In Notice 2012-8, the IRS has provided a proposed Revenue Procedure that would revise the factors used in evaluating requests for equitable innocent spouse relief under § 6015(f) and § 66(c) of the Internal Revenue Code. Significantly, the proposed Revenue Procedure would expand how the IRS will take into account abuse and financial control by the nonrequesting spouse in determining whether equitable relief is warranted.  In its notice, the IRS stated that “review of the innocent spouse program demonstrated that when a requesting spouse has been abused by the nonrequesting spouse, the requesting spouse may not have been able to challenge the treatment of any items on the joint return, question the payment of the taxes reported as due on the joint return, or challenge the nonrequesting spouse’s assurance regarding the payment of the taxes.” The IRS also pointed out that “lack of financial control may have a similar impact on the requesting spouse’s ability to satisfy joint tax liabilities.”

In addition to provisions concerning spousal abuse and financial control, the proposed Revenue Procedure would provide for certain streamlined case determinations, new guidance on the potential impact of economic hardship, and the weight to be accorded to certain factual circumstances in determining equitable relief.

Background

Married taxpayers are jointly and severally liable for the tax, interest, and penalties arising from a joint tax return.  IRC § 6015(b) (regular innocent spouse relief) and § 6015(c) (relief for separated or divorced individuals) specify two sets of circumstances under which relief is available for innocent spouses from joint and several liability for joint returns.  Where relief is not available under those sections, § 6015(f) allows relief to a requesting spouse if, taking into account all the facts and circumstances, it is inequitable to hold the individual liable.  A similar equitable relief provision is also available under IRC § 66(c) for married individuals with community property income.  Rev. Proc. 2003-61, 2003-2 CB 296, provides guidance on the factors considered in evaluating requests for equitable relief from income tax liability under IRC § 6015(f) and § 66(c).

New Procedure

The proposed Revenue Procedure would update Rev. Proc. 2003-61.  Specifically, the new procedure would make the following changes:

Expansion of Time to Request Relief.  Under the current guidance, an innocent spouse may request equitable relief no later than two years after the date of the IRS’s first collection activity on the joint return.  Under the proposed Revenue Procedure, they would have until the expiration of the period of limitation for collection under IRC § 6502, which is generally three years from the filing date or due date of the return, whichever is earlier.  In some cases, the time for requesting equitable relief may be shorter under the new procedure; however, the starting point for determining the limitations period would be more definitive, which should protect more spouses from missing the deadline for requesting relief.

Protection from Nonrequesting Spouse’s Fraud.  Under Rev. Proc. 2003-61, a requesting spouse is only eligible for relief if the income tax liability stems from an item of income attributable to the nonrequesting spouse.  Under the new procedure, the requesting spouse may request relief even if the item is attributable to him or her, if the nonrequesting spouse’s fraud gave rise to the understatement of tax or deficiency.

Additions to Streamlined Determinations Procedures.  Rev. Proc. 2003-61 provides for streamlined determinations granting equitable relief in cases in which the requesting spouse (1) is no longer married to the nonrequesting spouse, (2) would suffer economic hardship if no relief were granted, and (3) did not know of the underpayment of tax shown on the joint return.  The new procedure would provide that these streamlined procedures are also available for cases involving understatements in addition to underpayments, and would also apply to claims for equitable relief under IRC §66(c), relating to separate returns for spouses in community property states.

Number of Factors No Longer a Factor.  The proposed Revenue Procedure clarifies that no one factor or a majority of factors would necessarily control determination of whether to grant equitable relief, meaning that relief may still be granted even if the number of factors weighing against relief exceeds the number of factors weighing in favor of relief.

Economic Hardship.  The economic hardship equitable factor would provide for minimum standards based on income, expenses, and assets, for determining whether the requesting spouse would suffer economic hardship if relief is not granted.  Further, the lack of finding economic hardship would not weigh against relief.

Actual Knowledge.  Unlike under Rev. Proc. 2003-61, actual knowledge of the item giving rise to an understatement or deficiency would no longer be weighed more heavily than other factors. 

Spousal Abuse or Financial Control.  The most significant change made under the Proposed Procedure, however, is the addition of consideration for spousal abuse and financial control of the nonrequesting spouse.  The new procedure provides that, if the nonrequesting spouse abused the requesting spouse or maintained control over the household finances by restricting the requesting spouse’s access to financial information, and therefore, the requesting spouse was unable to challenge the joint return for fear of the nonrequesting spouse’s retaliation, then that abuse or financial control would weigh in favor of relief.  This factor would apply even if the requesting spouse had knowledge or reason to know of the items giving rise to the understatement or deficiency, or that the nonrequesting spouse would not pay the tax due.

Subsequent Compliance.  The new procedure would also add that a requesting spouse’s subsequent compliance with federal income tax law is to be a factor weighing in favor of relief.

The IRS is currently accepting public comment on the new procedure through Feb. 21, 2012.  Comments may be submitted via email to comments@irscounsel.treas.gov by including “Notice 2012-8” in the subject line, or via mail to:

Internal Revenue Service
Attn:  CC:PA”LPD:PR (Notice 2012-8)
Room 5203
P.O. Box 7604
Ben Franklin Station
Washington, D.C. 20044

The Leahy-Smith America Invents Act (P.L. 112-29 9/16/2011), recently signed into law by President Obama, makes significant changes to the patent system and bars the patenting of tax strategies.  This bar applies only to new tax strategies and those currently pending before the U.S. Patent and Trademark Office.

Section 14 of the Act provides that “any strategy for reducing, avoiding, or deferring tax liability, whether known or unknown at the time of the invention or application for patent, shall be deemed insufficient to differentiate a claimed invention from prior art.”  Tax liability includes any liability for tax under federal, state, local, or any foreign law, including any statute, rule, regulation, or ordinance that levies, imposes, or assesses such tax liability.

There are exceptions.  The Act excludes methods or software used solely for preparing a tax or information return or other tax filing, or to transmit or organize related information; i.e., true process patents unrelated to tax strategies. Also excluded are methods or software that are used solely for financial management purposes, to the extent that they are severable from any tax strategy or do not limit any taxpayer’s (or tax advisor’s) use of any tax strategy.

In Southgate Master Fund LLC v. United States, the Fifth Circuit Court of Appeals upheld the determination of the Federal District Court for the Northern District of Texas, which held that Southgate was not liable for accuracy-related penalties for valuation misstatement, negligence or substantial understatement resulting from a disallowed loss on a complex foreign investment scheme and disregarded basis pump transaction. 

The Court held that the taxpayer’s reliance upon law and accounting firms’ tax opinions that it was more likely than not that the IRS would uphold the taken tax positions, constituted reasonable cause for taking those positions.  In this refund suit, the taxpayer showed that the firms were qualified tax advisors to whom it and its members disclosed all the pertinent facts, that the opinions weren’t based upon unreasonable assumptions, and that the transactions were carried out consistently with the transactional documents and the descriptions of the transactions set forth in the tax opinions.

The Department of Justice failed in its arguments that Southgate failed to pump the basis in the same manner as set forth in the opinions, because Southgate did actually follow the opinions, and the DOJ failed in its arguments that the opinions contained unreasonable assumptions, because the Court found that the opinions accurately described the facts underlying Southgate’s decision to invest in the tax scheme, its reasons for forming the partnership, and the structure of and justifications for the basis pump.

The Fifth Circuit noted that this case presented a close call, but one that still fell in favor of the taxpayer.

Early figures for the 2009 Offshore Voluntary Disclosure Initiative have been on the streets for some time now, but today the IRS released final figures for the 2009 OVDI program as well as preliminary figures for the recently closed 2011 OVDI program. The IRS reports that 15,000 persons came in under the 2009 OVDI program, another 3,000 came in after the 2009 deadline and were permitted to make their disclosures pursuant to the 2011 OVDI program, and another 12,000 came in under the 2011 OVDI program, for a total of 30,000 taxpayers.  The IRS reported that $2.2 billion was collected under the 2009 OVDI program, and that $500 million in advance payments had been made under the 2011 OVDI program.

The IRS and Department of Justice are aggressively pursuing those who evade the payment of U.S. tax through the use of offshore entities and accounts. The IRS and DOJ have announced criminal prosecutions resulting in months and years of jail time, fines of hundreds of thousands and even millions of dollars, and in 2009 the IRS announced that a special group has been set up in SB/SE with the specific duty of finding and referring for prosecution “quiet disclosures” made through the Service Centers.

Global tax enforcement remains a top priority at the IRS, and  IRS Commissioner Doug Shulman noted progress on multiple fronts, including ground-breaking international tax agreements and increased cooperation with other governments and foreign financial institutions, including the 2009 agreement by UBS AG, Switzerland’s largest bank, to pay $780 million in fines, penalties, interest and restitution as part of a deferred prosecution agreement with the U.S. Government.

The IRS reports that the two disclosure programs provided the IRS with a wealth of information on various banks and advisors assisting people with offshore tax evasion, and the IRS intends to use this information to continue its international enforcement efforts.

The new program will allow employers the opportunity to become complaint by making a minimal payment covering past payroll tax obligations, rather than waiting for an IRS audit to uncover past noncompliance. Under the program, set forth in Announcement 2011-64, eligible employers can obtain substantial relief from federal payroll tax liability they would otherwise have owed in the past, provided they prospectively treat workers as employees.  Employers must file Form 8952, the Application for Voluntary Classification Settlement Program at least 60 days before they want to begin treating the workers as employees.

The eligibility requirements include that the employer consistently treated the workers as nonemployees in the past, that the employer filed all required Forms 1099 for the workers for the previous three tax years, and that the employer is not currently under audit by the IRS, Department of Labor, or a state agency concerning the classification of these workers.

What about penalties and interest? Under the VCSP, employers will pay an amount equal to just over 1% of the wages paid to the reclassified workers for the past tax year. No interest and penalties will be due, and the employers will not be audited with regard to payroll taxes related to those reclassified workers for any prior years.

Pursuant to IRS Notice 2001-72, where an employer provides employees with cell phones primarily for noncompensatory business reasons, neither the business nor personal use of the cell phone results in income to the employee, and no recordkeeping of telephone usage is required. In most situations, an employer’s reimbursement to employees for the employee’s provision of a cell phone for bona fide business use won’t be taxable.

To qualify, there must be substantial business reasons for provision of the cell phone.  A cell phone provided to promote employee morale or goodwill, to attract prospective employees, or to provide additional compensation to employees is not provided primarily for noncompensatory business purposes. The IRS has provided examples of qualifying use, including the need to contact the employee at all times for work-related emergencies, or enabling the employee’s availability to speak with business clients when he or she is away from the office, or to call clients in other time zones after his or her normal workday is over. The IRS will treat the value of any personal use of a cell phone provided by the employer primarily for noncompensatory business purposes as excludable from the employee’s income as a de minimis fringe benefit. This new guidance applies to all years after December 31, 2009.