Doug Shulman, the Commissioner of Internal Revenue, spoke today at the New York Bar Association Tax Section's annual meeting. See Prepared Remarks (Jan. 26, 2010).
Among other issues, he addressed the ever-present question of complexity and the hot topic of tax accrual workpapers and information about uncertain tax positions.
Shulman was not addressing tax law simplification--as the speech notes, "that's a speech for another day." He was talking about the fact that the IRS now administers a great deal of the country's social policies--from purported economic stimulus and global competitiveness policy (e.g., lowering of US "manufacturers" tax rates through the section 199 deduction; lowering of US banks' tax rates on foreign income through the "active financing exception" to subpart F income; lowering of most businesses taxes through expensing and acceleration of deductions for equipment through bonus depreciation) to aide to low income families (e.g., earned income tax credit, etc.). The IRS even administers our environmental policy (or lack thereof) in large part (see the numerous provisions for special treatment of natural resources extractive industries).
One worthy initiative Shulman discussed is the attempt to "better understand the entire complex economic picture of the enterprise controlled by the wealthy individual and to assess the tax compliance of that overall enterprise." To do so, the IRS has created a group that will focus its expertise on high wealth individuals and the entities through which they control that wealth. Similarly, the IRS has focussed on offshore tax evasion, developing expertise and coordinating the various efforts at disclosure, legislation, and cooperation with other governments. The IRS Is also "looking for and finding points of leverage...where multiple people not paying taxes can be detected such as f]inancial institutions...[and] promoters of evasion schemes." To further all of these objectives, the IRS Is working on a protocol for joint audits with treaty partners, an effort that should limit multinational corporations' opportunities for arbitrage. Shulman says more specialized attention will also be given to transfer pricing issues.
2. Uncertain Tax Positions and Tax Accrual Workpapers:
Readers will recall from prior postings (here, here, and here) that the First Circuit Court of Appeals recently ruled in Textron that tax accrual workpapers are not protected by the work product privilege, since they are prepared for accounting purposes and not for litigation.
Companies, of course, want to have their pie and eat it too. They want to be able to claim that they are adequately reserving for potential losses in respect of their "uncertain" tax positions for accounting purposes, while preventing any disclosure about those determinations for tax purposes under a claim that the evaluations of their uncertain tax positions are prepared "in anticipation of litigation" under the civil procedure rule protecting work product from disclosure to the opposing party.
I've argued that the work product claim for such documents is absurd on its face under the seminal Supreme Court case--those evaluations are required for accounting purposes and not for legal purposes so the documents are business documents and not protected legal documents. Further, the mere fact that determinations about uncertain tax positions have to take into account the possibility of success if the position were ever litigated cannot be sufficient to turn those determinations into protected work product because EVERY tax position that is not certain must be evaluated for its likelihood of success on the merits to determine whether there is a requirement to disclose or sufficient authority to take the position on the return in the first place. That mere evaluation does not mean that the evaluating document is prepared in anticipation of litigation or even that litigation is expected. In most cases, in fact, it is not.
Under the Supreme Court Arthur Young case, it is also clear that accounting determinations are not protected documents. The IRS could demand tax accrual workpapers in connection with every audit. But the IRS has a policy of restraint, under which it will typically not request tax accrual workpapers. If a company has engaged in a number of listed transactions (transactions that have been identified by the IRS as potentially abusive tax shelters), then the IRS will request a copy of all tax accrual workpapers.
Shulman said that the IRS has also been "taking a hard look at transparency regarding business tax issues" because of the many changes in accounting for income taxes and tax risk. He announced a "major step" in reporting requirements for uncertain tax positions, unveiling Ann. 2010-9 (available on BNA). He noted that too much time is wasted in corporate audits "searching for issues rather than having a straightforward discussion with the taxpayer about the issues." In order to get more complete information earlier, the announcement provides for reporting uncertain tax positions at the time a return is filed by covered taxpayers (generally those with assets over $10 million who file FIN 48 about establishment of tax reserves OR, even if FIN 48 reporting isn't required, a position that the taxpayer expects to litigate or that the taxpayer knows the IRS has a general administrative practice of not examining). Disclosure would describe each uncertain position and the maximum tax liability if the position is not sustained. The statement would be required to reveal the Code sections implicated, the reasons for determining that the position is uncertain, whether the position involves a permanent exclusion or inclusion or timing benefit (or both), whether it involves a computation of basis, and whether it involves a determination of the value of property, among other matters.
Beale here: This position is something I have argued for in the past (see my article on Before the Return). One cannot argue that such additional disclosure is improper, since it is necessary to arrive at all of those determinations in order to file a tax return incorporating the position. One cannot argue that such disclosure is burdensome, since public companies already prepare this information for their financial statements or, again, for filing their tax returns. One cannot argue that this disclosure is unreasonable, since taxpayers who make returns are basing those returns on their assessments of success regarding those uncertain tax positions--all information that goes into the return should, I argue, be disclosable to the IRS, so having a brief description of an uncertain position and the dollar amount at stake is minimally intrusive and maximally helpful.
Shulman indicates that, as part of this proposal, the IRS will continue its policy of "restraint" in asking for tax accrual workpapers.
Beale here: I am doubtful whether this continuation of the policy of restraint is reasonable. A company that has a large number of uncertain positions with high dollar figures should be required to share its tax accrual workpapers with the IRS. Since these are business documents and not tax documents, there is no reason that the IRS should hamstring itself in applying a "policy of restraint" regarding acquisition of information that could be central to the IRS's ability to find noncompliance or its ability to understand the positions taken by the taxpayer.