DC Circuit Court of Appeals Deals ObamaCare Major Blow: Federal Exchange Tax Subsidies Axed

July 22nd, 2014

The Court of Appeals for the District of Columbia dealt the Obama Administration a major blow today when the court ruled 2-1 that only state health exchanges plans are eligible for tax subsidies. The IRS had promulgated a rule that health exchanges run by the federal government were eligible for the subsidies.

Here is the conclusion of the primary opinion:

We reach this conclusion, frankly, with reluctance. At least until states that wish to can set up Exchanges, our ruling will likely have significant consequences both for the millions of individuals receiving tax credits through federal Exchanges and for health insurance markets more broadly. But, high as those stakes are, the principle of legislative supremacy that guides us is higher still. Within constitutional limits, Congress is supreme in matters of policy, and the consequence of that supremacy is that our duty when interpreting a statute is to ascertain the meaning of the words of the statute duly enacted through the formal legislative process. This limited role serves democratic interests by ensuring that policy is made by elected, politically accountable representatives, not by appointed, life-tenured judges.

The basic issue is that the Affordable Care Act (aka ObamaCare) allows a tax credit for exchanges established by a state. Are federal exchanges established by a state? The court ruled they weren’t.

While this decision will be appealed (to either an en banc panel of the DC Circuit Court of Appeals or the US Supreme Court), it appears sound. The law is what’s written, and neither the Administration nor the IRS can avoid such bright lines.

This is likely to cause more headaches for both taxpayers and tax professionals next year. It is almost certain this case will be appealed, and the appeals will likely not be resolved until next Spring at the earliest. Will tax credits be allowed for an Exchange in, say, Kansas, where the Exchange is run by the federal government? I have no idea. Both California and Nevada have exchanges run by the state, so subsidies in these states appear legal. However, Nevada will be moving to a federal exchange for 2015 so this could have a major impact then (2015 returns prepared in 2016).

Major Court Decision Extends Loving; IRS Enjoined from a Circular 230 Regulation

July 19th, 2014

Thus, what Ridgley challenges here is the IRS’s proclaimed authority to regulate fee arrangements entered into by CPAs for preparing and filing Ordinary Refund Claims before the commencement of any adversarial proceedings with the IRS or any formal legal representation by the CPA.

That’s the gist of Ridgely v. Lew, a major court decision announced earlier this week. Gerald Ridgely is a CPA who wanted to charge a contingency fee when filing an “Ordinary Refund Claim.”

Let’s say you file your tax return for 2013 and you realize you left out a major deduction. When you file an amended return noting the additional deduction, what you’re really doing is filing an ordinary refund claim–a claim for refund prior to the IRS instituting examination (audit) proceedings.

Enrolled tax professionals (attorneys, CPAs, and Enrolled Agents) are regulated under Circular 230 (31 CFR § 10.3). In 2007, the IRS prohibited contingent fees for Ordinary Claim for Refunds. Mr. Ridgely claimed he lost business and that the IRS didn’t have the authority to make this regulation.

At Chevron step one, then, this case boils down to the following question: does Section 330 unambiguously foreclose the IRS’s interpretation that CPAs act as “representatives” who “practice” before the IRS when they prepare and file Ordinary Refund Claims?

This may sound familiar to readers who followed the Loving decision. In Loving, courts held that the IRS does not have authority to regulate unenrolled preparers of tax returns; that preparing a tax return is not practice before the IRS.

But Loving also expressly addressed two key questions that the Court faces here: who are “representatives” and what is “practice” under Section 330? In the Court’s view, Loving is controlling precedent that must guide the Court’s examination of Section 330’s text, context, and history with respect to the claims at issue in this case…

Loving also sheds light on the meaning of the term “practice” in Section 330. As the Court explained, “practice . . . before the Department of the Treasury,” like practice before any agency or court, “ordinarily refers to practice during an investigation, adversarial hearing, or other adjudicative proceeding.” Id. at 1018. The process of filing an Ordinary Refund Claim— again, before any back-and-forth with the IRS—is similar to the process of filing a tax return in that both take place prior to any type of adversarial assessment of the taxpayer’s liability. If a “tax-return preparer do[es] not practice before the IRS when [he] simply assist[s] in the preparation of someone else’s tax return,” then a CPA hardly “practices” before the IRS when he simply prepares and files a taxpayer’s refund claim, before being designated as the taxpayer’s representative and before the commencement of an audit or appeal. Id. at 1018. Following Loving, the Court therefore concludes that the plain text of Section 330 excludes preparers and filers of Ordinary Refund Claims from the ambit of the IRS’s regulatory authority.

The IRS could appeal the decision but unless or until they do, tax professionals can charge contingent fees for Ordinary Claims for Refund.

Victory for Lap Dances in Philadelphia

July 19th, 2014

The City of Philadelphia has a tax on amusements; it’s a 5% sales tax. Are lap dances performed at adult entertainment facilities subject to that tax? A court in Pennsylvania ruled no.

Philadelphia billed three strip clubs adult entertainment facilities $1.5 million for the tax, penalties, and interest covering 2008 – 2010. The three clubs appealed to Philadelphia’s Tax Review Board that the tax was vague and couldn’t be applied to lap dances. Philadelphia lost at the Board and appealed to court.

The court ruled that the Board was correct and the tax can’t be applied on lap dances.

“The ruling is simply that the (tax) ordinance, as it exists, as it’s currently worded, doesn’t cover lap dances,” says attorney George Bochetto…, who represents two of the three clubs that were being taxed. “If the city wants to tax lap dances, they can go to City Council, ask City Council to amend the ordinance, and they can start imposing a tax on lap dances. Or anything else they want: karaoke songs, piano playing. Anything they want. But you have to put it in the ordinance. You just can’t make it up as you go along.”

The city can appeal the decision and must make a decision within one month.

If You’re a Fugitive, Posting on Facebook Isn’t a Good Idea

July 19th, 2014

This headline really tells the whole tale. But this tale deserves a full telling, so here goes:

In August 1992, Francisco Legaspi was indicted on three counts of aiding and assisting in the presentation of false tax returns. In November 1992 he pleaded guilty to one count of preparing a false tax return (this appears to be a normal plea bargain); sentencing was scheduled for January 28, 1993. On January 27, 1993, an IRS employee visited his office to collect payroll taxes. The two did discuss that sentencing was scheduled the next day. Mr. Legaspi decided that instead of going to court he’d head to Mexico.

Yes, that’s illegal. He was charged with Failure to Appear in February 1993.

After staying in Mexico Mr. Legaspi moved to London, Ontario, Canada. He lived a low-profile life for nearly 20 years but then made a major mistake: He set up a Facebook page. Yes, the authorities read Facebook. This includes the State Department’s Bureau of Diplomatic Security.

It is unclear to me why this agency rather than the US Marshals Service was the agency that found Mr. Legaspi. No matter, federal law enforcement agencies do communicate with each other and to other countries’ police authorities. The Bureau of Diplomatic Security let the Royal Canadian Mounted Police know about Mr. Legaspi in 2012; the RCMP found him and he was extradited back to the United States.

Mr. Legaspi had already pleaded guilty to the tax charge; this past week he pleaded guilty to Failing to Appear. He’ll be sentenced in October to both counts. This time he’s being held in prison until being sentenced. He could receive up to five years at Club Fed plus a fine of up to $500,000.

AICPA Sues to Stop IRS’s “Annual Filing Season Program”

July 15th, 2014

Well, that didn’t take long.

As I predicted back on June 26th, the American Institute of CPAs (AICPA) has filed a lawsuit asking the court to stop the IRS’s new “Annual Filing Season Program.” From the AICPA’s press release:

The AICPA has been a steadfast supporter of the IRS’s overall goals of enhancing compliance by tax return preparers and elevating ethical conduct. However, the IRS’s new rule regulating tax return preparers is an unlawful exercise of government power.

By implementing a purportedly “voluntary” program that is mandatory in effect, the rule is an end-run around Loving v. IRS, a federal court ruling which struck down the IRS’s earlier attempt to regulate tax return preparers. The IRS simply does not have the authority to proceed with the new rule. By doubling the number of categories of tax return preparers to eight, the rule will also confuse consumers. Worse yet, the new rule will do nothing to address the problem of unethical or fraudulent tax return preparers – which should be a top priority.

As a result, the AICPA has filed suit in federal court to prevent the IRS from moving ahead with this unjustified and unlawful program.

The full lawsuit filing is available here.

The AICPA’s lawsuit contends that the IRS does not have statutory authority for the new program, that the IRS did not allow a comment period (in violation of the law), and that it was arbitrary and capricious in violation of the Administrative Procedure Act. If the latter sounds familiar, it should: The Loving decision was based on the APA. The AICPA contends that the new IRS program is the old RTRP program dressed up with very minor changes.

I suspect the new Annual Filing Season Program will never have its first tax season.

101 Minutes…

July 15th, 2014

Yesterday I had to call the IRS Practitioner Priority Service. One of my clients received a refund check where we believed he owed tax. It took 101 minutes–that’s one hour and forty-one minutes–before someone picked up my call.

I hate to think of the wait times on the “normal” lines.

There isn’t much to add here expect if you’re calling the IRS expect to be on hold for a long, long, time.

What Happened to the Circular 230 Notice?

July 13th, 2014

I sent a client an email today (responding to her query) and she wrote back, “What happened to the Circular 230 Notice?” What happened is that last week the IRS added the new revisions to Circular 230 on their webpage dealing with Circular 230. Thus, I (and every other tax professional) can remove the Circular 230 verbiage from the bottom of their emails.

Think of all the electrons we’re saving!

On a serious note, the Circular 230 Notice had to appear on every email. It was basically ignored by everyone who saw it and did not serve much (if any) purpose. The elimination of it is, overall, a good thing.

Deadlines for Us, But Not for Them: GAO Gives IRS an F on Correspondence Audits

July 12th, 2014

Most reviews of IRS programs are conducted by TIGTA (the Treasury Inspector General for Tax Administration). However, the GAO (U.S. Government Accountability Office) also can review IRS programs. The GAO is an investigative arm of Congress. Last week, a GAO report on IRS correspondence audits was released. (Hat tip: NAEA EAlert) The study’s conclusions weren’t a surprise to me (or likely most tax professionals), but likely were for Congress.

The first paragraph of the highlights (aka executive summary) spares no punches:

The notices the Internal Revenue Service (IRS) sends during correspondence audits have misled taxpayers by providing unrealistic time frames on when IRS would respond to their correspondence. For example, notices stated that IRS would respond within 30 to 45 days when it has consistently taken several months to do so. Further, as of early 2014, IRS data show that it had not responded timely to more than 50 percent of the correspondence taxpayers sent. In many cases, refunds are held up until the audit is finished. According to IRS tax examiners, notices caused taxpayer frustration and generated unnecessary taxpayer calls to IRS. Furthermore, examiners who answer such calls said they do not know when IRS will respond. IRS recently revised the notices, but the revisions were not based on analysis of historical data nor did IRS have a plan to analyze data to ensure it is responding timely per revised notices. [emphasis added]

Yes, the IRS isn’t responding timely in half the cases. There isn’t much to add to this. There are deadlines for the taxpaying public but not for the IRS.

The Executive Summary has a quotation from an IRS tax examiner:

The taxpayers cannot understand why IRS would send a letter out with such unrealistic time frames and there is no acceptable way we can explain it to them. That is why they are so frustrated. It puts us in a very awkward and embarrassing situation…. I try to gain control of the situation and tell the taxpayer I understand the frustration so that he will calm down so we can make the phone call productive, but this takes time and wastes time for both the taxpayer and me.

Source: tax examiner focus group interview.

But there’s more. The IRS doesn’t have information to note the impact of the correspondence audit program on taxpayer compliance. There aren’t objectives for the program.

…[I]t is not possible to tell whether the program is performing better or worse from one year to the next. Beyond the measures, IRS did not have guidance on how IRS managers were to use program data to make decisions. In some cases, the program data being used are incomplete. For example, IRS did not track data on the number of times a taxpayer called IRS or sent documents. Using incomplete information limits insights on the additional revenues identified from IRS’s audit investments and on how much burden the audits impose on the taxpayers.

The IRS’s response to this report is interesting. You might have already guessed what the IRS complained about: its budget. From the response:

It is important to note that reductions in the IS budget have stretched enforcement resources across the agency. In Fiscal 2014, the IRS budget has been reduced by nearly $850 million less compared to Fiscal 2010. During the same period, the IRS has seen the number of key enforcement personnel drop by 3,000 positions.

The actual IRS responses to the GAO recommendations are also enlightening. To a cynical observer like me they appear to say, “Sure, the IRS would love to agree with these and maybe we’ll do something in the future.” For example, here’s the GAO’s first recommendation and the IRS response:

Recommendation 1: To reduce the need for taxpayer calls, ensure that IRS is providing taxpayers with more realistic timeframes on when IRS will respond, and more efficiently use IRS resources, collect data to analyze whether IRS is responding within the timeframes cited in the revised audit notices. If IRS delays are continuing, further revise the notices to provide more realistic response times based on the data and take other actions appropriate to ensure efficient use of IRS tax examiner resources. For example, IRS could choose to provide taxpayers who call IRS with a recorded message notifying them of delays in IRS responding and when to expect an IRS response.

Comments: The IRS agrees it is important to provide taxpayers accurate information which may in turn reduce the need for additional taxpayer inquiries. We will collect and monitor data related to response timeframes and use that information to initiate programming changes to our letters and phone messages if realistic timeframes are not being reflected.

It hasn’t been a good week (month, or year) for the IRS. This report does nothing to change that conclusion. Until something drastic changes, there will continue to be deadlines for you and I but not for the IRS.

Judge to IRS: Explain the Lost Emails Under Oath

July 11th, 2014

From the AP:

U.S. District Judge Emmet G. Sullivan gave the tax agency a month to submit the explanation in writing. Sullivan said he is also appointing a federal magistrate to see whether the lost emails can be obtained from other sources.

Sullivan issued the order as part of a Freedom of Information Act lawsuit by Judicial Watch, a conservative watchdog group. He said the IRS declaration must be signed, under oath, by the appropriate IRS official.

The IRS will be in front of a different federal judge today getting to explain the lost emails in response to the lawsuit from True the Vote.

The report back to Judge Sullivan is due by August 10th–a strict deadline. The federal magistrate’s report is due by September 9th.

Once Bitten, Twice Shy

July 10th, 2014

Back in January 2007, Frederick John “Rick” Rizzolo was sentenced to a year and a day at ClubFed for his part in conspiring to defraud the IRS. Mr. Rizzolo was the owner of the Crazy Horse Too, an ‘adult entertainment facility’ (aka a strip club) here in Las Vegas. According to the DOJ press release from 2007,

According to the court records, beginning in approximately January 2000 and continuing through 2005, Rizzolo, The Crazy Horse Too, and its employees, conspired to defraud the United States by impeding and obstructing the IRS in the assessment and collection of income and employment taxes. Dancers at the Crazy Horse Too were independent contractors who were required by the club to pay about 15 percent of their earnings to the club as a fee for the opportunity to dance. The club’s managers then distributed these monies to certain male employees, including floormen, bouncers, bartenders, and shift managers as supplemental income, but failed to report or maintain records of these monies. The employees subsequently under-reported the amount of the cash salary payments they received to the club’s bookkeepers. Management of The Crazy Horse Too delivered inaccurate records to the club’s accountant, resulting in the preparation of inaccurate quarterly financial reports and tax returns, and provided inaccurate W-2 forms to certain employees, which the employees used to file false individual income tax returns. Management of The Crazy Horse Too, including Rizzolo also filed quarterly federal employment tax returns which under-reported the true amount of earnings received by the conspirators in order to conceal the fraud. By failing to report or record the cash payments to the club’s employees, the owners of The Crazy Horse Too and the participating employees evaded and failed to pay approximately $400,000 in FICA taxes and Medicare taxes owed to the IRS on the unreported compensation.

The defendants were also required to make restitution of $1.73 million to the IRS and $10 million to a customer deliberately injured at the club in 2001. Mr. Rizzolo allegedly had ties to organized crime. And so the story ended…except it’s now 2014 and I’m reporting it.

That’s because this morning’s Las Vegas Review Journal trumpeted the arrest of Mr. Rizzolo on tax charges. Mr. Rizzolo was charged with two counts of attempting to evade and defeat the payment of tax. From the US Attorney’s Office press release:

The indictment alleges that beginning on about June 28, 2006, and continuing to May 31, 2011, Rizzolo allegedly attempted to evade the payment of approximately $1.7 million in employment taxes that he owed for 2000 to 2002, and $861,075 in income taxes he owed for 2006, by concealing and attempting to conceal from the IRS the nature, extent and location of his assets, by making false statements to IRS employees, and by placing funds and property in the names of nominees and beyond the reach of process.

You remember that restitution to the IRS? It apparently hasn’t happened.

Mr. Rizzolo’s pleaded not guilty today. He was released on his own recognizance with trial set for September 15th here in Las Vegas.