March 10, 2010
AGENDA
I.Welcome and Introduction
II.LMSB 2010 Priorities
III.Announcement 2010-9
Announcement 2010-9 represents the latest step in the IRS’s continuing effort better identify transactions and areas of risk that should be the focus of its examination resources. In line with Forms 8275, M-3, and 8886, it is designed to assist the IRS expend its resources examining – rather than searching for – transactions. TEI is in the process of preparing written comments on Announcement 2010-9, but we welcome the opportunity to discuss the Announcement and in particular, the following:
- Effective date
- Materiality threshold
- Unknowable amounts – valuations, transfer prices, etc.
- Permanent v. Temporary Differences
- Current year v. cumulative
IV.Examination-Related Matters
a.Industry Issue Focus Strategy (Tiering)
The industry issue focus strategy (more commonly known as tiering) has been in place for almost three years; its stated objective has been to try and achieve consistent treatment in the development and resolution of strategically important issues. Recent examples of issues that have been designated as Tier I issues include Total Return Swaps, Research Credit Claims, Repairs, and Withholding Taxes.
As the program approaches its three year-anniversary, what is the IRS’s overall assessment of the IIF/Tiering program, in particular, its effect on audit currency, issue resolution and case closure, especially in respect of CIC and CAP taxpayers? What improvements are being contemplated to further enhance the program?
b.Partnerships and Pass-Through Entities Examinations
The number of pass-through returns (Subchapter S and Partnership) being filed continues to rise. Recent FY09 data indicate that more than three million partnership returns and more than four million Subchapter S returns were filed with the IRS. LMSB Commissioner Maloy has recently commented that the LMSB has moved audit resources in the direction of passthroughs and will continue to do so in 2010. What are the scope and direction of the IRS’s renewed enforcement efforts in this area?
c.International Examination Program Update
International tax compliance matters occupy an ever-increasing piece of the overall LMSB agenda. Recently, the IRS announced its intention to add 1,500 international specialists by the end of 2010 as well as to expand its team of transfer pricing experts. Among the new enforcement strategies being discussed is the development and implementation of joint, country-to-country audits. We would welcome an update on the status of those efforts.
d.Competent Authority
The volume of competent authority cases continues to rise (FY09 – 724 v. FY08 – 578) as does case processing time (FY09 – 722 days v. FY08 - 649 days). What steps are being taken to help ameliorate this situation, including the allocation of additional resources? What progress has been made with any of the more challenging jurisdictions?
V.Regulatory Issues
a.Debt/Equity Classification
Rev. Proc. 2010-3, 2010-1 I.R.B. 110, updates the IRS’s annual “no ruling” revenue procedure. Section 4.02(1) states that there “may be instances where IRS will rule on whether an instrument issued by a domestic corporation is classified as stock or indebtedness.” Specifically, the IRS may “issue a letter ruling with respect to an instrument issued by a domestic corporation if (1) the taxpayer believes that the facts strongly support the classification of an instrument as stock and (2) the taxpayer can demonstrate compelling reasons to justify the issuance of a letter ruling.” (Emphasis added.)
TEI applauds Chief Counsel’s decision to issue rulings on the character of corporate instruments. We recommend that the policy be expanded to include the characterization of instruments as debt. Providing rulings to increase the certainty of characterization of instruments will minimize the frequency and scope of disputes and also permit the IRS to redirect scarce audit resources.1 We also recommend that the guidance be expanded to foreign corporate instruments and equity instruments issued by a partnership.
Finally, we note that a number of countries have adopted safe harbor guidelines prescribing the amount of permissible debt and equity in order to minimize disputes about thin capitalization. If the change in ruling policy affords the government sufficient experience to develop guidance on the indicia of equity and debt instruments, would the IRS or Treasury consider prescribing a safe harbor, debt-equity ratio, e.g., three to one, for non-financial institutions? In addition to definitional issues arising under section 385, (1) are there specific issues of concern to the IRS that TEI should consider before advancing a proposal for establishing a debt-equity safe harbor, and (2) would the IRS and Treasury be receptive to issuing safe harbor guidance?
b.Gain Recognition Agreements
Three years ago, the IRS issued Field Attorney Advice [FAA] 20074901F, which held that the taxpayer failed to comply with a material requirement of a gain recognition agreement (GRA) because the agreement failed to show the correct fair market values of certain assets; the taxpayer had recorded the basis of the assets as the fair market value (FMV).
Pursuant to IRC section 367, a transfer will not be treated as a taxable exchange if, under all the facts and circumstances, the taxpayer's “failure to comply in any material respect” with the regulatory requirements is due to reasonable cause and not willful neglect. No reasonable cause was found for the error, thus triggering gain recognition. Further, in February 2009, the IRS stated that agreement in a GRA to provide any required information “upon request” would be considered as failing to comply with the GRA regulations.
Coordinated industry case (CIC) taxpayers have generally been permitted to provide the information upon audit. Because FAA 20074901F does not state whether the taxpayer is in the CIC program, it is uncertain whether the application of the reasonable cause exception in this context represents a change in position.
TEI understands that FAA 20074901F has triggered numerous refilings in respect of GRA information omissions that, although not on the face of the GRA, were included in related reorganization statements. In order to avoid a deluge of GRA reasonable cause requests, would the IRS consider an expedited voluntary compliance program for certain kinds of “omissions” that would eliminate the need for refiling?
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1 This would be especially so when addressing deferred payment obligations with original issue discount, such as those at issue in the recently dismissed case of GlaxoSmithKline Holdings (Americas) v. Commissioner of Internal Revenue, United States Tax Court Docket No. 18940-08.