Gillette Decision Upheld, But Beware

Posted on October 6, 2012 by Russ

The California Court of Appeals for the First District upheld its earlier ruling in Gillette v. Franchise Tax Board. This means that for tax years from 1993 – 2011 a three-factor formula for apportioning income is valid. Earlier, the same appellate court ruled the same way; this decision clarified the earlier decision.

However, this decision is subject to appeal. The FTB sent an email to tax practitioners this week. Spokesperson Susan Maples sent out this staff opinion:

On October 2, 2012, the Court of Appeal issued its decision in Gillette v. Franchise Tax Board, Calif. First Dist. Ct. App. Dkt. No. A-130803. Questions have arisen regarding whether a taxpayer that chooses to elect the use of the Compact method of apportionment on its taxable year 2011 tax return that is filed by October 15, 2012, runs the risk of having the penalty under Revenue and Taxation Code section19138 (The Large Corporate Underpayment Penalty or “LCUP”) imposed if, after October 15, the decision of the Court of Appeal is vacated or modified by the Court of Appeal, or vacated or overturned by the California Supreme Court.

Staff believes that taxpayers choosing to elect the use of the Compact method of apportionment on a timely filed original return for the 2011 taxable year, that is filed before the decision of the Court of Appeal in Gillette v. Franchise Tax Board is final, will run the risk of incurring the LCUP if that decision is subsequently vacated, reversed, or overturned. The reason is that the decision of the Court of Appeal is not final until November 1, 2012, — 30 days after the decision was issued (Cal. Rules of Court rule 8.264(b)(1)). Because the decision is not final, it should not be treated as the state of the law until November 1, 2012.

Section 19138, subdivision (f), that provides for relief from the LCUP if the penalty is imposed on an understatement due to a change in law occurring after a return is filed, is not applicable to the question raised because the state of the law on October 15, 2012 does not include the decision of the Court of Appeal in Gillette v. Franchise Tax Board, as it has not yet become final. Therefore, there is no “change in law” that will occur should the decision be vacated or overturned after October 15, 2012. The law would be the same as it was at the time the taxpayer filed the return.

So what should multi-state businesses do? One strategy would be to file returns using the California formula (a 3-factor formula with sales doubled), and then file a protective claim for refund based on the Gillette decision.

One other aspect is quite clear: Expect the FTB to appeal. Reading between the lines of the staff opinion, this is fairly clear. Finally, California is no longer a member of the multi-state Compact so for 2012 and future years this is no longer relevant.

Posted in California | 1 Comment

The IRS Takes the Weekend Off

Posted on October 6, 2012 by Russ

Well, sure, Monday is Columbus Day and a federal holiday. That doesn’t bother me. However, the problem is that with just nine days left before the extension deadline, the IRS shuts off all of its computer systems for a scheduled power shut-off in Martinsburg, West Virginia. I could ask why this isn’t scheduled for, say, Thanksgiving weekend or the end of October. No matter, if you are an authorized IRS e-services provider (like I am), you can’t do anything until Tuesday.

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208 Chances to Commit Tax Evasion and Other Stories

Posted on September 30, 2012 by Russ

There are good schemes and bad schemes. Today, I’m focusing on the particularly stupid.

From McClellandtown, Pennsylvania comes the story of Sherman Friend. Mr. Friend just knew that the number “1127” would come up in the lottery. He bought 208 tickets with that number in a Big 4 drawing back in 2009. And Mr. Friend was correct! With each ticket being worth $250 and having cost just $0.50, he was looking at a profit of a cool $519,896. Even after taxes that’s a good deal.

Mr. Friend, though, had other ideas about paying taxes. Instead of cashing all the tickets himself and accumulating a bunch of W-2Gs noting his winnings, he solicited friends to cash the tickets and paid each of them $250 (10% of his win). That reduced Mr. Friend’s profit, but after the net proceeds of around $480,000 ended up in his wallet, he still owed tax on it. Mr. Friend decided to ignore the law.

“He went on to explain that he didn’t feel he owed the taxes on these moneys,” Assistant US Attorney Nelson Cohen told a judge in Pittsburgh. Mr. Friend pleaded guilty, and has agreed to make restitution of the $132,000 he owes the IRS.

Next, lets head to Billings, Montana. Shannon Grimm enjoyed doing genealogy research. She discovered that many old documents had social security numbers. Aha, she thought, why don’t I submit tax returns with those social security numbers. Those individuals are deceased so no one will mind.

She filed over 90 such phony returns.

Last April, she pleaded guilty to tax fraud. She was sentenced last week to 51 months at ClubFed. Additionally, she has to repay the $129,498 she got in refunds from the IRS. (The IRS caught $270,000 of additional refunds she field before sending them out.) One factor that led to her lengthy sentence was that Ms. Grimm was on probation when she committed the federal crime.

Finally, let’s head to Sicklerville, New Jersey. As I’ve said many, many times, if you want to get in trouble with the IRS the quickest and easiest way is to not remit employee trust fund payroll taxes. The IRS investigates every one of these complaints. Vanna Kem apparently didn’t read my blog. Ms. Kem owned Tri State Labor Services (though she used a nominee for registering the corporation). Ms. Kem paid her employees: They made over $1 million from 2006 through 2008. The employees were paid in cash, and apparently Ms. Kem thought that eliminated the responsibility of doing anything about her payroll taxes. She didn’t pay them and didn’t file Form 941s with the IRS.

Sooner or later one of her employees would note something on a tax return, and the IRS would find out. Ms. Kem pleaded guilty to one count of evading employment taxes and will enjoy ClubFed for 18 months. She must also make restitution of nearly $164,000.

Three rather dumb criminals will all get some time off. As usual, it’s far, far easier to pay your tax up front but that thought rarely enters the Bozo tax criminal’s mind.

Posted in Tax Evasion, Tax Fraud | 1 Comment

California Musings

Posted on September 27, 2012 by Russ

Yesterday a client emailed me and asked if I was planning on moving back to California. The answer is easy: no. I could make it stronger, but I’ll let others help with that.

First, Dan Walters writes about what will happen if Governor Brown’s tax increase passes. I could just quote Alan Greenspan: “Whatever you tax, you get less of.” Mr. Walters cites the case of Gilbert Hyatt (a case I’ve written about extensively) as an example of what will likely occur if Proposition 30 passes.

Mr. Walters thinks that the verdict in the Hyatt appeal will influence this. I disagree, though; if Proposition 30 passes, the exodus will increase. It’s even easier today than it was in the 1990s to live anywhere in the U.S. and run a business. My business partner is in Maryland, yet through the magic of computers, Skype, FedEx, and the telephone we’re able to run our business very efficiently. It really doesn’t matter where you reside these days, be it Los Angeles, Las Vegas, Denver, or Phoenix.

There are some catches Californians who plan on moving need to be aware of. If you have a business entity, you probably want to reform it in your new state. That way you can escape California business taxation, too. (Note that there are exceptions to this, and this definitely should be discussed with your tax professional.)

Second, there’s a study out by the Manhattan Institute titled “The Great California Exodus: A Closer Look.” A key bit from the executive summary:

The data also reveal the motives that drive individuals and businesses to leave California. One of these, of course, is work. States with low unemployment rates, such as Texas, are drawing people from California, whose rate is above the national average. Taxation also appears to be a factor, especially as it contributes to the business climate and, in turn, jobs. Most of the destination states favored by Californians have lower taxes. States that have gained the most at California’s expense are rated as having better business climates. The data suggest that many cost drivers—taxes, regulations, the high price of housing and commercial real estate, costly electricity, union power, and high labor costs—are prompting businesses to locate outside California, thus helping to drive the exodus.

The entire report is worth your time.

Finally, there will be a court hearing in November in Sacramento on blocking California’s train to nowhere. The city of Chowchilla along with the Madera and Merced Farm Bureaus and the county of Merced have sued under California’s Environmental Quality Act. The first leg of the train, if built, will run from Bakersfield to Merced.

The California Farm Bureau Federation is upset with the high-speed rail because it would urbanize prime farmland. I’m upset with the plan because it’s a colossal waste of money. The goal of the high-speed rail project is to connect the Los Angeles and San Francisco areas by trains that would take 2:40 to run between the metropolitan areas. The high speed rail’s website lauds that its sustainable trains would help the environment.

Today, you can fly between Los Angeles and San Francisco in just over an hour. Does anyone really think that people are going to spend an extra hour and thirty minutes to take the train? As far as electricity being cleaner than a jet, that’s true…until you realize that you have to generate the electricity. That means a fossil fuel (coal, oil, natural gas), hydroelectric power, or nuclear power. The difference between “clean” electricity and a jet is that with the electricity you’re one step down from where the “green” nature goes away.

In any case, the big problem is economics. High speed rail may make sense to connect two densely packed metropolitan areas (such as from Boston to Washington, D.C.). But without massive subsidies this program–estimated to cost upwards of $67 billion–is just more money down the drain in California.

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Las Vegas Attorney Accused of Tax Evasion and Structuring

Posted on September 23, 2012 by Russ

On Wednesday, I attended an all-day continuing education seminar put on by the Nevada Society of Enrolled Agents. This happened to be the annual IRS liaison meeting, and a hot topic was the indictment of Randolph Goldberg. This was especially true given we were treated to a presentation from local IRS Criminal Investigation (CI) agents. (They did not state anything about this case, of course.)

Mr. Goldberg is accused of keeping two bank accounts. There’s nothing wrong with that. However, he’s being accused of only including the deposits from one of the two accounts on his tax returns. Adding to his troubles is that he’s being accused of “structuring” bank deposits. Structuring is adjusting your bank deposits of cash deliberately so as to avoid currency transaction reports (CTR). If you make a deposit of $10,000 or more of cash, the bank will file a CTR. Mr. Goldberg is being accused of structuring bank deposits 147 times.

Mr. Goldberg is accused of four counts of tax evasion and five counts of structuring. He pleaded not guilty to the charges on Thursday. He was released on his own recognizance; his next hearing is in late November.

It takes effort to get in trouble with CTRs — so many of them a year are issued. Interestingly enough, one of the tidbits that CI gave us is that in August of this year there were 808 Suspicious Activity Reports (SARs) received in Las Vegas. (I believe, but am not 100% certain, that is the number issued by banks and casinos here in Las Vegas.) IRS CI told us that they have investigated or are investigating every one of the SARs.

SARs are issued when a bank or casino thinks their may be suspicious activity going on. For example, a SAR is likely to be issued if you make an $8,000 cash deposit in the morning and another $3,000 cash deposit in the afternoon. People don’t like dealing with CTRs because their issuance usually takes an extra 30 minutes at the bank. Assuming that one or more SARs lead to the investigation of Mr. Goldberg (which is very likely), he could spend far longer than 30 minutes at ClubFed.

Posted in Nevada, Tax Evasion | Tagged | 2 Comments

A Golden Ending

Posted on September 23, 2012 by Russ

Walter Samaszko, Jr. passed away in May of this year. He had been a recluse, and when odors started emanating from his Carson City, Nevada home, neighbors called the authorities. They discovered his body. No one knew his relatives were, so the house was cleaned out by the Clerk-Recorder’s office before the modest home (listed for just over $100,000) could be placed on the market.

They found quite a surprise: Austrian ducats, South African Kruggerrands, English Sovereigns, and US $20 gold pieces. All told, the gold is valued at about $7 million. The estate will be subject to the federal estate tax–the exclusion amount this year is $5.12 million–so the IRS will get about around $750,000. A first cousin in the San Francisco Bay Area will get the rest (after probate fees are paid), likely around $6 million. It doesn’t hurt that the current price of gold is just under $1,800 an ounce.

Posted in Estate Tax, Nevada | Comments Off on A Golden Ending

Home Is Where the Family Is

Posted on September 23, 2012 by Russ

Last week there was an interesting case out of Iowa regarding domicile. A man was working in South Dakota but his family home was in Iowa. He decided to file as a South Dakota resident. Could it be that South Dakota’s 0% state income tax rate was more appealing than Iowa’s 8.9% rate? Perhaps I’m too cynical (not).

In any case, the taxpayer lost because he did many of the things that are necessary wrong. For those wondering about domicile cases, Joe Kristan’s report on the case is must reading.

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Does the New Unearned Income Medicare Contribution Tax Impact Amateur Gamblers?

Posted on September 23, 2012 by Russ

Over two years ago the Patient Protection Act–aka Obamacare–passed Congress. At the time, no one knew what was in the law. Famously, then Speaker of the House Nancy Pelosi (D-CA) said that, “We have to pass the law to know what’s in the law.” Really?

Well, back in March 2010 I thought that the law would impact amateur gamblers. I based this on the title of the provision and how Congress wrote and the IRS interpreted the Kiddie Tax. The Kiddie Tax is also a tax on unearned income. The exact title of the law is the Unearned Income Medicare Contribution Tax. Since the Kiddie Tax is theoretically a tax on investment income but it applies to amateur gamblers, I felt that the IRS would interpret this law similarly.

However, that does not appear to be the case. Section 1402 of the law notes that it is on 3.8% of the lesser of:

‘‘(A) net investment income for such taxable year, or
‘‘(B) the excess (if any) of—
‘‘(i) the modified adjusted gross income for such taxable year, over
‘‘(ii) the threshold amount.

So what is Net Investment Income? Section 1411(c) has the definition:

‘‘(c) NET INVESTMENT INCOME.—For purposes of this chapter—
‘‘(1) IN GENERAL.—The term ‘net investment income’ means the excess (if any) of—
‘‘(A) the sum of—
‘‘(i) gross income from interest, dividends, annuities, royalties, and rents, other than such income which is derived in the ordinary course of a trade
or business not described in paragraph (2)….

Based on how the law is written it will not apply to “Other Income” such as gambling income, sweepstakes, and contests.

Thus, my initial fear back in 2010 of how the law would be interpreted should be wrong.

I should note that the IRS has yet to issue most of the regulations on Obamacare, so they could interpret this provision differently. However, I think that would be very unlikely. Additionally, it is very possible that some tax software will make errors in this calculation. The Kiddie Tax, a tax on unearned income, uses a different basis than this tax. A lazy software writer might not notice the difference so this is definitely something I’ll be checking when we get to 2013 returns. (This new tax goes into effect with 2013 tax returns filed in 2014.)

Posted in Gambling, IRS | Tagged | 1 Comment

Is the IRS Time-Barred From Imposing a Penalty on a Frivolous Amended Return?

Posted on September 17, 2012 by Russ

The IRS is allowed to impose a penalty on the filing of a frivolous tax return (Internal Revenue Code Section 6702(a)). Today, the Tax Court looked at a taxpayer who filed a normal tax return, but then filed an amended return where she claimed she wasn’t a “person.”

Well, we’re all people (I hope), and the petitioner, one Marla Crites, also said that wages aren’t taxable (helpful hint: they are taxable). When the IRS imposed a $5,000 penalty on the frivolous amended return, she asked for a Collection Due Process Hearing. Ms. Crites filed four amended returns (not one), and they all appear to have said that she wasn’t liable for tax. At the CDP, the Appeals officer upheld the IRS. She then went to Tax Court.

I’m not going to go over the arguments that wages aren’t taxable, or that she’s not a person; neither argument is worth any time. Nor is her argument that an amended return isn’t a return under IRC Section 6702; the Tax Court (and other courts) have held that it is.

The interesting issue is whether the statute of limitations time bars the IRS from imposing a frivolous return penalty on an amended return that the IRS does not process. The Tax Court notes,

As the Commissioner observes, penalties under section 6702 do not have a readily observable statute of limitations. The section penalizes not just frivolous “returns”–and even here Congress was careful to penalize not just returns but “what purports to be a return”–but frivolous “submissions”. It would be odd if penalties keyed to “submissions” had somehow to be tied to the limitations period for tax that is supposed to be shown on a “return”…

But let us assume–and here we are expressly assuming without deciding–that Crites is right that the filing date of her “return” is the key date. She had two returns, and the one that the Commissioner wants to punish her for is the amended return that she sent the IRS in October 2008. He assessed the penalty in July 2009, well within three years of her submitting it.

The IRS then asked the Court to impose a penalty for filing a frivolous case at the Tax Court. I hope Ms. Crites looks carefully at the last line of the decision:

…[T]his is Crites’s first trip to Tax Court, and by submitting the case under Rule 122, she did save us the burden of trial. And one of her arguments, the statute-of-limitations issue as applied to frivolous amended returns, was one we had not yet addressed and was not itself obviously frivolous. We will therefore exercise our discretion not to sanction her under section 6673.

This time.

Case: Crites v. Commissioner, T.C. Memo 2012-267

Posted in Tax Court | Tagged | 1 Comment

Well, He Probably Wouldn’t Have Won Reelection

Posted on September 16, 2012 by Russ

John McCauley, Jr. is the Deputy Speaker of the Rhode Island House. He’s not running for reelection. Given that he will be pleading guilty to one count of tax fraud and one count of conspiracy, that’s likely a good decision.

Mr. McCauley and his partner in an insurance adjustor business, William L’Europa, were accused of underreporting $1.8 million in their business. That equates to a tax loss of over $500,000 to the IRS. Mr. L’Europa will also be pleading guilty to the same charges.

Mr. McCauley is the sixth Rhode Island legislator to face criminal charges during 2012. It hasn’t been a good year in Providence.

Posted in Rhode Island, Tax Evasion | Comments Off on Well, He Probably Wouldn’t Have Won Reelection