2010 — Setting the Stage for a New Tax Era
Various events, legislation and initiatives of 2010 set the stage for a new era for tax practice, procedures and policy.
December 9, 2010
A review of IRS initiatives, tax legislation and economic conditions of 2010 can be considered beyond their immediate effect on tax compliance and planning. Such a review can highlight emerging trends and new practices for interpreting and applying some tax rules, administering tax laws and changing tax rules.
This article describes ten trends discerned from a review of federal and state tax developments for 2010, that will likely shape tax legislation, policy and procedures for many years to come. The ten areas of change:
A reference list with links to the topics covered in this article is available here.
Living With Uncertainty
As the start of December 2010, no one knows whether any of 72 federal tax provisions that expired in 2009 will be renewed for 2010 or whether the 2001/2003 tax cuts will be extended for any group of taxpayers. What about the 69 provisions that expire in 2010? Continuing federal and state budget problems and possible tax changes to help resolve them also create uncertainty. In addition, the significant health care legislation enacted in March 2010 includes provisions that become effective over a ten year period leaving the reality that any might be modified before becoming effective. At the end of November 2010, there had already been a few bills calling for repeal of the expanded requirement to issue 1099s to corporations.
At year end, taxpayers and practitioners await guidance on IRC §1022, Treatment of property acquired from a decedent dying after December 31, 2009. Despite enactment in 2001, given the title of §1022, it is clear that there was no need to rush guidance. Yet, the upcoming filing season will likely start without guidance on how to comply with this provision which carries a substantial penalty for failure to comply (IRC §6716).
The uncertainty trend is likely to continue given the number of changes for which the IRS needs to issue guidance and the uncertainty the IRS faces as to whether provisions with effective dates in the distant future will be repealed or modified.
Greater Information Reporting
Twice in 2010, Congress modified IRC §6041, Information at source. The first change, included in the March 2010 health care legislation, requires issuance of 1099s to corporations and for payments made for goods. The second change added by the Small Business Jobs Act enacted in September 2010 requires landlords to issue 1099s. In addition, the IRS issued regulations on two earlier 1099 law changes: basis reporting (§§6045(g), 6045A, and 6045B) and credit card transactions (§6050W).
The Hiring Incentives to Restore Employment Act (HIRE) (P.L. 111-147; 3/18/10) created new provisions and reporting requirements for certain foreign assets as part of the Foreign Account Tax Compliance Act. (FATCA). For example, new IRC §6038D, Information with respect to foreign financial assets, requires reporting of certain foreign financial assets that exceed $50,000 effective for tax years beginning after March 18, 2010.
Despite protests over additional reporting requirements due to the costs involved to the issuers and to the IRS, Congress is likely to continue to pursue information reporting as a way to help reduce the tax gap. For example, despite numerous complaints over the expanded 1099 reporting added by health care legislation in March 2010, Congress further expanded the requirement with the Small Business Jobs Act enacted six months later. Another indication of the desire for information reporting is the penalty that might be attached to encourage compliance. Section 6038D includes a $10,000 penalty for failure to comply.
The trend for greater information reporting affects both the issuers and recipients of the reporting forms. The issuers must have systems in place to properly and timely issue the reports and recipients need processes to reconcile the amounts on the reporting forms to their accounting records.
Use of Penalties
The trend involving penalties includes new, often significant penalties being created by Congress, as well as courts being more strict on when a penalty can be waived for reasonable cause. In addition to the §6038D $10,000 penalty enacted in 2010, Congress also created penalties associated with codification of the economic substance doctrine as part of health care legislation (IRC §7701(o) and §6662).
In at least two court decisions in 2010, the court did not waive a penalty in response to the taxpayer's plea of reasonable cause. In Canal Corporation and Subs, 135 T.C. No. 9 (2010), the court stated:
"The right to rely on professional tax advice, however, is not unlimited. Neither reliance on the advice of a professional tax adviser nor reliance on facts that, unknown to the taxpayer, are incorrect necessarily demonstrates or indicates reasonable cause or good faith."
In Moss, 135 TC No. 18 (2010), the court did not find that the taxpayer had relied on his CPA because he did not provide all of his information to the CPA.
In February 2010, the IRS launched its three-year Employment Tax National Research Project to examine 6,000 US employers. These examinations cover worker classification, benefits, reimbursements and more. The project will also enable the IRS to update its tax gap data in this area. The Department of Labor launched an initiative to review worker classification and the White House Middle Class Task Force is exploring worker classification problems with a primary focus on the effect on the safety net.
President Obama's FY2011 revenue proposals include one to clarify worker classification and the tax reform report issued by his economic advisory board includes a proposal to clarify who is a contractor.
Provisions of the health care legislation that require employers to do certain things for employees will heighten the need to have clear and appropriate worker classification rules.
Greater Attention on Paid Preparers
In September 2010, the IRS launched the first key piece of its new system of registering and regulating who can prepare a tax return for a paying client. The first phase is the requirement that all paid preparers (signing or non-signing) register with the IRS, pay an annual fee and obtain a Preparer Tax Identification Number (PTIN) in order to prepare returns for the upcoming filing season. Additional parts of this initiative to be rolled out in 2011 include mandatory testing for those who are not a CPA, attorney or Enrolled Agent as well as mandatory continuing education for the testing group. All paid preparers become subject to the rules of conduct of Circular 230.
In addition, as part of its initiative to register preparers, in January 2010, the IRS announced it was sending letters to about 10,000 preparers with "large volumes of specific tax returns where the IRS typically sees frequent errors" (IR-2010-1). The purpose is to remind them of the need to be "vigilant" in such areas including Schedules C and E, the Earned Income Tax and the First-Time Homebuyer Credits. The IRS also visited a few thousand of the letter recipients. The IRS also announced that it would employ other techniques to find non-compliance by preparers including visiting them posing as a taxpayer. The 10,000 letters program is expected to continue for 2011.
Additional reminders that the IRS is focused on paid preparers include news from the IRS Office of Professional Responsibility (OPR) and the IRS strategic plan. For example, in an IRS news release in July 2010 about a CPA disbarred from practice before the IRS, OPR Director Karen Hawkins was quoted (IR-2010-82):
"This is yet another decision highlighting that practitioners have a duty to the system as well as to their clients. Practitioners who do not take this duty seriously can expect to be held accountable."
The IRS strategic plan for 2009-2013 includes the following objective as part of its goal to ensure compliance:
"Ensure that all tax practitioners, tax preparers, and other third parties in the tax system adhere to professional standards and follow the law."
New Examination Strategies
Starting in January 2010, IRS Commissioner Shulman announced that "by working smarter, we can be more efficient and make better use of precious resources" (IR-2010-13). He described the Global High Wealth Industry Group launched in 2009 to examine wealthy individuals as a "game-changing strategy for the IRS." Other new and expanded examination strategies include:
In addition, IRS examinations strategies will change as they use new information reports coming online and utilize the new system of regulating paid preparers.
Expanding Role of the IRS
Health care legislation enacted in March 2010 includes new responsibilities for the IRS, such as promoting use by small employers of the new §45R credit for health insurance expenses. The National Taxpayer Advocate (NTA) included a special study in the report issued to Congress in January 2009. The study was entitled, "Running Social Programs Through the Tax System."
Some of the challenges noted by the NTA by running social programs, such as refundable credits, through the tax system are complexity, conflict with the IRS traditional mission, and need for resources. The NTA also suggested the IRS consider changing its mission statement "to explicitly acknowledge its dual roles: tax compliance and social program." This recommendation was repeated in the NTA's mid-year report to Congress for 2010. That report also noted that the "dual mission should be reflected in the IRS's budget structure and funding."
Using Social Media and New Technologies
The IRS continued its offerings on its YouTube channel in 2010. In addition, it increased functionality of its website such as with the web tool that allowed taxpayers to check online to determine if they received a recovery payment. Some states have interactive websites that allow taxpayers to make payments, check estimated tax payments, and apply for installment agreements.
The IRS expanded its use of frequently asked questions (FAQs) thereby using its website to quickly get information to taxpayers. Questions exist though as to the weight of authority, if any, to be placed on FAQs.
Some state tax agencies now utilize social media, such as Twitter and Facebook, to get updates to taxpayers and practitioners.
The growing federal deficit, exceeding $1 trillion, received a lot of attention in the press and in political speeches in 2010. President Obama formed the National Commission on Fiscal Responsibility and Reform in February 2010 with a report due before year end. Publicity on the deficit brought about discussion of possible remedies including adding a VAT at the federal level and cutting tax expenditures.
Troubled State Tax Systems
Almost all of states have faced budget shortfalls over the past few years. Tax law changes to help address the shortfalls often are designed to reach a particular revenue target rather than to improve the tax system. These changes, such as suspending use of NOLs, temporary rate increases and opting not to conform to certain federal provisions, tend to make the rules more complicated.
State tax systems face challenges of keeping up with new technologies and ways of doing business such as greater use of digitized products and cloud computing. Several states have expanded their tax reach by broadening nexus interpretations such as by employing economic nexus for situations where Public Law 86-272 does not apply. For example, in June 2010, Washington adopted economic nexus and has posted various materials at its website (including a video) pointing out how a business may owe tax in the state despite having no physical presence in the state.
In 2010, Colorado enacted a new approach for trying to collect use tax on Internet sales. It requires vendors with sales in excess of $100,000 to Colorado customers to state on invoices that the customer may owe use tax and to issue an annual report of sales to customers and the state. Penalties apply for non-compliance. The Multistate Tax Commission is working on a draft statute that follows the Colorado approach. Meanwhile, states and businesses wait to see if Congress will act upon bills before it to update Public Law 86-272 and to allow states that have adopted uniform sales tax rules to collect sales tax from remote vendors.
Looking ForwardTrends described in this article represent serious changes in practice and procedure. Taxpayers and tax professionals will need to learn how to comply and plan when tax laws are uncertain. The deficit awareness and troubled state tax systems trends indicate a strong likelihood of significant change in tax structures. It seems that we have reached a new era for tax compliance, planning, and administration.
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Annette Nellen, CPA, Esq., is a tax professor and director of the MST Program at San José State University. Nellen is an active member of the tax sections of the ABA and AICPA. She serves on the AICPA's Individual Income Taxation Technical Resource Panel and chairs the California Bar Tax Section's Tax Policy Committee. She has several reports on tax reform and a blog.