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Tax reform brings challenges and opportunities for digital nomads

By Joshua Ashman


With the dust beginning to settle on the largest overhaul of the U.S. federal tax system in several decades, tax professionals are steadily piecing together the specific implications of the Tax Cuts and Jobs Act of 2017 for each U.S. taxpayer community.


One newly emerging community of U.S. individuals that should feel the ripple effects of the tax reform is the so-called “digital nomad” community, particularly those who are globally nomadic. The growth of this group has been rapid enough that tax advisers would be well-advised to take stock of the specific reform provisions that are relevant for these taxpayers.


As defined most generally, a “digital nomad” is an individual who takes advantage of digital technology and communications to avoid being tied down to a particular office location. The ability to work from a computer, laptop, iPad, cellphone, or other device allows digital nomads to choose virtually any workspace, whether in the United States or abroad.


The digital nomad lifestyle has become increasingly popular for U.S. citizens in recent years due to a number of new programs that have been created to facilitate overseas commuting by organizing year-long trips for employees and freelancers to live in multiple cities abroad. Participants, for example, travel in groups to live in multiple cities throughout Europe, Asia and South America, for one month each over a year period.


As a result of this growing crop of U.S. citizens living abroad, a number of issues have required revisiting in order to properly frame the digital nomad lifestyle within the definitional parameters of the U.S. federal tax laws.


One prominent issue, for example, is the foreign earned income exclusion under Section 911 of the Internal Revenue Code, which allows a U.S. taxpayer to exclude a good amount of foreign earned income ($103,900 in 2018), but requires the taxpayer to have a “tax home” in a foreign country and to not have an “abode” in the United States. While a number of cases, including very recent ones, have analyzed the parameters of the “tax home” and “abode” requirements, additional judicial precedent and IRS guidance is still needed to properly analyze these requirements within the context of the digital nomad lifestyle, which embraces vocational and residential transience.

Tackling tax reform

With the tax reform firmly entrenched, we can begin to analyze the extent to which its provisions should simplify or complicate the already unique tax profile of the digital nomad living abroad. While a number of the TCJA’s provisions affect the general tax landscape for all U.S. individual taxpayers (new tax brackets, increase in the standard deduction, elimination of itemized deductions, etc.), the following focuses on those provisions that are uniquely significant for the digital nomad community.


From a personal taxation perspective, the major features of U.S. taxation that are unique to individuals living abroad generally have not changed.


Most fundamentally, individuals living abroad continue to be subject to citizenship-based taxation on their worldwide income. The same is true with respect to foreign asset and income reporting to the Internal Revenue Service. FBAR and FATCA reporting, as well as other foreign information disclosure obligations, continue to apply without significant alteration.


The TCJA also does not affect the classic safeguards against double taxation of an individual’s income when living abroad, including the foreign earned income exclusion and the foreign tax credit. Digital nomads can continue to utilize these and other methods to reduce or eliminate their tax obligations (although these methods do not eliminate the reporting obligations of the individual).


From a business taxation perspective, on the other hand, the TCJA includes a number of changes that should prompt digital nomad entrepreneurs to at least re-examine their corporate legal structures to ensure tax-efficient operations under the new rules.


Among the more taxpayer-friendly changes, the TCJA lowers the U.S. corporate tax rate to a flat rate of 21 percent. It also provides for a complete exemption for active foreign income (or non-Subpart F income) earned by certain U.S. corporate taxpayers via a foreign subsidiary. The exemption (referred to as the “participation exemption”) is provided for by means of a 100 percent dividends-received deduction for the foreign-source portion of dividends received from a “specified 10-percent owned foreign corporation” by domestic corporations that are U.S. 10 percent shareholders of those foreign corporations.


In the non-corporate domestic setting, the TCJA introduces a 20 percent deduction on so-called “qualified business income” earned through a sole proprietorship (including a wholly owned disregarded LLC), partnership, or S corporation. Among other requirements, income must be effectively connected with the conduct of a U.S. trade or business in order to qualify as QBI.


Among the more taxpayer-unfriendly changes, the TCJA adds a new-anti-deferral regime referred to as the “GILTI” regime. Under this regime, a U.S. shareholder of a controlled foreign corporation will have to include in gross income the CFC’s global intangible low-taxed income (“GILTI”) in a manner generally similar to inclusions of Subpart F income. In general, GILTI is computed as the income of the CFC (aggregated for all the CFCs owned by the U.S. shareholder) that is in excess of a 10 percent return on certain tangible property of the CFC. Importantly, GILTI does not include income effectively connected with a U.S. trade or business, Subpart F income, Subpart F income qualifying for the high-tax exception, or certain related-party payments.

Challenges and opportunities for digital nomads


What do these rule changes mean for the digital nomad entrepreneur? The answer depends on the specific circumstances of the individual, including perhaps most critically, the location of the entrepreneur’s business activities.


For the entrepreneur running a business outside the U.S., the most tax-advantageous legal structure under prior law was to operate the business through a non-U.S. corporation (assuming no employees or other tax nexus triggers within the United States). This structure allowed for the deferral of U.S. tax on active business income until profits were repatriated to the U.S., while at the same time reducing adverse self-employment tax implications. Under the new anti-deferral GILTI regime, this structure becomes much less advantageous, particularly in the case of service-based businesses with little tangible property, which generate profits that exceed the maximum foreign earned income exclusion amount.


With the GILTI rules in mind, digital nomads who are employed or have business activities outside the U.S. may need to explore structuring alternatives, including operating through a U.S. corporation, in order to take advantage of the new lower corporate tax rate, or operating through a U.S. corporation holding a foreign subsidiary, in order to take advantage of the new participation exemption. Entity classification elections (often referred to as “check the box” elections) to treat business entities as partnerships or disregarded entities may also prove tax effective depending on the circumstances. The most effective structure will most often hinge on the amount and type of income being generated by the digital nomad’s business.


For the entrepreneur running a business within the U.S., the tax calculus changes significantly due to the fact that the outbound anti-deferral regimes are less relevant. Further, the TCJA’s new 20 percent deduction on QBI should generally be available due to the fact the business is run within the United States. This may make a pass-through structure, such as running the business through an S corporation, a worthwhile structure to explore moving forward.


Given the complexities of the tax rules post-tax reform, tax professionals will be of great service to digital nomads in explaining how these rules affect them and their businesses. The new rules present a host of challenges and opportunities, and the emerging digital nomad community offers a fascinating test case for applying the new rules in a modern context.




Don't Let the Kiddie Tax Play Costly Games with You


It’s not uncommon for parents, grandparents and others to make financial gifts to minors and young adults. Perhaps you want to transfer some appreciated stock to a child or grandchild to start them on their journey toward successful wealth management. Or maybe you simply want to remove some assets from your taxable estate or shift income into a lower tax bracket. Whatever the reason, beware of the “kiddie tax.” It can play costly games with the unwary.


An evolving concept

Years ago, the kiddie tax applied only to those under age 14. But, more recently, the age limits were revised to children under age 19 and to full-time students under age 24 (unless the students’ earned income is more than half of their own support).


Another important, and even more recent, change to the kiddie tax occurred under the Tax Cuts and Jobs Act (TCJA). Before passage of this law, the net unearned income of a child was taxed at the parents’ tax rates if the parents’ tax rates were higher than the tax rates of the child. The remainder of a child’s taxable income — in other words, earned income from a child’s job, plus unearned income up to $2,100 (for 2018), less the child’s standard deduction — was taxed at the child’s rates. The kiddie tax applied to a child if the child:


  • Hadn’t reached the age of 19 by the close of the tax year, or the child was a full-time student under the age of 24 whose earned income was less than half of their own support, and either of the child’s parents was alive at such time,
  • Had unearned income exceeding $2,100 (for 2018), and
  • Didn’t file a joint return.


Now, under the TCJA, for tax years beginning after December 31, 2017, the taxable income of a child attributable to earned income is taxed under the rates for single individuals, and taxable income of a child attributable to net unearned income is taxed according to the brackets applicable to trusts and estates. This rule applies to the child’s ordinary income and his or her income taxed at preferential rates. As under previous law, the kiddie tax can potentially apply until the year a child turns 24.


The tax in action

Let’s say you transferred to your 16-year-old some stock you’d held for several years that had appreciated $10,000. You were thinking she’d be eligible for the 0% long-term gains rate and so could sell the stock with no tax liability for your family. But you’d be in for an unhappy surprise: Assuming your daughter had no other unearned income, in 2018 $7,900 of the gain would be taxed at the estate and trust capital gains rates, equal to a tax of $795.


Or let’s say you transferred the appreciated stock to your 18-year-old grandson with the plan that he could sell the stock tax-free to pay for his college tuition. He won’t end up with the entire $10,000 gain available for tuition because of the kiddie tax liability.


Fortunately, there may be ways to achieve your goals without triggering the kiddie tax. For example, if you’d like to shift income and you have adult children (older than 24) who’re no longer subject to the kiddie tax but in a lower tax bracket, consider transferring income-producing or highly appreciated assets to them.


A risky time

Many families wait until the end of the year to make substantial, meaningful gifts. But, given what’s at stake, now is a good time to start a methodical process to determine the best possible way to pass along your wealth. After all, with the many changes made under the TCJA, the kiddie tax might affect you in ways you weren’t expecting. The best advice is to simply run the numbers with an expert’s help. Please contact our firm for more information and some suggestions on how to achieve your financial goals.





4 Questions to Ask Before Hiring Household Help

When you hire someone to work in your home, you may become an employer. Thus, you may have specific tax obligations, such as withholding and paying Social Security and Medicare (FICA) taxes and possibly federal and state unemployment insurance. Here are four questions to ask before you say, “You’re hired.”


1.Who’s considered a household employee?

A household worker is someone you hire to care for your children or other live-in family members, clean your house, cook meals, do yard work or provide similar domestic services. But not everyone who works in your home is an employee.


For example, some workers are classified as independent contractors. These self-employed individuals typically provide their own tools, set their own hours, offer their services to other customers and are responsible for their own taxes. To avoid the risk of misclassifying employees, however, you may want to assume that a worker is an employee unless your tax advisor tells you otherwise.


2.When do I pay employment taxes?

You’re required to fulfill certain state and federal tax obligations for any person you pay $2,100 or more annually (in 2018) to do work in or around your house. (The threshold is adjusted annually for inflation.)


In addition, you’re required to pay the employer’s half of FICA (Social Security and Medicare) taxes (7.65% of cash wages) and to withhold the employee’s half. For employees who earn $1,000 or more in a calendar quarter, you must also pay federal unemployment taxes (FUTA) equal to 6% of the first $7,000 in cash wages. And, depending on your resident state, you may be required to make state unemployment contributions, but you’ll receive a FUTA credit for those contributions, up to 5.4% of wages.


You don’t have to withhold federal (and, in most cases, state) income taxes, unless you and your employees agree to a withholding arrangement. But regardless of whether you withhold income taxes, you’re required to report employees’ wages on Form W-2.


3.Are there exceptions?

Yes. You aren’t required to pay employment taxes on wages you pay to your spouse, your child under age 21, your parent (unless an exception is met) or an employee who is under age 18 at any time during the year, providing that performing household work isn’t the employee’s principal occupation. If the employee is a student, providing household work isn’t considered his or her principal occupation.


4.How do I make tax payments?

You pay any federal employment and withholding taxes by attaching Schedule H to your Form 1040. You may have to pay state taxes separately and more frequently (usually quarterly). Keep in mind that this may increase your own tax liability at filing, though the Schedule H tax isn’t subject to estimated tax penalties.


If you owe FICA or FUTA taxes or if you withhold income tax from your employee’s wages, you need an employer identification number (EIN).


There’s no statute of limitations on the failure to report and remit federal payroll taxes. You can be audited by the IRS at any time and be required to pay back taxes, penalties and interest charges. Our firm can help ensure you comply with all the requirements.




Ex-Tesla worker escalates legal battle by blowing whistle to SEC

By Dana Hull and Josh Eidelson


A former Tesla Inc. employee portrayed by Elon Musk as a saboteur has filed a whistle-blower tip with the U.S. Securities and Exchange Commission alleging the company made misstatements and omissions to investors.


Martin Tripp, a process engineering technician who left Tesla on June 19 and was sued by the company shortly thereafter, accused the carmaker of inflating weekly Model 3 production figures by as much as 44 percent. In a tip filed with the SEC on Friday, he also said the company installed unsafe batteries in vehicles that may be at higher risk of catching fire later.

Tripp’s allegations were summarized in a statement from Meissner Associates, a New York-based law firm that represented a former Monsanto Co. employee who was awarded $22 million in August 2016 for tipping off the SEC to improper accounting. Stuart Meissner, a former assistant district attorney in Manhattan and assistant New York state attorney general, said he believes Tesla’s lawsuit against Tripp was part of a media campaign to defame and silence him.


Tesla representatives didn’t immediately respond to requests for comment. The company accused Tripp in a complaint last month of writing a computer program to access proprietary information, sending material to three unidentified entities and attempting to cover his electronic tracks after he was denied a promotion. Musk, 47, wrote an email to employees alluding to the alleged sabotage effort days before Tesla filed its complaint.


Tripp told the SEC that Tesla had installed batteries with holes punctured in them, placed battery cells too close to one another and didn’t properly affix them. Judy Burns, an SEC spokeswoman, declined to comment.


Tripp also alleged that the company systematically reused parts that had been deemed scrap or waste in vehicles. The National Transportation Safety Board is looking into the flammability of lithium-ion battery packs for electric cars, including several fires involving crashed Teslas.


Whistle-blowers are eligible for payouts if they voluntarily provide the SEC with unique information that leads to a successful enforcement action. Compensation can range from 10 percent to 30 percent of the money collected in any case that leads to a penalty of at least $1 million. The SEC said it has awarded more than $266 million since the inception of its whistle-blower program in 2011.




Growth benefits of U.S. tax cuts may be overestimated: Fed study

By Jeanna Smialek


U.S. growth expectations may be too rosy as analysts overestimate how much tax cuts will boost the economy, according to an economic letter from the Federal Reserve Bank of San Francisco.

Analysts have forecast large increases in economic growth over the next two to three years following $1.5 trillion in corporate and personal tax cuts over the next decade. But recent research finds that such fiscal stimulus is less effective when the economy is expanding compared with its benefits when enacted during a recession.


“This suggests these forecasts may be overly optimistic,” economists Tim Mahedy and Daniel Wilson wrote in their note published Monday on the San Francisco Fed’s website. “The predominant research finding is that the fiscal multiplier is smaller during expansions than during recessions.” Wilson is vice president in the economic research department of the San Francisco Fed. Mahedy is a former associate economist in the department who recently joined Bloomberg Economics.

The authors ran down several recent papers that support this point:

• Spending multipliers were much smaller in expansions than recessions in a panel of Organisation for Economic Co-operation and Development nations.

• Microeconomic studies show that consumers spend more out of each extra dollar they earn during recessions.

• Marginal propensity to consume was 20 to 30 percent higher in the Great Recession than in other recent years, one paper found.




Tax bonanza for old machines could hinder Trump’s growth goal

By Steve Matthews


Sherrill Manufacturing, a maker of flatware, is spending at least half of its $250,000 capital budget this year on used equipment, including 20-year-old machinery to make knives that can be written off right away under the new tax law.


“There is still a lot of used equipment here in the U.S. at relatively bargain prices compared to buying new,” said Gregory Owens, chief executive of the company that calls itself the last remaining flatware manufacturer in the U.S. “If it performs about the same, why spend five times the price of used?”


Owens’s decision to buy used, rather than new, machinery highlights a quirk in the tax law championed last year by President Donald Trump. When praising the law, Trump has said a provision that lets companies immediately deduct costs for things like equipment and facilities could have a bigger impact than anything else in the bill.


Yet that provision also makes old equipment eligible for the break, and vendors say those sales are surging. That could hinder growth tied to the new incentive, and make it harder for Trump and Republicans to meet their promised goal of at least 3 percent annual gross domestic product. While old equipment sales could move machinery to more productive owners, it doesn’t add to the nation’s productive capacity or create jobs in manufacturing new products.


“It is arguably not desirable,” said Eric Toder, institute fellow at the Urban-Brookings Tax Policy Center. “Buying new equipment is investment. This is not a net investment to the economy. It is moving capital from one owner to another.”


It’s still too early to tell if the $1.5 trillion tax cut is doing what Republicans said it would — but early indicators show it hasn’t really changed corporate behavior so far. That puts even more pressure on the expensing provision, which is supposed to be one of the most stimulative pieces of the tax bill.


Under the old tax code, companies could gradually write off the costs of their capital spending. They had been allowed to deduct half of certain capital expenditures right away under a temporary provision known as bonus depreciation. The new law allows for full and immediate write-offs through 2022. After that, the percentage of the cost that can be immediately deducted gradually phases down.


Sales of used equipment and machinery aren’t tracked directly by the government, but dealers say there has been a significant increase this year.


Buying used equipment can save money, just as a used car is cheaper for consumers, and sometimes can be available sooner. For example, a Class 8 truck — a heavy duty truck used in shipping — might cost $150,000 to $200,000 new, while a three- to five-year-old version would go for $50,000 to $90,000, said Christopher Ciolino, a Bloomberg Intelligence analyst.


Gross merchandise volume at Liquidity Services Inc., which operates the largest market for business surplus, was forecast by the company to rise about 10 percent in the quarter ended in June, excluding the loss of a Department of Defense contract.


“We have observed much more buoyancy on the buyer side,” William Angrick, chief executive officer of Liquidity Services, said in an interview. “We have seen assets languish for years” and finally get sold. “With more liquidity in the market, the cycle time to sell things has compressed.”


‘Fortuitous Time’

The Equipment Leasing and Finance Association’s monthly leasing and finance index, which covers volume for new and used purchases, rose 7 percent through May.


“A lot of companies are looking at not just new but used equipment,” said Ralph Petta, president of the association. While tax incentives have sometimes been used for new purchases, “it has never been done before for used equipment. It is a very fortuitous time to acquire assets.”


Construction equipment, trucks and farm equipment sales are rising, said Jefferies machinery analyst Stephen Volkmann in New York. Volkmann said the used equipment market has been “very hot” since the tax overhaul.


While the tax code can be used to promote growth, “it’s truly weird to make it apply to used equipment,” said Josh Bivens, research director for the liberal Economic Policy Institute in Washington. “This provides no economic benefit at all.”


The House Ways and Means Committee members considered the provision important especially for small businesses and farmers, a committee spokesman said. Expensing those purchases helps businesses expand, which in turn boosts hiring and wages, the spokesman said.


New Machinery Purchases

Some economists say it’s not necessarily a negative to see old equipment sales rising.


“Whether equipment is new or used shouldn’t matter a great deal in terms of whether and by how much it improves a company’s productivity,” said Stephen Stanley, chief economist at Amherst Pierpont Securities LLC in New York and a former Federal Reserve researcher. “From a GDP standpoint, obviously, we would prefer that investment be in new equipment, but in terms of the wisdom of using the tax code to encourage investment, it shouldn’t matter much.”


New machinery purchases have been solid this year. Orders placed with U.S. factories for business equipment cooled unexpectedly in May after an upwardly revised April jump that was the largest this year, indicating resilient demand, Commerce Department figures showed June 27.

Sherrill, which produces flatware at its plant in Sherrill, New York, expects productivity of its labor force of 56 people to be boosted by about 5 percent this year. The company credits tax cuts — also including lower corporate taxes — for helping to finance raising its wages about 4 percent this year. It has hired 10 workers this year.


“We are making capital investments because of tax reform,” said Owens. “The accelerated depreciation certainly helps in an environment where we don’t have unlimited sources of capital.”




Making divorce less taxing

By Roger Russell


The recent tragic death of Anthony Bourdain sheds light on how very common “uncommon” marital situations have become. At the time of his passing, it was noted that Bourdain had been separated for a long time, but never legally divorced. In keeping with the “new normal” roles of today’s modern family structures, many couples choose to co-parent but don’t rush to formally divorce. With this decision comes tax and financial implications – both positive and negative. Estate tax effects, retirement plans, and many other spousal rights all need to be carefully considered, according to BNY Mellon Wealth Management’s national wealth strategist Jere Doyle.


For starters, the joint return filed by most couples can present some issues, he indicated.


“For legal and tax purposes, those who are separated but not divorced are still married for tax and legal purposes,” he said. “They can file a joint return if they want, but they should realize that the liability is ‘joint and several.’ If there’s a deficiency, the IRS can come after either the husband or wife, or both. They may realize too late that the other spouse did not report all of his or her income.”


“Another thing that might be overlooked is that even though they’re separated, they still have inheritance rights,” he said. “A spouse might mention that they changed their will, or are going to ‘write my spouse out of the will.’ That’s fine, but regardless of what state you’re in, there’s a statutory ‘forced share.’ So if I and my wife separate and I change my will to leave everything to my two kids, she can go to court and waive the will and get what in most states would be a one-third share. And in community property states, each owns half of the marital assets.”


“The point is that the spouse still has rights and is entitled to a certain amount of the estate,” he added.


“Some people try to get around this by moving their assets to a ‘living trust,’ but many states have augmented their definition of ‘estate’ for purposes of the statutory forced share, to include assets transferred during lifetime to a living trust. You have to look to state law to see if the definition of estate includes not only probate assets but the augmented estate including assets transferred during lifetime.”


For those who don’t have a will, Doyle noted that state laws of intestacy give a marital share to the surviving spouse. “There’s the statutory forced share if there is a will, and an intestacy share if there is no will,” he said.


“Another issue people who are married but separated should consider is the possibility that they might inherit from their parents,” Doyle observed. “If a spouse inherits from their parent, it’s an asset that will be counted in a division of property between husband and wife. If I would like to have the asset but not have it count, I can ask my parents to leave the property I would inherit in a fully discretionary trust with an independent trustee. I don’t want a related party – such as a brother or sister – to be the trustee. That way, when mom and dad die, I can argue that I don’t have the property, just an expectancy.”


“I would recommend that the trust have more than one beneficiary,” Doyle said. “Then it looks like the trustee has the discretion to distribute to someone other than one beneficiary. This will give more protection for the assets you might receive in an outright distribution from a deceased parent. ”


A separated spouse generally has no rights over the retirement plan of their husband or wife, and often has no clue as to what the other spouse is doing with the assets. But when people file an actual complaint for a divorce, a restraining order automatically issues that prohibits the separated spouse from moving money around, according to Doyle: “Short of a formal complaint for divorce, there’s nothing to prevent a spouse from changing title to assets.”


One of the biggest reasons people separate but don’t divorce is the need for health insurance, Doyle noted.


“A lot stay married because they’re covered by health insurance that they otherwise couldn’t afford. This might be especially the case if one of them has a pre-existing condition and can’t get adequate insurance,” he remarked. “And they may want to stay separated but married until they’re 65 and eligible for Medicare.”


Tax benefits abound for married couples, which is another reason to stay married, Doyle suggested. “The Tax Code has 1,138 provisions that give benefits to married couples which would include couples separated but not legally divorced,” he said.


One such provision is Code Section 1041, which provides that no gain or loss is recognized on a transfer of property spouse, or to a former spouse if the transfer is incident to a divorce. “Spouses can transfer appreciated property between themselves tax-free,” he said. “They can flip property back and forth without tax liability.”


But one provision in the Tax Cuts and Jobs Act makes it worthwhile for those who may get divorced to do so by the end of 2018, Doyle indicated. That’s a result of the elimination of the deduction for alimony. Now alimony will no longer be deductible by the payor, and the income will not be taxed to the recipient, meaning, in most cases, that there will be a smaller pot of funds available to split between the divorcing spouses.


“People who are separated but not divorced should consider whether they want to take advantage of the alimony deduction for the larger wage earner,” he said. “It has to be before the end of 2018.”




IRS new draft schedules may bulk up the old 1040

By Michael Cohn


The Internal Revenue Service’s six new schedules for the Form 1040 hardly seem to fit onto a postcard.


Last week, the IRS and the Treasury Department posted a preview of the postcard-size Form 1040 that Trump administration officials and Republican lawmakers promised to usher in with last year’s tax overhaul (see IRS and Treasury preview postcard-size Form 1040). Only images of the front and back of the form were initially available online last Friday, but eventually the IRS posted the draft version of the new Form 1040, along with six new schedules (originally there were going to be five, but now a sixth one has appeared too). Even as the draft Form 1040 itself has shrunk, the number of schedules has only grown. That doesn’t even include the traditional schedules like Schedule A for itemized deductions, Schedule B for interest and dividends, and Schedule C for profit or loss from a business.


Now we have the draft Schedule 1, which is for “Additional Income and Adjustments to Income.” Under additional income, there are items like taxable refunds, credits or offsets of state and local income taxes, along with alimony received, unemployment compensation and other income. There are also lines for business income or losses, for which a Schedule C or C-EZ needs to be attached, and capital gains or losses, for which a Schedule D may need to be attached. Other lines for rental real estate, royalties, partnerships, S corporations, trusts, etc., may require a Schedule E, while farm income or losses may require a Schedule F. Other lines, as on all the draft forms and schedules, have been reserved for some unspecified future use.


Under adjustments to income, the lines include educator expenses; certain business expenses of reservists, performing artists, and fee-basis government officials; the health savings account deduction; moving expenses for members of the armed forces; the deductible part of self-employment tax; self-employed SEP, SIMPLE and qualified plans; the self-employed health insurance deduction; the IRA deduction; and the student loan interest deduction.


The draft Schedule 2 is for “Tax” and is comparatively brief, with separate lines for tax, tax on child’s income, tax on lump sum distributions, other taxes, alternative minimum tax, and excess advance premium tax credit. But these lines too often require attaching separate forms.


The draft Schedule 3 is also relatively brief and is for “Nonrefundable Credits.” They include the foreign tax credit, the credit for child and dependent care expenses, education credits, the retirement savings contributions credit, the child tax credit and credit for other dependents, the residential energy credit, and the general business credit. These too often require attaching separate forms, many of which will be familiar from past tax seasons.


The draft Schedule 4 is devoted to “Other Taxes.” Those include the self-employment tax, Social Security and Medicare tax on tip income not reported to the employer, along with uncollected Social Security and Medicare tax on wages. There are also lines for the additional tax on IRAs, other qualified retirement plans and other tax-favored accounts, as well as household employment taxes, and repayment of the first-time homebuyer credit. Schedule 4 also includes several Obamacare taxes: the health care individual responsibility payment (even though this was supposedly repealed by the new tax law), the additional Medicare tax, and the net investment income tax.


The draft Schedule 5 is dedicated to “Other Payments and Refundable Credits.” This one too includes several lines reserved for future use, including one at the very top, which for some reason is listed as number 65, probably because many of them originated from earlier longer tax forms. The other lines that are provided here include 2018 estimated tax payments and the amount applied from the 2017 return, the net premium tax credit, the amount paid with a request for an extension to file, excess Social Security and tier 1 tax withheld, the credit for federal tax on fuels, and the health coverage tax credit.


The surprise draft Schedule 6, which isn’t even referred to on the draft Form 1040, is for “Foreign Address and Third Party Designee,” and it’s even shorter than the other schedules. It only has a handful of different fields: for the foreign country name, foreign province or county, foreign postal code, along with fields for a third-party designee such as a tax practitioner who is authorized to discuss the return with the IRS.


All in all, even though the new Form 1040 appears to be shorter in the name of tax simplification, the number of new schedules and add-on forms that will be required suggest taxes aren’t going to be getting much simpler next tax season or in the foreseeable future.




Supreme Court abandons physical presence standard in Wayfair

By Sarah Horn Jill C. McNally Rebecca Newton-Clarke Melissa Oaks


The U.S. Supreme Court’s 5-4 decision in South Dakota v. Wayfair on Thursday overturned the physical presence standard espoused in Quill v. North Dakota and National Bellas Hess v. Department of Revenue of Ill.


In a strongly worded opinion, the court held that the physical presence rule in Quill is an "unsound and incorrect" interpretation of the Commerce Clause that has created unfair and unjust marketplace distortions favoring remote sellers and causing states to lose out on enormous amounts of tax revenue. The court ruled that the correct standard in determining the constitutionality of a state tax law is whether the tax applies to an activity that has "substantial nexus" with the taxing state.


The case involves South Dakota's economic nexus law, which imposes tax collection and remittance duties on out-of-state sellers meeting gross sales and transaction volume thresholds. In overturning its prior precedents, the court determined that physical presence is not required to meet the "substantial nexus" requirement laid out in Complete Auto Transit. The court held that the respondents had established substantial nexus in this case through "extensive virtual presence."


Since the U.S. Supreme Court's 1992 decision in Quill v. North Dakota, the standard for whether a state can require an out-of-state retailer to collect and remit sales tax has been physical presence. In Quill, the court affirmed and elaborated upon its prior decision in Bellas Hess. A seller had to have property, people or some other physical connection with a state to be required to collect and remit sales tax. As a complement to the sales tax, states impose use taxes that require the in-state purchaser to pay tax on taxable items on which no sales tax was paid. Very few consumers comply with use tax requirements. With the rise of the digital economy, states began to lose out on significant sales tax revenues because they were unable to tax online/internet sales under physical presence nexus standards.


Following Quill, states have engaged in various nexus expansion gambits. Over the past decade, assertions of click-through nexus (pioneered by New York) and affiliate nexus have become commonplace. When the U.S. Supreme Court denied certiorari in the appeal of the New York high court's Overstock ruling upholding click-through nexus, the states became emboldened. They grew bolder still following dicta by Justice Kennedy in Direct Marketing v. Brohl, suggesting, “There is a powerful case to be made that a retailer doing extensive business within a state has a sufficiently 'substantial nexus' to justify imposing some minor tax-collection duty, even if that business is done through mail or the Internet.”


He urged the court to revisit the physical presence standard, contending that "[T]he Internet has caused far-reaching systematic and structural changes in the economy, and ... it is unwise to delay any longer a reconsideration of the Court's holding in Quill." At the time, Justice Neil Gorsuch sat on the 10th Circuit, which ultimately decided that case and upheld Colorado's remote seller notice and reporting requirements irrespective of physical presence. He characterized the physical presence rule as an "analytical oddity" that "seems deliberately designed" to be overturned.


The Wayfair case examines the constitutionality of a 2016 South Dakota economic nexus law that imposes sales tax collection and remittance requirements on out-of-state sellers delivering more than $100,000 of goods or services into South Dakota or engaging in 200 or more separate transactions for the delivery of goods or services into South Dakota. The law was enacted by the South Dakota legislature as part of an emergency declaration to prevent erosion of the state's sales tax base. It followed the release of a suggested model economic nexus law from the National Conference of State Legislatures, though it did not conform to the model law entirely. South Dakota does not impose an income tax and therefore relies on sales and use tax revenue to fund essential state services. The state enforced the act by filing a declaratory judgment action against three major online retailers with no physical presence in the state: Wayfair, Newegg and Overstock. Following state court decisions in favor of the retailers, South Dakota appealed to the U.S. Supreme Court.


Noting that the issue of sales and use tax nexus turns on the interpretation of the Commerce Clause, the court began its analysis with a lengthy review of its Commerce Clause jurisprudence, going back as far as the early 19th century. The Commerce Clause grants Congress the authority to regulate interstate commerce. A negative corollary, often called the Dormant or Negative Commerce Clause, prohibits the states from passing laws that either facially discriminate against or place undue burdens on interstate commerce. In the context of state taxation, the court endorsed the four-prong test in Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977), which builds upon Commerce Clause principles, as the correct analytical framework. Complete Auto provides that a state tax will be upheld if it "(1) applies to an activity with substantial nexus with the taxing state, (2) is fairly apportioned, (3) does not discriminate against interstate commerce, and (4) is fairly related to the services the state provides."


The question, then, is whether an activity must meet Quill's physical presence standard to have substantial nexus with a taxing state. The court ruled that it does not. Substantial nexus exists when a taxpayer "avails itself of the substantial privilege of carrying on a business in that jurisdiction." It can be established on the basis of both "economic and virtual contacts" with a state. In the case of South Dakota's economic nexus law, the law's sales volume and dollar amount thresholds were high enough for the court to find that a seller meeting those thresholds would have clearly availed itself of the privilege of doing business in South Dakota. Further, the court noted that the specific respondents (Wayfair, Newegg and Overstock) are large companies that "undoubtedly maintain an extensive virtual presence." The court also observed that targeted advertising and electronic sales may allow a business to have substantial virtual connections to a state without traditional physical presence. Interestingly, the court noted that other functions of e-commerce, such as websites leaving cookies on customer hard drives and apps that can be downloaded on customer phones, may be considered to create almost a physical presence in a taxing state. The court noted the Ohio law and Massachusetts regulation that assert cookie nexus; Iowa recently enacted a law asserting cookie nexus as well. These are discussed in a bit more detail below.


The court not only overruled the physical presence standards of both Quill and Bellas Hess, but eviscerated the rule that physical presence is required for sales tax nexus. Writing for the majority, Justice Kennedy's biting commentary on Quill likened the physical presence requirement to a "judicially created tax shelter" that has created marketplace distortions and unfair and unjust incentives to avoid physical presence in various states. Local businesses are put at a significant disadvantage compared to remote vendors. Justice Kennedy noted that the physical presence rule is "artificial in its entirety" and goes against modern Commerce Clause jurisprudence's emphasis on marketplace dynamics, not "anachronistic formalisms." Specifically discussing Wayfair, Justice Kennedy described the company's business model of advertising that it did not have to charge sales tax as a "subtle offer to assist in tax evasion." Justice Kennedy further mused that Wayfair's image of selling items for beautifully decorated dream homes would not be possible without solvent local and state governments.


According to Justice Kennedy, although the law passes the Complete Auto Transit test, the question remains "whether some other principle in the court's Commerce Clause doctrine might invalidate the act. Because the Quill physical presence rule was an obvious barrier to the act's validity, these issues have not yet been litigated or briefed, and so the court need not resolve them here. That said, South Dakota's tax system includes several features that appear designed to prevent discrimination against or undue burdens upon interstate commerce."

Practical effects

The Quill standard has never been easy to implement. In the years since the court's 1992 decision, companies have structured themselves in creative ways and taken other steps to try to avoid setting a toe into more than one or two jurisdictions.


While Wayfair clearly overturns the physical presence requirement, it does not provide states carte blanche to enact or enforce all forms of economic nexus laws. South Dakota's law has several features that prevented it from running afoul of Commerce Clause protections:


  • The law has a safe harbor provision for transacting limited business in the state that does not meet the specific thresholds;
  • The law is not retroactive; and,
  • South Dakota is a member of the Streamlined Sales and Use Tax Agreement, which reduces administrative and compliance costs for taxpayers and even provides state-funded sales tax administration software.


Other states with economic nexus provisions will need to apply the same test in determining whether those provisions pass constitutional muster.


In recent years, a growing number of states have followed South Dakota and enacted economic nexus laws that intentionally flout the physical presence requirement by asserting nexus based on the number and/or dollar amount of sales into the state. Connecticut, the most recent state to enact an economic nexus law, targets out-of-state sellers making $250,000 in gross receipts and engaging in 200 or more retail sales into Connecticut during a 12-month period. The new nexus standard, which goes into effect on Dec. 1, 2018, also redefines retailers to include marketplace facilitators. Some states, such as Iowa, Ohio, and (through regulations adopted by its taxing agency) Massachusetts, assert the kind of cookie or app nexus discussed by the court in Wayfair. Each of these states will need to apply the Wayfair test in determining whether its standard is constitutional.


A number of states have also enacted detailed notice and reporting laws for out-of-state sellers. Often these are tied to a dollar threshold of taxable sales into the state. Many are cumbersome and impose stiff penalties for noncompliance. Colorado pioneered this approach, and its law was upheld in Direct Marketing Ass'n v. Brohl. A handful of states (Georgia, Oklahoma, Pennsylvania, Rhode Island and Washington) have notice and reporting requirements that are explicitly the default alternative to registering to collect and remit the tax under elective economic nexus provisions.


With the vast majority of states urging the court to overturn the physical presence rule, the states' appetite for asserting nexus against out-of-state retailers is not in question. It is important to bear in mind that many states have laws on the books that by their plain language exceed the physical presence standard and assert nexus based on remote solicitation and resulting in-state sales. Traditionally, taxing agencies in those states tended to accept the physical presence standard and have adopted regulations or issued guidance to that effect, but with the physical presence rule eradicated, those are likely to be repealed or rescinded in short order. A number of states have laws asserting nexus to the greatest extent permitted by the U.S. Constitution and federal law.

For example, Florida law broadly defines dealers having nexus with the state to include, among other things, every person who "solicits business either by direct representatives, indirect representatives, or manufacturer's agents; by distribution of catalogs or other advertising matter; or by any other means whatsoever," and because of these solicitations receives orders for tangible personal property from consumers for use, consumption, distribution and storage for use or consumption in the state. A ruling of Florida's high court limited the law, establishing that the substantial nexus requirements of the Commerce Clause require a dealer to have some type of physical presence in Florida, and more than insubstantial solicitation activities in the state, for the state to assert nexus against the dealer.


New York's nexus law defines an out-of-state vendor having nexus with the state to include a person who solicits business “by distribution of catalogs or other advertising matter, without regard to whether such distribution is the result of regular or systematic solicitation,” if the person has some additional connection with the state that satisfies the nexus requirements of the U.S. Constitution and if because of the solicitation the person makes taxable sales into New York.


Businesses can expect to see rapid expansion of nexus assertions in light of the Wayfairstandard. As discussed above, however, the Wayfair decision still places constraints on nexus. Although states like New York and Florida have laws the plain language of which might allow them to make broad assertions of nexus, those states are not members of the Streamlined Sales and Use Tax Agreement. Barring legislative action, taxing agencies in states like these will undoubtedly face challenges if they expand their assertions of nexus to include contacts that do not meet the physical presence rule. Out-of-state retailers lacking physical contacts could successfully argue, under the new Wayfair standard, that the burden of compliance is too high in states that do not conform to the SSUTA. Whether those challenges would succeed is uncertain but far from unlikely.


Given the court's conclusion that "physical presence is not necessary to create substantial nexus," this decision will impact other state taxes, such as corporate income taxes, which could apply to the income of an entity conducting significant business activities in a state without having a physical presence there. Economic nexus laws in the sales and use tax environment are an import from the corporate income tax realm. Most state and federal courts have taken the position that the physical presence standard does not apply in the corporate income tax environment, and many states have been emboldened to enact "factor presence" laws tied to sales, property or payroll in the state. The U.S. Supreme Court has consistently declined to hear challenges to those laws, and with the test announced in Wayfair more states may follow suit. Changes are likely to be especially pronounced in the handful of states that have taken the position that physical presence is necessary for the state to assert corporate income tax nexus against a corporation.


In overturning National Bellas Hess and Quill, the court has effectively overturned half a century of precedent. Dissenting Chief Justice John Roberts, joined by Justices Stephen Breyer, Sonia Sotomayor, and Elena Kagan, took particular note of this fact, observing that departing from the doctrine of stare decisis is "an 'exceptional action'" requiring a "'special justification,'" even more so when the court is ruling in matters where Congress has "'primary authority.'" The dissenting justices pointed out that this is the third time the court has addressed the physical presence standard and stated that "[w]hatever salience the adage 'third time's a charm' has in daily life, it is a poor guide to Supreme Court decisionmaking."


Although critical of the majority's overruling of those cases, Justice Roberts acknowledged that "Bellas Hess was wrongly decided." The dissent expressed concern, however, that discarding the physical-presence rule at a time when e-commerce is flourishing could be disruptive, and contended that any change to the established rules should come from Congress, as was stated in Quill.


In response to the majority's "inexplicable sense of urgency" in overturning established jurisprudence, Chief Justice Roberts also pointed out that many of the "behemoth" online retailers, such as Amazon, have already begun collecting and remitting the tax (regardless of whether they have a physical presence in a state) and that the revenue loss to states is "receding with time." As was the case in Quill, the dissent is concerned with the effect of the ruling on small businesses who will feel the full weight of the court's decision.








Wayfair decision may level playing field on taxes for retailers

By Michael Cohn


The Supreme Court’s 5-4 decision last month in the case South Dakota v. Wayfair, Inc., allows states to require out-of-state retailers to collect sales tax from customers, even if they don’t have a physical store or warehouse in the state, clearing the way for more sales tax revenue from internet purchases.


The court held that the physical presence rule established by the Quill Corp. v. North Dakotadecision is incorrect, with Justice Anthony Kennedy pointing out that the court didn’t write the 1992 opinion with the realities of today’s internet market in mind.


“Quill creates rather than resolves market distortions,” wrote Kennedy, who announced his retirement last month. “In effect, it is a judicially created tax shelter for businesses that limit their physical presence in a State but sell their goods and services to the State’s consumers, something that has become easier and more prevalent as technology has advanced. The rule also produces an incentive to avoid physical presence in multiple States, affecting development that might be efficient or desirable.”


James Brockway, a tax attorney and partner at the law firm Withers Bergman in New Haven, Connecticut, believes the Wayfair decision could have far-reaching tax implications for retailers both online and offline.


“I think it is going to be a significant burden on the e-commerce industry,” he told Accounting Today. Unless states basically rationalize their sales and use taxes so that there’s really a single type of a tax in terms of exemptions and things like that, the e-commerce retailers are going to have their work cut out for them in terms of data collection, payments and things like that. What is likely going to happen is more standardization in how the taxes are enforced and what transfers are subject to the tax.”


States may now feel free to levy taxes on services and software in the wake of the decision. “The biggest issues that I see, quite frankly, are not in the goods transfers, but service transfers,” said Brockway. “In other words, what do you do with software downloads and those kinds of things? Every state has a very, very different concept if they have a sales tax with respect to the imposition of the tax on services. I think that the e-commerce retailers are going to have a big burden. And coincidentally, the larger ones probably will be able to do it more easily just because of the volume so that the smaller e-commerce retailers are going to get hurt the most.”

South Dakota set a model that other states may now follow. “What it means for out-of-state retailers is that sales tax nexus is no longer solely based on a physical presence standard,” wrote Shane M. Finn, who directs HBK CPAs & Consultants’ state and local tax practice. “Out-of-state sellers that meet minimum standards can be required to charge, collect and remit sales tax. Each state sets its own standards. In South Dakota, the minimum standards are $100,000 in sales or more than 200 transactions over a 12-month period. The winners are local brick-and-mortar businesses, which will be able to compete price-wise with online retail giants. States and municipalities stand to gain billions of dollars in annual revenue. The losers are small online retailers who could be devastated by new compliance costs.”


Many states are likely to respond to the ruling this year. “The U.S. Supreme Court’s decision on Wayfair is unequivocal: the physical presence nexus standard for sales and use tax purposes is dead,” said Steve Wlodychak, EY principal and state tax leader for the EY Center for Tax Policy. “With this ruling, the court affirms that Congress still has the most important power and can still impose uniform limits. Until then, every state is free to come up with their own standards. Expect states to respond immediately. No retroactive protection is provided to companies and states can go back to an indefinite period to collect unpaid taxes. Remote retailers need to ensure they implement and follow updated compliance practices on sales tax collections. Foreign retailers have to be especially careful. Nexus is not permanent establishment and U.S. international tax treaties do not protect them from a state’s assertion of sales tax nexus.”


The decision could add considerable complications for small e-commerce companies and is likely to prompt more of them to use sales tax software such as Avalara, Vertex or TaxCloud to automate the process.


“If I am a relatively small e-commerce retailer, but I still pay whatever minimum thresholds the state set up for the imposition of the sales tax, I could be dealing with 20 different states in terms of calculation of the tax, obtaining exemptions under resale certificates or exemptions for sales to tax exempts,” said Brockway. “And that will be a large burden on the smaller retailers because they’re going to have to have a dedicated person compiling the data, making sure that the forms get filed and that the taxes get paid. It’s a big imposition on e-commerce but you almost had to see it coming.”


Up to now, relatively few people have been declaring and paying sales taxes on their online purchases on their tax forms. “The use tax is a very inefficient way to do it because it places the burden on the consumer, and but for the big-ticket items that people do pay attention to, nobody paid any attention to the mail order and e-commerce deliveries, they just didn’t know,” said Brockway. “They just didn’t pay the use tax. It will be an enormous revenue boon for the states that have sales taxes, in the billions.”


The court ruling could have far-reaching implications across corporate America. “The impact of the court’s ruling on companies in terms of time, technology and expense is likely going to be substantial,” said Jeffrey C. LeSage, Americas vice chairman of tax at KPMG. “Businesses will now need to prepare to closely examine and retrofit their operations to determine where they have to collect tax, whether their goods are taxable, and how they are going to handle the new tax computation, filing and remittance obligations.”


The Supreme Court decision could put brick-and-mortar retailers on more of an even playing field with some of the online e-commerce leaders, although the online space will still enjoy some advantages.


“I think it will certainly put them on a more level playing field,” said Brockway. “They’re still at a disadvantage because you know they're paying overhead for storage space that is more expensive than the warehouse space, but with sales taxes in many states above 5 to 6 percent, if people are smart consumers and they were getting either subsidized delivery or no-cost delivery, why wouldn't you go and have it delivered to your door rather than going out to a brick-and-mortar store and paying the sales tax?”


Brockway pointed out that the Wayfair case itself isn’t entirely settled, though. “Remember, the case was remanded,” he said. “It’s not over yet. But I think that what the Supreme Court has basically said is what South Dakota did will pass constitutional muster.”


He believes many states will now follow South Dakota’s lead. “I think a lot of states are going to mimic South Dakota’s minimum presence thresholds, and I think a lot of states will be very reluctant to try to go after retailers retroactively,” said Brockway. “If you look at the Supreme Court decision, the keys to their upholding it was there was a reasonable minimum threshold and they’re party to a multi-state convention [the Streamlined Sales and Use Tax Agreement]. They have software that can be downloaded that will make it easier for the smaller e-commerce retailers to be able to get to it, and South Dakota wasn’t going to go after people retroactively. All those things were in their favor and I think you're going to see a lot of states just mimic that tax.”


Brockway did find the Supreme Court ruling surprising in some respects. “I think that everybody kind of agrees with the principle, but my expectation was that they were to going to leave it up to Congress,” said Brockway. “But Congress has proven to be pretty impotent in terms of being able to deal with this. Things have changed so much in the last 30 years with regard to the volume of e-commerce and catalog shopping and things like that, they had to be able to level the playing field. I have a hunch that within this year you’re going to see a tremendous influx of new legislation in the states because it’s a big revenue raiser.”




Marijuana retailer loses in Tax Court thanks to inadequate records

By Roger Russell


In a recent decision, the Tax Court illustrated the importance of good record-keeping, as well as the continuing barrier the Tax Code poses for the full deductibility of expenses related to marijuana facilities, in Alterman v. Commissioner, T.C. Memo 2018-83.


While marijuana is legal for medicinal purposes in 30 states and the District of Columbia, and for recreational purposes in another nine states, would-be retailers are faced with an impediment. Code Section 280E, in effect since 1982, states that “no deduction or credit shall be allowed for any amount paid or incurred during the taxable year in carrying on any trade or business if such trade or business (or the activities which comprise such trade or business) consists of trafficking in controlled substances (within the meaning of schedules I and II of the Controlled Substances Act) which is prohibited by Federal law or the law of any State in which such trade or business is conducted.”


Because marijuana is still listed as a Schedule I controlled substance, retailers are limited in the deductibility of business expenses to the cost of goods sold, which can present an insurmountable hurdle to the profit-making ability of their business.


Laurel Alterman and her husband, William Gibson, filed joint returns for 2010 and 2011. They resided in Colorado, where Alterman operated a medical marijuana business, Altermeds LLC. She was its sole owner during the years at issue. Altermeds was a separate entity under Colorado law. For federal tax purposes, it is a disregarded entity, meaning it is treated as a sole proprietorship of Alterman.


Initially the business operated simply as a retail store, selling smokable marijuana, either as pre-rolled marijuana cigarettes, referred to by the Tax Court as “joints,” or as dried marijuana buds. It also sold marijuana in edible form such as brownies and cakes, and orally consumed tinctures. It also sold non-marijuana merchandise such as pipes, papers, and other items used to consume marijuana. In September 2010, Colorado began requiring medical marijuana businesses to grow as least 70 percent of the marijuana they sold, at which point Altermeds rented a warehouse to grow its own marijuana.


The service denied all of Altermed’s claimed administrative expenses, and reduced its cost of goods sold. It determined deficiencies and accuracy-related penalties for 2010 of $157,821 and $31,564, and for 2011 of $233,421 and $46,684.


Alterman argued that the sale of non-marijuana merchandise constituted a second line of business that could separately deduct business expenses. She also argued that Altermed’s deductible cost of goods sold was greater than the amounts conceded by the service.


The Tax Court said that whether selling non-marijuana merchandise was a separate business from selling marijuana is an issue of fact that depends on the degree of economic interrelationship between the two activities. In her testimony, Alterman said that the dispensary also sold hats and T-shirts with the name and business logo of Altermeds, magazines about marijuana, and chicken soup. However, no documentary evidence was presented, and the court found on a preponderance of evidence that no such items were sold. The court held that selling non-marijuana merchandise in this case was not a separate line of business from selling marijuana. Most of its revenue was derived from selling marijuana merchandise, and the types of non-marijuana products that it sold complemented its efforts to sell marijuana. Moreover, even if it were a separate business, Alterman failed to properly support its alleged deductions. It simply attributed a percent of expenses of the marijuana facility as attributable to the non-marijuana business.


And Alterman and Gibson failed in their attempt to have the court accept her higher estimate for cost of goods sold. Their method assumed that cost of goods sold equals purchase costs plus production costs, and leaves out beginning inventory and ending inventory. Therefore, the court accepted the IRS estimate of cost of goods sold.





Tax Strategy: Uncertainties continue in tax planning for 2018

By Mark A. Luscombe


While the Tax Cuts and Jobs Act, enacted at the end of 2017, promises on the whole good news for taxpayers for 2018, tax planning to take maximum advantage of those provisions has been difficult due to continuing uncertainties as to how to interpret various provisions of the tax reform legislation.


The Internal Revenue Service has yet to issue any proposed regulations on the subject, instead issuing a series of notices, information releases and frequently asked questions telegraphing what that guidance is likely to say on certain key points when it is eventually issued. Congress has also not been quick to follow up on the enacted legislation with technical corrections or with its promised Tax Reform II effort.


Adding to the uncertainty is that, like in 2017, we are going through 2018 without knowing whether Congress will extend the more than 30 tax breaks that expired at the end of 2017.

Many are cautioning taxpayers not to do anything too drastic in anticipation of the provisions of the TCJA until that guidance is released, but it is looking like that guidance may not be rapidly forthcoming. Acting IRS Commissioner Dave Kautter has indicated that TCJA guidance may take a couple of years and that, in some cases, the best guidance to taxpayers may come from the instructions to forms for 2018 tax returns. In the meantime, here is a little of what we have been told so far.


Individual tax issues

  • The pass-through deduction. The principal issue of concern to individual taxpayers is how to prepare for and handle the new 20 percent deduction from qualified business income for pass-through businesses. The issues involve how “qualified business income” will be defined, what constitutes a “specified service business” that will have more limited access to the deduction, and how “W-2 wages” and “qualified property” will be defined. Taxpayers have been considering changing their business entity or splitting their businesses into more than one entity to maximize the availability of the deduction. The IRS has indicated informally that, in evaluating the reasonable compensation exception to what constitutes qualified business income, it will consider “reasonable compensation” to only be applied in the S corporation context and will not try to come up with a new definition of reasonable compensation for partnerships or sole proprietorships. That is generally good news for taxpayers and tends to indicate that owners of many sole proprietorships and partnerships with income under the $157,500 limit ($315,000 for joint filers) will likely be entitled to the full 20 percent deduction. The one technical correction that Congress has enacted so far corrected the so-called “grain glitch” that penalized farmers unless they sold their crops to a cooperative. There has been some hope expressed that proposed regulations might be issued by the end of July 2018.


  • The SALT deduction. The TCJA placed a $10,000 annual limit on the state and local tax deduction. While the legislation restricted the prepayment of 2018 income taxes in 2017, it did not address prepayment of property taxes. Many taxpayers prepaid property taxes normally due in 2018 before the end of 2017 to avoid the new limit. In Information Release 2017-210, the IRS stated that 2018 property taxes can only be prepaid if they were assessed by the local jurisdiction in 2017. Some tax professionals are questioning the IRS position on a matter on which the drafters of the legislation chose to be silent. Several states have also enacted or are proposing alternatives to preserve a federal deduction, such as contributions to state charities or payroll tax deductions. In Information Release 2018-122, the Treasury and the IRS indicated that they intend to issue proposed regulations addressing the deductibility of such payments, indicating a likely attempt to restrict or prohibit such deductions. A number of states had historically allowed charitable deductions which were also allowed for federal tax purposes. Any change in the IRS position on this issue could also endanger those historic deductions.


  • Interest on home equity loans. The TCJA prohibits the deduction of interest on home equity loans after Jan. 1, 2018, both for pre-existing and new home equity loans. In Information Release 2018-32, the IRS clarified that taxpayers may still be able to deduct interest paid on home equity loans where the funds were used to buy, construct or improve the home, subject to the overall limit on mortgage loan indebtedness.



  • Withholding. With the new tax rates under the TCJA, the IRS issued new withholding tables, reducing withholding. The tables were not issued until January 2018 and were not required to be put into effect until March, likely leaving many employees somewhat overwithheld at the start of the year. The IRS, at the end of February 2018, released an updated Withholding Calculator and Form W-4 to help update 2018 withholding. Since then, the IRS has issued a number of reminders to do a “paycheck checkup” on the accuracy of 2018 withholding: Information Releases 2018-73, 2018-118, 2018-120, and 2018-124. Information Release 2018-93 also addresses revised estimated tax payments for 2018 due from many self-employed individuals, retirees and investors. Employees should be encouraged to take the time to check their withholding for 2018 to ensure it still accurately reflects their tax situation under the new tax law.

Business tax issues

  • Deduction of business interest. The TCJA put new limits on the deduction of business interest, in particular a limit of 30 percent of adjusted gross income. This has resulted in a number of questions related to what constitutes investment interest rather than business interest, and how the limit is applied to pass-through entities and consolidated groups. Notice 2018-28 clarified that all corporate debt is considered to be business interest rather than investment interest. It also clarified that interest payments on debt of members of a consolidated group would be allocated at the consolidated group level. IRS representatives have expressed the hope that proposed regulations might be issued as soon as the end of June 2018.


  • Expensing of business assets. The TCJA provided for 100-percent bonus depreciation on both new and used qualified property and an expanded Code Sec. 179 deduction for smaller businesses. While on the whole good news, there has been concern that a legislative oversight unintentionally limited the deduction of qualified leasehold property. There has also been confusion as to how the expensing provisions apply in a partnership context. Notice 2018-30 provides some guidance as to how to address built-in gains and losses, and FS-2018-9 addresses some depreciation deductions. Some states are also looking at decoupling from this federal provision and not allowing full expensing for state income tax purposes.



  • Moving, mileage and travel expenses. The TCJA made changes to the treatment of moving expenses and unreimbursed employee business expenses. Information Release 2018-127 provides some guidance on the handling of these issues.


  • Financial statement and tax conformity. The TCJA requires greater conformity under the tax laws as to when items are recognized for financial accounting purposes and the handling of advance payments. Notice 2018-35 indicates that the IRS intends to provide additional guidance with respect to advance payments and that taxpayers may rely on pre-TCJA law until that guidance is issued.



  • Blended corporate tax rate. The TCJA provides that a corporation with a fiscal year that includes Jan. 1, 2018, will pay a blended corporate tax rate, not just the new 21 percent corporate tax rate. Notice 2018-38 provides guidance on how to calculate corporate taxes using the two rate regimes.

Other pass-through tax issues

  • Carried interest holding period. The TCJA imposed a new three-year holding period for long-term capital gain treatment for carried interest but provides an exception for “corporations.” A number of hedge funds, seeking to take advantage of this exception, had been setting up Delaware limited liability companies and electing S corp status. Information Release 2018-37 and Notice 2018-28 state that the IRS intends to issue regulations to the effect that “corporation” for this purpose does not include S corporations. Some commentators feel that this interpretation is contrary to the express language of the statute and that only Congress can change the statutory language.


  • Withholding of transfers of partnership interests. The TCJA, in conjunction with a new withholding tax on transfers of a partnership interest involving a foreign entity, requires that any transfer of a partnership interest without withholding must have a certification to the IRS that the transfer does not involve a foreign entity. Many practitioners have pointed out the significant administrative burden this could create for the many transfers not involving foreign entities. Information Release 2018-81 and Notice 2018-29 indicate that the IRS intends to issue regulations that provide for a number of exemptions from the withholding and certification requirements, and suspend secondary partnership-level withholding requirements.

International tax provisions

  • The transition tax. Multinational corporations have already had to deal with the obligation to pay a tax on unrepatriated foreign earnings under the TCJA. The tax is calculated for the 2017 tax year but can be spread over an eight-year period. The IRS released a set of frequently asked questions to help those taxpayers deal with calculating and reporting this tax obligation. In early June 2018, the IRS added some additional frequently asked questions providing some additional penalty and filing relief. The IRS also issued Notice 2018-26 addressing some anti-avoidance issues, such as electing a November end to the fiscal year to try to defer the transition tax for an additional 11 months. It also addressed reduced deferred earnings and profits, reduced foreign cash and increased deemed paid foreign tax credits. The notice also provided some relief with respect to stock attributions rules and penalties with respect to estimated tax requirements. Further guidance has been released in Notices 2018-07 and 2018-13 and Information Releases 2017-212, 2018-09, 2018-25, 2018-53, and 2018-79. Proposed regulations are expected in 2018.


  • Other international provisions. The TCJA, as part of the transition to what has been called a “quasi-territorial” tax system, has also proposed a new GILTI tax, a new BEAT tax, and a new FDII deduction. Many concerns have been raised as to the scope and unintended reach of these provisions. Proposed regulations are also expected in each of these areas as well.


Tax administration

  • Fines and penalties. The TCJA expanded the categories of fines and penalties that do not qualify as a business deduction. The Treasury has indicated that proposed regulations will also be issued in this area. The Treasury has also indicated that these will be the first proposed regulations to qualify for review under a new agreement with the Office of Management and Budget calling for review of tax regulations with a sufficient non-revenue economic impact.


  • IRS levy. The TCJA provided additional time to file an administrative claim or to bring a civil suit for a wrongful levy or seizure. Information Release 2018-126 provides some guidance on these issues.


  • Inflation adjustments. The TCJA requires a change in the calculation of many inflation-adjusted items in the Tax Code to use of chained CPI. The IRS, before enactment of the TCJA, had issued inflation-adjusted numbers for 2018. In Information Release 2018-94, the IRS provided revised inflation-adjusted figures. One of the changes lowered the limitation on deductions for contributions to health savings accounts. To address problems that had been identified with lowering the limit after the start of the year, Information Release 2018-107 and Rev. Proc. 2018-27 modified the annual limitation and deductions for contributions to health savings accounts to return to the previous higher limit. Information Release 2018-19 also clarified that the TCJA does not affect the previously announced dollar limitations for retirement plans.

Tax extenders

After enactment of the TCJA, Congress retroactively extended more than 30 tax breaks that had expired at the end of 2016 for 2017 only. Congress is currently reviewing the merits of extending each of these tax breaks for 2018. The uncertainty of their fate for 2018 only adds to the current uncertainty for tax planning.


It is not unusual that a major piece of tax legislation would be accompanied by a lot of uncertainty. What is somewhat unusual is the relative secrecy with which it went through the legislative process and that it was enacted less than a month before it went into effect.


The IRS also has still not been provided with the complete resources that it has requested to address the significant tax law changes in a timely manner. Also, Congress has not addressed many technical correction issues or the many tax breaks that had expired at the end of 2017.


While taxpayers have generally been advised to wait for additional guidance before taking action to take full advantage of TCJA, that guidance has been slow in coming. The IRS seems to be trying to provide some indications of guidance to come on some of the more important issues facing taxpayers, but for many taxpayers and their tax advisors 2018 is likely to be a difficult planning year with uncertainties hanging over important issues throughout the year.




Trump used charity as his checkbook, N.Y. says as it flags IRS

By Shahien Nasiripour, Chris Dolmetsch and Christie Smythe


President Donald Trump’s personal charity repeatedly and willfully broke state and federal laws by engaging in a decade-long pattern of self-dealing that culminated in illegal coordination with his political campaign, New York alleged in a scathing lawsuit.


The president is accused of rampant misconduct by using the charity as one of his personal checkbooks, directing funds meant for needy causes to settle business and personal debts, boost his political aspirations and benefit his namesake company, the Trump Organization. He also filed false statements with the Internal Revenue Service, according to the suit.


Barbara Underwood, the state’s attorney general, is seeking to dissolve the charity and personally penalize Trump and three of his children. She said she also sent referral letters to the IRS and the Federal Election Commission for further investigations of possible violations of federal law.


The lawsuit and referrals deepen the president’s extensive legal woes, adding to U.S. Special Counsel Robert Mueller’s investigation of his campaign; a federal investigation in New York of his longtime lawyer and fixer Michael Cohen; civil suits related to hush-money deals; and claims the president’s businesses illegally take money from U.S. and foreign governments.

Dissolution of a charity is “an extraordinarily rare remedy” sought only when “the lack of governance or the level of misconduct is so significant that the foundation is no longer capable of governing itself,” Jason Lilien, a former chief of the state attorney general’s charities bureau, said in a phone interview. “It must be crystal clear there’s no doubt there’s been a violation of the law to take this action against the President of the United States and his family.”

Underwood sued the Donald J. Trump Foundation, Trump, his daughter Ivanka and his sons Donald Jr. and Eric, seeking a court order forcing the immediate closure of the foundation and repayment of at least $2.8 million in charitable funds that Trump allegedly directed toward his 2016 campaign.

The Trump Foundation rejected the allegations, accusing Underwood and her predecessor, Eric Schneiderman, who started the investigation, of engaging in a political campaign to smear the president and his children.


For example, according to the foundation, Schneiderman often solicited campaign funds by citing his efforts to challenge Trump and his administration. Schneiderman also advised Trump’s opponent in the 2016 campaign, Hillary Clinton.


Trump’s charity donated more money than it received, according to the foundation, and should be celebrated for incurring virtually no expenses, “so that the maximum amount of money could be sent to incredibly worthwhile causes,” Eric Trump said in a phone interview. The foundation gave out more than $19 million over its roughly 30-year existence.


Eric Trump

“These actions are truly sad, and exemplify the famous saying, ‘No good deed goes unpunished,’” Eric Trump said.


President Trump, who turned 72 on Thursday, wrote on Twitter that Schneiderman “never had the guts to bring this ridiculous case” and that Underwood and “sleazy New York Democrats” only sued after he made it clear he wouldn’t settle. Trump had made a similar vow about a fraud suit Schneiderman brought over Trump University, but ended paying $25 million to settle that case.


Trump said in December 2016 that he intended to dissolve the foundation amidst concerns about possible ethical conflicts, but the attorney general said at the time that it couldn’t shut down until its investigation was over.


False Statements

In the foundation lawsuit, Trump and his family are accused of violating multiple laws, including making false statements in state and federal financial documents, wasting charitable assets, and violating the tax code by making expenditures to influence the outcome of an election.


“Mr. Trump’s wrongful use of the foundation to benefit his campaign was willful and knowing,” Underwood said in the lawsuit. “He repeatedly signed, under penalties of perjury, IRS Forms 990 in which he attested that the foundation did not engage in transactions with interested parties, and that the foundation did not carry out political activity.”


In early 2016, Trump’s presidential campaign allegedly directed where and when millions of dollars of charitable funds would go based on the Iowa caucuses, a crucial early primary that can make or break a nascent presidential campaign.


A spokeswoman for the Federal Election Commission said the agency doesn’t comment on potential enforcement matters.


Internal Emails

Trump staff, including former campaign manager Corey Lewandowski, dictated the timing, amounts and recipients of the money to nonprofits, according to the lawsuit, which cited internal emails between the campaign and executives at the Trump Organization who also worked for the foundation.


“I think we should get the total collected and then put out a press release that we distributed the $$ to each of the groups,” Lewandowski wrote in a January 2016 email to Allen Weisselberg, a longtime Trump Organization executive who was the foundation’s treasurer.


Underwood also wants to temporarily block the Trumps from serving as a director of any New York nonprofits, an unusual rebuke of a sitting president that one former New York state official said is only sought for people deemed unfit for charitable service.


Underwood said the foundation entered into at least five transactions that were illegal because they benefited Trump or his businesses. They include a $100,000 payment to settle claims against his Mar-A-Lago resort and a $158,000 payment to resolve a suit against Trump National Golf Club over non-payment of a prize for a hole-in-one contest.


She accused Trump of running the charity “according to his whim, rather than the law.”


The case is People of the State of New York v. Donald J. Trump, 451130/2018, New York State Supreme Court, New York County (Manhattan.)




The long-term consequences of Wayfair

By Roger Russell


Physical presence may no longer be a necessary element of sales tax nexus, but that doesn’t mean issues in this area will be greatly simplified, according to Mark Friedlich, senior director of Tax & Accounting North America for Wolters Kluwer and a member of the Senate Finance Committee Chief Counsel’s Tax Advisory Committee on Tax Reform.


The effect of the Supreme Court’s recent decision in South Dakota v. Wayfair, which removed the physical presence test as a requirement to impose sales tax nexus, will have multiple implications for states and merchants alike, he suggested.


“The move from physical presence to an economic nexus standard is likely to generate $10 to $25 billion per year in additional revenue for the states,” he said. “It has an incredible impact, particularly on those states that don’t impose state and local income taxes, because it’s their primary source of tax revenue,” he said.


“And it will have incredible legs,” he added. “Once you eliminate the physical presence requirement, it opens up so many other things – such as corporate income tax, to which the new standard may eventually be extended to.”


“Right now there are 45 states that have various forms of sales tax laws,” Friedlich said. “Thirty-one of those have laws which will allow them to expand their tax collection beyond the physical presence standard. Sixteen of those states have laws similar to South Dakota. It’s a safe bet that if they follow the South Dakota model, they won’t be challenged by retailers or anybody else.”


“Those 16 states have very simple sales tax laws,” he observed. “They have single rates, they collect on only the state level, and they have a threshold that essentially protects the moms and pops from the imposition of sales tax obligation, which could effectively put them out of business. And of the states that don’t have a sales and use tax, virtually all of them have bills in their legislature which will be impacted by the Wayfair decision. For example, legislative leaders in Texas have told me that they are going to act quickly in passing legislation that is similar to South Dakota’s legislation.”

Many states already have these laws in place, according to Friedlich: “They haven’t been collecting because of Quill [the 1992 Supreme Court decision which set the physical presence test as a requirement for sales tax nexus]. It will take them months to get their collection systems up and running. This is not likely to take place until January 2019 for most jurisdictions.”

The potential retroactive application of the decision concerns Friedlich. “A key feature of the South Dakota law was that there would be no retroactive imposition of sales tax on ecommerce sellers,” he noted. “Justice Kennedy in the majority opinion did not deal directly with the issue of retroactivity, but did mention that retroactive application could presumably be dealt with by using existing tools and legal recourse. Theoretically, states can impose sales tax retroactively as far back as 10 years, but most states would not go in that direction, because it would be challenged.”


“It’s important to note that the Wayfair decision does not give states carte blanche by any means,” he said. “What they’ve done is eliminate the physical presence requirement and effectively authorized South Dakota’s economic presence standard. States that have an economic nexus standards law in place that are more complex than South Dakota’s, or that don’t provide protection for small businesses, are likely to simplify their statutes by following the South Dakota model. Doing so would effectively give them a free pass.”


“It’s a win for the states, particularly the smaller, less populous states with fewer brick-and-mortar retailers,” he said. “But states like New York and California, which have very complex statutes on the books, will have to make some significant changes to their laws. For example, there’s the requirement that sellers remit taxes to each and every locality as well as the state. That doesn’t meet the Wayfair standard, and retailers are likely to take the issue to court. There’s a lot more activity in this area which will have to take place in order to have the sales and use tax regimes in place that will meet the Wayfair standard and provide New York and California with that protection provided by the Wayfair holding to collect additional tax revenue in this area.”

Nevertheless, Friedlich foresees the possibility of congressional action to iron out the differences between the state and local taxing jurisdictions.


“The decision is a lightning rod. There will be a confusing hodgepodge of different state laws with which many retailers will need to comply. This will impose an undue burden on all sellers, large and small,” he said. “Congress will have to act, even though they haven’t done so for 26 years. It won’t happen before the November midterms, but there will be a lot of pressure for them to step in and simplify the sales tax collection and compliance process by providing one set of rates and standards that apply to all states that impose the sales tax.”


Gary Bingel, CPA, JD, partner-in-charge of state and local taxes at Top 100 Firm EisnerAmper, agreed.


“The court may have been trying to force congressional action, but it won’t happen until after midterms,” he said. “The impact of Wayfair could be greater than the Tax Cuts and Jobs Act, especially on small to medium-sized businesses that do interstate sales.”


“In theory there are impediments to the states running roughshod and saying, ‘Everyone has nexus everywhere,’ but the impediments are more theoretical than actual,” he said. “Smaller companies need money to fight in court, and may end up just giving in.”


Smaller companies will also take a big hit in technology expenses, according to Bingel: “A $20 million company with a 5 percent profit margin might have to pay several hundred thousand dollars to get their systems up and start complying. That’s a big hit.”


There could also be some consequences well beyond the sales tax arena, according to Bingel. “The decision solidifies economic nexus in the income tax area,” he said. “The decision may impact net worth and income type taxes.”




IRS steps up cryptocurrency investigations

By Michael Cohn


The Internal Revenue Service has been leading the charge on cryptocurrency investigations, with more on the way now that it has access to information from at least 14,000 customers of Coinbase, one of the largest virtual currency exchanges, after a protracted court battle.


Few taxpayers currently report their transactions in cryptocurrencies like bitcoin and ethereum. “Some of the press reports indicate there were some $90 billion of unreported gains in 2017,” said Steven Toscher, a principal at Hochman, Salkin, Rettig, Toscher & Perez, during New York University’s Tax Controversy Forum last week. “That’s when we got the big spike in bitcoin-related currencies. There’s not a lot of cryptocurrency transactions being reported on tax returns. I think the jury is still out.”


Gary Alford, a special agent at the IRS’s Criminal Investigation unit, played a key role in taking down Silk Road, an online bazaar where drugs and other illicit goods were sold, often via bitcoin.


“I was involved in the Silk Road case,” he said during Toscher’s panel discussion. “That was an online drug market that was operating for about two years. For the most part, that was the first time bitcoin had a use. Before that, it was kind of like an experiment, and no one was using it to actually purchase things. That was the first real-world use: to purchase illegal narcotics on the internet.”


Alford recalled the time in early 2013 when he was brought into the case. “I remember on that day I was wearing a suit and I was going into a meeting and I got herded into an office, which was not a good sign,” he said. “That usually means they have something planned for you. And they said, ‘Hey, we think you should look at this case, Silk Road.’ They said, ‘Have you ever heard of bitcoin?’ I said no. ‘Have you ever heard of Tor?’ which was the anonymized internet board it was on. I said no. ‘Did you hear about Silk Road?’ I said no. They said, ‘Good, you will be handling this case.’”


He was told he wouldn’t need to wear a suit, but he was transferred to participate in an interagency task force with the FBI that focused on taking down Silk Road.


“What I learned was Silk Road was an online marketplace, but it was on Tor, which was a dark side, for lack of a better term, of the internet,” he recalled. “It would anonymize not only the IP of the website, but it would anonymize the IP of the users. It would do no good to go to this site, which mostly had drugs, and use your credit card. It would be very easy for me to find out who purchased it. So bitcoin became very valuable, and during those times bitcoin and Silk Road were doing about 50 percent of the activity. The case had been going on since 2011.”


Senator Chuck Schumer, D-N.Y., had brought it to the attention of the authorities at that time, but little had been done for over a year. “Up until 2013, you had FBI and law enforcement agencies all across the globe, and nothing worked, and eventually they said, ‘Oh, let’s try the IRS.’ So they sent me,” said Alford. “Strangely enough, within two weeks, I had identified the targets in our part of the investigation, and within three months, I had identified who was operating it. It took another three months to convince the other people this accountant/former auditor had figured out who was actually operating the site. We eventually took that site down in 2013, and I think this is what actually brought it to the mainstream.”


He believes the publicity about the fortune changing hands on Silk Road opened the eyes of the larger public to bitcoin and its possibilities.


“Most people up until then, unless you were actually on the site looking to buy drugs on this market, you really didn’t understand what bitcoin was about,” said Alford. “But when we took the site down, we said it did $1.2 billion over two years and that we had seized 176,000 bitcoins. For those who are wondering, at current rates, that’s over a billion dollars today.”


The price of a bitcoin shot up not long after Silk Road was seized by the authorities.


“During the takedown in October 2013, bitcoin was trading at $100,” said Alford. “I was joking at the time with the other investigators, we were betting do you think bitcoin will go down from here, or will it go up from here? One month after we took it down at $100 per coin, it spiked to $1,000 per coin, and interest just went through the roof.”


The IRS gained early experience from the Silk Road investigation and it aggressively pushed to get information from Coinbase about its users through John Doe summonses, similar to the kind it used to go after Swiss banks like UBS. Late last year, a judge ordered the company to provide it to the IRS (see Coinbase customers could soon find themselves in IRS cross-hairs).


“We have been involved in this since 2013 so we are ahead of the curve,” said Alford. “We already have collected tons of information. When we started, no one knew about bitcoin. Now we’re waiting to see as more and more information comes out, we’re looking to use some of that information that we’ve collected.”


Walter Pagano, a partner, tax controversy practice leader, forensic accountant and litigation consultant at the accounting firm EisnerAmper, thinks the virtual currency issue is a significant one for the IRS and the Justice Department’s Tax Division.


“Quite frankly I think it already is a threat to compliance,” said Pagano, who was also on the panel. “If you have thousands and thousands of transactions, and you have thousands and thousands of individuals who are participating, many from an investment point of view, and the fact that it’s on the radar of both the Service and the Justice Department, I think that there is a significant interest to the extent that there is already a threat to compliance.”


He pointed out that the guidance issued by the IRS in 2014 in Notice 2014-21 said virtual currencies are considered to be property. “Therefore, it’s pretty clear that assuming that description holds as a matter of law, it may get litigated at some point,” said Pagano. “When you think about property, I think we all can recognize as tax practitioners that traditional tax principles should apply. When you think about some of the basic language that you deal with every day, for a sale or exchange of property, whether a transaction constitutes a like-kind exchange, these are important words that will eventually determine exactly how this issue evolves.”


He and Alford noted that “willfulness” will be a key matter when it comes to proving tax evasion, implying an intentional violation of a known legal duty.


“With media attention and more interest and more commentary in the writings about bitcoin and cryptocurrency, at some point it may be very difficult for a taxpayer to argue, ‘I might have been negligent, I might have even been grossly negligent, but I don’t know much about this.’ If there is an actual known legal duty, then perhaps the argument will go the other way,” said Pagano. “There are some open questions as to the application of traditional tax principles that may or may not apply to virtual currencies.”


He pointed out that taxpayers are obligated to maintain books and records that, upon request of the IRS, have to prove what’s on their tax returns. That could be a problem for cryptocurrency transactions.


Toscher suggested the need for a reporting mechanism for cryptocurrency transactions. “There are a lot of cryptocurrencies,” he said. “There are a lot of different exchanges out there, totally unregulated at this point, or largely, though the SEC is starting to look at those. But this is all computer-driven information. It lends itself to information reporting. Broker-dealers have to issue their 1099s, their basis information, and I think that’s what Treasury and the IRS need to be looking at if this is truly going to be a significant part of the economy. You see big brokerages moving into this area, so I think we need to start looking at that.”


Before the panel discussion, Richard E. Zuckerman, principal deputy assistant attorney general in the Department of Justice’s Tax Division, also spoke at the NYU Tax Controversy Forum on Friday. “We’re very interested, like the Service is, in cryptocurrency,” he said. “That is the accounting abuse du jour. We have specific lawyers in the Tax Division that are experts in cryptocurrency, whatever that means at this juncture.”


He noted that to prove a case, prosecutors need to be able to identify the transactions for a specific taxpayer and it helps to have outside information to do that, such as it now has from Coinbase. The DOJ tax lawyers who specialize in cryptocurrency are in the process of going around the country training with the IRS and various U.S. Attorney offices. 




Corporate Close-Up: Colorado Latest State to Enact Market-Based Sourcing

by Danielle Schubert


Colorado became the latest state to adopt market-based sourcing rules for corporate income taxpayers apportioning income to the state when Colorado Gov. John Hickenlooper (D) signed H.B. 1185 into law on June 4, 2018.


H.B. 1185 is effective for tax years beginning on or after Jan. 1, 2019, and substantially follows the Multistate Tax Commission’s (MTC) model statute for market-based sourcing. It remains to be seen how closely Colorado adheres to the MTC’s model regulations.


Apportionable Income and Market-Based Sourcing

For tax years prior to 2019, Colorado defines income in terms of “business” or “nonbusiness” income. The bill eliminates those definitions for taxable years beginning in 2019 in favor of distinguishing income in terms of “apportionable” or “non-apportionable” income. This amended definition keeps Colorado in step with the MTC’s income definitions. In Colorado, apportionable income includes any income that would be allocable to Colorado under the U.S. Constitution, but that is apportioned rather than allocated, and all income that is apportionable under the U.S. Constitution that is not allocated under Colorado law. Apportionable income includes income from the acquisition, management, employment, development, or disposition of the property if the property is or was related to the operation of the taxpayer’s trade or business.


The market-based sourcing rules for sales other than tangible personal property require that income from the sales of intangibles and the sales of services be apportioned based on where the income-producing item or activity is used or delivered. Prior rules require that income to be sourced based on where the income producing activity is performed.


New Alternative Apportionment Rules

Colorado taxpayers seeking alternative apportionment may still do so, but the bill also enables the Colorado Department of Revenue to establish alternative apportionment rules “on an industry-wide, transaction-wide, or activity-wide basis.” In contrast to Colorado’s existing alternative apportionment statute, H.B. 1185 explicitly provides that a party seeking to establish alternative apportionment bears the burden of proof. However, the Department does not bear the burden if it can show that the taxpayer used an apportionment method at variance with its allocation and apportionment method or methods in any two of its previous five tax years.


Prior to 2019, Colorado taxpayers source receipts for services and other intangibles based on the cost of performance methodology. Market-based sourcing principles were only used as an alternative apportionment method when the Department determined that the statutory cost of performance methodology did not fairly represent the taxpayer’s business activities within the state.


Industry-Specific Apportionment Remains in Place for Now

Further, H.B. 1185 specifically does not override the industry-specific apportionment rules under 24 Colo. Regs. § 60-1301, though the Department will need to evaluate their continued viability. Absent additional guidance from the state, industry specific formulas should continue in effect where appropriate.


Impact of Market-Based Sourcing on Colorado Taxpayers

Colorado’s sourcing regime change will likely impact out-of-state businesses with substantial sales of intangible property and services to Colorado customers by increasing their tax obligations to the state. However, tying apportionment to a market-based methodology and utilizing a single-sales factor formula may position Colorado as a more attractive jurisdiction to establish business operations.


Continue the discussion on Bloomberg BNA’s State Tax Group on LinkedIn: How will businesses respond to Colorado’s apportionment regime change?




Soda taxes go flat in California, possibly Washington



With apologies to Charles Dickens, it is the best and worst of times for soda taxes.


News out of Washington State today is that Seattle's sweetened beverage tax raised about $1 million more than predicted in its first three months.


Seattle's tax — similar to others across the United States that tax a variety of sugary beverages but are popularly called soda taxes — took effect on Jan. 1, 2018.


In its first three months as law, it reportedly raised almost $4.5 million. If that pace holds throughout the rest of the year, it will blow past the city's budget office estimate that the tax would bring in nearly $15 million in its first year.


Lawmakers who supported the 1.75-cents-per-ounce tax on certain drinks say it was enacted as a way to help reduce obesity and diabetes among Seattle's residents. A Seattle King County Department of Health representative said it's too early to know if the tax is having its intended health effects.


Meanwhile, though, the local government is not turning down the tax revenue.


Seattle's tax success, however, could be the state's last, at least for a while.


Washington food and beverage referendum: Evergreen State opponents of soda taxes believe they have enough petition signatures to require voters to decide about any future new soft-drink and food taxes in Washington.


Initiative 1634, if it does qualify to make it onto November's state ballot, would leave Seattle's soda tax in place, but would prohibit other city and county governments in Washington from taking up similar measures.


The anti-tax fight is spearheaded by Yes! To Affordable Groceries, which was created in late February, two months after Seattle's soda tax took effect. The group says it formed to fight the price increases that consumers and small businesses face when food and beverage taxes are enacted.


The group is supported by, among others, labor organizations and farm, grocery and beverage associations. Yes! To Affordable Groceries' top 5 contributors are, according to its website, the Washington Food Industry Association, The Coca-Cola Company, PepsiCo Inc., Dr Pepper Snapple Group and Red Bull North America.


Last week Initiative 1634 advocates turned in nearly 300,000 signatures that they hope will get the measure before the voters this fall. At least 259,622 valid signatures are needed to qualify an initiative for the November ballot.


Why did the anti-tax group decided to grandfather the state's largest city? Seattle's budget already is in place and is based in part on the expected beverage tax revenue.


"We don't want to take anything away from a city that’s actually operating it," Yes! spokesman Michael Mandell told The Seattle Times. "This is about making sure that going forward, the one tax that shouldn't be included is a tax on food and beverages."


California legislature pre-empts voter referendum: Further down the Pacific Coast, officials in California decided not to wait for voters to decide on soda taxes.


But the Golden State move probably is not what you expected.


California lawmakers agreed to a ban on all new sugary beverage taxes until 2031. In exchange, the beverage industry dropped its support for a Nov. 6 ballot measure that would have curbed all new such taxes in the state.


The decision by politicians in Sacramento was a surprise since the usually reliable liberal and consumer-focused state was a pioneer in soda taxes.


In 2014, Berkeley residents were the first in the country to vote for taxing sugar-sweetened beverages such as soda and juice. Two years later, their neighbors across the bay in San Francisco also approved a local soda tax.


As with the Seattle tax, the San Francisco Bay area's sin tax votes were framed as a way to combat obesity, diabetes and heart disease.


Health concerns, however, were jettisoned last week in lieu of political pragmatism.


Tying up other taxes: The California legislature and Gov. Jerry Brown bowed to pressure from the beverage industry and agreed to ban local taxes on soda for the next 12 years.


If California's soda tax ban had gone to voters and been approved, it would have made it more difficult for the state's cities and counties to raise any type of taxes. So, say the state's legislators, they opted to give in to the beverage industry to protect local jurisdictions' taxing ability and flexibility in other areas.


"This industry is aiming a nuclear weapon at government in California and saying, 'If you don't do what we want we are going to pull the trigger and you are not going to be able to fund basic government services,'" California State Sen. Scott Wiener, a Democrat from San Francisco, told the Associated Press.


The Golden State's move is similar to recent bans in Arizona and Michigan. Oregon, like possibly Washington, will vote on such restrictions in November.


On a more local level, Cook County officials implemented a tax on sugary beverages last summer. But after immediate and intense anger from Chicago area residents, repealed the penny-per-ounce soda tax a few months later. 



Putin’s ‘incredible’ offer to Trump tied to 2016 campaign meeting on tax evasion case

By Henry Meyer


President Vladimir Putin’s offer to help the U.S. investigate alleged Russian election meddling, hailed as an “incredible” gesture by Donald Trump, included the same allegations made by a Kremlin-linked lawyer at a controversial 2016 meeting with top campaign officials of the future president.


Putin said at his summit with Trump in Helsinki on Monday that he’s ready to let Special Counsel Robert Mueller’s team attend interviews of 12 Russian military intelligence officers indicted for alleged election hacking. In return, he said, Russia wants to question a number of U.S. citizens as well as British financier and Putin critic Bill Browder over an alleged $1.5 billion tax evasion, part of whose proceeds Russia says went to the Democratic Party.

Russian attorney Natalia Veselnitskaya made the same claims at Trump Tower in New York on June 9, 2016, when she met with Trump’s eldest son, Donald Trump Jr., and other top campaign officials including his son-in-law Jared Kushner, now a senior White House adviser. The encounter, a key element of accusations that Russia helped to elect Trump as U.S. president, ended in failure after Veselnitskaya said she had no documents proving the money from the tax evasion had gone to Hillary Clinton’s campaign.


That meeting took place after British publicist Rob Goldstone asked Trump Jr. to see Veselnitskaya, calling her a Russian government lawyer with information and documents that would incriminate Clinton. In an email to Trump Jr., he described the information as “part of Russia and its government’s support for Mr. Trump.”


Political Backlash

The allegations of Russian interference in the 2016 presidential election overshadowed the summit between Putin and Trump. The U.S. leader provoked a political backlash at home, including from within his own Republican party, for siding with his Russian counterpart’s denial of American intelligence conclusions that the Kremlin meddled.


Trump retracted his comment on Tuesday, though he immediately undercut that, adding: “Could be other people also. A lot of people out there.”


Russia has a list of people it wants to question over the alleged $1.5 billion tax evasion on funds gained from Russian investments, including by the wealthy Ziff brothers, a spokesman for the Russian Prosecutor General’s Office, Alexander Kurennoy, said Tuesday. Some $400,000 of that money was donated to the Democrats, Kurennoy said on state television, adding that prosecutors have documentary evidence to support the assertions.


The figure for the donation was 1,000 times less than the one Putin provided at the Helsinki news conference of $400 million, which Kurennoy described as a mistake.


Russian List

The Russian list includes Browder, the Ziff brothers and former U.S. Ambassador to Russia Michael McFaul, as well as an ex-MI6 agent, Christopher Steele, who compiled an explosive dossier alleging connections between Russia and the Trump campaign and warning that the Kremlin had compromising information on the president. U.S. law enforcement agents, lawmakers and officials are also mentioned.


“I hope the U.S. government that I served faithfully for five years will stand up and defend us with public outrage over these ridiculous accusations,” McFaul said on Twitter. Putin “feels that he has an ally in” Trump “in going after me and the other U.S. government officials on that list. President Trump could clear that up in one tweet or statement,” McFaul said.


Browder has been a thorn in Putin’s side since he campaigned successfully for a 2012 U.S. law that targeted Russian officials for sanctions over the death of Sergei Magnitsky, a tax accountant who worked for the fund manager’s Hermitage Capital. Magnitsky died in a Moscow prison in 2009 after uncovering what he said was a $230 million tax fraud by Russian officials. The U.S.-born Browder, who’s now a British citizen, has campaigned to persuade other countries to adopt similar laws penalizing Russian officials.


Veselnitskaya originally claimed she was acting in a private capacity and not as a Russian government representative. But she brought to Trump Tower a talking-points memorandum that was very similar to a document she had provided to Russian prosecutors a year earlier. In April, she told NBC News she was an “informant” for the Prosecutor General’s Office.



In new round of tax cuts, retirement changes seen as most likely to pass

By Laura Davison


Republicans are promising a comprehensive second round of tax cuts — but tax changes affecting retirement savings may be the only measures with enough political support to make it through Congress this year.


House Ways and Means Chairman Kevin Brady said Wednesday that he plans on releasing an outline of “Tax Reform 2.0” legislation next week to his committee members, which would include making the rate cuts for individuals permanent. Extending those cuts faces slim chances in the Senate, where it would need the support of at least nine Democrats to pass. The 2017 tax law passed without any Democratic votes.

Tweaks to retirement plans, however, are likely to garner bipartisan support, especially those related to small businesses. Brady told reporters he’s including a retirement-related bill in his draft that has the backing of Senators Orrin Hatch and Ron Wyden, the top Republican and Democrat on the Senate Finance Committee.


The bill, called the Retirement Enhancement and Savings Act, has “tremendous” support in the Senate, Wyden said. Still, he added that’s the only part of the tax cut plan Democrats would likely support, so its best chance of passing would be by carving it out from the broader legislation.


RESA is a bundle of small tax changes that seeks to increase options for workers to voluntarily save. The bill would make it easier for small businesses to join multiple employer plans, which would be a boon for gig workers. The bill also would give employers that sponsor traditional pension plans some relief from tax requirements that have led to the shuttering of those plans.

The 2017 tax law largely left retirement savings untouched despite talk about pushing savers to pay taxes up front and put their money in after-tax Roth retirement vehicles.


An extension of the tax cuts has been viewed as a House effort to score political points ahead of the November election. House Speaker Paul Ryan has pledged to vote on the legislation, while Senate Majority Leader Mitch McConnell has only said he’ll consider it.


“You have to recognize the reality of the political timeline that we’re under. We’re going into midterm elections,” Representative Tom Reed, a New York Republican, told reporters Wednesday. “We are being the rabble-rousers that we typically are in the House trying to lead on these issues and drag the Senate along.”


Republicans had hoped to make all the tax cuts in their 2017 law permanent, but budget constraints meant the reductions for individuals and pass-through businesses, companies where the owners pay the taxes directly, will expire in 2026. The long runway means that Republicans could have several more opportunities to extend the bill ahead of the sunset date.




Four states claim federal tax-deduction cap infringes rights

By Erik Larson


Four Democratic-led northeastern states sued the Trump administration to invalidate the new $10,000 cap on the federal tax deduction for state and local taxes that they say unfairly targets them.


New York, New Jersey, Connecticut and Maryland claim the sweeping 2017 federal tax law overturned more than 150 years of precedent. The state and local tax deduction is essential to prevent federal tax powers from interfering with constitutionally guaranteed state rights, according to the lawsuit.


The tax law resulted from a “hyper-partisan and rushed process” that will disproportionately harm taxpayers in the four states, New York Attorney General Barbara Underwood said in a statement. Underwood said a state analysis found that the cap will increase New Yorkers’ federal taxes by $14.3 billion in 2018 alone and another $121 billion between 2019 and 2025.


According to the complaint, filed Tuesday in Manhattan federal court, the new cap on the so-called SALT deduction will make it more difficult for the four states to maintain their taxation and fiscal policies, thus “hobbling their sovereign authority to make policy decisions without federal interference.”


The Treasury Department said it’s reviewing the complaint. The Internal Revenue Service, which is also named in the suit, declined to comment.


Tom Corrie, a New York lawyer who directs the state and local tax group at the accounting firm Friedman LLP, said the “stakes are very high” for the states because the cap is already harming their real-estate markets and making the states less attractive for high-income workers.


“I anticipate there will be other states joining the suit and that will increase the likelihood of success,” said Corrie, who isn’t involved in the lawsuit. “Both the federal government and the states will enter this judicial battle ‘fully loaded’ and prepared for an extended conflict.”


The tax law, enacted in December, prompted some local governments to revise their rules in a bid to facilitate the last-minute change in federal tax strategies, while homeowners in states with the highest property taxes quickly began looking to prepay 2018 bills ahead of the cap.


The federal government “went after these states deliberately” in crafting the SALT deductions cap, New Jersey Attorney General Gurbir Grewal said in a statement.


“Simply put, the federal government violated the constitution when it imposed new, arbitrary limits on the amount of state and local taxes that residents could deduct on their federal tax returns,” Grewal said.


Connecticut Governor Dannel Malloy said his state’s residents stand to lose $10 billion in SALT deductions. He said the new tax law gave “massive” handouts to the wealthiest one percent at the expense of middle-class taxpayers.


“Despite massive economic promises from Republicans, real wages have actually decreased since the passage of the tax cut,” Malloy said in a statement. “At the same time the deficit has exploded by $1.5 trillion, providing a convenient excuse for GOP lawmakers to pursue their longtime goal of gutting Medicare, Medicaid and Social Security.”


Conservative economist Stephen Moore, who advised President Donald Trump’s campaign on tax policy, is quoted in the complaint as saying the change in the SALT deduction is “death to Democrats.” Another conservative commentator, Ramesh Ponnuru, said in a November 2017 article in the National Review the “fact that these tax increases will fall most heavily on ‘blue’ parts of the country is obviously not an accident,” according to the complaint. Ponnuru is a senior editor at the National Review and a Bloomberg Opinion columnist.


Republicans targeted the states to force them to reduce public funding for safety, schools, infrastructure, transportation and other services, the four states claim.


The suit highlights the history of the Sixteenth Amendment, which confirms that the federal government’s tax power has limits, Underwood said.


"At the time of the amendment’s ratification, it was widely understood that, to the extent the federal government taxed income, it would provide a deduction for all or a significant portion of state and local taxes," the suit says.


The case is State of New York, 1:18-cv-06427, U.S. District Court for the Southern District of New York (Manhattan).




House votes to roll back finance rules in rare bipartisan move

by Elizabeth Dexheimer


Jeb Hensarling and Maxine Waters don’t agree on much but they reached a compromise on a plan for dialing back financial rules that passed the U.S. House Tuesday.


The legislative package is largely aimed at making it easier for companies to raise money by lowering barriers to invest in startups and simplifying regulations for businesses to go public. Most of the 32 bills included make minor, incremental changes to existing rules. Others have already been adopted by federal agencies such as the Securities and Exchange Commission. House lawmakers approved the measure in a 406-to-4 vote, sending it to the Senate.


Texas’s Hensarling, the chairman of the House Financial Services Committee, is a conservative Republican who routinely argues that regulations stifle economic growth. California’s Waters, the top Democrat on the financial services panel, is known for criticizing banks. The two often spar at hearings and rarely agree on legislation.


The package leaves out contentious changes Republicans sought like tweaking the Volcker Rule or overhauling the Consumer Financial Protection Bureau. While bipartisan support bolsters the legislation’s prospects, it still faces an uphill battle to becoming law. At least nine Democratic senators would need to support it and they may be loath to hand Republicans any legislative wins ahead of November’s midterm elections. Lawmakers are also consumed by other issues, including President Donald Trump’s recent Supreme Court nomination.


“This is ultimately a narrow package of reforms," said Compass Point analyst Isaac Boltansky. “The question at this point is whether the Senate will consider this package or if specific provisions will have to catch a ride to passage on other legislative vehicles."


Hensarling has said that Senate Majority Leader Mitch McConnell agreed to take up the package in exchange for support on a separate bill overhauling the Dodd-Frank Act that was approved earlier this year. Many of the measures proposed would expand upon provisions enacted as part of the 2012 Jumpstart Our Business Startups Act.


“There was a lot of really great right-wing stuff we could have thrown into the bill, but we didn’t,” Hensarling told reporters Tuesday, adding that he has been meeting with senators to generate support for the bill.


Here is a snapshot of what’s in the legislation:

Accredited Investors

Instead of relying on a net worth figure, the bill would allow individuals with relevant education or work experience to invest in startups and other nonpublic companies. For example, a doctor might be able to invest in a medical-equipment company even if his or her income didn’t previously meet the SEC’s requirements.


Stress Tests and Living Wills

One measure would exempt nonbanks, such as swaps clearinghouses, from annual stress tests mandated by Dodd-Frank. Another would require that banks only submit a living will -- or plan for how they could be dismantled in a failure-- every two years, instead of annually. But even that change is redundant, as the Federal Reserve has been already taking steps to move to a more infrequent schedule for living wills.


Insider Share Sales

The bill requires the SEC to study the effectiveness of rules that allow corporate executives to set up plans to sell a predetermined number of shares at a predetermined time. While such plans are meant to help executives avoid being accused of insider trading, Waters is concerned they might be being abused.


Easing IPOs

One measure would expand rules that allow companies to submit their plans for an initial public offering to the SEC confidentially, so they can get feedback from the regulator on any issues early on. The bill would also allow more companies to gauge investor interest before going public, a practice known as testing the waters.




5 ways to get a head start on tax reform planning

By Roger Russell


The Tax Cuts and Jobs Act presents both a challenge and an opportunity for tax professionals, according to Intuit’s senior tax analyst.


“It’s a challenge just because of its sheer breadth,” said Mike D’Avolio. “But it’s also an opportunity to better serve clients by providing tax planning and advisory services.”


“It can run the gamut,” he said. “It can be as simple as redoing the W-4 in light of the changes to available deductions, the elimination of the personal exemption and the major increase in the standard deduction. Or the advisor could do more sophisticated planning such as a choice of entity analysis – should a business be conducted as a C corporation, or a flow-through entity such as an S corporation or partnership.”


Small-business owners, in particular, have a lot to think about, so it’s understandable that taxes may not always be front and center, D’Avolio advised. “However, with most major provisions of the Tax Cuts and Jobs Act being implemented in2018, now is the time to start planning,” he suggested.


“It’s the middle of July, so there’s plenty of runway,” he said. “It’s an excellent time to take a step back and educate yourself, your staff and your clients.”


D’Avolio suggested five areas for planning to get a head start on 2018 taxes.


1. New 20 percent deduction for qualified business income. “One of the key tax reform measures provides a 20 percent deduction beginning in tax year 2018 for income earned from sole proprietorships, limited liability companies, partnerships and S corporations,” he observed. “The deduction begins to phase out at an income level of $315,000 for joint returns and can reduce the effective marginal rate to a 29.6 percent maximum. But wage income is not eligible for the lower rates on business income.”

“This allows small-business owners to keep more earnings tax-free, and helps curb high rates because income flows through to individual returns. Individual rates are coming down, but small-business owners are getting hit with both sides of the self-employment tax. And the rate for C corporations – at 21 percent – is way down, so this helps pass-throughs be on a more level playing field with C corporations. It can get very complicated, and a lot of different limitations apply,” he said.


2. Entity planning. Now that the corporate tax rate has been lowered to 21 percent, it might be time to examine your clients’ choice of entity, “especially if they are a high-earning professional service provider such as a doctor, lawyer, or investment manager,” D’Avolio suggested.

“Entity analysis is becoming more important. There could be tax savings in going from a flow-through to a C corporation because a C corporation now has the flat 21 percent tax rate,” he said. “This opens the door to advanced entity planning.”


3. Depreciation benefits. If a client has been thinking about new upgrades, this is an area they need to know about,” he said. Business owners are now allowed to fully write-off the entire cost of new purchases with 100 percent bonus depreciation, such as computers, furniture, equipment and vehicles, in lieu of depreciating the cost of the asset over a number of years. In prior years, you could deduct only 50 percent of the cost in year one. Under a companion measure, the Section 179 tax break has been doubled from $5,000,000 to $1,000,000, which represents the amount of assets you can deduct in the first year. “Business property qualifying for this deduction has been expanded to now include fire protection, alarm systems and security systems. The depreciation limits that apply to vehicle purchases have also increased under the new law.”


4. Entertainment expenses. Business-related entertainment, amusement or recreation expenses are no longer deductible under the Tax Cuts and Jobs Act, D’Avolio noted. While there is some ambiguity in this area, D’Avolio, and most commentators, believe that business meals are still 50 percent deductible.


The confusion results from the language of the act, which appears to pull all business meals under the entertainment umbrella. However, the Committee Report indicates that this is not what Congress had in mind.


“We expect the IRS to address this area and clear up any confusion,” D’Avolio said.


5. Credit for family and medical leave. As part of the TCJA, employers are now able able to claim a credit based on wages paid to qualifying employees while they are on family and medical leave, D’Avolio observed. “To claim the credit you must have a written policy that provides at least two weeks of paid leave annually to all qualifying employees who work full time,” he said.

“Additionally, the paid leave must be no less than 50 percent of the wages normally paid to the employee. Be sure your small-business client sets up this policy early in the year so they can claim the credit come tax time,” he said.




IRS owes tax refunds to 133,000 injured veterans

By Michael Cohn


The Internal Revenue Service is preparing to send millions of dollars in tax refunds to veterans who received disability severance payments starting in 1991.


The tax refunds are the result of a 2016 law known as the Combat-Injured Veterans Tax Fairness Act (see Combat-injured veterans receiving special tax refund). More than 133,000 injured vets may qualify for the tax refunds, according to the National Veterans Legal Services Program, originally estimated to amount to $78 million but now thought to be much more than that sum. The tax refunds are expected to average $1,750 or more, according to CBS News.


The tax refunds are owed to veterans who received disability severance payments after Jan. 17, 1991, and included that payment as income on their tax returns. Most veterans who received a one-time lump-sum disability severance payment when they separated from their military service will receive a letter from the Department of Defense with information explaining how to claim tax refunds they are entitled to, the IRS said Wednesday. The letters will provide an explanation of a simplified method for claim the refund. The IRS has been working closely with the Defense Department to produce the letters, spelling out how veterans should claim the related tax refunds.

They will need to file Form 1040X, Amended U.S. Individual Income Tax Return, to claim a credit or refund of the overpayment attributable to the disability severance payment.


The amount of time for claiming the tax refunds is limited, though the law gives veterans an alternative timeframe, one year from the date of the letter from DoD. Veterans who make the claims have the normal limitations period for claiming a tax refund, or they can claim it one year from the date of their letter from the DoD, whichever expires later. Taxpayers can generally only claim tax refunds within three years from the due date of the tax return, so the alternative time frame is especially important as some of the claims could be for refunds of taxes paid as far back as 1991.


Veterans can send in a claim based on the actual amount of their disability severance payment by filling out Form 1040X, while carefully following the instructions. But there’s also a simplified method, where veterans can choose instead to claim a standard refund amount based on the calendar year (an individual’s tax year) in which they received the severance payment. They should write “Disability Severance Payment” on line 15 of Form 1040X and enter on lines 15 and 22 the standard refund amount listed below that applies:

• $1,750 for tax years 1991 – 2005

• $2,400 for tax years 2006 – 2010

• $3,200 for tax years 2011 – 2016


Claiming the standard tax refund amount is the easiest way for veterans to claim a refund, the IRS noted, because they don’t need to access the original tax return from the year of their lump-sum disability severance payment.


All veterans who claim tax refunds for overpayments that can be attributed to their lump-sum disability severance payments should write either “Veteran Disability Severance” or “St. Clair Claim” across the top of the front page of the Form 1040X that they file. Because all amended returns are filed on paper, veterans should mail their completed Form 1040X, with a copy of the DoD letter, to:

Internal Revenue Service

333 W. Pershing Street, Stop 6503, P5

Kansas City, MO 64108


Veterans who are eligible for a refund who didn’t receive a letter from the Defense Department can still file Form 1040X to claim a refund but need to include both of the following to verify the disability severance payment:


• A copy of documentation displaying the exact amount of and reason for the disability severance payment, such as a letter from the Defense Finance and Accounting Services explaining the severance payment at the time of the payment or a Form DD-214, and


• A copy of either the VA determination letter confirming the veteran’s disability or a determination that the veteran’s injury or sickness was either incurred as a direct result of armed conflict, while in extra-hazardous service, or in simulated war exercises, or was caused by an instrumentality of war.


Veterans who didn’t receive the DoD letter and who don’t have the necessary documentation indicating the exact amount of their disability severance payment and the reason for it will have to get the necessary proof by contacting the Defense Finance and Accounting Services.




Pass-through tax guidance delayed until end of July

By Laura Davison


U.S. Treasury Department rules outlining which businesses structured as S corporations, partnerships and limited liability companies can claim a 20 percent tax deduction are likely to be delayed until the end of July, according to a senior administration official.


The regulations, which will determine how many so-called pass-through businesses can take advantage of a special break under the 2017 tax law, are some of the most anticipated following the bill’s passage. Hundreds of thousands of U.S. employers still don’t know if they qualify. Treasury officials had previously said they were aiming to issue rules specifying what types of businesses can claim the deduction, as well as mechanisms to prevent gaming, in June.


The pass-through regulations are among those almost certain to be subject to a 10-day review by the White House’s Office of Management and Budget’s regulations office. The official, who asked not to be named because the details are private, said the OMB office hadn’t yet received any draft regulations from Treasury.


An April agreement gives the administration more control over regulations implementing the new tax law. For decades, most IRS regulations were exempt from the OMB’s cost and benefit analysis, which applies to most executive agencies. OMB is ready to review the regulations once Treasury sends them over, the official said.


About 90 percent of U.S. businesses are organized as pass-throughs and can range from mom-and-pop convenience stores to private equity funds. The law allows business owners whose income is reported on their personal tax returns to claim up to a 20 percent deduction on their income.


All pass-through owners who earn less than $157,500, or $315,000 for a married couple, can deduct 20 percent of the income they receive via their businesses from their overall taxable income. Above those thresholds, the deduction fades for certain “service” industries specified in the law including health, law, consulting, athletics, financial and brokerage services. Questions remain over what exactly qualifies as a service business.


If taxpayers earn above those amounts and aren’t service professionals, they must meet tests to take the full deduction — the size of their deduction depends on how much they pay in employee wages or how much they’ve invested in capital like real estate.


Tax professionals have urged the IRS to come out with details as soon as possible. The American Institute of CPAs asked for “immediate guidance” on the pass-through provision in a Feb. 21 letter to the agency “Taxpayers and practitioners need clarity” to comply with their tax obligations and “make informed decisions regarding cash-flow, entity structure, and other tax planning issues,” the AICPA said.




Westchester home sales plunge after Trump’s tax overhaul

By Oshrat Carmiel


The nation’s new tax law is scaring would-be homebuyers from Westchester, a longtime refuge for families escaping New York City’s high costs.


Purchases in the northern suburban county — which shoulders the biggest property-tax burden in the U.S. — plunged 18 percent in the second quarter from a year earlier, the most since 2011, according to a report Thursday by appraiser Miller Samuel Inc. and brokerage Douglas Elliman Real Estate. It was the fourth consecutive quarter of sales declines.


“We’re seeing buyers take a second to understand the math,” Scott Elwell, Douglas Elliman’s regional manager in charge of Westchester and Connecticut, said in an interview. “They’re spending more time with their accountants and really understanding how this plays out.”


Home shoppers are holding off on purchases in Westchester amid concerns that they can no longer write off their sky-high property taxes. Federal rules approved in December set a $10,000 limit on deductions for state and local levies — well short of the $17,179 average that Westchester residents paid in property taxes last year, according to Attom Data Solutions.


Rising Values

Even before the tax changes, years of rising values were already making Westchester less affordable, said Jonathan Miller, president of Miller Samuel. The median price of homes that sold in the three months through June climbed 5 percent from a year earlier to $525,000, according to the report. Prices have increased in all but three quarters since the beginning of 2013.


The drop in transactions is likely to continue. On June 30, there were 8.8 percent fewer Westchester homes in contract than there were on the same day last year, brokerage Houlihan Lawrence said in its own report. The biggest decline was for homes priced from $1.5 million to $1.99 million. Pending deals in that range fell 17 percent to 94.


In Scarsdale, home to many Wall Street executives, completed sales in the first half of the year were down 20 percent to 88 transactions, Houlihan Lawrence said. The median price there dropped 5 percent to $1.57 million. In nearby Mamaroneck, closings rose 25 percent to 127. The median price of those deals dropped 13 percent to $1.19 million.




Tesla buyers hear clock ticking as $7,500 tax credit phases out

By Sarah Gardner


The clock is ticking for Tesla Inc. customers looking for incentives on their purchase.


The $7,500 federal tax credit for electric vehicles is set to start phasing out for the Model S, Model X and Model 3 after Dec. 31, according to the company’s website. The Palo Alto, California-based carmaker is the first to trigger the reduced incentive in the U.S.


While tax credits have helped boost electric vehicle demand in the U.S., they remain only 1.1 percent of the market. The federal government support was designed to decline once manufacturers reach higher production levels and reduce their costs. Two quarters after a company reaches 200,000 sales in the U.S., the incentive is cut in half to $3,750. Two quarters later, the credit amount is reduced by half again, and it’s eliminated half a year later.


A Tesla spokesman confirmed that the company delivered its 200,000th vehicle in the U.S. this month, so the full $7,500 tax credit will remain in place until Dec. 31. After that, the incentive starts ratcheting down and will be eliminated at the end of 2019, assuming there’s no change to the program.


Tesla increased second-quarter deliveries to Canada and had a significant number of vehicles in transit at the end of June, which may have reflected an effort to delay reaching the 200,000 level to “game the tax credit,” Loup Ventures analyst Gene Munster speculated on July 2.


“The good news is that there will be increased demand in the short term once consumers realize the credit will disappear,” Munster wrote. “On the other hand, future demand has been pulled to the present, so Tesla may face a headwind in 2019.”


The Model S sedan and Model X sport utility vehicle can each cost more than $100,000. The Model 3, billed as a more affordable car with a starting price of $35,000, is currently delivered only in more expensive versions. Chief Executive Officer Elon Musk said June 5 that the lower-priced version will probably start being sold around the end of this year.




4 money topics couples should talk about


Key takeaways

  • Put together a list of financial accounts.
  • Name your account beneficiaries.
  • Plan for the worst-case scenario.
  • Make sure you and your partner know where important documents are.


Many married couples suffer from a failure to communicate. A recent Fidelity survey found that 1 in 7 couldn't accurately report their spouses' employment status.1 More than 4 in 10 couples disagree on when to retire—and more than half aren't on the same page about how much to save for retirement.


"That may not be surprising, since money can be a tricky topic in families," says Ann Dowd, CFP, a Fidelity vice president. "But not laying the groundwork for open money communications can undermine relationships."


For example, our survey found that among couples concerned about debt, 36% of those surveyed, nearly half cite money as their biggest relationship challenge. They were also more likely than couples who weren't worried about debt to have difficulty talking about money in general.


Don't let that happen to you. Consider these 4 easy steps to help get your money talks off to a strong start.


1. List all your financial accounts

Chances are each of you has a number of financial accounts—checking, savings, credit card, investment, 401(k), IRA, for example. Consider sharing the accounts you each have and where they are. Creating a spreadsheet with account numbers is a great way to keep track of them. Hopefully you feel comfortable enough with your partner to share any passwords or PINs that could be needed in a pinch. Taking an inventory of your accounts can help you get organized, which is never a bad thing. It can also help lay the foundation for investment decisions—which you may choose to make as a household or as individuals.


Consider using secure virtual safes like FidSafeOpens in a new window®2 to store the list.


2. Name account beneficiaries

Having a named beneficiary for retirement and investment accounts and insurance policies is as important as writing a will. Assets in these accounts pass directly to the beneficiaries you've designated with your account custodian, trustee, or plan administrator—and generally supersede any instructions in your will.


It’s not hard to name—or update—beneficiaries on financial accounts. Most financial service providers let you do it online. Naming beneficiaries on all accounts can help avoid legal complications in the event of a death.


Retirement accounts. You can name beneficiaries on your retirement accounts, such as 401(k) accounts and IRAs. If you are married, keep in mind that some employer-sponsored retirement plans automatically designate your spouse as the beneficiary unless you name another beneficiary and your spouse has consented in writing. Check with your company.


Nonretirement accounts. Designating beneficiaries on a nonretirement bank account or brokerage account may establish a "transfer-on-death" (TOD) registration for the account. It allows ownership of the account to be transferred to a designated beneficiary upon your death.


Insurance policies. It's a good idea to check your insurance beneficiary designations. Your life insurance policies may not be something you think about often but it’s important that your beneficiaries reflect your current wishes. For example, if you forget to change the beneficiary after a big life event like a marriage or a divorce, insurance proceeds could go to the wrong person if anything were to happen to you.


3. Prepare for the unexpected

No matter your age, it makes sense to be prepared for the unexpected. Each half of a couple should have these 3 documents and discuss their wishes with the other:


A will or a living trust and "pour-over" will combination. A will is an essential legal document that sets forth your wishes regarding the distribution of your property and the care of any minor children when you die. A pour-over will is established by an individual, often in conjunction with a trust. Upon the death of the individual, all or a portion of his or her assets can be transferred—or "poured over"—to a trust. By doing so, an individual can ensure that his or her estate has explicit directions on moving estate assets to a trust. Additionally, a properly structured pour-over may alleviate the burden of requiring the estate to undergo an often costly and lengthy public probate process.


A power of attorney appoints an agent to act on your behalf regarding financial and other matters while you are alive. It can be a durable power of attorney, which takes effect immediately—or a springing power of attorney, which takes effect if you become incapacitated and unable to handle matters on your own.


A health care proxy names a person, or persons, who can make health care decisions for you if you are unable to communicate or don't have the capacity to make decisions.


You may also want to draft an advance medical directive, also known as a "living will". In general, it outlines your wishes regarding life-prolonging medical treatments and may vary depending on your state of residence. It becomes effective only under the circumstances stated in the document.


To find out more, read: Managing estate planning


4. Organize important legal documents

The last 2 years of tax returns, marriage and birth certificates, insurance policies, wills, and health care proxies are a few of the things both partners need to know where to find. Designate a specific place for them. You can either store your estate plan and other important documents in your attorney's office or select a fireproof place—such as a bank safety deposit box—that someone close to you can access in an emergency. Again, consider using secure virtual safes like FidSafeOpens in a new window®2 to store copies of important documents and other information, such as passwords, financial statements, and wills.


Talk to your partner about money


Of course, there are many more financial issues for partners to talk about, but these 4 are essential. Once you have the initial talk, revisit money issues regularly—consider reviewing your accounts together at least once a year. A convenient time to touch base may be at the end of the year, at the beginning of the year, or when you are preparing tax returns.




The 3 A's of successful saving


Key takeaways

  • Amount: Aim to save at least 15% of pre-tax income each year toward retirement.
  • Account: Take advantage of 401(k)s, 403(b)s, HSAs, and IRAs for tax-deferred or tax-free growth potential.
  • Asset mix: Investors with a longer investment horizon should have a significant, broadly diversified exposure to stocks.


No one needs to tell you that you need to save for your future—hopefully, you're already doing it. After all, no matter your age and how far away retirement is, you want to be able to enjoy retirement and do the things you want without having to worry about money.

"It's important to focus on 3 main things during your working years: the amount you save, the accounts you save in, and your asset mix," says Ken Hevert, Fidelity senior vice president of retirement. "Of the 3, of course, the first is the most important, as no account or asset mix can make up for not saving enough."


1. Amount: How much and how long

We suggest starting early and consider saving at least 15% of pre-tax income each year toward retirement to help ensure enough in savings to maintain your current lifestyle in retirement.


The good news: That 15% savings rate includes any matching or profit sharing contributions from your employer to your 401(k) or other workplace savings account, like a 403(b) or governmental 457(b) plan. An employer match can make saving 15% easier. For example, Elaine earns $50,000 a year and her employer match is 100%, up to 6% of pay, which means her employer will match her contributions dollar for dollar, up to 6% of her salary. To save 15% of her salary, or $7,500, she would need to contribute only 9%, or $4,500. Her employer would be contributing $3,000, or 6%, for her.


Of course, the longer you wait to start saving, the more important it is to take advantage of every opportunity to contribute the maximum to your 401(k)—which may be more than 15% of income. The most you can contribute to your 401(k) in 2018 is $18,500. If you are age 50 or over, you can make catch-up contributions of up to $6,000, bringing the limit up to $24,500.

The maximum IRA contribution in 2018 is $5,500—if you're over age 50, you can make catch-up contributions of up to $1,000.


Health savings accounts (HSAs) are another type of tax-advantaged account. In order to open an HSA, you generally need to be enrolled in an HSA-eligible high deductible health plan (HDHP). If only you are enrolled in the HDHP, you can contribute $3,450 to an HSA for 2018. The contribution limit for family coverage is $6,900. If you are age 55 or over, you can also make a $1,000 catch-up contribution.


Even if you can't contribute 15% of your income right now, make sure to contribute enough to get the entire employer match in a workplace account, which is effectively "free" money, and then try to step up your savings as soon as you can.


Just 1% more can make a big difference


2. Account: Where you save

Be sure to make the most of retirement savings accounts like 401(k)s, 403(b)s, and IRAs. If you have an HDHP, consider taking advantage of health savings accounts (HSAs), which can offer one of the most effective means of saving for qualified medical expenses now and in retirement. Your contributions to these accounts can grow tax-deferred or tax-free.


With a traditional 401(k) or IRA your contributions are pre-tax, which means that they generally reduce your taxable income and, in turn, lower your tax bill in the year you make them. Your contributions won't avoid taxes entirely; you'll pay income taxes on any money you withdraw from your traditional 401(k) or IRA in retirement.


Roth 401(k) or IRA works the opposite way. Contributions are made after-tax, with money that has already been taxed, and you generally don't have to pay taxes when you withdraw from your Roth 401(k) or Roth IRA.1


So how does a person determine which type of 401(k) or IRA to contribute to—a traditional or Roth account? There are several things to consider, but for many, the answer comes down to a simple question: Am I better off paying taxes now or later? For those who expect their tax rate in retirement to be higher than their current rate, tax-free withdrawals from a Roth 401(k) or IRA might be a better choice. On the other hand, for those who expect their tax rate to go down in retirement, a traditional 401(k) or traditional IRA may make more sense.


For those who can, it may make sense to contribute to both a traditional and a Roth account. That can provide the flexibility of taxable and tax-free options when it comes time to take withdrawals in retirement, which can help manage taxes. Those who aren't sure of their future tax picture could choose to make both types of contributions.


It's important to note that if you get an employer match or profit-sharing contribution from your employer, those contributions are always to a traditional 401(k)—even if you are making only Roth 401(k) contributions. So you may already be contributing to both types of accounts.


Alternative saving options to consider:

  • If you're self-employed or a small-business owner, then small-business retirement plans like a self-employed 401(k) or SIMPLE or SEP IRA allow you to set aside a certain percentage of your income.
  • You may be able to contribute to an IRA even if you aren't working. As long as one spouse works, the non-working spouse can have a spousal IRA and contribute to their own traditional IRA or Roth IRA. You must file a joint federal income tax return. Spousal IRAs are also eligible for catch-up contributions.
  • If you have an HSA-eligible health plan, money contributed to an HSA is tax-deductible.2 And withdrawals for qualified medical expenses—now or in the future—are tax-free (that includes the money contributed as well as any earnings).


The cost of health care in retirement continues to increase so it can be a good idea to prepare specifically for those expenses. Fidelity estimates a typical 65-year-old couple retiring today will need, on average, $280,000 saved (in a taxable account) to pay for out-of-pocket health care costs in retirement.3 Saving in an HSA can reduce the amount you need because contributions, earnings, and withdrawals are tax-free when used to pay for qualified medical expenses.


If you have an HSA, consider contributing money above and beyond the amount you think you’ll need for the current year's health care expenses. If you're able to invest some of it for the future, you may have some of your future health care expenses covered.


3. Asset mix: How you invest

Stocks have historically outperformed bonds and cash over the long term. So when investing for a goal like retirement that is years away, it can make sense to have more invested in stocks and stock mutual funds. But higher volatility also comes with investing in stocks, so you need to be comfortable with the risks.


We believe that an appropriate mix of investments should be based on your time horizon, financial situation, and tolerance for risk. As a general rule, investors with a longer investment horizon should have a significant, broadly diversified exposure to stocks.


Take a look at our 4 investment mixes (see chart below) and how they performed historically over a long period of time. As you can see, the conservative mix has historically provided much less growth than a mix with more stocks, but less volatility too. Having a significant exposure to stocks that’s appropriate for your investing time frame may help grow savings.


Choose the amount of stocks you are comfortable with


Data source: Ibbotson Associates, 2018 (1926-2017). Past performance is no guarantee of future results. Returns include the reinvestment of dividends and other earnings. This chart is for illustrative purposes only. It is not possible to invest directly in an index. Time periods for best and worst returns are based on calendar year. For information on the indexes used to construct this table, see footnote 4. The purpose of the target asset mixes is to show how target asset mixes may be created with different risk and return characteristics to help meet an investor's goals. You should choose your own investments based on your particular objectives and situation. Be sure to review your decisions periodically to make sure they are still consistent with your goals.


Think ahead

When retirement is years away and you have many other financial demands, it may be hard to focus on the future, but saving for retirement with the 3 A's in mind can help.



Putin’s ‘incredible’ offer to Trump tied to 2016 campaign meeting on tax evasion case

By Henry Meyer


President Vladimir Putin’s offer to help the U.S. investigate alleged Russian election meddling, hailed as an “incredible” gesture by Donald Trump, included the same allegations made by a Kremlin-linked lawyer at a controversial 2016 meeting with top campaign officials of the future president.


Putin said at his summit with Trump in Helsinki on Monday that he’s ready to let Special Counsel Robert Mueller’s team attend interviews of 12 Russian military intelligence officers indicted for alleged election hacking. In return, he said, Russia wants to question a number of U.S. citizens as well as British financier and Putin critic Bill Browder over an alleged $1.5 billion tax evasion, part of whose proceeds Russia says went to the Democratic Party.


Russian attorney Natalia Veselnitskaya made the same claims at Trump Tower in New York on June 9, 2016, when she met with Trump’s eldest son, Donald Trump Jr., and other top campaign officials including his son-in-law Jared Kushner, now a senior White House adviser. The encounter, a key element of accusations that Russia helped to elect Trump as U.S. president, ended in failure after Veselnitskaya said she had no documents proving the money from the tax evasion had gone to Hillary Clinton’s campaign.


That meeting took place after British publicist Rob Goldstone asked Trump Jr. to see Veselnitskaya, calling her a Russian government lawyer with information and documents that would incriminate Clinton. In an email to Trump Jr., he described the information as “part of Russia and its government’s support for Mr. Trump.”


The allegations of Russian interference in the 2016 presidential election overshadowed the summit between Putin and Trump. The U.S. leader provoked a political backlash at home, including from within his own Republican party, for siding with his Russian counterpart’s denial of American intelligence conclusions that the Kremlin meddled.


Trump retracted his comment on Tuesday, though he immediately undercut that, adding: “Could be other people also. A lot of people out there.”


Russia has a list of people it wants to question over the alleged $1.5 billion tax evasion on funds gained from Russian investments, including by the wealthy Ziff brothers, a spokesman for the Russian Prosecutor General’s Office, Alexander Kurennoy, said Tuesday. Some $400,000 of that money was donated to the Democrats, Kurennoy said on state television, adding that prosecutors have documentary evidence to support the assertions.


The figure for the donation was 1,000 times less than the one Putin provided at the Helsinki news conference of $400 million, which Kurennoy described as a mistake.


Russian List

The Russian list includes Browder, the Ziff brothers and former U.S. Ambassador to Russia Michael McFaul, as well as an ex-MI6 agent, Christopher Steele, who compiled an explosive dossier alleging connections between Russia and the Trump campaign and warning that the Kremlin had compromising information on the president. U.S. law enforcement agents, lawmakers and officials are also mentioned.


“I hope the U.S. government that I served faithfully for five years will stand up and defend us with public outrage over these ridiculous accusations,” McFaul said on Twitter. Putin “feels that he has an ally in” Trump “in going after me and the other U.S. government officials on that list. President Trump could clear that up in one tweet or statement,” McFaul said.


Browder has been a thorn in Putin’s side since he campaigned successfully for a 2012 U.S. law that targeted Russian officials for sanctions over the death of Sergei Magnitsky, a tax accountant who worked for the fund manager’s Hermitage Capital. Magnitsky died in a Moscow prison in 2009 after uncovering what he said was a $230 million tax fraud by Russian officials. The U.S.-born Browder, who’s now a British citizen, has campaigned to persuade other countries to adopt similar laws penalizing Russian officials.


Veselnitskaya originally claimed she was acting in a private capacity and not as a Russian government representative. But she brought to Trump Tower a talking-points memorandum that was very similar to a document she had provided to Russian prosecutors a year earlier. In April, she told NBC News she was an “informant” for the Prosecutor General’s Office.




Manafort’s mansion, Benz on the docket at tax-fraud trial

By David Voreacos


A Mercedez-Benz SL550. A House of Bijan watch. A Hamptons mansion with a putting green, waterfall pond and pool house. Plus bank records from Cyprus, the U.K. and St. Vincent and the Grenadines.


Images of Paul Manafort’s multimillion-dollar houses and elegant suits, along with his tax filings, loan documents and summaries of money from foreign sources, will be displayed to jurors when he goes on trial this month. Special Counsel Robert Mueller, in a filing late Wednesday, listed 436 exhibits that his prosecutors may present at the trial of President Donald Trump’s former campaign chairman as they seek to prove that he financed his lavish lifestyle through bank fraud and tax crimes.


Prosecutors will argue that Manafort hid income and offshore accounts from U.S. authorities while earning tens of millions of dollars as a political consultant in Ukraine before he joined the Trump campaign in early 2016. The latest filing shows the full sweep of evidence arrayed against Manafort, which will include dozens of documents from around the world that will illuminate his complex financial life.


“He’s in huge trouble,” said Edward Robbins, a Beverly Hills tax attorney and former federal prosecutor. “His move is obvious — plead guilty and cooperate to the extent he can against other people.”


Manafort, 69, has confounded expectations that he would fold and cooperate with Mueller as several others have done in the investigation of Russian interference in the presidential election. Despite deteriorating finances, failed pretrial motions and betrayal by his right-hand man, Manafort has held fast even while in jail and maintained his innocence.


Assuming he doesn’t plead guilty, Manafort will use the trial to attack evidence assembled by Mueller’s team. Key points of contention will be his state of mind, his control of offshore accounts and his history of offshore income, according to several tax attorneys not involved in the case.


The high-profile trial will be the first by Mueller of the 32 people he has charged. Jury selection is set to begin July 25 in Alexandria, Virginia, where Manafort has lost a series of pretrial motions to narrow the case against him.


He’s also lost fights in federal court in Washington, where in a separate case he’s accused of money laundering, obstruction of justice and acting as an unregistered foreign agent. The judge there revoked his bail and sent him to jail after prosecutors said Manafort tried to tamper with witnesses. Prosecutors also charged a former business associate with ties to Russian intelligence in the tampering matter.


In Virginia, Manafort is accused of filing false tax returns for the five years through 2014 and failing to “check the box” to disclose offshore financial accounts. Similarly, he failed to file reports of Foreign Bank and Financial Accounts, or FBARs, with the Treasury Department, prosecutors said. Manafort must also defend himself against fraud charges that he lied to banks for $20 million in loans.


Art, Antiques

To convict him of the tax crimes, jurors must conclude that Manafort knew the law and broke it anyway.


They will learn about 16 entities in Cyprus, Grenadines and the U.K. that prosecutors say Manafort used to move $75 million, including $30 million that was laundered. Money from those accounts went toward houses in New York and Virginia, landscaping services, a clothing store in Beverly Hills, an art gallery in Florida and an antique dealer in New York, prosecutors charge.


“The only defenses to checking the box ‘No’ are it wasn’t my account, I didn’t know I had to report my foreign accounts, or I disclosed the account to my accountant and he made the determination that I didn’t have to report it,” said Jeremy Temkin, a former federal prosecutor with Morvillo Abramowitz. Even if he denied owning the accounts, “then how do you explain the expenditures out of the accounts for your benefit?”


Manafort’s lawyers will most likely emphasize the complexity of international tax law, said Frank Agostino, an attorney in Hackensack, New Jersey, who formerly prosecuted U.S. tax cases.


“They’ll say, ‘There was no intent here,’” Agostino said. “It’s so complicated, how could there ever be proof beyond a reasonable doubt” that Manafort fully understood his obligation to report his offshore account?


The indictment said Manafort’s tax returns listed $504,744 in income in 2010, $3.1 million in 2011, $5.4 million in 2012, $1.9 million in 2013 and almost $3 million in 2014.


Prosecutors will likely try to prove he earned foreign income in those years, tax lawyers said. They anticipate that Manafort’s attorneys will challenge that notion, suggesting his overseas income came in earlier years.


Star Witness

The government’s star witness is expected to be Richard Gates, who was Manafort’s right-hand man in Ukraine for a decade and went on to work on the Trump campaign and inauguration. He pleaded guilty Feb. 23 to conspiring to deceive the U.S. government about his work with Manafort and their financial accounts.


He also admitted making false statements about lobbying work in Washington on behalf of Ukraine. In court papers, prosecutors said Gates opened 55 accounts with 13 financial institutions over a dozen years.


Manafort’s lawyers will have plenty to hammer Gates with in cross examination. In pleading guilty, Gates admitted to using $3 million from offshore accounts for his mortgages, children’s tuition and interior decorating, among other expenses. Where did all that money go? Will he get to keep it?


The central attack on his credibility will be that he lied repeatedly — to the Justice Department, to the Treasury Department and to bookkeepers, tax accountants and lawyers. He even lied to prosecutors and FBI agents three weeks before pleading guilty, he admitted.


If Gates testifies, Manafort’s lawyers will suggest he’s currying favor with prosecutors in hopes of a lesser prison sentence. The recommended range is 57 to 71 months. They might ask the jury: After he lied for so many years, why should you believe him now?


Richard Sapinski, a tax attorney, expects Gates to counter with testimony that the offshore accounts were set up with Manafort’s full knowledge. “If Gates testifies and the jury believes him — and they believe that the source of the money are fees that they earned and that they control the companies — it’s going to be very difficult to acquit Manafort,” he said.




5 ways to get a head start on tax reform planning

By Roger Russell


The Tax Cuts and Jobs Act presents both a challenge and an opportunity for tax professionals, according to Intuit’s senior tax analyst.


“It’s a challenge just because of its sheer breadth,” said Mike D’Avolio. “But it’s also an opportunity to better serve clients by providing tax planning and advisory services.”


“It can run the gamut,” he said. “It can be as simple as redoing the W-4 in light of the changes to available deductions, the elimination of the personal exemption and the major increase in the standard deduction. Or the advisor could do more sophisticated planning such as a choice of entity analysis – should a business be conducted as a C corporation, or a flow-through entity such as an S corporation or partnership.”


Small-business owners, in particular, have a lot to think about, so it’s understandable that taxes may not always be front and center, D’Avolio advised. “However, with most major provisions of the Tax Cuts and Jobs Act being implemented in2018, now is the time to start planning,” he suggested.


“It’s the middle of July, so there’s plenty of runway,” he said. “It’s an excellent time to take a step back and educate yourself, your staff and your clients.”


D’Avolio suggested five areas for planning to get a head start on 2018 taxes.


1.New 20 percent deduction for qualified business income. “One of the key tax reform measures provides a 20 percent deduction beginning in tax year 2018 for income earned from sole proprietorships, limited liability companies, partnerships and S corporations,” he observed. “The deduction begins to phase out at an income level of $315,000 for joint returns and can reduce the effective marginal rate to a 29.6 percent maximum. But wage income is not eligible for the lower rates on business income.”

“This allows small-business owners to keep more earnings tax-free, and helps curb high rates because income flows through to individual returns. Individual rates are coming down, but small-business owners are getting hit with both sides of the self-employment tax. And the rate for C corporations – at 21 percent – is way down, so this helps pass-throughs be on a more level playing field with C corporations. It can get very complicated, and a lot of different limitations apply,” he said.


2. Entity planning. Now that the corporate tax rate has been lowered to 21 percent, it might be time to examine your clients’ choice of entity, “especially if they are a high-earning professional service provider such as a doctor, lawyer, or investment manager,” D’Avolio suggested.

“Entity analysis is becoming more important. There could be tax savings in going from a flow-through to a C corporation because a C corporation now has the flat 21 percent tax rate,” he said. “This opens the door to advanced entity planning.”


3. Depreciation benefits. If a client has been thinking about new upgrades, this is an area they need to know about,” he said. Business owners are now allowed to fully write-off the entire cost of new purchases with 100 percent bonus depreciation, such as computers, furniture, equipment and vehicles, in lieu of depreciating the cost of the asset over a number of years. In prior years, you could deduct only 50 percent of the cost in year one. Under a companion measure, the Section 179 tax break has been doubled from $5,000,000 to $1,000,000, which represents the amount of assets you can deduct in the first year. “Business property qualifying for this deduction has been expanded to now include fire protection, alarm systems and security systems. The depreciation limits that apply to vehicle purchases have also increased under the new law.”


4. Entertainment expenses. Business-related entertainment, amusement or recreation expenses are no longer deductible under the Tax Cuts and Jobs Act, D’Avolio noted. While there is some ambiguity in this area, D’Avolio, and most commentators, believe that business meals are still 50 percent deductible.


The confusion results from the language of the act, which appears to pull all business meals under the entertainment umbrella. However, the Committee Report indicates that this is not what Congress had in mind.


Tax deductions

“We expect the IRS to address this area and clear up any confusion,” D’Avolio said.


5. Credit for family and medical leave. As part of the TCJA, employers are now able able to claim a credit based on wages paid to qualifying employees while they are on family and medical leave, D’Avolio observed. “To claim the credit you must have a written policy that provides at least two weeks of paid leave annually to all qualifying employees who work full time,” he said.

“Additionally, the paid leave must be no less than 50 percent of the wages normally paid to the employee. Be sure your small-business client sets up this policy early in the year so they can claim the credit come tax time,” he said.




New Trump Foundation tax probe might complicate New York civil lawsuit

By Christian Berthelsen and Erik Larson


New York Governor Andrew Cuomo’s administration is investigating whether President Donald Trump’s charitable foundation violated state tax laws, said a person familiar with the probe.


The investigation could complicate a separate civil lawsuit against the foundation if it results in a criminal referral to the New York attorney general’s office. The foundation could argue the civil litigation jeopardizes its constitutional right against self-incrimination in the criminal case and seek to have the civil suit put on hold.


“It matters how much they overlap,” said Scott Wilson, a former special counsel in the attorney general’s office who is now a partner at Boies Schiller Flexner. “The defense in the civil case could provide a problem for (the target of) the criminal case.”


Trump’s former lawyer Michael Cohen successfully used such an argument to persuade a California judge to suspend a civil lawsuit against him while New York prosecutors investigate his businesses.


New York Attorney General Barbara Underwood sued the Donald J. Trump Foundation in June, accusing it of breaking state laws governing charitable spending through improper political activity, self-dealing and failing to follow basic fiduciary obligations. Trump and his children Ivanka, Donald Jr. and Eric are also named as defendants. Underwood seeks $2.8 million in penalties and an order dissolving the foundation.


The state attorney general’s office began investigating the foundation in June 2016, and found that it operated without any oversight by a functioning board of directors. The case has been moving forward quickly in the courts, and could result in more evidence being turned over.

A judge has urged Underwood and the foundation to settle most of the lawsuit quickly.


Underwood said the foundation entered into at least five transactions that were illegal because they benefited Trump or his businesses. They include a $100,000 payment to settle claims against his Mar-A-Lago resort and a $158,000 payment to resolve a suit against Trump National Golf Club over non-payment of a prize for a hole-in-one contest.


Tax Laws

The new investigation by New York’s Department of Taxation and Finance began about a month ago, and is looking at whether the foundation violated state tax laws, according to the person familiar with the matter who asked not to be identified because the probe isn’t public. If the inquiry results in a recommendation for prosecution, it could also be referred to the New York district attorney’s office.


The probe was reported earlier by The New York Times. Appearing at an event Thursday to announce a redevelopment initiative in Brooklyn, Cuomo said in response to a reporter’s question: “For the Trump Foundation, the law is the law. It doesn’t matter who you are, the law is the law.”


“We intend to hold the foundation and its directors accountable for all violations of state law," Amy Spitalnick, Underwood’s communications director and senior policy adviser, said in a statement. "We continue to evaluate the evidence to determine what additional actions may be warranted, and will seek a criminal referral from the appropriate state agency as necessary."


James Gazzale, a spokesman for the tax department, declined to comment. A lawyer for the Trump foundation, Alan Futerfas, didn’t respond to a request for comment.


It’s unclear where the state investigation might lead. Wilson said that if the attorney general had previously uncovered potentially criminal conduct, she would likely have sought state authorization for a criminal case rather than filing a civil suit.


“If the attorney general’s office thinks an investigation is going to go criminal, it generally would be very cautious and obtain a criminal referral at that point rather than risk using civil process as an end run to get evidence,” he said.




Canada to respond to U.S. tax reform challenge in fiscal update

By Theophilos Argitis


Canada’s Liberal government will seek to address competitiveness challenges faced by the nation’s businesses in a budget update later this year amid pressure to respond to U.S. tax reform.


Finance Minister Bill Morneau, in an interview with Bloomberg News in Buenos Aires on Saturday, said the key themes emerging for his fiscal update — a document the finance department typically releases in October or November — will include business taxation, oil pipelines and the renegotiation of the North American Free Trade Agreement.

“We’ve pretty clearly telegraphed that we want to be listening to broadly to Canadians and specifically Canadian businesses to make sure that we maintain a level of competitiveness, given the sorts of change changes we’ve seen in our environment,” said Morneau. “I think those themes will be reinforced in our fall economic statement.”


Business groups have pressured Morneau to cut taxes in Canada after the U.S. cut its corporate tax rate from 35 percent to 21 percent, claiming the lost tax competitiveness is diverting investment away from Canada.


A June report from the Canadian Manufacturers & Exporters — an industry advocacy group — recommended the combined federal and provincial corporate tax rate should be cut to 20 percent from about 28 percent, and Canada should match U.S. accelerated capital cost allowance provisions to offer “an immediate 100 percent tax write-off on qualifying capital asset purchases.”


Morneau said he hasn’t come to any conclusions yet, but the consultation process will be done ahead of the fiscal update.


New Investment

Morneau indicated he’s more focused on lowering the cost of new investment, which he said is the primary concern for businesses, rather than broad-based cuts in the corporate rate.


“People want to make sure that the next investment they’re going to be making is on an advantageous basis,” said Morneau, who was in Argentina to attend a meeting of G-20 finance ministers. “That’s a much more common refrain than someone coming in and saying, ‘You know, I really think you should really cut rates.”’


One constraint for the Canadian government is cost. After ramping up spending in recent budgets to finance Prime Minister’s Justin Trudeau’s ambitious social agenda, there is little room for expensive new initiatives for business such as a broad-based tax cut, particularly if the government wants to keep to its promise of limiting the pace of debt accumulation to below the level of GDP growth.


Morneau said his February fiscal plan — which anticipates a gradual reduction of deficit spending over the next six years — will benefit from a recent pick up in oil prices but the windfalls aren’t significant enough to alter the fiscal outlook, which he said is largely in line with what was projected in his February budget.


“I don’t think we should get ahead of ourselves in assuming that that’s actually going to have an enormous change in terms of our projections,” Morneau said.


Other Highlights

Uncertainty over the fate of NAFTA has added to the challenges for the nation’s business and Morneau said his government is still working hard on getting a deal done. Morneau said he hopes the election of a new president in Mexico will return a “sense of urgency” to the negotiations. “Getting us back to where we were, you know, maybe a month or so ago, and that opportunity is going to emerge now,” said Morneau, who will be traveling to Mexico this week with Foreign Affairs Minister Chrystia Freeland and Trade Minister Jim Carr to hold talks with the incoming Mexican government. Morneau said that some of the biggest issues in renegotiating NAFTA are actually between Mexico and the U.S. He’s optimistic there is a “reasonable path” toward resolving some of the sticking points for Canada — the country rejects a U.S. demand to include a sunset clause into the deal and insists the pact include a dispute resolution system.


Another major file on Morneau’s desk in recent months has been the government’s C$4.5 billion ($3.4 billion) acquisition of Kinder Morgan Canada Ltd.’s Trans Mountain oil pipeline, which Morneau said should be finalized within the next two months. The government had an option to find another private buyer for the pipeline by July 22 before nationalizing it, but a quick sale won’t happen, Morneau said. “Our conclusion is that we have to think about what’s our first objective and our first objective is to get the pipeline built and that objective is thwarted if there’s uncertainty in terms of the ability to actually get the pipeline laid down,” Morneau said. “So it’s just not plausible for us to do it in that timeframe.”




Ninth Circuit reverses Tax Court in loss for Intel and win for IRS

By Roger Russell


In a case involving how expenses are allocated between corporate domestic and overseas operations, the Ninth Circuit Court of Appeals reversed on Tuesday the Tax Court’s decision, in a major win for the Internal Revenue Service against Intel’s subsidiary Altera.


In the earlier decision, Altera Corp. v. Commissioner, 145 T.C. No. 3, the Tax Court invalidated the regulations under section 482 of the tax code that require related entities to share the cost of employee stock compensation in order for their cost-sharing arrangements to be classified as qualified cost-sharing arrangements under 26 C.F.R. section 1.482-7A(d)(2).


Tax deductions

The IRS made deficiency determinations based on section 482 allocations it made under the regulations. A 15-judge panel of the Tax Court agreed with Altera Corporation (which was later acquired by Intel in 2015) that the regulations were arbitrary and capricious.


The Ninth Circuit, however, reversed the Tax Court ruling, finding that the IRS’s rule-making authority complied with the Administrative Procedure Act, and therefore the regulation was entitled to deference.


As the Ninth Circuit noted, transactions between related parties can provide opportunities for minimizing or avoiding taxes, particularly when a foreign subsidiary is located in a low-tax jurisdiction. United States companies can shift profits that would be subject to tax in America offshore to avoid tax. Similarly, related companies can identify and shift costs between American and foreign jurisdictions to minimize tax exposure. Section 482 was passed to address the risk of multinational corporation tax avoidance. Regulations promulgated by the Treasury under section 482 authorize the IRS to allocate income and costs among related entities, and 26 C.F.R. section 1.482-7A(d)(2), which was at issue in this decision, was promulgated under section 482.




Automakers saved on tax cuts. Here’s how much could be wiped out by tariffs

By Laura Davison and Alexa Green


Corporate America, and even Republican leaders, have warned President Donald Trump that his trade war could end up erasing some of the savings reaped from the sharp cut in the corporate tax rate.


Now there’s some evidence of just how much damage could be inflicted.


The hit in 2018 from the steel and aluminum tariffs enacted in March is larger than the first quarter tax savings for General Motors Co., Ford Motor Co. and Fiat Chrysler Automobiles NV, according to data compiled by Bloomberg and estimates provided by Nomura analyst Anindya Das. Assuming approximately the same tax savings from a lower corporate rate each quarter, the steel and aluminum tariffs could eat up anywhere from about a third to well more than half of the tax benefits in 2018, the Bloomberg analysis shows.


“The steel and aluminum tariffs hurt,” said Ed Cohen, Honda Motor Co.’s vice president for government and industry affairs. “The tax bill was intended to spur economic activity and this will have the opposite economic effect.”


For example, Ford saved about $208.4 million in taxes in the first quarter under a 21 percent corporate rate applied to its profit, compared to if the old rate of 35 percent had been applied to the same profit. The steel and aluminum tariffs will cost the automaker about $509 million in 2018, according to Nomura estimates.


General Motors costs for the year could total $493 million after it saved almost $339 million in the first quarter. And Fiat Chrysler will see almost $100 million more in tariff costs for the year compared to its savings in the first quarter.


These figures estimate how the reduction in the corporate tax rate to 21 percent from 35 percent is affecting companies’ balance sheets based on first quarter profits. The calculations don’t take into account other factors, such as depreciation, foreign tax credits or other one-time tax charges or benefits that can alter a business’s overall tax rate.


$73 Billion Increase

The Bloomberg data takes into account only the effects of the 25 percent levy on imported steel and the 10 percent tariff for aluminum — which would be dwarfed by a potential 25 percent tax on imported cars and trucks that Trump has threatened.


The steel and aluminum tariffs are estimated to cover about $48 billion of imports. The U.S. imported $293 billion of vehicles last year, which would amount to a $73 billion tax increase, according to estimates from the Tax Foundation.


The likelihood of the auto tariff could be clearer after the president meets with European Commission President Jean-Claude Juncker on Wednesday to address trade tensions. Trump seemed to warn U.S. trade partners in a Twitter message Tuesday ahead of the meeting, saying “Tariffs are the greatest!” He also threatened to impose more sanctions unless a “fair deal” is negotiated.


Analysts wouldn’t provide estimates on how American automakers would fare under the 25 percent levy, because it’s too hard to calculate without knowing whether the U.S. stays in the North American Free Trade Agreement. Yet there are some evaluations that can be done for the foreign automakers. There is already a tariff on foreign-made cars, but it’s only 2.5 percent, a tenth of what’s being contemplated.


Toyota Motor Corp. and Honda, while based in Japan, pay the U.S. taxes on the income they earn from sales to auto dealers. The vehicles they make overseas and import to sell in the U.S. as well as parts made abroad but are used in cars manufactured in the U.S. would be subject to Trump’s auto tariffs.


Toyota booked a $2.24 billion (249.6 billion yen) tax benefit as a result of the tax law for its fiscal year ending March 31, 2018. All of that could be wiped out by the auto, steel and aluminum tariffs. The company could lose $276 million from the steel and aluminum levies and, at most, another $2 billion as a result of the 25 percent auto tariff, according to Bloomberg Intelligence data.


Toyota’s North American Chief Executive Officer Jim Lentz said earlier this month the Japanese carmaker may stop importing some models or raise prices on others as a result of the auto tariffs.

Honda, which received a $3.11 billion (346.1 million yen) tax benefit for the last fiscal year could see combined losses of as much as $820 million following the tariffs.


“At a minimum, it washes out the tax benefit,” Gary Clyde Hufbauer, a senior fellow at the Peterson Institute for International Economics, said referring to the 25 percent auto tariff.


Because the tariffs are expected to be short-lived — undone either by this administration or the next — carmakers are unlikely to alter their supply chains to avoid the tariffs, said Kevin Tynan an automotive analyst with Bloomberg Intelligence. It will just mean higher prices until the tariffs are unwound, he said.


Trump’s tax cuts have fledgling support among voters, but were wildly popular among the corporate community that had pushed for lower tax rates for years.


“Trump’s political calculus seems to be that these corporate executives can now take a bit of a bashing and that won’t hurt him politically and it may even help him with some of his constituents,” said Peterson’s Hufbauer.


But tariffs may not ultimately prove to be politically expedient. Consumers of imported vehicles will face an average price increase of $5,800 as a result of a 25 percent import tariff, analysis of U.S. Department of Commerce data shows.


“Tariffs are about as close to a no-win situation as you can get,” Tynan said.




GOP’s new tax-cut framework leaves out fixes for retailers, #MeToo victims

By Laura Davison


House Republicans unveiled a broad outline on Tuesday for their next phase of tax code changes, which steered clear of correcting technical mistakes from last year’s overhaul.


The so-called Tax Reform 2.0 legislation was seen as a possible vehicle for technical fixes that would address errors in the 2017 bill. Keeping those corrections out of the proposal underscores how GOP leaders are using it as a messaging tool and want to avoid highlighting problems with the law.


The two-page outline, which seeks to make cuts for individuals and some business owners permanent, was released now so Republicans can use it as a talking point as they head back to their districts at the end of the week for August campaigning, said two Republican aides, who requested anonymity.


Retailers and restaurants have urged Congress to correct a mistake that prevents them from writing off the costs of renovations right away, while lawyers have said they’re concerned that sexual harassment victims won’t be able to deduct their legal costs as a result of a misplaced word. Those groups may have to wait until after the midterm elections in November, at least, to see some relief.


The proposal, which House Ways and Means Chairman Kevin Brady released to committee members on Tuesday afternoon, proposes changes to retirement savings accounts, including creating a new universal savings account and allowing families to access retirement accounts without penalties when welcoming a new child. The framework also expands the uses for money in 529 education accounts. And it would create special tax breaks for startups.


Brady, who will hold listening sessions with House Republicans to gather feedback through August, said Monday that the 2.0 package would include the path forward for technical corrections, without providing details.


He told reporters Tuesday that the package will move as three separate bills — permanency, savings and innovation, to allow the House and Senate to set the right timing and gauge the interest on each of area.


While House Speaker Paul Ryan has pledged to vote on the legislation, Senate Majority Leader Mitch McConnell has only said he’ll consider it.


Representative Mike Bishop, a Michigan Republican, said GOP lawmakers have been consistently hearing critiques from constituents that the cuts are permanent for corporations but temporary for individuals


“I won’t discount that there are politics involved,” Bishop said.


$600 Billion Cost

Representative Richard Neal, the top Democrat on the Ways and Means Committee, said the effort is insincere because Republicans aren’t proposing any provisions to pay for making the individual cuts permanent. The individual and pass-through taxes were set to sunset in 2026 because GOP lawmakers didn’t have other revenue raisers to fund permanent reductions.


“This is never going to see the light of day beyond what the House might or might not do,” said Neal.


Brady said Tuesday he expects making the individual and pass-through tax changes permanent would cost “in the ballpark” of $600 billion. He didn’t specify any measures to offset that expense.


The tax 2.0 plan has a slim chance of moving through the Senate, where it would need the support of at least nine Democrats to pass. The 2017 tax law passed without any Democratic votes through a special process called reconciliation.


Technical fixes to the tax law could be included in a year-end package after the midterm elections. Democrats are unlikely to support the changes outright, but could vote for a bill that includes change to the law if it includes some tax priorities they favor.




Fighting tax dodgers can kill economic growth

By Leonid Bershidsky


It’s easy to be outraged about multinational corporations’ shifting of profits to tax havens, but much harder to figure out how to stop them from doing it without hurting the economy. Evidence exists that curbing tax avoidance opportunities makes these firms move actual jobs, not just accounting profits, overseas.


In a recent paper, Thomas Torslov, Ludvig Wier and Gabriel Zucman argued that governments throughout the world are cutting corporate tax rates (to an average of 24 percent today compared with 49 percent in 1985) simply because they’ve given up on trying to fight profit shifting, defined as the recording of accounting profits in low-tax jurisdictions. “Machines don’t move to low-tax places; paper profits do,” the economists wrote, estimating that about 40 percent of multinational profits were artificially shifted to tax havens in 2015.


The authors used an ingenious device to describe the scale of the profit-shifting: They calculated the profit recorded by multinationals and local firms in a country per dollar of wages paid. On average, a company makes 36 cents in taxable profit for every $1 of wages in a non-haven country. In low-tax jurisdictions, the ratio soars — to more than 100 percent in Singapore and Hong Kong, to more than 200 percent in Ireland, Luxembourg and Puerto Rico.


The example of that U.S. territory, coincidentally, is used in another recent paper, by Juan Carlos Suarez Serrato, to study what happens when a government actually tries to curb profit-shifting. Between 1921 and 2006, U.S. multinationals were exempt from taxes on income earned by their Puerto Rican affiliates under a regulation known as §936, after the relevant section of the U.S. tax code. In 1996, the exemption was repealed with a 10-year phaseout because legislators decided it was doing more harm in the mainland U.S. than good in Puerto Rico — essentially the same argument Torslov, Wier and Zucman make concerning the shifting of paper profits.


The repeal of §936 contributed to Puerto Rico’s financial crisis — a consequence countries like Ireland and Luxembourg fight to avoid when France, Germany and the U.S. criticize them for facilitating profit shifting. But it also caused large profit drops for the 682 U.S. firms, including major ones such as General Electric and most of the U.S. pharma industry, that were using the loophole in 1995. Serrato calculated that the effect on their income was equivalent to that of losing $232 billion in combined sales.


That, according to Serrato, triggered a decrease in U.S. investment and the shifting of actual production to cheaper countries. The repeal of §936, according to Serrato, cost the U.S. economy a million jobs.


Causality, of course, is always a concern in studies of this kind. Serrato checked his findings against data on firms that weren’t exposed to the §936 repeal and confirmed they were robust.

Based on both Zucman’s and Serrato’s research, one might conclude that letting firms shift accounting profits allows them to keep more money for investment and job creation, while at the same time supporting the low-tax countries with extra revenue. But though that looks like a win-win situation, it’s actually imperfect. Corporations end up sitting on huge piles of cash they do not invest or pay out as taxes. As of March 31, Apple was holding $267.3 billion of cash and equivalents. Even though the company distributes enormous amounts of the cash to shareholders through dividends and stock buybacks, it still has more than it knows what to do with.


The 2017 U.S. corporate tax reform, which allowed companies to repatriate overseas cash piles formed by profit-shifting at the cost of a 15.5 percent one-time tax payment. Quite a few multinationals have done so and followed Apple’s example in showering shareholders, and sometimes employees, with the cash. And yet they’re left with huge, ineffectively used war chests. Last year, McKinsey estimated the 500 largest non-financial companies had accumulated $1 trillion more than their businesses needed. The current rate of investment and payouts to investors is nowhere near enough to draw that down.


Policymakers should still keep looking for ways to tax the excess profits — but without creating unwanted effects like those caused by the §936 repeal. Serrato cautions that moves to curb profit-shifting shouldn’t be unilateral. The U.S. tax reform, for example, imposed a levy on income generated by intangible assets in tax havens; it’s a prime candidate for unintended consequences.

The best approach to profit-shifting would involve all countries agreeing on certain taxation principles, a project on which the Organization for Economic Cooperation and Development works with more than 100 jurisdictions. But in a world where the U.S. prefers to take unilateral action and even fight trade wars, its multinationals are vulnerable to all kinds of one-sided tax actions.


Both Zucman and Serrato believe it could be reasonable to tax profits according to where they were earned, not where the accounting department decided to book them. If the European Union, whose economies, according to Zucman and collaborators, lose the most tax revenue thanks to profit shifting, applies this approach unilaterally, U.S. tech and pharmaceutical firms could experience a shock similar to that of the §936 repeal. Then, their U.S. investment and job creation would suffer, contrary to the intentions behind President Donald Trump’s tax and trade policies




What’s Not Good Tax-Wise for Most Americans Is Just as Not Good for Small Businesses

by James Edward Maule


My criticism of the 2017 tax legislation as a sloppily-drafted, terrible-for-most-Americans giveaway to the oligarchs is no secret. I have written about the flaws of that legislation in posts such as Taxmas?Those Tax-Cut Inspired Bonus Payments? Just Another RuseGetting Tax Cut Benefits to Those Who Need Economic Relief: A Drop in the Bucket But Never a FloodOh, Those Bonus Payments! Much Ado About Almost NothingMore Proof Supply-Side Economic Theory is Bad Tax PolicyArguing About Tax CrumbsAnother Reason the 2017 Tax Cut Legislation Isn’t Good for Most AmericansYet Another Reason the 2017 Tax Cut Legislation Isn’t Good for Most Americans , and Is Holding On To Tax Cut Failures Admirable Perseverance or Foolish Stubbornness?

Several days ago, K. Davis Senseman, a member of the Main Street Alliance, a national network of small business owners, and a member of the Executive Committee of Main Street Alliance of Minnesota, a statewide network of small business owners, testified in front of the House of Representatives Committee on Small Business and provided a more detailed statement on the subject of the committee’s hearing. What was the committee investigating? The title of the hearing says it all: “The Tax Law’s Impact on Main Street.”

Senseman made four points. “First, the majority of small businesses in Minnesota and across the country are not seeing consequential gains from the [2017 tax legislation]. * * * Second, * * * the Act’s small business provisions were quite confusing for all but the most sophisticated small business owner, [and m]any business owners * * * will see nearly all of the savings the [legislation] may have provided eaten up by attorney and accounting fees, as they paid experts * * * to parse through the [legislation] and advise them on their best next move. Third, to build an equitable economy that works for small business owners * * *, large corporations and wealthy individuals must pay their fair share of taxes. * * * [F]ourth[,] * * * no matter what you believe in the theories of trickle-down or up economics, the system of American corporate law * * * simply forbids corporations from doing anything that doesn’t provide the greatest economic benefit to their shareholders, and that this is why a corporate tax cut, no matter what size business it is aimed at, can never bring about the greatest economic stimulus for Americans."

It is most encouraging to see and hear small business owners and their representatives explain why the 2017 tax legislation does little or nothing for small business owners, and in some respects, hurts them, just as I, and others, have explained why that legislation does little or nothing for most Americans, and in some respects, hurts them. It is not a coincidence that the legislation, particularly when coupled with the impact of unwise tariffs and other decisions, causes even more wealth and income to shift from the many to the few. The oligarchs who are seeking a transnational system of global indentured servitude are counting on laziness and ignorance to implement their agenda under cover of false promises, fake news, and convoluted explanations that bewilder all but those sufficiently determined to cut through the propaganda.

If, indeed, the goal of the Congress and the Administration is to assist all Americans, including small business owners, then it would have proceeded, and would proceed, in a manner consistent with the platitudes too many of its members tweet, bark, and spew. Instead of handing out tax breaks to large corporations and wealthy individuals while driving up the deficit that will wreck the economy, Congress and the Administration should have, and could have, made tax breaks available only after the tax break recipient performs what has been promised. This is what I suggested in How To Use Tax Breaks to Properly Stimulate an EconomyHow To Use the Tax Law to Create Jobs and Raise WagesYet Another Reason For “First the Jobs, Then the Tax Break”, and When Will “First the Jobs, Then the Tax Break” Supersede the Empty Promises? Of course, my suggestions fall on deaf ears in the nation’s capital, because it is no secret that adopting this approach would expose what is really happening behind the curtain of deflections, misstatements, and fabricated claims. What is happening is not good for the vast majority of Americans, nor is it good for small business.



When Will the Anti-Tax Folks Ever Learn?

by James Edward Maule


About a year ago, in Learning from the Tax Experiences of Others, I reacted favorably to reports that the Republican governor of Oklahoma insisted on tax increases to repair the damage caused by the unwise tax slashing that Oklahoma, following the examples of Kansas, Louisiana, and some other states, had enacted. The governor prevailed, and the Oklahoma legislature enacted the requested increases. Those increases were minimal, and did not provide any resources for increasing teacher pay in the state. Oklahoma ranks second to last in teacher pay, teachers have not had raises since 2007, and they threatened a walkout. Three months ago, a majority of the Oklahoma legislature, again recognizing the strength of practical tax reality and ignoring the disproven philosophical theories of the anti-tax lobbies, enacted increases of $1 per cigarette pack, 3 cents per gasoline gallon, 6 cents per diesel gallon, an increase in the oil and gas production tax, and a cap on itemized deductions. Using this revenue, the legislature approved increases in teacher pay averaging $6,100, not the $10,000 the teachers were seeking, and amounting to an average of $550 for each of the years that the teachers went without raises.

Almost immediately, the anti-tax lobbies roared into action. One group put together a plan to gather signatures for a referendum putting repeal of these tax increases on the November ballot. According to this report, the Oklahoma Supreme Court rejected the referendum initiative because of insufficient signatures, and the group behind the initiative decided to abandon its effort. It claimed it was not given enough time to obtain the signatures, but perhaps the problem was an insufficient number of voters willing to sign. Perhaps they failed to notice, as the report explains, that “Many of the anti-tax Republicans in the House who voted against the package faced primary opposition this year.” Two were defeated in primaries, and others failed to obtain majorities, thus facing runoff elections. At least some people seem to be waking up to the damage caused by supply-side economic theory nonsense.

The strikingly amazing aspect of this situation is the claim by the anti-tax group pushing the referendum that it is “not opposed to raising teacher pay” but that “state leaders should have found other ways to fund the raises without raising taxes.” How? What are the practical suggestions? They aren’t forthcoming because these anti-tax groups realize that the moment they share the alternatives, even more people will recognize the failures of the anti-tax philosophy. There are two alternatives. One alternative is to reduce the number of teachers, using what would have been paid to the fired teachers to increase the pay of those who remain. Of course, this approach would put more stress and work requirements on the remaining teachers, and further weaken education in a state that needs better, not weaker, education. The other alternative is to take funding from other programs and shift it to teacher pay. Identifying the programs to be defunded for this purpose would cause all sorts of harms. Do the people of Oklahoma want reduced road repair funds? Reduced police, fire, and EMT services? Reduced tornado warning system and shelter funding? Worthwhile programs, goods, and services are not free, nor cheap. The mentality of the anti-tax groups who claim they support one or more programs, goods, and services reflects an inability to understand this reality. So long as they persist in their approach, income and wealth inequality will continue to increase, real wages will continue to decline, the middle class will continue to shrink, and the strength of the nation will continue to weaken. Enough already, supply-siders. You’ve had your chance. In fact, you’ve had multiple chances at the federal level and in far too many states. You tried. You failed. It’s time to step aside and let the rest of us have our turn.





Tariffs Targeting Intermediate Goods Go into Effect

By Erica York – Tax Foundation


At 12:01 a.m. Friday, July 6, the Trump administration began imposing Section 301 tariffs of 25 percent on $34 billion worth of imports of Chinese goods, and they plan to soon levy tariffs on another $16 billion. These tariffs target intermediate and capital goods imported by U.S. businesses, or in other words, goods that U.S. businesses use to manufacture other goods. The administration targeted industrial goods to limit the impact on consumers, but this is a misguided notion; it ignores that the party responsible for sending a tax to the government is often not the same party who bears the actual burden of a tax.


According to an analysis by the Peterson Institute for International Economics, of the goods that are subject to the Section 301 tariffs, 52 percent are intermediate goods and 43 percent are capital goods. Further analysis shows that many of these targeted products are imports coming from American– and non-Chinese-based multinational firms. In other words, U.S. firms will initially pay these tariffs when they purchase input-related goods primarily from U.S., or allies’, affiliates located in China.


Minutes from the June Federal Reserve meeting reveal that tariffs are already having ill-effects on the U.S. economy:


However, many District contacts expressed concern about the possible adverse effects of tariffs and other proposed trade restrictions, both domestically and abroad, on future investment activity; contacts in some Districts indicated that plans for capital spending had been scaled back or postponed as a result of uncertainty over trade policy. Contacts in the steel and aluminum industries expected higher prices as a result of the tariffs on these products but had not planned any new investments to increase capacity. Conditions in the agricultural sector reportedly improved somewhat, but contacts were concerned about the effect of potentially higher tariffs on their exports.


Tariffs on imports from China amount to a tax on American manufacturers, and on global supply chains; U.S. firms will initially pay the import tax to the U.S. government when they bring goods into the country. Firms that can will pass these costs on to the consumers of their products, leaving those consumers less money to spend elsewhere after paying higher prices for the goods affected by tariffs. Firms that cannot pass the costs on will, at best, have less cashflow to invest and expand in the U.S., or, at worst, will become unprofitable, lay off workers, or potentially go out of business. Though firms initially pay the tariffs to the government, it is individual Americans who bear the final burden of these tariffs.


Bottom of Form

Though the tariffs are targeted at businesses, that does not mean consumers will be shielded from the tax increase. The burden of the tax could be explicit, such as when it takes the form of layoffs, business closures, and higher prices. Or, as indicated in the Fed minutes, the burden could be less visible; that is, tariffs could lead businesses to cancel or delay expansions, not invest in new equipment or machinery, or not increase hiring. They could also lead to unseen effects as consumers have less money to spend elsewhere; for instance, in the clothes they don’t buy or the trips they don’t take.


The Administration should consider the full effects of their trade policy actions before further increasing taxes on Americans, noting that tariffs cause more economic harm than help.




Disclaimer: This article is for general information purposes only, and is not intended to provide professional tax, legal, or financial advice. To determine how this or other information in this newsletter might apply to your specific situation, contact us for more details and counsel.


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