PETALUMA AFFIRMED ON REMAND

The U.S. Tax Court recently decided on remand whether the Court had jurisdiction under TEFRA over individual partner penalty determinations under Section 6662.  In Petaluma v. Commissioner, 135 T.C., No 29 (December 15, 2010), the Tax Court held that the 6662 penalty was not a partnership level computational adjustment item that would meet section 6226(f)'s requirement that it relate to a partnership item.  Instead, the Tax Court held that since it was an ad valorem penalty determination at the partner level resulting from an outside basis adjustment to assets received from a partnership, no jurisdiction could exist because partner level outside basis adjustments and their related penalties, do not related to partnership item adjustments. 

The Tax Court's decision is consistent with the rulings issued in the earlier related case decided by the D.C. Circuit Court of Appeals in Petaluma FX Partners, LLC v. Commissioner, 591 F.3d 649 (D.C. Cir. 2010), affg. in part, revg.in part, and vacating in part 131 T.C. 84 (2008).  The outside partnership interest basis jurisdictional issue is an item the IRS may need to take to Congress for further help in these cases.

CANAL CASE SPARKING DEBATE

Practitioners are debating the implications of the recent Tax Court decision in Canal Corporation and Subsidiary, et. al., v. Commisioner of Internal Revenue, 135 T.C. No. 9 (8-5-10), which involved an LLC contribution of a corporate subsidiary's balance sheet to a new LLC in exchange for a small residual interest, and the LLC's subsequent distribution of financing proceeds that were distributed to the contributing member under an arrangement whereby the member had agreed to indemnify the other member and the LLC for the distribution indebtedness.  The Tax Court found the member had insufficient assets to support the indemnity obligation and the indemnity covenant could not be relied upon to allocate the LLC debt to the contributing member, and that the disguised sale rules under IRC Section 707(a)(2)(B) applied.  The Tax Court also imposed a substantial understatement penalty, holding that no reliance could be placed upon the tax opinion issued by the taxpayer's advisor due to bias resulting from the opinion writer having participated in the structuring of the transaction and therefore lacking sufficient objectivity to provide a basis of reliance.  See the link below for a copy of the case.

[Click for Link: https://docs.google.com/fileview?id=0B0wpOGVGFkgYODI0M2I1MGItZjYxYi00NmNhLTgyMWQtNWFkYmE0YWQxNjM0&hl=en&authkey=CP-3jZ0G ]

FAMILY LLC TRANSER RESTRICTIONS INVALID UNDER SECTION 2703

On September 1, 2010 in Fisher v. United States, No. 1:08-cv-00908, the United States District Court for the Southern District of Indiana held that family LLC transfer restrictions must be ignored under IRC Section 2703 in the valuation of gifts of family LLC units by the taxpayers to their children.  The basis for the ruling was that the LLC was not a bona fide business because the lake front lot that was it's principal asset was not a business.  The District Court relied on the decision in Holman v. Commissioner, 601 F.3d 763 (8th Cir. 2010) which held that a family LLC passively holding publicly traded stock served no bona fide business purpose for purposes of respecting transfer restrictions under IRC Section 2703.  The determination did not eliminate the application of valuation discounts for lack of control or marketability, but it did require that any gift valuation discounts not take the LLC's operating agreement transfer restrictions into account.  This case reflects the Service's ongoing challenge to family LLC estate and gift transfer valuations, particularly in cases where the family LLC holds nothing but passive investment assets without any specific investment criteria or focus.

U.S. District Court Rules on Discovery Privileges In Tax Shelter Case Regarding Emails

A recent U.S. District Court case, Green v. Beer, et. al., No. 1: 06-cv-4156 (Southern District of New York) addressed attorney-client privilege issues in connection with emails, and ruled legal advice concerning certain aspects of the shelter were protected, while emails shared with the legal clients' financial advisors resulted in waivers of the privilege with respect to those emails.  This case should provide helpful guidance to tax counsel providing tax advice in connection with a transaction as to the do's and don'ts of privilege protections. 

Our Firm will be glad to furnish a copy of the case upon request.

Whitehouse Valuation Case Remanded

The Fifth Circuit Court of Appeals just remanded Whitehouse to the Tax Court. The case involves the valuation of a facade easement and one of the interesting issues in the case is the determination of highest and best use. See Whitehouse Hotel Limited Partnership v. Commissioner, Case No. 09-60085 (5th Cir., 8/10/10).

TIGTA Annual Report Reviews IRS-CID

The Treasury Inspector General's Office for Tax Administration has issued its annual review of IRS Criminal Investigation Division Enforcement Activities for FY 2009.  It found that IRS-CID had successfully increased criminal tax investigation initiations by 14.4% overall and by 13.3% for legal source tax investigations for the prior fiscal year.  TIGTA concluded that the increases demonstrated that CID tax investigations, and particularly legal source tax investigations, were a priority for CID, but due to case inventory pipeline management issues related to FY 2008 backlog, that IRS CID fell slightly short of its goal of completing 3,900 investigations, finding that only 3,848 such investigations were completed for FY 2009.

The IRS Criminal Investigation Division has increased it's staffing of special agents from last year by 4.1%, from 2,617 agents to a current level of 2,725 agents.  The average length of a CID investigation to completion for both legal and illegal source cases 415 to 425 days, though it takes on average less than 1 year (341 days) for IRS-CID to refer a case for prosecution.  The conviction rate for CID following case investigation completion is approximately 92%. The average number of months a subject is incarcerated for legal source tax crimes has increased from 2004 to 2009 by 11.1%  (from an average of 18 months to 20 months).  84% of Americans believe it is not acceptable to cheat on their taxes under any circumstances.  For the other 16% of American taxpayers, IRS-CID resources are being agressively deployed to enforce compliance with the nation's self assessment system of voluntary compliance.

TIGTA's Report Reference Number is 2010-30-074.  Our Firm will be glad to provide you a copy of the Report upon request.