Source: https://pinkthe.info/2014/04/
Timestamp: 2019-04-23 16:40:35
Document Index: 472969725

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April 2014 – Tax information
Posted on April 30, 2014 September 14, 2018
Posted on April 27, 2014 September 14, 2018
The effects of tax avoidance and tax planning on the society has been a controversial issue for a long time yet governments the world over still have difficulty addressing it. It is believed that all these started from the beginning when business agreements were written by the government or associates of government to favour their family, friends or associates that are in business. Unfortunately, tax planning schemes are a legally accepted business practices for which tax professionals are paid huge sums of money to offer tax planning advisory services for both personal and corporate decision making.
According to Investopedia, tax planning is the analysis of a financial situation or plan from a tax perspective. It is an exercise undertaken to minimize tax liability through the best use of all available resources, deductions, exclusions, exemptions, etc. to reduce income and/or capital gains (businessdirectory.com). Tax planning therefore encompasses many different considerations, including the timing of income, purchases and other expenditures, the selection of investments and type of retirement plans etc. However, tax fraud or evasion unlike tax avoidance is not tax planning scheme and hence considered illegal in the tax professional.
Firms, both domestic and international employ numerous tax planning strategies to reduce their tax burden. An exhaustive review is impossible because known strategies are numerous and many strategies are likely unknown to tax analysts. Some forms of tax planning include (a) reclassifying business income as non-business income (b) using transfer pricing to shift income from high tax to low tax jurisdictions (c) employing passive investment companies (d) exploiting tax credits, exemptions and/or concessions in Tax Laws (e) treaty shopping (f) use of hybrids etc.
Judge Learned Hand in the case of Commissioner v Newman in 1947 stated:
“Over and over again courts have said that there is nothing sinister in so arranging one’s affairs so as to keep taxes as low as possible. Everybody does so, rich or poor; and all do right, for nobody owes any public duty to pay more than the law demands: taxes are enforced exactions, not voluntary contributions. To demand more in the name of morals is mere can’t”.
Indeed, tax planning has invariably become an integral part of a financial plan, as reducing tax liability and maximizing eligibility to contribute to retirement plans are both crucial for business success as it has gained prominence in today’s business planning strategies, all because Tax Laws have different provisions relating to entities based on location, type of activity or time period, thus invariably, every difference offers a planning opportunity to a taxpayer.
Then the question that arises is, does tax planning comes with any benefits?
Proper tax planning is essential in both domestic and international business to reduce the distortions that arises for instance due to the lack of harmonization in domestic tax systems. Without tax planning, entities are likely to suffer from excess tax payments and additional tax compliance costs. Among the reasons argued for tax planning are:
(a) Offers the opportunity to lower the amount of taxable income i.e. where a taxpayer’s financial and tax planning strategies are targeted at structuring expenditures to fit into the category of allowable expenses.
(b) Serves as a catalyst to reduce the tax rate at which you are taxed i.e. siting business operations at locations or business to take advantage of the little or no tax rate prevailing in that jurisdictions e.g. tax havens.
(c) It ensures you get all the credits available to you i.e. taking advantage of the tax credits, exemptions and/or concessions available in a tax jurisdiction e.g. the stability agreement provision for a holder of a mining lease in Ghana.
(d) It allows a cashflow forecast to be more effective while minimizing tax liability. A company looking to embark on massive capital or productive investment or re-investment will plan financial transactions with taxes in mind so to avoid making impulsive maneuvers. With a resultant good cashflow, entities positioned to embark on more capital and productive investments. Effective tax and financial planning maximize shareholders’ wealth, and improves cashflow for capital and productive re-investment among others.
(e) For the government, the granting of tax reliefs, exemptions and/or concessions is targeted at increasing private sector productivity, create employment and attract investors and improve cross-border trading.
Considering these benefits, won’t you recommend for more tax planning practices? Just consider these.
Governments efforts to improve national economy has always been limited due to inadequate tax revenue, which forms a larger percentage of government revenue. This could be attributed to the several tax planning schemes as well as tax evasions. In 2005, the average tax revenue to GDP ratio in the developed countries was approximately 35%. In the developing countries, it was equal to 15% and in the poorest of these countries, the group of low income countries tax revenue was just 12% of GDP and tax planning via tax avoidance are widely believed to be important factors limiting revenue mobilization.
The ActionAid and Tax Justice Network-Africa (TJN-A) in its West African Giveaway report published in August 2005 indicated that West African countries are losing an estimated US$9.6 billion of revenue each year by granting tax incentives to foreign companies and that three countries – Ghana, Nigeria and Senegal – are losing an estimated $5.8 billion a year through the granting of corporate tax incentives with Ghana’s portion being around $2.27.
Tax planning approaches like tax avoidance affect the extent to which the government can provide basic need of the population i.e. it results in inadequate supply of basic amenities such as poor infrastructure, poor educational and health systems, inadequate water and power supply as well as poor road networks. This could be one of the reasons why deficit budget financing has become the order of the day in most developing countries.
Income inequality is another adverse effect resulting from increasing tax planning. Taxation has an objective to redistribute income but the accumulation of wealth through tax avoidance schemes for instance has further widened the gap between the low-income earners and the high-income earners.
During an international conference jointly organised by OXFAM International and the International Tax Justice Network, Africa in Accra in February 2014 for instance, the Deputy Campaign Manager of OXFAM, Mr. Stephen Hale, indicated among other things that many developing countries faced challenges in their efforts at mobilizing domestic resources due to factors such as regressive tax regimes, wide range of corporate tax incentives etc.
But the question remains that, if the major source of revenue to every government is tax revenue whiles government revenue and capital expenditures are highly dependent on these tax revenue, can we then conclude that Governments efforts to reduce budget deficits and over reliance on development partners to finance national budget is a dead on arrival discussion, as most of the tax revenue loss is attributable to tax planning schemes such as tax avoidance, tax incentives and poor tax education and awareness?
Probably tax planning is not that beneficial to government as we are made to believe but instead a wolf in a sheep skin which is gradually ripping off government of billions of dollars in tax revenue to meet its huge public expenditures and to make reasonable economic policy. But who is to be blamed, the taxpayer, the government or both? I leave you to judge!
Tax planning has indeed come to stay, however, I suggest that (a) accountability on the part of governments and effective use of tax revenue will instill faith in the government thereby encouraging payment of taxes, (b) anti-avoidance provision should be of general application or refer to specific tax havens or tax avoidance devices (c) the concept of ethical and responsible investing should not be limited to companies products/services but also to their impact on society as well as (d) unification of tax rates and (e)The Organisation for Economic Co-operation and Development (OECD) and the United Nations which are famous in their models for international taxation should consider paying more attention to the increasing domestic and international tax planning schemes.
Desmond is a Consultant at Danisa Consult (Accounting, Audit & Tax) and a Facilitator for accounting, tax and audit at Global Institute of Resource Development (GiRD), a Capacity Development and Training Institution. A member of the Institute of Chartered Accountant, Ghana; Chartered Institute of Taxation, Ghana; Association of International Accountants, UK; International Association of Accounting Professionals, UK; Association of Certified Fraud Examiners, US; Southern African Institute of Business Accountants, SA.
Posted on April 25, 2014 September 14, 2018
Implementing “flat tax” on Income Rate
One tax reform issue that requires addressing is the amount of revenue that needs to be raised by the federal tax system. When there is a disproportion between revenue and spending, debts and federal deficits will increase and reach unsustainable limits. Policy makers need to assess tax policies and come up with ways of alleviating fiscal pressures. Implement a flat tax on income at a rate of 18% for all Americans. Having a flat tax for all Americans will ensure that all citizens are taxed equally and there is no bias. However, a rate of 18% is too high for the citizens taking into account the citizens have different incomes. Implementing this policy will not be beneficial to the government, as it would benefit high-income earners only.
The working class in America pays too much in taxes compared to cooperation’s and millionaires. Most big and profitable corporations pay little on taxes as compared to the middle class citizens. If corporations and the rich pay their fair share, the nation will afford to cut taxes for most of its middle and common citizens. This can also be boosted by cutting on wasteful spending on weapons, military and war. On the contrary, taxing more on high-income earners will result to the government having more money to waste. It also acts as a deterrent for business and individuals to make money. This might lead to a reduction in investment by investors. In the past, high taxation slowed down the economy and resulted in stagnation. Cutting taxes on businesses promoted the revenue. However, increasing taxes led to a reduction in business spending and investments as they tried to cut their tax expenditure resulting to a decrease in revenue for the government.
There is an unbalanced proportion of Individual wealth in the US. Aggressive steps needs to be taken for a restoration of fair income distribution. The middle class and the poor pay a lot in terms of federal tax which is due to the unfairness of state taxes. System wide tax reform should be implemented to simplify the tax system. A tax policy should be implemented to eliminate loopholes. Democrats hold the idea that taxes should be increased for the upper class and reduced for the middle class. The tax code and system needs an overhaul. The United States needs a code that creates wealth for people and rewards work and not a code, which generates wealth for those who have it. 200000 dollars should be set at the income level where Americans should be taxed more heavily. This will pave way for cutting taxes for the rest of the citizens. Increasing taxes for wealthy Americans will lead to a 98% cut in taxes where most families will be able to meet their daily economic challenges.
A proposal by the house GOP blueprint proposed that the corporate income tax should be replaced with a Destination Based Cash Flow Tax (DBCFT). This would help the cooperate income tax and the US worldwide tax system eliminate the distortions it caused. The worldwide system will be replaced with a territorial tax system where companies will be taxed based on their locations of profits and not according to their corporate residence. Companies in the US that earn profits overseas would not be taxed again on their profits when they are brought back to the United States. This tax system would also allow a free flow of capital back to the US by eliminating the lock out effect. This would encourage companies to expand and invest operations throughout the world.
The plan is to cut taxes at all income levels, but the taxpayers earning high incomes will receive the biggest cuts. The average tax bill will then be cut by 1810 dollars, which would increase the income by 2.5% after tax. The top 1% taxpayers would then benefit by 3/4 of the tax cuts while highest taxpayers would see a decrease in 16.9% tax cut after tax income. The middle class households will receive an estimated 0.5% tax cut after tax income while the poorest American would see a downfall in their tax cut 0.4% after tax income. The plan would see a reduction of 33% by the top individual tax income rate, 20% by the corporate, and 25% for partnership and sole proprietorship. This would reduce the child tax credit and standard deductions.
A cash flow consumption tax would replace the corporate income tax, which would apply for all businesses whereby interests in business would not be deductible and investments would be immediately deducted. This would result in a border adjustable cash flow tax with exclusion of exports receipts and imports purchased would not be deducted. This marginal tax rate cuts would reduce tax rates on new investments, incentives on US investments would be increased, and tax distortions would be reduced on allocation of capital. However, interest rates would increase in the event of increasing government borrowing and lead to a crowd out on private investment. This would offset the positive effects of the plans on private investment. In order to counteract the ramification of the tax cuts on the deficit the federal spending needs to be reduced.
National consumption tax (VAT). This is a levy on the difference between the purchase of goods and its sales. Generally, the tax is calculated on a business according to its sales, a credit for taxes that is paid on its purchase is subtracted and the difference is forwarded to the government. The incomes of multinational corporations that are resident in the United States should also be taxed. Discretionary and mandatory spending should also be reduced which will lead to a reduction in deficits and debts. Lowering federal spending on healthcare and reducing revenues below baseline amounts would offset deficit reduction. This would lead to an increase in domestic investment, national saving and the capital stock would be increased.
Posted on April 22, 2014 September 14, 2018
Dealing With Tax Professionals To Achieve Improved Compliance With The Laws
The majority of taxpayers in EU countries use tax professionals in some shape or form, and for this obvious reason the EU tax administration recognises that they play a very important role in their tax system. As well as helping to make the system run smoothly, they play a key role in influencing and shaping the tax compliance behaviour of their clients. This influence may be positive or negative, because of their professional knowledge of our tax system and its nuances.
Through their representative bodies, tax professionals also have an important role in developing our tax system. They are influential in forming public opinion and general attitudes as to the fairness and equity of the tax system and our administration thereof.
Because of their influential role and the unique position they have in influencing taxpayer behaviour, we recognise that they are one of the primary ingredients in our pursuit of our main corporate goal: “To ensure that everyone complies with their tax and customs responsibilities”.
We therefore spend a lot of time engaging with them using a combination of methods and through many different forums in our efforts to achieve improved taxpayer compliance.
WHAT CAN BE TAX STRATEGY ?
Our strategy in relation to dealing with tax professionals can be laid out in our recent Operational Strategic Programme 2007-2010. Because of the fact that the phrase “tax professional” encompasses persons with a variety of roles and responsibilities, the tax administration must prepare a response to ensure that strategy works.
I would like to give you some background on how the building relationships and partnerships strategy will come about. The relationship between taxpayers and tax administration, I must confirm that is very much an adversarial one characterised by mutual distrust and suspicion. Tax administration recognises that albanian tax professionals have a key role and that is why we have developed sophisticated consultative mechanisms to help administration engage with this wide community.
Let me give you some relevant facts about the Albanian tax system.
ALBANIA’s TAX SYSTEM
Our tax system is concerned with direct and indirect taxes, customs and duties. Albania has taxes on incomes, as well as taxes on goods and services.
Businesses (limited companies and individuals) pay tax on a self-assessment basis. There are approximately 49,000 self employed individuals and 13,000 limited companies on our register.
The General Taxation Directorate is the sole central tax authority in the Republic of Albania. The General Directorate of Taxes (HQ) and its Branch Offices in the districts possess authority to implement and administer taxes. The General Directorate of Taxes is located in Tirana. The General Taxation Directorate establishes its Local Tax Offices in 36 districts and since 1998 is established in Tirana the Large Taxpayer Office. Local Tax Office Heads are appointed and discharged by the General Director of Taxes. The Local Tax Offices provide taxpayers with tax certificates, prepare draft program of tax revenues for the district, supervise and are accountable for accomplishment of the tax revenues and the program, process tax declarations, assess tax liabilities, preserve and organise documents, audit taxpayers and collect taxes as well as implement special executive decisions.
General Taxation Directorate has recently undergone a major organisational restructuring. Essentially, this agency has rebuilt the organisation around different groups of taxpayers. These groups consist of taxpayers in each of four geographic regions and a national large taxpayer group. Apart from collection and debt management functions which remain centralised every other small taxpayer is managed from 2007 from tax offices of local power, as effect of fiscal decentralization in Albania.
WHO AND WHAT ARE ALBANIAN TAX PROFESSIONALS ?
In aLBANIA, a wide range of tax professionals such as accountants, lawyers, tax consultants, businesses and freight forwarders acting on behalf of their clients, the taxpayers, interacting with tax offices. These tax professionals perform a wide variety of functions.
The variety of professionals providing a great deal of tax advice or engaging in compliance activities is generated on the activities of such professionals. For example, accountants, advising on business transactions and internal audit; lawyers such as solicitors and barristers advising on business transactions, conveyancing, estate administration and litigation; auctioneers and real estate agents advising on capital transactions, and customs agents advising on customs matters. Each of these activities in its own right involves some form of tax advice and each professional can be regarded as a “tax professional”, each of which, play a very important part in ensuring that our tax administration and systems work.
Traditionally most VAT businesses and a little number of self-employed persons, i.e., businesses, professions, companies and their directors, use the accountant as tax professional, or “agent”, to engage with tax officials. This high level of representation, even for small business, is because we don’t operate an imputed income system. All businesses have to prepare business accounts on an “accruals” basis, and this generally requires the services of an accountant.
In Ireland we refer to our mainstream tax professionals as “tax practitioners” or “agents” and there are approximately 2,000 such “agents” registered in tax offices when they act as tax return preparers. As a result of this high level of agent representation, taxpayers in Albania tend not to be inhibited about challenging tax administration, and engage in more sophisticated business transactions and use tax professionals to this end.
Another reason for taxpayer challenges is the recent phenomenon of taxation departments being created in legal firms. Also, many corporations are employing lawyers who specialise in mainstream taxation matters and now lawyers are not just engaged in the traditional legal bastions of capital taxation and inheritance tax matters. Primarily, as a result of our Tax Investigation Department a dedicated part of tax administration which pursues the proceeds of crime, our barrister profession, who traditionally did not advocate in taxation matters, are now representing more and more taxpayers in tax matters in the civil and criminal courts.
This increasing competition from the legal profession has raised some issues as regards a level playing field between the different professions. Accountants see the prospect that lawyers might be able to claim legal professional privilege on behalf of clients against Revenue enquiries in certain circumstances as an unfair competitive advantage.
INFLUENCING COMPLIANCE BEHAVIOUR
One of the obvious benefits for tax administration from the engagements with tax professionals is the extent to which they can get them to influence good compliance behaviour. As already mentioned, tax offices regard tax professionals as being hugely influential in terms of promoting good compliance behaviour; indeed, because they may be the only point of contact that a taxpayer has in his/her interactions with tax administration.
However, it is important that tax professionals also see it as in their interest to do so. Not alone does ‘non-compliance’ cost money in lost taxes for tax administration, but it also puts the taxpayer, the client, at serious risk of severe consequences if caught. Being able to deal with taxpayers through their agents substantially reduces the cost of tax administration. Think of what life would be like for a tax administration if there were no tax professionals. Some people who work for tax administrations might say that life would be much easier without them. Yes, there might not be so much tax planning, or challenges to taxation, and taxpayers might be more willing to accept tax administration’s view. This might make life easier for the tax officials. But given the complexity of tax system for enyone that it’s no part of tax administration, despite all the efforts at simplification, think of what the disadvantages might be?
Instead of funnelling the interaction with businesses and corporations through 2,000 tax professionals, it would be necessary to interact directly with an additional 49,000 business and over 13,000 corporate taxpayers. This would have huge cost implications for tax administration, as more employees would be needed to service the substantial additional contacts and queries that would ensue.
For these reasons, tax structures try to make it as easy as possible for tax professionals to meet their client’s compliance obligations and we provide a variety of support services and measures to support and achieving client’s compliance.
SUPPORT AND SERVICE FOR TAX PROFESSIONALS
Tax professionals have a big interest in customer service efforts and are rightly critical when the tax services falls below standard. After all, the tax professional is in business to make a profit. Poor service on the tax offices costs money and the taxpayer does not always understand either.
Here are some examples of how tax administration can support and try to try to make life as easy as possible for tax professionals.
Simpler Organisational Structure
In the albanian tax structure, all taxes pertaining to a taxpayer are handled by one office. Prior to that, a taxpayer (or tax professional) could have to deal with a number of offices depending on the tax.
This tax structure makes it much easier for the tax professional to deal with their client’s compliance obligations. However there are problems following the reallocation of all our taxpayer cases in the restructuring period. For some time, tax professionals are unsure which office dealt with their clients. As a result of good contacts with the various professional bodies and in a spirit of openness and co-operation, which is part of taxation strategy of building partnerships, is the possibility for tax officials to engage proactively and positively with a view to implementing practical measures to remedy difficulties.
Some of these initiatives help illustrate this:
o Contact Points
There are special contact points in each of the regions for tax professionals who are experiencing service difficulties in dealing with tax administration. These contact persons are empowered to sort out the difficulty.
o Contact Locator
There is a tool known as ‘Contact Locator’ ,that in albania is not a function used, but in EU countries he can be used to find out which office deals with a taxpayer.
Tax strategy is to ensure clear and timely communication. Some of the many information tools are ready for providing up to date informatio:
– Tax Buletin
– Tax leaflets
By exploiting technology opportunities as much as possible such as electronic e-filing service, tax structures are able to provide better service while at the same time reducing compliance and their administrative costs. This makes it easier and cheaper for tax professionals to file and pay.
o Fair procedure
Through mechanisms such as tax procedures and Tax Audit Practice Guidelines and other papers and circulars that help the conduct of tax strutures in confront of taxpayers and tax proffesionals.
While, everyone recognises that albanian tax administration has responsibility for the tax system and makes the final decisions, we know that we can do things more effectively, if there is a spirit of cooperation and mutual understanding with tax professionals.
Both tax structures and tax professionals have a mutual self-interest in bringing common sense and clarity to what is a complex area of business and personal life of taxpayers. The consultation is very important – our strategy is that we listen, we exchange views and ideas, and we generate ideas. On the other hand it is important to get the professional’s practical business perspectives and learn from their experiences. Sometimes a more informative practical viewpoint, e.g. learning practical insights and difficulties in operating legislation, is a more valuable insight than discussions about proposals or the difficulties in implementation of current legislation in an internal vacuum.
BENEFITS TO TAX ADMINISTRATION
As well as the invaluable role, played by practitioners in promoting and fostering a pro-compliance culture in Albania, they have also been a significant catalyst and facilitator of some of the major changes in tax administration here.
Tax administration has make changes to keep pace with one of the fastest growing economies in the mediterranean region over the last 5 years which has brought enormous challenges for us on many fronts, but particularly in terms of:
– Growing number of taxpayers
– Taxpayers with increasingly complex and financial and investment profiles
All of the changes have occurred while resources have remained static. With the support (and sometimes the forbearance) of tax professionals, tax administration has managed to transform itself from an organisation that was focused on process and procedure, structurally frozen, averse to change and largely indifferent to its customers’ needs to one which is trying now to customer focused, more effective in its core businesses, structurally flexible, risk driven and looking forward with enthusiasm to the challenges ahead.
I would like to illustrate this by mentioning just a few of these major changes and the role of tax professionals in facilitating them:
The near future tax declaration-on-line filing service in Albania, it’s aspected to be a phenomenal success. In industrialised countries of EU, even though e-filing is not mandatory, over 53% of self employed taxpayers filed on-line last year, in order to be increased to over 60%. This is because so many of the returns are filed by tax professionals who have been active partners in our e-filing success. As a result, there have been huge benefits for both Revenue and practitioners in terms of service and cost. Tax professionals have been the most enthusiastic supporters of our on-line filing system and we are continuing to work closely with them in developing it to ensure that it continues to meet their needs and concerns re service, security and confidentiality.
There are some serious challenges ahead for the Tax Administration -Tax Professional relationship. Some of the main ones are that come to mind are:
It would be wrong to give the impression that tax structures accept everything that the tax professional engages in. One of the main areas of contention is ‘avoidance’ or aggressive tax planning. While professionals have a key role to play in relation to promoting compliance, there are problems sometimes when tax planning steps over the line. Of course tax offices understands the motive for tax planning. Naturally, all taxpayers want to pay less tax and if there are ways of avoiding tax, and some are willing to pay a lot of money for it. The problem is when such schemes have the potential to undermine the integrity and legitimacy of the tax system in the wider community.
There is an ongoing debate with tax professionals as to where that line is – what’s acceptable and what’s unacceptable. The tax administration’s objective is to move tax professionals and their clients away from getting involved in unacceptable tax planning schemes. On the other hand, albanian tax administration are closely monitoring new developments in other countries to establish the best approach to take to change behaviour in this regard.
Integrated Revenue view of Taxpayer and Risk
The tax administration approach to tackling risk, in tax structures, is to analyse risks for a taxpayer across all taxes. This makes it more difficult for the general tax professional who may act in relation to some of the taxes only. It may present particular problems when preparing for a revenue audit when the full range of taxes and duties, from income tax to excise duties, could be reviewed.
More Professional Regulation
It’s not just tax administration that tax professionals have to deal with. They have to contend with more and more statutory reporting requirements from other bodies such as the Prosecutor, money laundering department, Customs, and many other public agencies regarding company law offences, to illustrate just a few regulatory bodies. The whole compliance environment is becoming more difficult for the practitioner and this is not being made easier by duplication of requirements from the various public bodies. However, we are working with other agencies to try and streamline matters where possible.
Finishing off Legacy Business
In the last four years, tax investigation units have carried out a number of large investigation projects aimed at dealing with tax evaded on funds hidden by way of various means, such as money laundering in the registered businesses, under reporting or missing declarations of incomes etc .
As mentioned earlier, there is a new investigation scheme underway into undeclared funds hidden. Because of the numbers of taxpayers involved, approximately 1, 000 over the last 2 years, tax professionals are complaining about the strain that all this extra work is placing on them which is in addition to their normal advisory and returns preparation work. The timing and management of some of these special investigations has been a bone of contention with them and this has caused some difficulties in their relationship with tax administration.
Tax professionals sometimes ask hard questions which tax officials may not have asked themselves and, which tax administration has to answer. This ultimately is of benefit to tax administration as it focuses them on dealing with and addressing difficult issues, which may have been overlooked.
As key stakeholders they want tax professionals to have a sense of ownership in the tax system. This partnership approach with them also helps to counter relationships of distrust and enables tax administration to create real relationships. To this end, the good relationship with tax professionals can help in building public confidence in the tax administration. In terms of our objectives, we have benefited from our approach with them. However, tax officials should not get carried away. While they have a long engagement, the marriage has been more one of convenience than of love for each other. Paying tax will never be popular and there will no doubt be serious difficulties ahead. This relationship overall is on a sound footing and capable of withstanding whatever troubles lie ahead. In this conclusion I can pronounce the sentence that I’m carrying in my mind always “Tax administration need tax professionals and they need tax administration”.
Posted on April 18, 2014 September 14, 2018
One of my favorite movies is The Matrix. The reason why I like it so much is because it is actually based on truth (like a lot of fiction movies are). While doing research on the things of this world, I have come to realize that a lot of things that we have been told, and things that we believe to be true, are not.
For example, most Americans believe the following statements:
Microwaved food is safe for human consumption.
There is a law requiring citizens to have a social security number.
Fluoride is good for your teeth.
Michael Moore exposed the REAL truth behind 9/11.
Vaccines are effective, necessary and safe!
High cholesterol causes strokes and heart disease.
The house you live in is a good investment.
The Federal Reserve Bank is federal and has reserves.
There are no known cures for HIV/Aids.
Now, all of the above statements are “known” facts. But if you would do your own research…. Wait, let me state that again. IF YOU WERE TO DO YOUR OWN RESEARCH, you would find that not only are the above statements false, but in most cases, they are the complete opposite of the truth.
Now, I don’t have time to go through all this, so right now I will focus on the tax controversy.
There are two basic types of tax. There is indirect tax and direct tax. The term indirect is in reference to a person’s labor. For example, gas tax, tobacco tax or sales taxes are all indirect taxes. Social security, Medicare and Federal income taxes are direct taxes on your labor. Generally speaking indirect taxes are avoidable, whereas direct taxes are not.
Now, the Constitution states in Article 1, section 9, “No capitation, or other direct, Tax shall be laid, unless in Proportion to the Census or Enumeration herein before directed to be taken.” To make this real simple and plain, “No direct tax on labor is allowed unless it is split up evenly among everybody”
By the way, if you are a federal employee, you are considered by the government to be privileged as opposed to a private sector worker. Since your income is derived from gains (tax of citizens), it is constitutional to lay tax on your wages. That is “considered” an indirect tax.
Here is how the Supreme Court describes it;
“An income tax is neither a property tax nor a tax on occupations of common right, but is an excise tax.” “The legislature may declare as ‘privilege’ and tax as such for state revenue, those pursuits not matters of common right, but it has no power to declare as a ‘privilege’ and tax for revenue purposes, occupations that are of common right” Simms v. Ahrens, 271 SW 720 (1925)
Congress on the other hand has the right to tax gains or profits. Examples would be dividends, royalties, alimony, pensions and things of that nature.
So doesn’t this mean that the Federal Income tax that we pay nowadays is unconstitutional? No it doesn’t!!! Let’s start at the beginning.
The Beginning of Income Tax
In 1862, America was in the midst of a civil war. Abe Lincoln thought that this would be a quick and painless war, but it turned out to be long and bloody. President Lincoln had left the gold standard and started printing money (greenbacks) out of thin air to finance northern government. This caused inflation in the dollar supply. So on July 1st 1862, they passed the Internal Revenue Act of 1862 (which was a revision of an earlier flat rate income tax passed in 1861) to combat inflation and finance the war.
This was the first income tax and it was put on the pay of government workers and it was withheld. Luxury taxes (remember the monopoly board?) were imposed on a long list of commodities, including alcohol, tobacco, jewelry, yachts, playing cards etc. The act taxed licenses (on almost all professions) and also gains and profits (receipts from corporations, interest and dividends) as well as stamp tax and inheritance tax.
This Act established that income is ‘gains’ or ‘profits’. This is the reason why only government workers paid it. If income meant anybody’s wages that had a job, then obviously everyone would have been taxed, and of course, that would have been unconstitutional. A person’s labor is his own personal property and cannot be taxed.
“It has been well said that ‘the property which every man has in his own labor, as it is the original foundation of all other property, so it is the most sacred and inviolable. The patrimony of the poor man lies in the strength and dexterity of his own hands, and to hinder his employing this strength and dexterity in what manner he thinks proper, without injury to his neighbor, is a plain violation of this most sacred property’.” Butcher’s Union Co. v. Crescent City Co., 111 U.S. 746 (1883)
In 1894 Congress enacted another federal income tax. This tax would allow for not only salaries but ANY OTHER compensation that was paid to anyone who was in the privileged sector. The Supreme Court declared that this was unconstitutional because if you tax gains from personal property, then that is just like taxing the property itself, and is therefore a direct tax.
“The power to tax real and personal property and the income from both, there being an apportionment, is conceded: that such tax is a direct tax in the meaning of the Constitution has not been, and, in our judgment, cannot be successfully denied:…” Pollock v. Farmers Loan & Trust, 157 U.S. 429 and 158 U.S. 601 (1895)
But this created a loophole. Someone who had otherwise “taxable income” could attempt to get out of paying taxes by assigning that income to his/her personal property which would take it out of the category of indirect and make it a direct tax. To make a long story short, this is what led to the 16th amendment.
The 16th amendment reads “The Congress shall have power to lay and collect taxes on incomes, from whatever source derived, without apportionment among the several States….”
So, did this amendment authorize everyone to be taxed, or did it just close the loophole? If you notice, it doesn’t say that congress has the power to lay and collect direct taxes. So in order for this amendment to be compliant with Article 1, section 9 of the constitution, it would seem that it could only mean the same indirect tax that it had always meant. What did the Supreme Court have to say about it?
“The 16th Amendment conferred no new power of taxation, but simply prohibited the previous complete and plenary power of income taxation possessed by Congress from the beginning from being taken out of the category of indirect taxation to which it inherently belonged.” STANTON v. BALTIC MINING CO., 240 U.S. 103 (1916).
“The 16th Amendment must be construed in connection with the taxing clauses of the original Constitution and the effect attributed to them before the amendment was adopted.” EISNER v. MACOMBER, 252 U.S. 189 (1920).
So, it looks like the fact that it is said that international bankers (J.P. Morgan, Paul Warburg, and John D. Rockefeller) bribed Secretary of State Philander Knox into fraudulently declaring that the 16th amendment had been properly ratified when it had not, really didn’t matter. Even after the 16th amendment, only a small percentage of Americans paid “income” tax.
So why are we ALL paying it today?
Ah yes, the plot thickens. During WWII (by now you probably realize that wars are just GREAT for the economy…. Who’s economy?), the government wanted to raise money for the war so they enacted the Victory Tax of 1942. This was to be a temporary two year tax supposedly authorized by Article 1 Section 8 clause 12 of the constitution which says that Congress has the power: “To raise and support armies, but no appropriation of money to that use shall be for a longer Term than two years”
This was a direct tax on everyone’s labor and would have been unconstitutional if it was enforced, so it had to be voluntary (even though they didn’t tell the public about the voluntary part). Now the IRS says the 16th amendment authorizes them to tax everyone’s labor. But since the sixteenth amendment was already signed, it would appear that this Victory Tax would have been unnecessary. Maybe the government didn’t realize this at that time. There had to be a way that they could get everyone to pay this voluntary tax so the wicked ones unleashed one of their greatest weapons (Hollywood) to do what it was made to do, program the minds of the people!
Henry Morgenthau, the Secretary of the Treasury at the time, ordered John J. Sullivan, a Treasury Department official, to contact none other than Walt Disney! Walt flew in to D.C. to have a meeting with Morgenthau and Internal Revenue Commissioner Guy Helvering. Morgenthau told Walt that the U.S. wanted him to help sell people on paying the income tax. Walt wondered why this was even needed. Couldn’t you just throw people in jail if there was a law saying you must pay? Mr. Helvering told Walt that he wanted people to be enthusiastic about paying taxes.
So Walt went back to California and put a short movie together called “The New Spirit”. The objective was to make people feel it was their “patriotic” duty to pay the income tax. It starred Donald Duck (Walt’s biggest star at the time). Along with this movie, “Inflation” and “Spirit of 43” all played instrumental roles in the tax propaganda.
Donald wants to help the war effort but becomes reluctant when the radio announcer tells him to pay taxes, but the announcer shows him that the U.S. needs his money, and helps him through the simple tax forms. By the end of the movie, Donald is so energized that he rushes to Washington to pay his taxes in person! Donald learned to pay his “Taxes to beat the Axis”
The Devil receives a telephone call from Adolph Hitler, who asks for the Devil’s help in the war effort. The Devil tells Hitler that he will cause high inflation in the USA, and his worries will be over. He encourages the audience to buy as much as they can so that goods will become scarce and prices will go up. Hoarding rationed goods and cashing in war bonds will also help. Factory worker Joe Smith just got a raise in pay, so he starts buying everything on the installment plan, including a fur coat for his wife. After the Smiths hear a radio address by President Roosevelt, they realize that they should be more prudent in their spending habits to help the war effort. Written by David Glagovsky
Spirit of 43
Donald cashes his paycheck and is unsure how to best spend his money. Two aspects of his personality materialize: ‘Thrift’ and ‘Spendthrift’. Thrift tells Donald he should save to pay his taxes, but spendthrift tells Donald that it is his money and he should spend it how he pleases. In the end, Donald realizes that it is his duty to serve his country and pay taxes.
According to tax historian John Witte, “In 1939, about 15% of the people paid income tax. That’s all, period. At the end of the war, we had 80% of our families paying income tax.” Just entertainment huh?
In 1944, the Victory Tax was repealed by section 6 of the Income Tax Act of 1944 after it had been renewed. But, for some strange and unknown reason, Congress decided to keep it on the down low. Because most people didn’t know about it, they just kept paying taxes.
So I guess we are all here today, still paying the Victory Tax voluntarily. Tell me, do you feel victorious?
Trickeration of the IRS?
The IRS would like you to believe that everyone must pay tax. They would like you to believe that the 16th amendment gives them that right and that the law is the IRS code. But according to the Supreme Court, the code is not the law, it is just the regulation and assessment of the law. The law is the Constitution.
The revenue laws are a code or system in regulation of tax assessment and collection. They relate to taxpayers, and not to nontaxpayers. The latter are without scope” United States Court of Claims, Economy Plumbing and Heating v. United States, 470 F.2d 585, at 589 (1972)
The IRS threatens the public and says, “All employees must be taxed. All employers must make their employees fill out a W-4, and administer a W-2. All income must be taxed”. But, according to Pete Eric Hendrickson, author of “Cracking the Code”:
“That “income”, “wages”, “self-employment income”, “employee”, “employer” and “trade or business”-as these and certain other terms are used within, and in regard to, the tax law-have narrow legal meanings exclusively involving, and applying to, certain privileged activities, such as holding or administering a government office, or working in one.”
Maybe this is why the 16th amendment does matter. Because the 16th amendment’s language is what enables the general public to believe they have to pay. Maybe the wicked ones knew this when it was declared ratified. It seems that this bribe would be a good investment. Without this amendment, very few of us would believe we have to pay tax today.
According to the Supreme Court, when you fill out your W-4, you are voluntarily entering into an agreement with the federal government, and claiming that the money you receive is taxable “income”. And since you sign this under penalty of perjury, you are also voluntarily waving your 5th amendment right! You just don’t realize it.
“A tax on income is not economically or legally a tax on its source.” However, wages, salaries, commissions, and tips (sources) are considered to be “income” for an individual when he lists them as “income” on an IRS tax return form. When he signs the tax form under penalty of perjury, he has made a voluntary oath that his wages, salary, commissions, and tips listed on the return are “income” and that he is subject to the tax.” Graves v. People of the State of New York ex rel O’Keefe, 59 S.Ct. 595 (1939)
So when the IRS, comes and knocks your door down, seizes your property and throws you in jail, don’t say that it is unconstitutional. The Supreme Court says it’s not unconstitutional, for you told them that you worked for the government and that you made “income”. Since the lower courts are not in compliance with the Supreme Court, the judges don’t care about Supreme Court rulings, and since the government has already stated that they don’t have to show a law that requires citizens to pay tax, your complaints could very well go unanswered.
Is this the dirty little secret that the IRS doesn’t want you to know? Is this why the IRS chooses to audit certain people when they know millions don’t pay and they could just go after them?
I am not an accountant or a lawyer! This article is not intended to incite you to take any action. THIS ARTICLE IS FOR INFORMATIONAL PURPOSES ONLY! Do your own research, and make an informed decision.
Posted on April 17, 2014 September 14, 2018
Posted on April 14, 2014 September 14, 2018
Posted on April 10, 2014 September 14, 2018
Tax planning is highly dependent on where you live, but there are general strategies that apply to tax systems in many countries. Please check with the tax code that applies to you – there may be more than one. The mindset surrounding taxes is important in understanding what the motivation behind a tax is. Taxes should be treated as the ongoing cost of making money. They should always be accounted for prior to making an investment, taking on employment or forming a business. It is not what you earn in revenue that matters, it is what you get to keep net of all expenses – and this includes taxes. If you think in this format, you will know what to expect from your tax situation, and you will know if the activity you are undertaking is worthwhile. Going to work should also be viewed this way. Take note of how much money you get to keep after taxes. If you are getting a promotion, or choosing between two jobs, the one with the most income after all taxes and expenses should be the one you choose. This assumes that everything else about the two choices is the same, which is very rarely the case. The purpose of the prior statement is to raise awareness of strategic thinking when it comes to taxes. If you are going to take a contract job or run a business versus salaried employment, these choices become more important. The next paragraphs outline general concepts that would apply to most situations because they are fundamental to how a tax system is constructed.
You will notice that taxes are always filed in annual periods, or quarterly periods if you report or pay quarterly. Notice as well that the more money you earn, the higher the percentage of tax you pay on that extra money you earn. This is what is called a “progressive tax system” which is how the Canadian tax code is constructed. If tax rates are flat over all incomes, meaning that the percentage of taxes paid are the same regardless of how much money you earn, this strategy would not apply in the same way. In a progressive system, timing is important because if you claim $100,000 in income in a single year, you will pay more taxes than claiming $100,000 in income spread over 2 years. If you have an option to claim income over more tax periods, you will pay fewer tax dollars.
Are you getting a tax refund? Using the idea of the annual period, whatever is deducted throughout the year is then matched with a calculation that is done at the end of the tax period. If you paid more throughout the period than you are required to pay, you would get a refund. If you pay less than the amount required, you would have to pay an additional payment when the end of the period arrives. If you are deducting a lot of taxes in advance, you would tend to get a refund. The downside is that you are not earning interest on the money. Interest rates are very low now, so this may not be worth thinking about, but as rates rise, giving the government money in advance will be more expensive. If you are a savvy investor, and you can invest these taxes for a portion of the year before remitting them to the government, this is income you would not have otherwise been able to generate. If you are paying an additional payment at the end of the year, you are holding onto your money longer. Other factors to consider on this topic are whether paying a larger tax payment at the end of the tax year is disruptive to your cash flow. If you are borrowing money to pay your taxes, this is an additional cost which is over and above your required tax payment.
Registered Retirement Savings Plans and related accounts like the RESPs and RRIFs are tax timing vehicles. You would get a tax deduction upfront and pay taxes later – in the year that you take money out of the tax shelter. Keep in mind that your tax situation when you put money into the tax shelter can be different than when you take money out. The tax code itself may also be different at both times. This is hard to plan for, but it is usually assumed that taxes will rise as time goes by. The ideal scenario is to contribute to an RRSP when your income is at its highest, and withdraw it when your income is at its lowest. This would translate into the biggest deduction upon deposit, and smallest tax burden upon withdrawal. The frequency of your withdrawal can also affect how much taxes you pay within the tax year. The larger the lump sum withdrawals, the higher the rate of taxes charged upfront. When the tax year ends, the taxes payable will be adjusted to the same amount regardless of this initial deduction. Throughout the year however, you can either pay the tax man in advance, or pay the tax man more at year end. If you are able to generate return within the tax year, delay the tax payment as long as you can and generate that extra income.
Type of Income and Associated Risk is Important
The tax code in Canada generally looks at three types of income. These are income (working as an employee and interest earned on guaranteed securities fits here), dividends, and capital gains. These three buckets represent 3 different levels of risk, and so there are 3 different sets of rules for each. Generally speaking, the more risk of loss that you have in creating this income, the less taxes you will pay, and the more likely it is that you can offset losses with your gains. Another aspect of these rules is that tax treatment of income is generally limited to the year in which it was earned. Once the year is over, you cannot revisit the taxes paid unless there is some error or recalculation due to a retroactive tax code adjustment. This concept is true for dividends as well. Once they are earned in a specific year, you generally cannot offset taxes in future years. With capital gains however, you are able to adjust past tax returns and future tax returns by carrying gains or losses to other years and “smoothing out” the amount of taxes paid over your lifetime. This is allowed because in order to incur capital gains, you will likely also incur capital losses, and by not allowing you to offset these losses, you are being taxed in an unbalanced way. The tax rate itself is highest for income, lower for dividends, and lower still for capital gains. Take note that these concepts hold true if you are talking about working and living in the same country. Once you get into foreign jurisdictions (like US dividends from US companies being paid to a Canadian), the rules may change. If you are affected by this situation, ask your tax preparer specifically about the situation you are in. As an example, if you are a Canadian being taxed on U.S. dividends, ask about the tax treatment in this specific situation. A U.S. resident earning that same dividend and in the same income scenario would be paying a different amount of taxes. Each pair of countries that are relevant to a situation (the country you are a resident or citizen of, and the country where the income is generated) are the countries I would inquire about. The situation will be different for each set of countries, and would apply if you earn income in more than two tax jurisdictions.
Federal and Provincial Taxes Are Important
In Canada, there are federal taxes and provincial taxes. The provincial taxes are calculated as a percentage of the federal taxes, so it is harder to predict the effect of these taxes in total. The best way to know how much taxes you are paying is to look at your historical tax returns and look at the entire amount paid in taxes. Other ways to prepare for this situation are to use tax calculators or ask your tax preparer to estimate the combined effect. People tend to look at the federal rates but underestimate that there is also a provincial tax rate on top of that. Related to this idea, as you lower your taxable income, you will lower your federal taxes payable, and your provincial taxes payable. If your income is high, the provincial taxes will go up at a faster rate in a scenario where the provincial tax rates are progressive.
If you are eligible for tax credits, use them as much as you can. These can change with every budget, and they sometimes expire – so an up to date source of tax information is highly advised here. Remember as well that governments issue tax credits to encourage investment in a sector, or change consumer buying patterns. When you see that the government is losing too much money from a credit, or the desired influence has largely been achieved, the credit will likely get modified or deleted. Make sure to look at the tax credit with respect to your whole tax situation. If you have to give up some other benefit to get the credit, or spend money you wouldn’t have otherwise spent, this credit may not be worthwhile. If you are spending money only to generate tax deductions because it is legal, examine whether you really need to spend this money. As an example, if you spend $100 to generate an expense, you will receive $30 in taxes back. If that $100 was not spent in the first place because you didn’t really need to spend it, you would keep $100 more. If you are spending $100 no matter what, and you are able to legally expense it, then you are saving that extra $30. Taxes should not drive your financial decisions for the most part, but they can take a situation that is generally neutral, and skew it to a desired outcome. As the person paying the taxes, you should consider whether you would make this transaction with and without the tax implications, and see which outcome works the best for you. This concept would apply to taxes in general, but especially to tax credits.
Tax Strategies Outside the Scope of the Tax Code
Be mindful of tax strategies that save taxes but are outside the scope of the tax code. These are not deemed illegal initially, but if they get too popular, the government may make an official statement that it does not recognize the tax strategy and it is therefore invalid. A good illustration of this scenario is the charity tax credits where people would give money to a charity and earn a greater return that what they contributed. The Canada Revenue Agency eventually shut down this idea as it was deemed abusive. Another example of this situation is the first years of the Tax Free Savings Account (TFSA). There were issues surrounding transfers between the TFSA and the RRSP, and since specific conditions were not stipulated in the tax code, these transfers were assumed to be legal. It turned out that people were charged taxes in hindsight, and the issue was resolved by modifying the TFSA rules at later years. The safest thing to do in these cases is not to delve into these gray areas. If you believe in doing so, acknowledge that there risks and find a tax lawyer who has knowledge in the specific tax idea. Should you get audited or challenged in court, you will have the resources you need.
Running a Business and Taxes
Generally speaking, if you can operate a business versus working for an employer, having a business would allow you to deduct more expenses, and pay fewer taxes all else being equal. There are many implicit assumptions in this statement. The first one is that you can make the identical income at the same time frequency as working as an employee. If you don’t think you can generate income consistently, it may not be worth to have a business. The truth is that business income tends to be lumpy and unpredictable. The second one is the deductions. Small businesses pay fewer deductions and less EI, but would pay more in CPP. Insurance may cost more as well if you choose to have it as a business versus being an employee, since the employer subsidizes the insurance costs. Within this point is the assumption that you are running a business at home. Your home expenses would be partially deductible, leading to less tax paid. If you run your business from another location, you will incur more expenses, and the tax situation may be better or worse depending on the net effect of your revenue and expenses. The third point of clarification is that there are different tax rules between being a contractor and a small business. Lastly, the type of business is important. It is fairly simple to be a sole proprietor, but to incorporate involves different costs and commitments. Yes, the corporate tax rate is generally lower than for individuals. However, corporations take more time to operate, have setup costs, legal costs and reporting costs that sole proprietors don’t have. Corporations would also have separate HST numbers which is another layer of record keeping over and above that of a sole proprietor. Keep in mind that complexity in general involves more time and effort as well. To incorporate for legal reasons or strategic reasons is a whole other matter. Professionals should be consulted before considering forming a corporation.
Posted on April 6, 2014 September 14, 2018
– the beneficiary resident’s shareholding comprises at least 25%, in value or number, of stock capital or voting rights, while for partnerships at least 25% of the initial capital.
Posted on April 3, 2014 September 14, 2018
It can be either a blessing or a curse to be appointed as the Personal Representative of an estate or Trustee of a trust (collectively a “Fiduciary”). One of the most over looked aspects of the job is the fact that the U.S. Government has a “general tax lien” on all estate and trust property when a decedent leaves assessed and unpaid taxes and a “special tax lien” for estate taxes on a decedent’s death. As a result, when advising a Fiduciary on the estate and trust administration process it is important to inform them that with the responsibility also comes the potential for personal liability.
On many occasions a Fiduciary may be placed into a position where assets passing outside the probate estate (life insurance, jointly held property, retirement accounts, and pension plans) or trust, over which they have no control, constitute a substantial portion of the assets (real property, stocks, cash, etc.) subject to estate taxation. Without the ability to direct or assume control of the assets the Fiduciary may have both a liquidity problem and lack of means to satisfy the estates tax (income or estate) obligation. For this reason alone, a Fiduciary should be very reluctant to distribute any funds to a beneficiary before all statute of limitation periods expire for the Internal Revenue Service (“IRS”) to assess a tax deficiency.
Internal Revenue Code (“IRC”) §6012(b) holds a Fiduciary responsible for filing the decedent’s final income and estate tax returns. IRC §6903(a) further establishes a Fiduciary’s responsibility for representing the estate in all tax matters upon filing the required Notice Concerning Fiduciary Relationship (IRS Form 56). Under IRC §6321, when the tax is not paid an IRS lien will spring into being. When an estate or trust possesses insufficient assets to pay all its debts, federal law requires the Fiduciary to first satisfy any federal tax deficiencies before any other debt (31 U.S.C. §3713 and IRC §2002).
A Fiduciary who fails to abide by this requirement will subject themselves to personally liability for the amount of the unpaid tax deficiency (31 U.S.C. §3713(b)). An exception arises when an individual has obtained an interest in the property that would prevail over the federal tax lien under IRC §6323 (United States v. Estate of Romani, 523 U.S. 517 (1998)). When there are insufficient estate or trust assets to pay a federal tax obligation, as a result of the Fiduciary’s actions, the IRS may collect the tax obligation directly from the Fiduciary without regard to transferee liability (United States v. Whitney, 654 F.2d 607 (9th Cir. 1981)). If the IRS determines a Fiduciary to be personally liable for the tax deficiency it will be required to follow normal deficiency procedures in assessing and collecting the tax (IRC §6212).
Under IRC §3713, a Fiduciary will be held personally liable for a federal tax liability if the following conditions precedent are satisfied: (I) the U.S. Government must have a claim for taxes; (ii) the Fiduciary must have: (a) knowledge of the government’s claim or be placed on inquiry notice of the claim, and (b) paid a “debt” of the decedent or distributed assets to a beneficiary; (iii) the “debt” or distribution must have been paid at a time when the estate or trust was insolvent or the distribution created the insolvency; and (iv) the IRS must have filed a timely assessment against the fiduciary personally (United States v. Coppola, 85 F.3d 1015 (2d Cir. 1996)). For purposes of IRC §3713, the term “debt” includes the payment of: (I) hospital and medical bills; (ii) unsecured creditors; (iii) state income and inheritance taxes (conflict between U.S. Blakeman, 750 F. Supp. 216, 224 (N.D. Tex. 1990) and In Re Schmuckler’s Estate, 296 N.Y. 2d 202, 58 Misc. 2d 418 (1968)); (iv) a beneficiary’s distributive share of an estate or trust; and (v) the satisfaction of an elective share. In contrast, the term “debt” specifically excludes the payment of: (I) a creditor with a security interest; (ii) funeral expenses (Rev. Rul. 80-112, 1980-1 C.B. 306); (iii) administration expenses (court costs and reasonable fiduciary and attorney compensation) (In Re Estate of Funk, 849 N.E.2d 366 (2006)); (iv) family allowance (Schwartz v. Commissioner, 560 F.2d 311 (8th Cir. 1977)); and (v) a “homestead” interest (Estate of lgoe v. IRS, 717 S.W. 2d 524 (Mo. 1986)).
In order to collect the federal tax deficiency the IRS possesses the option to either file a lawsuit against the Fiduciary in federal district court, pursuant to IRC. §7402(a), or issue a notice of fiduciary liability under IRC § 6901(a)(1)(B and commence collection efforts. The statute of limitations for issuing a notice of fiduciary liability is the later of one year after the fiduciary liability arises or the expiration of the statute of limitations for collecting the underlying tax liability (IRC § 6901(c)(3)).
Before collection efforts can be started the IRS must first establish that the decedent’s estate or trust is insolvent (debts exceed the fair market value of assets) or possesses insufficient assets to pay the outstanding tax liability. “Insolvency” can only be established when the estate or trust possesses insufficient assets under the Fiduciary’s custody and control to satisfy the tax liability. With regard to non-probate or trust assets included in a decedents gross estate, IRC §2206-2207B empowers a Fiduciary to obtain from the beneficiary the portion of the estate tax attributable to those assets.
While the IRS may pursue collection of an estate tax deficiency from the beneficiaries, the Fiduciary will only retain a right of subrogation if the IRS elects to pursue collection of the tax deficiency against them. Under IRC §6324, the IRS may seek collection of the federal tax deficiency from the Fiduciary in possession of the assets on which the tax applied, not to exceed the value of the assets transferred to any beneficiary. However, if the Fiduciary had no knowledge of the debt, they will not be liable for more than the amount distributed to the beneficiaries or other creditors, or for taxes discovered subsequent to any distributions (Rev. Rul. 66-43, 1966-1 C.B. 291). Regardless of the circumstances, a Fiduciary’s failure to file a federal tax return will subject them to personal liability for the unpaid tax.
The burden of proof will then rest with the Fiduciary to prove their lack of knowledge of the unpaid tax (U.S. v. Bartlett, 2002-1 USTC ¶60,429. (C.D. Ill. 2002)). Once this element is established the burden will shift back to the IRS (Villes v. Comr., 233 F.2d 376 (6th Cir. 1956); Estate of Frost v. Commissioner, T.C. Memo. 1993-94). If the liability pertains to income or gift taxes relating to years before the decedent’s death, a court may require the Fiduciary to have actual or constructive knowledge of the liability before holding them personally liable for the unpaid tax (U.S. v. Coppola, 85 F.3d 1015 (2d Cir. 1996)).
Under IRC §6901 and §6501 the statutory period for assessing personal liability against a Fiduciary tracks the same as the underlying tax. The limitation period is: (I) three years from the date of a tax returns filing or the date the tax return is due (if filed early); (ii) six years if there is a substantial omission (25% or more) of gross income, gift or estate assets; or (iii) no limit if the IRS can prove fraud. Under IRC §6502(a), once the IRS makes a tax assessment it has ten (10) years to collect the tax.
A Fiduciary may only make a partial distribution to beneficiaries or creditors without concern of personal liability for estate tax deficiencies if sufficient assets are retained to pay all tax liabilities (including potential interest and penalties).
The first step requires the Fiduciary to file IRS Form 4506, Request for Copy or Transcript of Tax Form, with the IRS. The response received from the IRS will educate the Fiduciary as to which tax returns (income, gift, etc.), if any, were filed by the decedent prior to his or her death. The request should include the Fiduciary’s letters of administration, if applicable, and a Power of Attorney (IRS Form 2848).
To expedite the process, IRC § 6501(d) authorizes a Fiduciary to file IRS Form 4810, Request for Prompt Assessment, to request a prompt assessment and review of all tax returns filed by the decedent with the IRS. The Form 4810 must detail the following: (I) type of tax; (ii) tax periods covered; (iii) name, social security or EIN on each return; (iv) date the returns were filed; and (v) letters of administration or comparable authority to act on behalf of the estate or trust. Filing Form 4810 will shorten the statute of limitations period for the tax return from three years from the date of filing or due date of the return to eighteen (18) months from the date of its filing with the IRS. It is important to note that the shortened statute of limitations period will not apply to: (I) fraudulent tax returns; (ii) unfiled tax returns (IRC §6501(c)); (iii) any tax return with “substantial omissions” (IRC §6501(e)); or (iv) any tax assessment described in IRC §6501(c).
Once the decedent’s federal income tax return(s) has been filed with the IRS the Fiduciary may file a written application requesting release from personal liability for income and gift taxes. The IRS will then be limited to nine (9) months (the “notification period”) to notify the Fiduciary of any tax due. Under IRC §6905, upon expiration of the notification period, the Fiduciary will be discharged from personal liability for any tax deficiency thereafter found to be due and owing. The application should be filed with the IRS officer with whom the estate tax return was filed (or, if no estate tax return was required, to the IRS office where the decedent’s final income tax return was filed).
A Fiduciary administering an insolvent estate or trust may also consider filing, pursuant to 28 U.S.C. §2410(a), a federal district court quiet title action against the U.S. Government. The District Court will only have jurisdiction to address procedural challenges and not the underlying IRS tax liability (Walker v. U.S. (N.J. 2-29-2008) and Robinson v. United States, 920 F.2d 1157 (3d Cir. 1990)). In Estate of Johnson v. U.S., 836 F.2d. 940 (5th Cir. 1988), a Texas fiduciary argued that he had a right to a quiet title action to determine if administration and funeral expenses had priority over federal tax liens. However, the Fiduciary should be cognizant that any quiet title court order may not protect them from an IRS assertion of personal liability under §3713(b).
IRC §2204 authorizes a Fiduciary to submit a written request for discharge from personal liability from the federal estate tax. The IRS has nine months from the filing of the request, when filed after the estate tax return, to notify the Fiduciary of any estate tax due. Upon payment of the tax (the IRS will issue form 7990) and expiration of the nine-month period the Fiduciary will be discharged from personal liability for any estate tax deficiency. It is important to recognize that IRC §2204 only discharges the Fiduciary from personal liability and will not shorten the time for assessment of tax against the estate or any transferee of estate assets.
IRC §6903 provides that a judicial discharge is insufficient to relieve a Fiduciary of subsequent estate tax liabilities. Only the filing of IRS Form 56, Notice Concerning Fiduciary Relationship, informing the IRS of judicial discharge or other legal termination will terminate the Fiduciary duties. As a protective measure, most Fiduciary’s require beneficiaries to enter into separate agreements guaranteeing indemnification for any subsequent tax deficiencies in exchange for the distribution of the estate or trust’s assets to them.
IRC §6905 provides the method for a Fiduciary to be discharged from personal liability for income and gift taxes of a decedent. The Fiduciary will be required to make written application (filed after the tax return with respect to such tax is made) on IRS Form 5495 for release from personal liability. Upon payment of the tax or expiration of a nine-month period (if no notification is made by the Secretary during this period) after delivery of the application for release the Fiduciary will be: (I) discharged from personal liability for any deficiency in such tax thereafter found to be due; and (ii) entitled to a written acknowledgment (IRS Form 7990A for gift taxes) of such discharge.
Estate and Trust Taxes:
Every estate and trust beneficiary (heir, legatee, and devisee) must be appraised of their potential for personal liability for unpaid estate taxes under IRC §6901(a)(1) (probate estate) and §6324(a)(2) (non-probate assets included in the decedent’s gross taxable estate). Pursuant to IRC §6901, the liability of a transferee is similar to that of the transferor under §3713. A beneficiary’s transferee liability will be limited to the value of assets transferred to them (Commissioner v. Henderson’s Estate, 147 F.2d 619 (5th Cir. 1945)).
Under IRC §2501, a donor (party making a gift) will bear primary responsibility for paying any tax liability associated with a gift. This will not preclude a donee, under IRC §6324, from being held liable for the applicable gift tax. Transferee liability will hold the donee personally liable for the applicable gift tax (the donor’s tax deficiency), up to the value of the gift, even if the gift received did not contribute to the unpaid gift tax liability (U.S. v. Botefuhr, 309 F.3d 1263 (10th Cir. 2002).
IRC § 6324 further provides that the tax lien shall remain in place for ten-years from the date the gifts are made. The liability will immediately arise once the donor fails to pay the applicable gift tax (Poinier v. Commissioner, 858 F.2d 917 (3d Cir. 1988)).
Under state law, a claim for federal taxes (income, estate or gift) will not be subject to state probate statutes or the requirement that a creditor claim be filed in probate proceedings (U.S. v. Stevenson, 2001-2 USTC 50,371 (M.D. Fla. 2001)). The IRS can provide notice of the tax liability to the fiduciary by sending Form 10492. The federal tax obligation will then receive preference over all other claims against and obligations (state inheritance taxes, and other expenses) of an estate (Rev. Rul. 79-310, 1979-2 C.B. 404). As a result, even if the IRS fails to file a claim against an estate, the Fiduciary should actively assert the U.S. Government’s priority under IRC §3713.
State probate statutes may be utilized to protect a Fiduciary by limiting the circumstances under which they will be required to either pay or deliver a devise or distributive share to a beneficiary. In Florida, the limitations include: (I) not earlier than five (5) months after the granting of letters of administration; and (ii) compelled, prior to final distribution, to pay a devise in money, deliver specific personal property, unless the personal property is exempt personal property. Even then, unless the beneficiary establishes that the assets will not be required for the payment of estate and inheritance tax, a claim (debts, elective share, expenses of administration, etc.), provide funds for contribution, or to enforce equalization in case of advancements. If the administration of the estate is not completed before the entry of an order of partial distribution (devise, family allowance, or elective share) a court may require the beneficiary to post a bond with sureties and require them to make contribution, plus interest, if it is later determined that there are insufficient assets.
Federal tax law, accept as provided under IRC §6334, Property Exempt from Levy, will preempt state exempt property statutes and constitutional homestead protection laws. The preemption will allow the IRS to impose a federal tax lien or levy on personal assets of an estate or trust for collection (In Re Garcia, 1D02-0279 (Fla. App. 5 Dist. 2002) or homestead property (Busby v. IRS, 79 A.F.T.R. 2d 97-1493 (S.D. Fla. 1997)).
IRC Section 6331 permits the United States to collect taxes of a delinquent taxpayer by levy on all property and rights to property unless exempt under section IRC §6334. IRC §6334 specifically provides that a “principal residence shall not be exempt from levy if a judge or magistrate of a district court of the United States approves in writing) the levy of such residence.”
Under Florida law, a Fiduciary is also obligated to notify the county property appraiser of a decedent’s death and their property’s ineligibility for the homestead tax exemption. F.S. §193.155(9) provides that a Fiduciary’s failure could result in the assessment of penalties and interest. In addition, if the property was not entitled to a homestead property tax exemption, the statute provides for the imposition of: (I) a lien against the real property; and (ii) imposition of taxes, interest, and a penalty equal to fifty (50%) percent of the unpaid taxes resulting from the incorrect classification.