investment funds were setting up pass-through entities known as S-corporations in the hopes of qualifying for the corporate exemption and skirting the carried interest restriction.

On Thursday, the Treasury and its tax-collecting Internal Revenue Service announced that forthcoming regulations will prevent S-corporations from taking advantage of the carried interest exemption.

S-corporations are a form of business entity that passes profits on to business owners as personal income.

New Treasury rules are expected to specify that the exemption applies only to C-corporations, including publicly traded companies, which pay income tax before distributing net profits to shareholders as dividends.

“We worked expeditiously to take this first step to clarify that S corporations are subject to the three-year holding period for carried interest”, Treasury Secretary Steven Mnuchin said in a statement.

The American Investment Council, which represents private equity investors, welcomed Treasury’s guidance, saying in a statement that the government’s position “correctly clarifies the intent of the law”.

DC Circuit rejects partnership’s reasonable cause defense in Son-of-BOSS shelter

Palm Canyon X Investments, LLC v. Comm., (CA DC 2/16/2018) 121 AFTR 2d ¶ 2018-475

The Court of Appeals for the District of Columbia, affirming the Tax Court, has found that the Tax Court properly concluded that the totality of relevant facts and circumstances foreclosed a reasonable-cause defense to the gross valuation misstatement penalty under Code Sec. 6662(h). The taxpayer’s decision to proceed with a Son-of-BOSS transaction in the face of IRS’s express warning against such schemes—and in reliance only on advice provided by the tax shelter’s promoters and their affiliates, other skeptical advisors, and ill-informed tax opinions—was neither reasonable nor taken in good faith.

Background. Taxpayers are subject to a 20% accuracy-related penalty for an underpayment of tax required to be shown on a return that is attributable to a substantial valuation misstatement. (Code Sec. 6662(a), Code Sec. 6662(b)(3)) The penalty is 40% of the portion of an underpayment of tax attributable to one or more substantial valuation misstatements that meet the requirements for a gross valuation misstatement. (Code Sec. 6662(h)) A gross valuation misstatement exists if the value or adjusted basis of any property claimed on a tax return is 200% (400% under a prior version of this provision that was applicable to this taxpayer’s case) or more of the amount determined to be the correct amount of such value or adjusted basis. (Code Sec. 6662(h)(2)(A))

Under Code Sec. 6664(c)(1), an accuracy-related penalty under Code Sec. 6662 will generally not apply to any portion of an underpayment if it is shown that there was reasonable cause for that portion and that the taxpayer acted in good faith. Reasonable cause requires that the taxpayer exercise ordinary business care and prudence as to the disputed item. (Neonatology Associates, (2000) 115 TC 43, affd (CA 3 2002) 90 AFTR 2d 2002-5442). Good faith means, among other things, an honest belief and an intent to perform all lawful obligations. (Hirschfeld, (CA 4 1992) 70 AFTR 2d 92-5697) A taxpayer’s education and business experience are relevant to the determination of whether the taxpayer acted with reasonable reliance on an adviser and in good faith. (Reg. § 1.6664-4(b)(1))

A taxpayer claiming reliance on a tax professional must prove that:

  1. The adviser was a competent professional who had sufficient expertise to justify reliance;
  2. The taxpayer provided necessary and accurate information to the adviser; and
  3. The taxpayer actually relied in good faith on the adviser’s judgment. (Neonatology)

Facts. In the ’90s, several law and accounting firms marketed to wealthy individuals tax-avoidance schemes known as Bond and Options Sales Strategy (BOSS) and, later, Son-of-BOSS tax shelters. The Son-of-BOSS tax scheme transferred a taxpayer’s assets that were, or would be, encumbered by significant liabilities to a partnership created for the purpose of generating tax benefits. That encumbrance would artificially inflate the taxpayer’s basis in its partnership interest and, upon dissolution of the partnership, would give the taxpayer a write off for the artificial partnership losses.

In September 2000, IRS issued Notice 2000-44, 2000-2 CB 255 (see Weekly Alert ¶ 3 08/17/2000), which described the Son-of-BOSS tax shelter and identified as a listed transaction the simultaneous purchase and sale of offsetting options and the subsequent transfer of the options to a partnership. In Notice 2000-44, IRS declared the sham partnership transactions that formed the basis of the Son-of-BOSS schemes to be abusive tax shelters and warned taxpayers that the use of such schemes could result in the imposition of stiff penalties.

Alan Hamel is the sole owner and shareholder of ThighMaster World Corporation. Hamel formed and was the sole owner of AH Investment Holdings, LLC, which in turn, became a partner entity in, and the tax matters partner for, Palm Canyon X Investments, LLC, the sham partnership for the Son-of-BOSS tax shelter scheme at issue here.

In August 2001—nearly a year after Notice 2000-44 condemning Son-of-BOSS tax shelters was issued—Clifton Lamb, a CPA who advised Hamel on tax matters, pitched the Son-of-BOSS tax shelter to John Ivsan of the now-defunct law firm Cantley & Sedacca, LLP. Lamb’s first reaction was that the proposed tax benefits were “too good to be true”. At Hamel’s direction, Lamb reviewed a generic tax opinion prepared by the law firm of Bryan Cave, LLP that provided support for the tax shelter.

Ken Barish, Hamel’s tax attorney, also reviewed Bryan Cave’s generic tax opinion at Hamel’s instruction. Barish repeatedly expressed skepticism about the legitimacy of the proposed tax scheme. Barish and Lamb subsequently reviewed a second tax opinion prepared by Mark Kushner, an attorney at the law firm of Pryor Cashman, to whom they were referred by Cantley & Sedacca. Barish and Lamb advised Hamel that Kushner had provided “an aggressive tax opinion”.

Nonetheless, in October 2001, Hamel decided to go forward with the transaction and engaged the promoter firm, Cantley & Sedacca, to implement the tax shelter for a $325,000 fee. Hamel then, through Cantley & Sedacca and an affiliated broker-dealer, Daniel Brooks, purported to form Palm Canyon as a partnership between AH Investment and a LLC owned by Brooks. Ultimately, IRS declared the tax shelter to be an unlawful Son-of-BOSS scheme and invalidated all of the claimed tax benefits and imposed a 40% tax penalty.

Tax Court decision. In Palm Canyon X Investments, LLC, TC Memo 2009-288, the Tax Court upheld IRS’s denial of the taxpayer’s deductions stemming from the use of a sham partnership. The Court concluded that Palm Canyon was a sham partnership; its transactions lacked economic substance; and Code Sec. 6662’s 40% gross valuation misstatement penalty properly applied to the resulting substantial underpayment of taxes. The Court also concluded that the taxpayer, Palm Canyon X Investments, lacked reasonable cause for its gross underreporting.

The only issue on appeal was whether the Tax Court properly rejected the taxpayer’s reasonable-cause defense to the tax penalty. Palm Canyon argued that Hamel reasonably relied on lawyers and tax advisors in deciding to go through with the scheme, and thus that the 40% penalty shouldn’t apply.

Appellate Court decision. The DC Circuit found no error in the Tax Court’s conclusion that the totality of relevant facts and circumstances foreclosed a reasonable-cause defense to the tax penalty.

First, the Court reasoned that a claim of objective reasonableness must overcome the fact that Notice 2000-44—which expressly warned taxpayers against the use of Son-of-BOSS tax shelters—had been a matter of public record for a year before the Palm Canyon scheme was put into motion. And importantly, Notice 2000-44 specifically identified as prohibited almost the exact Son-of-BOSS variation used by Palm Canyon.

Second, Palm Canyon’s reliance on advice given by Cantley & Sedacca, Ivsan, or Brooks was of no help. It was settled law that reliance on the professional advice of those one knows, or should know, to be promoters of a tax scheme is objectively unreasonable.

Third, Lamb’s advice provided no cover for this scheme. His role was largely limited to investigating the promoter’s bona fides, not providing tax advice. Further, he testified that, while he did not feel qualified to provide an opinion on the technical merits of the scheme, he believed the tax benefits were “too good to be true”. Reliance on professional advice was not reasonable where improbable tax advantages signal the tax shelter’s illegitimacy. In addition, Lamb performed only a cursory review of the completed return because he did not feel comfortable with the transaction.

Fourth, consultations with Barish offered no shield either. He said he was “skeptical” of the transaction, based on his prior experiences with tax shelters, and he didn’t have any substantive input as far as the tax opinion itself. Given that Barish and Lamb both recognized that the proposed partnership strategy was a tax-avoidance scheme, the Tax Court did not err in concluding that they neither conducted a proper investigation of the transaction nor provided an independent opinion concerning its legitimacy on which Palm Canyon could reasonably rely. Rather, they limited their due diligence to the scheme’s players, not its substance, and relied on the opinions of its promoters.

Fifth, the tax opinions provided by Bryan Cave and Mark Kushner did not aid Palm Canyon. Reg. § 1.6664-4(c)(1)(i) requires, among other things, that professional advice be based on “all pertinent facts and circumstances” relating to the taxpayer before reliance can be reasonable. The generic Bryan Cave opinion was not prepared for Palm Canyon and did not necessarily focus on facts peculiar to it. Indeed, the opinion itself cautioned that courts frequently disallow reliance on an opinion of counsel that was not directed to the specific investor.

The DC Circuit highlighted that Kushner’s opinion was doubly unreliable. He and his law firm were part of Cantley & Sedacca’s tax-scheme promotion team, and it was Cantley & Sedacca that pointed Lamb to Mark Kushner. In addition, the express terms of the tax opinion required the taxpayer to submit a signed representations sheet to Pryor Cashman attesting that all relevant information had been provided before reliance could be justifiably placed upon any opinion rendered. Neither Hamel nor Lamb ever submitted a signed representations sheet. Worse still, Hamel failed to provide the law firm with documents detailing necessary and fundamental aspects of the scheme that might have had a material effect on its professional assessment.

References: For the reasonable cause/good faith defense to accuracy-related penalties, see FTC 2d/FIN ¶ V-2060; United States Tax Reporter ¶ 66,644.

EU plans new tax for tech giants up to 5 pct of gross revenues

By Francesco Guarascio and Matthew Mpoke Bigg

BRUSSELS (Reuters) – The European Commission wants to tax large digital companies’ revenues based on where their users are located rather than where they are headquartered at a common rate between 1 and 5 percent, a draft Commission document showed.

The proposal, seen by Reuters, aims at increasing the tax bill of firms like Amazon, Google and Facebook that are accused by large EU states of paying too little by re-routing their EU profits to low-tax countries such as Luxembourg and Ireland.

The plan resembles a French proposal on an equalisation tax that was supported by several big EU states. However, it is likely to face opposition from small countries that fear becoming less attractive to multinational firms.

The document says the tax should be applied to companies with revenues above 750 million euros ($922 million) worldwide and with EU digital revenues of at least 10 million euros a year.

The proposal is subject to changes before its publication which is expected in the second half of March. Some of the key figures on rates and thresholds are in brackets, showing that work is still ongoing to define the final numbers.

Firms selling user-targeted online ads, such as Google, or providing advertisement space on the internet, such as Facebook, Twitter or Instagram, would be subject to the tax, the document said, citing these companies.

Digital marketplaces such as Amazon and gig economy giants such as Airbnb and Uber also fall under the scope of the draft proposal, the Commission said.

Online media, streaming services like Netflix, online gaming, cloud computing or IT services would instead be exempt from the tax.

The levy would be raised in the EU countries where users are located, rather than where companies are headquartered, reducing the appeal of smaller low-tax states.

“This would entail additional reporting requirements so that the tax authorities of member states can calculate how much tax is due in their jurisdiction”, the document said.

In the case of online advertisers, the tax should be levied “where the advertisement is displayed” and “where the users having supplied the data which is being sold are located”.

For online shopping, the tax would be collected in countries “where the user paying for being able to access the platform (or to conclude a transaction within the platform) is located”, the document said.

The levy would be calculated on the “aggregated gross revenues” of a business and should have a single EU rate “in the region of 1-5 percent”. It would be possible to deduct this tax as a cost from national corporate taxes.

The tax would be a temporary measure that would be applied only until a more comprehensive solution to fair digital taxation is approved, the Commission said.

The long-term solution would entail the adoption of new rules on a “digital permanent establishment”.

The proposal, once finalised, would need the approval of all EU states.

($1 = 0.8129 euros)

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