IRS Updates Guidelines for Substitute Wage Forms

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March 29, 2016

The IRS released Revenue Procedure 2016-20 to update IRS and Social Security Administration guidelines for employers issuing substitute Forms W-2c, Corrected Wage and Tax Statements, and W-3c, Transmittal of Corrected Wage and Tax Statements. These guidelines assist employers with filing electronically; filing “red-ink” and “black-and-white” versions of Copy A of Form W-2c; and furnishing substitute privately printed versions of Copies B, C, and 2 of Form W-2c to employees. The guidance also provides rules regarding retention of both information and copies.

Revenue Procedure 2016-20 supersedes Revenue Procedure 2014-56, and several changes have been made. Although most of these changes are minor, one important change is the updated address for SSA inquiries about substitute black-and-white Forms W-2c Copy A and W-3c Copy A, which is now:

Social Security Administration Direction Operations Center
Attn: Substitute Black-and-White Copy A Forms, Room 341
1150 E. Mountain Drive
Wilkes-Barre, PA 18702-7997

OECD Seeks Additional Proposals on Treaty Benefits for Non-CIV Funds

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March 25, 2016

On March 24, 2016, the Organization for Economic Co-operation and Development (OECD) issued a consultation document soliciting public comments regarding treaty entitlement of non-collective investment vehicle (non-CIV) funds. While collective investment vehicle funds are defined under the 2010 OECD Report and are entitled to treaty benefits subject to specific rules, commenters have sought treaty benefits for non-CIVs, which have yet to be defined.

The consultation document states that the OECD will continue to examine policy considerations regarding treaty entitlement of non-CIV funds. Further, the OECD plans to address two key concerns of OECD members about granting treaty benefits with respect to non-CIV funds. In particular, these concerns are that non-CIV funds should not be used to obtain treaty benefits for investors not otherwise entitled to such benefits and that investors should not be able to defer recognition of income on treaty benefits that have been granted.

The consultation document also asks commenters to clarify how non-CIV funds work, e.g., what types of vehicles would be defined as non-CIV funds; whether these funds are able to determine the identities and tax-residences of the beneficial owners; what is the intermediary-level tax; and at what point would taxation occur. In particular, the consultation document focuses on proposals concerning the impact on non-CIV funds of new limitation on benefits (LOB) rules, the principal purpose test, anti-conduit rules, and special tax regimes. Regarding the LOB rules, the document raised questions to commenters’ requests that: (a) treaty benefits be granted to regulated and/or widely-held non-CIV funds; (b) non-CIV funds be allowed to elect treatment as fiscally transparent entities for treaty purposes; (c) certain non-CIV funds be granted treaty benefits where a large proportion of the investors would be entitled to the same or better benefits; (d) the LOB rules not deny benefits to a non-CIV resident of a State with which the non-CIV has a sufficiently substantial connection; and (e) a “Global Streamed Fund” regime be adopted.

Fundamental objectives of the OECD include combating international tax avoidance and evasion by preventing multinationals from artificially shifting profits to low or no-tax jurisdictions and developing and encouraging the promulgation of clear guidance that identifies which country’s tax should apply under particular arrangements. The OECD’s analysis of how non-CIV funds should be taxed is part and parcel of this core mission.

IRS Tax Study Intended to Guide Future Audits Nears Completion

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March 25, 2016

The IRS expects to soon conclude its study of 6,000 audits that was aimed at identifying problem industries that show a history of noncompliance with certain tax and reporting rules, including worker classification, the accountable plan rules, and the fringe benefit rules. At an American Payroll Association conference on March 21, John Tuzynski, the IRS’s director of Technical Services in Exam, said that the results will likely be published in early 2017.

The results should help the IRS focus its increasingly limited resources on industries and issues that produce the most violations, as the IRS plans to use them to inform examination decisions. Currently, the IRS is relying on the results of a study conducted in the mid-1980s, so the new data provides a much-needed update and, depending on the results, could result in a significant shift in decision-making with respect to examinations and compliance programs. Although decisions are currently made based largely on anecdotal evidence, the IRS seeks to become more calculated going forward and target the industries proven to produce significant rates of noncompliance.

It is no secret that the IRS expends a disproportionate amount of its enforcement resources auditing the same large businesses year after year while largely ignoring small and mid-size businesses on the theory that audits of larger taxpayers result in larger assessments. The practical problem with this approach is the development of a lack of evenness with respect to compliance, which suggests unfairness in the enforcement process. Perhaps the research program undertaken by the Service with respect to these 6,000 audits, which began approximately seven years ago, will result in a more even distribution of enforcement resources and a more broad-based focus on compliance from all taxpayers rather than pursuing past practices in a wooden fashion.

Proposed Regulations on Country-by-Country Reporting Raises Concerns for ABA

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March 24, 2016

On March 23, 2016, the American Bar Association (ABA) Section of Taxation commented on proposed Treasury regulations requiring country-by-country (CbC) reporting by U.S. persons that are the ultimate parent entity of a multinational enterprise (MNE) group with annual revenue of $850 million or more in the preceding accounting year.  Issued in December 2015, Proposed Regulation § 1.6038-4 would require these U.S. persons to file annual reports containing information on a CbC basis of a MNE group’s income, taxes paid, and certain indicators of the location of economic activity.

The United States, through bilateral agreements with other tax jurisdictions, may exchange U.S. CbC reports with those tax jurisdictions in which the U.S. MNE group operates. Every information exchange agreement to which the United States is a party requires both parties to treat the information as confidential, implement data safeguards, and use the information only for tax administration purposes. The United States will stop automatic exchange with tax jurisdictions violating those requirements until the violations are cured.

Aimed at combating tax base erosion and international profit shifting, the proposed regulation will give the IRS greater transparency into the operations and tax positions taken by U.S. MNE groups. While the information in a CbC report will not itself constitute conclusive evidence of federal income tax or transfer pricing violations, they may form the basis for the IRS’s further inquiries into transfer pricing practices or other tax matters.

Members of the ABA Taxation Section, while generally supportive of the proposed regulations, urged the IRS to implement changes and provide clarification. Section members expressed concern that the delay of the U.S. effective date to mid-2016 “will cause hardships for U.S. companies because they will be required to submit CbC reports directly to foreign tax authorities for fiscal year 2016 with the concomitant problems of multiple filings and potentially weaker data confidentiality protections.” Further, a mid-year effective date would cause reporting issues for calendar year-end U.S. MNEs with foreign constituents having a 2016 accounting year that begins before the publication date of the final regulations and carries over into 2017.

Regarding the timing and manner of filing reports, section members urged the IRS to allow MNEs (a) to file within a 12-month period after the end of the accounting period to which the report relates, rather than impose an accelerated deadline; and (b) to use mix-source data to generate their CbC reports. Section members also asked the IRS to issue tie-breaker rules for residency determinations, clarify the meaning of “tax jurisdiction of residence” for purposes of determining territorial income, and clarify how partnerships are treated under the $850 million threshold.

Need for Increased Understanding of Multinational Corporate Structures Leads to Electronic Country-by-Country Reporting

In order to increase understanding of the ways in which multinational corporations structure their operations, the Organization for Economic Co-Operation and Development (OECD) will require jurisdictions to exchange such information in a standardized format beginning in 2018.  Specifically, multinational corporations must report revenue, profit or loss, capital and accumulated earnings, and number of employees for each country in which they operate.  Each jurisdiction’s tax administration uses these reports to identify the bases of economic activity for each of these companies, with the goal being to limit tax base erosion and profit shifting.  The tax administrations then exchange the reports, a process that the OECD hopes to streamline through use of this standardized format.

The new reporting template, named the “CbC XML Schema,” applies to corporations with annual consolidated revenue of at least €750 million (US$842 million) in the immediately preceding fiscal year.  The template will apply to all countries that have adopted the multilateral competent authority agreement (MCAA) on the exchange of country-by-country reports, which currently includes thirty-two countries.  Notably, the United States has not signed the agreement, but it intends to implement country-by-country reporting through bilateral agreements.  Although the primary purpose of the reports will be inter-jurisdictional, corporations may also rely on the report for domestic reporting purposes, so long as the report is mandated domestically.

ACA Filing Update: AIR Program, Penalties and Corrections

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March 22, 2016

According to recent comments from IRS staff, the launch of the Affordable Care Act Information Returns (AIR) program for electronic filing of ACA-related forms (Forms 1095-B and -C and Forms 1094-B and -C) has been successful.  On March 22, Melodye Mitchell, Chief of Modernized e-File Development Services at the IRS Wage and Investment Division, said that the AIR program has received several million ACA-related forms for the 2015 tax year and has rejected less than two percent of them.  The low rejection rate is good news for practitioners and filers who have been concerned that the system would reject entire filings due to errors based on IRS comments.

With perhaps 100 million total returns expected to be filed and most forms required to be filed electronically, the AIR program should see millions of additional forms filed over the next few months.  Notice 2016-4 extended the deadline for employers and health insurers to file 2015 Forms 1095-B and 1095-C with the IRS until June 30 through the AIR program.  An earlier deadline applied for very small filers that are permitted to file paper returns with the IRS.  Copies of the forms are required to be provided to employees and insured individuals no later than March 31 of this year, rather than the standard deadline of January 31 for furnishing such returns.

The ACA-related forms—the first filed for most employers and insurers—will likely contain many errors.  Under the Internal Revenue Code, ACA-related information reporting is subject to the general penalties for failure to (1) furnish correct copies to employees and insured individuals or (2) file correct information returns with the IRS.  However, the Notice 2016-4 provided “good faith relief” from these penalties to filers that make a “good faith effort to comply” with the requirements and “act[] in a responsible manner” if “the failure is due to significant mitigating factors or events beyond the reporting entity’s control.”  This relief only applies to incorrect or incomplete—rather than late—furnishing or filing of information.  In the absence of relief, the penalty for each incorrect statement or information return is $260 and up to $3,178,500 for each type of failure for taxpayers with over $5 million in average annual gross receipts over the last three taxable years.  Reduced penalties may apply if errors are corrected before certain deadlines.

To ensure eligibility for the good-faith relief, a filer should ensure that it acts in a responsible manner.  That includes correcting errors within a reasonable period of time after discovering that the information reported on a return was incorrect (corrections must be filed within 30 days).  Importantly, if subsequent events, such as a retroactive enrollment or change in coverage make the information reported on Form 1095-B or -C incorrect, the filer has an affirmative obligation to correct the return even though it was correct when initially filed.

Canadian Government Expresses Support for FATCA Despite Concerns

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March 22, 2016

Canadian politicians have been at odds over enforcement of the United States-Canada Intergovernmental Agreement (IGA), an agreement providing for the exchange of FATCA-related information, as some assert that the information exchange obligations arising from the IGA violate privacy rights of Canadian citizens.  However, recently elected Liberal Party leaders, who previously voiced these concerns regarding the IGA, now support its enforcement and insist that all FATCA-related information exchanges will fully comply with Canadian privacy rights.

One Canadian organization has gone so far as to challenge the constitutionality of the IGA, asserting that it violated the Canadian Charter of Rights and Freedoms, but the Federal Court of Canada upheld the IGA, leading to the first transfer of FATCA-related information in September 2015.  However, Democratic Party leaders in the Canadian Parliament have not backed down, as evidenced by one member requesting discussion of the IGA among the Standing Committee on Access to Information, Privacy and Ethics.  Although these efforts may cast some doubt on the future of enforcement efforts in Canada, the new government’s support and insistence on privacy compliance suggest that enforcement of the IGA will, for now, continue uninterrupted.

Court Allows Foreclosure of Delinquent Taxpayer’s Home and Business Property for Employment Tax Liability

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March 18, 2016

The U.S. District Court for the District of New Mexico recently held that the government is entitled to foreclose federal tax liens against a delinquent taxpayer’s home and business property, even though the taxpayer’s wife may be a joint owner. In United States v. Fields, Samuel Fields, the sole proprietor of a dry cleaner business, owed $211,855.80 in employment and unemployment taxes from 1993 to 2009. The IRS had made assessments against Fields starting in 1995. In 2005, for no consideration, Fields executed deeds to his two real properties – his home residence and business property – located in New Mexico, stating that he and his wife were joint owners. The U.S. Department of Justice sought partial summary judgment against Fields personally and to foreclose its federal tax liens against his home and business property.

The key issue was whether the federal tax liens were superior to the wife’s interests in the properties. Under Internal Revenue Code Sections 6321 and 6322, if a person fails to pay federal taxes owed, on the day the taxes are assessed a statutory tax lien arises and attaches to all property rights owned by the person. Further, the tax liens will also defeat a third party’s interest in the property unless that third party is a certain secured interest holder, a judgment lien creditor, or a purchaser. While priority of federal tax liens is determined by federal law, property interests are determined under state law – New Mexico law, in this case.

The court held that the tax liens arising from assessments made before Fields executed the deeds encumber and are superior to the property interests of both Fields and his wife. But the tax liens arising from assessments made after Fields executed the deeds, as a matter of law, only encumber and are superior to Fields’ interests in half of the value of each property. Although the United States may ultimately be entitled to the full value of each property if the deeds were a fraudulent transfer under New Mexico law, this issue may involve a factual determination as to Fields’ intent, and so the United States did not include it in its motion for partial summary judgment. Thus, the court permitted the foreclosure, as Section 7403(c) allows district courts to order the sale of property subject to a federal tax lien regardless of homestead exemptions or other ownership interests.

This case is part of the U.S. Department of Justice’s commitment to cracking down on employment tax violations.

New Zealand Releases Guidance Explaining Application of FATCA to Trusts

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March 10, 2016

The New Zealand Inland Revenue issued guidance notes explaining the application of FATCA to New Zealand trusts that maintain or hold financial accounts.  The nearly 40-page document explains cases where trusts should be treated as financial institutions, as well as the due diligence and reporting obligations of Reporting New Zealand Financial Institution “investment entity” trusts.  The guidance notes address four different types of trusts: unit trusts, family trusts, trading trusts, and charitable trusts.  Solicitors’ trust accounts will be addressed separately in upcoming guidance.  If the trust is deemed a Reporting New Zealand Financial Institution, then it must register with the IRS and will have FATCA reporting and due diligence obligations.

IRS Signals Intent to Scrutinize Foreign Payments

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March 10, 2016

The IRS intends to more closely scrutinize payments made to foreign corporations, as indicated by its creation of a new international LB&I “practice unit,” which will provide guidance for IRS auditors.  With respect to foreign corporations, auditors are instructed to focus significantly on whether FDAP income is paid to foreign corporations, and if it is, whether 30% withholding should apply under Chapter 3. Though the practice unit does not issue official pronouncements of law, its guidance to the field can provide taxpayers with valuable insights into issues of importance to the IRS.  Further, guidance issued by the new unit can help to educate taxpayers on the process auditors will use to analyze transactions.  The development of this new practice unit highlights the IRS’s focus on compliance with respect to outbound payments of U.S.-source income.  Taxpayers should ensure that they carefully consider the character and source of payments to determine whether withholding might apply under either Chapter 3 or Chapter 4 (FATCA) of the Code.  Failure to withhold as required subjects withholding agents to secondary liability for amounts that should have been withheld.

11th Circuit Decision Highlights the Disparity Between Regular IRS Appeals and Collection Appeals

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March 8, 2016

Although IRS Appeals personnel handle both traditional cases and collection due process (CDP) hearings, the two proceedings have vast practical differences for taxpayers. First, regular Appeals cases are conducted by Appeals Officers, who are well-versed in the law and legal authorities, whereas CDP hearings are conducted by Settlement Officers, who typically are former collection personnel that often lack the technical background of Appeals Officers. Although this difference is not critical in a case focusing solely on establishing a payment plan, it can be a significant issue if the case involves a dispute over substantive legal questions relating to the underlying tax dispute.

A recent opinion from the U.S. Court of Appeals for the Eleventh Circuit highlights the distinction between the two proceedings in a case of first impression in that circuit. In its opinion, the panel reversed the Tax Court on the issue of whether a preassessment hearing is required when a taxpayer timely protests a case involving trust fund recovery penalties but is subsequently afforded a CDP hearing. In Romano-Murphy v. Commissioner, the 11th Circuit reviewed the statute and regulations governing trust fund taxes, other applicable regulations, and the Internal Revenue Manual, and concluded that taxpayers who properly request preassessment hearings must be granted such hearings. This holding highlights the disparate opportunities available to a taxpayer in a traditional IRS Appeals hearing as compared to a CDP hearing.

Although the critical issue in Romano-Murphy is procedural in nature, the issue arose in the context of trust fund taxes. When an employer withholds federal income tax, Social Security tax, and Medicare tax on that income (known as “trust fund taxes”) but fails to deposit the withheld taxes, the Commissioner has several alternatives to collect those taxes. Section 6672(a) makes the responsible officers or employees personally liable for a penalty equal to the amount of the delinquent taxes, allowing the Commissioner to seek the tax from the individuals responsible for the collection and payment of withholding taxes on behalf of the organization, so long as the individuals willfully failed to properly pay.

The taxpayer in Romano-Murphy, Chief Operating Officer of a healthcare staffing company, was assessed nearly $350,000 in trust fund recovery penalties for her company’s failure to remit withheld taxes. The taxpayer timely and properly protested the assessment, providing all required information and identifying disputed issues, but the IRS failed to send her protest to IRS Appeals (no explanation for this failure was offered in the court’s opinion). Subsequently, the IRS served the taxpayer with a notice of intent to levy to collect the trust fund taxes, as well as a notice of federal tax lien filing. In response, the taxpayer challenged the levy and the lien in a request for a CDP hearing. At the CDP hearing, the Settlement Officer considered the taxpayer’s challenges and upheld the assessment in full. The taxpayer then challenged the CDP determination, including the legitimacy of the assessment in the Tax Court. In its decision, the Tax Court addressed the underlying liability and found the taxpayer liable for the taxes and essentially dismissed the taxpayer’s argument that she was entitled to a preassessment hearing before IRS Appeals before the assessment itself could be made.

The taxpayer’s sole argument in its appeal to the 11th Circuit was that the IRS denied her a preassessment hearing, which therefore invalidates the assessment. The IRS asserted that the absence of an explicit statutory requirement negated the need for a preassessment hearing, but the 11th Circuit panel looked to other statutory references, the regulations, the Internal Revenue Manual, and other relevant authorities to conclude that a regular IRS Appeals conference is indeed required on a preassessment basis when timely requested by the taxpayer. The court rejected the IRS’s argument that it may “simply ignore, disregard, or discard a taxpayer’s timely protest . . . if it so chooses” without establishing any rational criterion for doing so. The court went on to point out that were the IRS’s position correct, “the IRS could arbitrarily decide to shred one of every three . . . protests that arrive in the mail, or throw out all such protests received on Fridays, without any consequences whatsoever.”

In the alternative, and perhaps more importantly, the IRS argued harmless error on the grounds that the taxpayer’s challenges to the underlying tax were considered and rejected, just in the setting of a CDP hearing. Essentially, the IRS equated the opportunity afforded the taxpayer to present her case at the CDP hearing to the opportunity that she would have received at a preassessment Appeals hearing. The taxpayer argued that the denial of a preassessment conference prejudiced her because, for example, interest began accruing from the date of the assessment, the delay in hearing her claim kept her from being able to access for 18 months information that was only maintained on the IRS’s system, and the lien placed on her property harmed her credit. The court refused to rule on the issue of actual harm to the taxpayer but acknowledged that arguments exist on both sides. On one hand, it stated that the taxpayer was “not completely denied a right to be heard,” and thus her due process rights were not violated. But, the court also acknowledged the importance of enforcing procedures required by law that an agency failed to follow. The court vacated the judgment but remanded the case to the Tax Court to address whether the taxpayer was harmed by the error.

Although the 11th Circuit did not expressly address the vast differences between a taxpayer presenting its case in a preassessment Appeals hearing versus a CDP hearing, the differences in the qualifications between Appeals Officers and Settlement Officers cast a troubling shadow over the case due to the existence of substantive tax issues that require a higher degree of training, knowledge, and experience. As a result, whether a taxpayer presents its case at a preassessment Appeals hearing or a CDP hearing can significantly affect the outcome.

The court’s remand to the Tax Court will require the Tax Court to determine whether the IRS’s denial of a preassessment Appeals hearing that was ultimately held in a CDP hearing before a Settlement Officer years later caused sufficient harm to the taxpayer to warrant the invalidation of the assessment. If the taxpayer prevails, it appears that the statute of limitations may bar a reassessment by the IRS.

IRS to Receive Automatic Notice of Missed Employment Tax Payments

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March 7, 2016

As of September 2015, unpaid employment tax reported on voluntary returns amounted to $59 billion, a number the IRS hopes to decrease by preventing employers from accruing the substantial employment tax deficits currently plaguing the system. Darren Guillot, a director in the IRS Small Business/Self-Employed Division, announced that the IRS intends to take a more “proactive” approach to employment tax situations, part of which will involve an update to the Electronic Federal Tax Payment System (EFTPS) that will enable the system to alert the IRS within 2-3 days after an employer misses an employment tax deposit. This change serves as an improvement to the current system, which can take over three months to notify the IRS of missed employment tax. By that time, a business has often fallen into significant arrears.

Employers who fall behind on employment tax payments and are identified by the new alert system can expect outreach to begin December 2016. The outreach will at first come in various forms, as the IRS plans to examine which forms of outreach are most effective and which employers will react more favorably. From a practical perspective, this represents a much needed and proactive compliance move. Taxpayers that fall into a pattern of nonpayment for trust fund taxes (e.g., payroll taxes, backup withholding, withholding under Chapter 3 and Chapter 4 of the Code) often are using the withholdings to pay other creditors. When this happens, personnel known as “responsible persons” under the law may become personally liable for the nonpayment of tax. By delaying contact with taxpayers regarding the nature of severity of the situation, taxpayers and those responsible persons who make these decisions often create financial burdens from which they may never recover.

Tax Court Case Highlights Growing Problem of IRS Collection Activity before Taxes are Properly Assessed and Administrative Appeal Rights Exhausted

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March 5, 2016

A growing problem with the IRS’s administration of tax disputes involves the IRS initiating collection activity before it has either properly assessed the tax or before taxpayers have exhausted their administrative remedies. Generally, the IRS must observe certain procedural requirements before a tax or addition to tax is assessed against a taxpayer. Increasingly, however, the IRS has initiated collections against taxpayers before completing the assessment procedures or before the taxpayer has had the opportunity to exhaust its administrative remedies. This is particularly true with respect to certain employment tax liabilities and penalty assessments. It is important for taxpayers to avail themselves of their appeal rights timely to prevent erroneous and unsupportable assessments, which happen far more often than one would expect including against large employers.

The Tax Court recently addressed this issue in Hampton Software Development, LLC v. Commissioner. The Tax Court denied the Commissioner’s motion for summary judgment holding that a preassessment IRS Appeals conference held after the IRS issued a 30-day letter at the end of an employment tax audit did not constitute a “prior opportunity” for the taxpayer to dispute its underlying tax liability with respect to a Notice of Determination of Worker Classification (NDWC) that the taxpayer did not receive. Instead, the court held that a taxpayer will only be considered to have had a prior opportunity to dispute the underlying liability when the taxpayer actually receives the NWDC. Though this case arose in the context of worker classification, the procedures for challenging an NDWC apply in the same manner as if the NDWC were a notice of deficiency. Similar to a standard notice of deficiency in an income tax audit (as opposed to an employment tax audit, which are not within the jurisdiction of the Tax Court), section 7436 also provides for a 90-day period to file a petition in Tax Court challenging the IRS’s determination of worker classification during an IRS audit.

In this case, the taxpayer treated a maintenance worker as an independent contractor and issued Forms 1099-MISC. The IRS concluded on audit that the taxpayer should have treated the worker as an employee, thus underpaying its employment taxes for two tax years. The IRS issued a 30-day letter to the taxpayer advising the taxpayer of its right to request an IRS Appeals conference, and the taxpayer timely protested the audit findings and requested a conference with IRS Appeals. The taxpayer and the IRS Appeals Officer did not resolve the worker classification dispute, and the IRS subsequently sent an NWDC to the taxpayer by certified mail that the Postal Service was unable to deliver and returned to the IRS. Because the taxpayer was unaware of the NWDC, the taxpayer did not petition the Tax Court for redetermination of the worker classification dispute, and the IRS subsequently assessed the employment taxes and initiated collection activity by issuing a notice of levy.

Upon receiving the notice of levy, the taxpayer timely requested a collection due process (CDP) hearing before IRS Appeals. Although CDP hearings are conducted under the direction of IRS Appeals, they are not conducted by regular IRS Appeals Officers. Rather, Settlement Officers conduct CDP hearings. Generally, Settlement Officers are promoted from the ranks of Revenue Officers working for IRS Collections. Consequently, taxpayers seeking to make substantive legal challenges to an assessment in a CDP hearing can face an uphill battle. However, a taxpayer may seek judicial review of the Settlement Officer’s determination in the Tax Court if the taxpayer timely requests the CDP hearing within 30 days of the issuance of the CDP notice.

When the Settlement Officer conducted the CDP hearing in Hampton Software, the taxpayer disputed the underlying employment tax liabilities arising from the asserted misclassification of the worker, but the Settlement Officer refused to allow the taxpayer to dispute the underlying liabilities because it had previously disputed the same liabilities in a preassessment IRS Appeals conference. Soon thereafter, the Settlement Officer issued a notice of determination permitting collection activity to continue, and the taxpayer filed a Tax Court petition seeking review of the underlying employment tax liabilities.

In its motion for summary judgment, the Commissioner asserted that the taxpayer was precluded from disputing the underlying tax liabilities in the CDP hearing because it previously had an “opportunity to dispute” the underlying tax liabilities with IRS Appeals and because the IRS had issued an NWDC to the taxpayer. The Tax Court denied the Commissioner’s motion for summary judgment on both theories. With respect to the former, the court identified that the Commissioner’s argument deviated from its own regulations. In particular, the Section 6330 regulations regarding CDP hearings draw a distinction between taxes subject to the deficiency procedures and taxes not subject to the deficiency procedures. Taxes not subject to the deficiency procedures may not be challenged in a CDP hearing if the taxpayer had an opportunity to dispute the underlying liability either before or after the assessment of the tax. Conversely, the regulations provide that taxes subject to the deficiency procedures may be challenged in a CDP hearing if the taxpayer had an opportunity for a conference with IRS Appeals prior to assessment (but not a postassessment Appeals conference), meaning that in Hampton Software Development, the preassessment conference with IRS Appeals was not a “prior opportunity” for the taxpayer to be heard so the underlying liability could be raised in the Appeals conference.

Consequently, the court found that an NDWC is generally subject to the deficiency procedures, so the taxpayer was not precluded from later challenging the underlying liability in a CDP hearing, provided it did not have “actual receipt” of the NDWC. Had the taxpayer actually received the NDWC, it would have been able to petition the Tax Court within 90 days, so it would have been barred in any subsequent CDP hearing from contesting the substantive basis for the underlying liability. Because the taxpayer did not receive the NDWC and its Appeals conference was a preassessment conference, the taxpayer was not barred from raising substantive issues in its CDP hearing. The importance of actual receipt of the notice of deficiency is underscored by the requirement that the IRS send the notice by certified or registered mail. Absent evidence that the taxpayer deliberately refused delivery of the NDWC, the taxpayer’s claim that it did not receive the NDWC was sufficient to overcome the IRS’s motion for summary judgment. The Tax Court did not remand the case to the IRS Settlement Officer for further consideration. At this time, the taxpayer’s challenge has survived the Commissioner’s motion for summary judgment and presumably the Tax Court will review and rule upon the underlying worker classification dispute.

First Friday FATCA Update

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March 4, 2016

Recently, the Internal Revenue Service released the Model 1A Intergovernmental Agreement (IGA) entered into between the United States and Thailand.  The IRS also released the Competent Authority Agreement (CAA) between the United States and Colombia.  This CAA implements the Model 1A IGA the parties entered into on May 20, 2015.

In the past month, we have also addressed other recent FATCA developments:

  • The United States and Switzerland announced on March 1, 2016 that they have amended their CAA to exempt certain accounts maintained by lawyers and notaries (see previous coverage).
  • The IRS recently corrected Notice 2016-8 to reduce reporting burdens on foreign financial institutions (see previous coverage).
  • Two bankers associations filed a petition for certiorari seeking U.S. Supreme Court review of FATCA reporting requirements for foreign account holders (see previous coverage).

Under FATCA, IGAs come in two forms: Model 1 or Model 2.  Under a Model 1 IGA, the foreign treaty partner agrees to collect information of U.S. accountholders in foreign financial institutions (FFIs) operating within its jurisdiction and transmit the information to the IRS.  Model 1 IGAs are drafted as either reciprocal (Model 1A) agreements or nonreciprocal (Model 1B) agreements.  By contrast, Model 2 IGAs are issued in only a nonreciprocal format and require FFIs to report information directly to the IRS.

A CAA is a bilateral agreement between the United States and the treaty partner to clarify or interpret treaty provisions.  A CAA implementing an IGA typically establishes and prescribes the rules and procedures necessary to implement certain provisions in the IGA and the Tax Information Exchange Agreement, if applicable.  Specific topics include registration of the treaty partner’s financial institutions, time and manner of exchange of information, remediation and enforcement, confidentiality and data safeguards, and cost allocation.  Generally, a CAA becomes operative on the later of (1) the date the IGA enters into force, or (2) the date the CAA is signed by the competent authorities of the United States and the treaty partner.

The Treasury Department website publishes IGAs, and the IRS publishes their implementing CAAs.

United States and Switzerland Amend FATCA Competent Authority Agreement to Exempt Certain Accounts Maintained by Lawyers and Notaries

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March 3, 2016

The Swiss competent authority released an announcement on March 1, 2016, that a new clause was added to the U.S.-Switzerland FATCA international governmental agreement (IGA) to exclude certain accounts maintained by lawyers and notaries licensed in Switzerland for their clients from FATCA coverage. Only accounts that are held in connection with certain activities protected by law under professional confidentiality fall under the exception (generally custodial and depository accounts), as the purpose of the new clause is to ensure that Swiss law protects the confidentiality of lawyers and notaries and their clients. The accounts will also only be protected if the underlying assets are directly related to a legal matter; a list of such items is set forth in the addition to the U.S.-Switzerland FATCA agreement. If the lawyer or notary certifies in writing to the bank maintaining the account that it falls within the exception, the bank is not required to identify the clients involved with the account. This addition is permitted under Annex II of the FATCA IGA, which allows additional accounts, entities, or products to be added pursuant to an agreement between the competent authorities of each country.

The announcement also reaffirmed that negotiations on a new FATCA IGA are ongoing, as required by a Swiss federal government mandate issued October 8, 2014. The new agreement will be a Model 1 IGA, which comes with reciprocal automatic information exchange obligations between the United States and Switzerland, unlike the current Model 2 IGA. Under the new IGA, Swiss financial institutions will report to Swiss authorities on U.S. account holders rather than reporting directly to the IRS.

IRS Clarifies Notice 2016-8 to Reduce Reporting Burden on FFIs

The IRS recently corrected Notice 2016-8, previously released on January 19, 2016.  The notice announced that the IRS intended to modify several portions of the FATCA regulations to ease burdens on foreign financial institutions (FFIs), largely in response to practitioner comments and provided that taxpayers may rely on the notice until the regulations are amended.  The Notice was amended to clarify that the time allowed for a participating FFI or reporting Model 2 FFI to provide the preexisting account certification also requires a certification that the FFI did not maintain practices and procedures to assist account holders in the avoidance of Chapter 4 of the Code.  Second, the Notice was amended to remove a requirement in the regulations that obligated registered deemed-compliant FFIs that manage accounts of nonparticipating FFIs to provide transitional reporting to the IRS of all “foreign reportable amounts” paid to or with respect to the account.  The changes made to the FATCA regulations in Notice 2016-8 can now be summarized as follows:

1. Certain financial institutions will have more time to certify accounts, as the timing requirements are eased for certain reporting of participating FFIs, reporting Model 2 FFIs, and local FFIs or restricted funds.  Under current rules, participating FFIs and reporting Model 2 FFIs must certify that they did not have practices and procedures to assist account holders in the avoidance of Chapter 4 (“preexisting account certification”).  The preexisting account certification must be made no later than 60 days following the date that is two years after the effective date of the FFI agreement.  Additionally, financial institutions are required to periodically certify to the IRS that they have complied with the terms of the FFI agreement.  Notice 2016-8 delays the date by which such FFIs must furnish the preexisting account certification, stating that they need not furnish it until the date on which the first periodic certification is due.  Notice 2016-8 also delays the date on which the first periodic certification is due, making it due on or before the July 1 of the calendar year following the certification period.  These same changes are made with respect to reporting for registered deemed-compliant FFIs that are local FFIs or restricted funds, but the certification period date is also delayed to the later of the date the FFI registered as a certified deemed-compliant FFI or June 30, 2014.

2. Reporting of accounts of nonparticipating FFIs maintained by participating FFIs has been delayed, with the IRS stating that it did not intend for the regulations to require such reporting prior to the date by which participating FFIs are required to report financial information of U.S. accounts.  Accordingly, Notice 2016-8 eliminates 2015 reporting of “foreign reportable amounts” with respect to nonparticipating FFI accounts maintained by a participating FFI.  Such reporting is now not needed until 2016.

3. Withholding agents will be able to rely on electronic Forms W-8 and W-9 collected by intermediaries and flow-through entities.  In general, electronic Forms W-8 and W-9 must be collected through an electronic system that meets certain requirements, including that the form be signed electronically under penalties of perjury by the person whose name appears on the form. Withholding agents have been reluctant to accept electronic Forms W-8 and W-9 collected by nonqualified intermediaries, nonwithholding partnerships, and nonwithholding trusts because they could not confirm the electronic signature.  Notice 2016-8 makes clear that withholding agents may rely on electronic Forms W-8 and W-9 provided by NQIs, NWPs and NWTs collected through an electronic system provided that the NQI, NWP or NWP provides a written statement verifying that the system meets the requirements of Treas. Reg. § 1.1441-1(e)(4)(iv), § 1.1471-3(c)(6)(iv), or Announcement 98-27, as applicable, and the withholding agent does not have actual knowledge that the statement is false.

Limitations on Cash Reimbursements for Transit Benefits Apply to Retroactive Increase in Transit Limits

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March 2, 2016

In a technical advice memorandum (PMTA 2016-01), the IRS Office of Chief Counsel stated that a retroactive increase in transit benefits paid in a cash lump sum is only excludable to the extent a transit pass or voucher is unavailable.  This ruling clarifies that these retroactive increases are subject to the same rules as other transit benefits.  This issue arises from Congress’s decision to increase the amount of transit benefits excludable from income in 2012, 2014, and 2015 (e.g., the limit in 2015 was increased from $130/month to $250/month), which has led employers to inquire about the tax treatment of lump sum payments made to compensate employees for transit payments made by the employees in those years that exceeded the limits in place at the time.  The IRS states that it will deem such lump sum payments income and subject to withholding and reporting if transit passes or vouchers are “readily available.”

If transit passes or vouchers are not “readily available,” employers may provide cash reimbursements, so long as employees incur and substantiate their expenses pursuant to an accountable plan.  Accordingly, most employers are unable to allow employees to take advantage of the retroactive increase.  If an employer allowed employees to exceed the pre-tax limit and purchase transit passes with after-tax dollars (or provided the employees with transit passes and imputed taxable income for amounts in excess of the pre-tax limit), it could provide amended Forms W-2 and file Forms 941-X removing the after-tax amounts from wages (for both FITW and FICA purposes).  However, given that the difference for each employee is only $1450 per year, some employees may not wish to file amended income tax returns to recover any excess tax paid.  In addition, the cost savings for employers may not be sufficient to justify the expense of preparing the amended returns.

Canada’s New Blanket Withholding Waiver for Non-Resident Employees

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March 1, 2016

A legislative amendment in Canada’s 2015 federal budget is providing some U.S. employers and employees much needed relief.  The amendment provides a blanket waiver for non-resident employers who otherwise would have to withhold from the wages of non-resident employees, including those ultimately entitled to full refunds.  The new waiver will eliminate a process by which many non-resident employees faced withholding and then had to file a return to claim a full refund.

Before 2016, a non-resident employer in Canada was required to withhold and remit taxes from compensation paid to an employee for work performed in Canada, even if the employee is a non-resident person exempt from Canadian income tax under a tax treaty. To get a refund, the non-resident employee was then required to file a Canadian income tax return and claim the treaty exemption.  Alternatively, a non-resident employee could have applied for a waiver from wage withholding—and point to the applicable treaty exemption—30 days before either the employment services began in Canada or when the initial payment was made for the services. But this per-employee waiver is administratively burdensome.

After 2015, however, a new blanket waiver valid for up to two years is available to qualifying non-resident employers paying qualifying non-resident employees.  To be certified as a qualified non-resident employer, an employer must file a Form RC473, Application for Non-Resident Employer Certification with the Canada Revenue Agency, 30 days before the first payment.  The employer must show that, at the time of the payment, it is resident in a country that Canada has a tax treaty with and it is certified by the Minister of National Revenue.  Additionally, an employer must agree that the employer will:

  1. Evaluate and document how its employee meets the definition of a qualifying non-resident employee at the time of any employment payment by (a) monitoring the employee’s qualification status on an ongoing basis; (b) obtaining documentation proving the employee’s country of residence; and (c) ensuring that the tax treaty between the employee’s resident country and Canada is applicable;
  2. Track and document the number of days the qualifying non-resident employee is working in Canada or is present in Canada, and the employment income that corresponds to these days;
  3. Keep a business number (or use Form RC1, Request for a Business Number, to get a business number if the employer does not yet have one) and register a program account number for payroll purposes if the employer expects to make remittances;
  4. Prepare and file a T4 slip and a T4 Summary for the non-resident employee who has provided employment services in Canada that are not excluded from reporting under proposed subsection 200(1.1) of the Income Tax Regulations;
  5. Complete and file Canadian income tax returns for calendar years covered by the certification period; and
  6. Render its books and records available for CRA inspection.

A qualifying non-resident employee is an employee that (a) is a resident in a country that Canada has a tax treaty with at the time of the payment; (b) owes no tax in Canada on the payment because of the tax treaty; and (c) works in Canada for less than 45 days in the calendar year that includes the time of the payment, or is present in Canada less than 90 days in any 12-month period that includes the time of the payment.

Although the new blanket waiver may lessen a non-resident employer’s administrative burdens, the employer must carefully comply with the conditions of certification.  The CRA may revoke a certification if the non-resident employer violates any of the conditions, rendering the employer liable for the whole amount that should have been withheld and remitted and subject to related penalties and interest.

Banking Associations Challenge IRS Reporting Requirements for Foreign Account Holders

On January 29, two bankers associations filed a petition for certiorari seeking U.S. Supreme Court review of a decision from the United States Court of Appeals for the District of Columbia Circuit that the Anti-Injunction Act prevents them from challenging a Treasury regulation requiring banks to report the amount of interest earned by nonresident alien account holders.  The regulations, contained in Treas. Reg. §§ 1.6049-4 and -8, were issued pursuant to Treasury’s authority granted to it by Congress in the Foreign Account Tax Compliance Act (FATCA).  The regulations are intended to help the U.S. comply with its obligation to turn over certain information about foreign assets held in U.S. banks in exchange for other countries providing information to Treasury about U.S. assets held overseas.

The bankers associations argue that the IRS requirements will cause far more harm to banks than anticipated, asserting that the IRS violated laws mandating a cost benefit analysis of certain regulations.  Though the focus of the litigation has been a procedural hurdle preventing the lawsuit, the case could have significant implications if the bankers associations are able to challenge the regulations.  Currently, the banks claim that the regulations have caused substantial numbers of nonresident customers to close their accounts out of fear that the banks will disclose their information to the customers’ home governments.  The banks are concerned that the outflow of these deposits will outweigh the revenue benefits of the FATCA regulations, which are supposed to arise from a clampdown on U.S. tax evaders.  As a result, the bankers associations seek to overturn the appeals court decision preventing them from challenging the rule without first violating it, since violation could result in institutional fines and criminal imprisonment of their officers.  The Court of Appeals rules that the Anti-Injunction Act prevents the court from enjoining the reporting requirement because the penalty for noncompliance with the reporting obligation is the imposition of penalties under section 6721, and such penalties are treated as taxes.

In late February, the bankers associations’ request  gained support in the form of three amicus briefs.  The first, written by Minnesota Law School professor Kristin E. Hickman, argues that the IRS has a history of overstepping its statutory authority and has done so again with the regulations at issue.  The second, filed by the Cause of Action Institute, argues that more robust judicial review of IRS rulemaking is required and that a taxpayer should not be required to violate the law before having the ability to challenge the legality of the rule.  The final amicus brief, filed by the National Federation of Independent Business Legal Center and the Cato Institute, similarly argues that Treasury has strayed from the requirements of the Administrative Procedure Act and that the Supreme Court should resolve the interpretative split between the Anti-Injunction Act and the Tax Injunction Act to allow lower courts to properly adjudicate challenges to tax regulations.

Welcome to Miller & Chevalier’s Tax Withholding & Reporting Blog

The Tax Withholding and Reporting Blog is a resource for in-house counsel, tax, accounts payable, and payroll professionals seeking information on tax withholding and reporting developments.  With respect to tax withholding, the blog will feature articles on employment taxes, including federal income tax withholding and Federal Insurance Contributions Act (FICA) taxes.  We will also report on regulatory and statutory developments, as well as new court cases on backup withholding under section 3406, Chapter 3 (withholding on payments to nonresident alien individuals and corporations) and Chapter 4 (Foreign Account Tax Compliance Act, or FATCA).  Moreover, we will provide information on withholding requirements imposed by the states—such as California’s withholding requirements for payments to non-California residents—as they seek new ways to protect their tax bases.

In addition to covering tax withholding issues, the blog authors will cover a wide range of topics related to information reporting, including domestic information reporting on Forms 1099 (including 1099-DIV, 1099-INT, 1099-MISC, 1099-K and others) and cross-border information reporting on Forms 1042 and 1042-S.  In addition, we will monitor and post to the blog developments on the OECD country-by-country (CbC) reporting requirements being implemented into U.S. law, and will cover new information reporting requirements under the Affordable Care Act (Forms 1094-B, 1094-C, 1095-B, and 1095-C).  The Tax Withholding and Reporting Blog will cover not only the substantive requirements of the law, but information on related penalties, penalty abatement, IRS audit trends and other topical stories.

The Tax Withholding and Reporting Blog is available as a free resource and is authored by attorneys in the Miller & Chevalier’s Tax Withholding and Information Reporting practice.