Taxpayers Denied 911 Exclusion For Failing To Sign Their Returns

According to Law360, an American couple who lived in Australia is not owed tax refunds for claimed foreign earned income exclusions because they failed to properly file their returns with the Internal Revenue Service, the Federal Circuit ruled in Brown v. U.S., case number 21-1721, in the U.S. Court of Appeals for the Federal Circuit, on January 5, 2022.

George and Ruth Brown can't claim approximately $13,000 in refunds from the IRS for tax years 2015 and 2017 because they failed to sign their amended returns directly and didn't tender power of attorney to a legal representative, the appeals court said.

The Browns failed to comply with the signature and verification requirements under Internal Revenue Code Section 7422(a), the three-judge panel said in a published, unanimous opinion.

"The Browns Admit That They Neither Signed Their Refund Claims Nor Tendered Powers of Attorney To Permit Their Tax Preparer To Sign The Claims On Their Behalf,"
 U.S. Circuit Judge Alan David Lourie Said In The Court's Opinion.

The Browns lived in Australia for the 2015 and 2017 tax years, during which time George Brown worked for the American company Raytheon, according to the opinion.

John Anthony Castro, an attorney who worked for the Browns, filed three amended tax returns on their behalf that sought refunds relating to the foreign earned income exclusion — outlined under IRC Section 911, which is meant to exclude foreign-sourced income from taxable income.

In a decision letter from April 2019, the IRS explained to the Browns that they wouldn't be receiving the refunds they requested and that as an employee of Raytheon, George Brown may have permanently waived his right to the foreign earned income exclusion by signing a closing agreement with the company, the opinion said.

In June 2019, the Browns filed suit against the government in the Court of Federal Claims, arguing their refunds had been inappropriately denied. In response, the IRS asked the court to dismiss the case, citing a lack of subject matter jurisdiction, which the court granted.

The appellate court, however, found that the lower court incorrectly ruled that the "duly filed" requirement in Section 7422(a) is a jurisdictional matter. Instead, the higher court concluded, it's more of a "claims-processing rule."

The Browns were also incorrect in arguing that the IRS had somehow waived the signature and verification requirements of Section 7422(a) by merely processing their refund claims, the appellate court ruled, saying those requirements derive from statute and the IRS doesn't possess the power to waive them.

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No 2nd Notice of Summons Required Where the IRS is Trying To Collect Already-Assessed Taxes

According to Law360, the IRS can proceed with summonses requesting bank records on two law firms and the wife of a man owing $2 million in taxes after the Sixth Circuit found Friday that the agency wasn't obligated to inform them about the requests.

A three-judge panel ruled 2-1, in Hanna Karcho Polselli et al. v. U.S., case number 21-1010, in the U.S. Court of Appeals for the Sixth Circuit. that the two law firms, Abraham & Rose PLC and Jerry R. Abraham PC, and Remo Polselli's spouse were not entitled to notification from the IRS that it issued summonses to three banks in the course of an agent's investigation into the location of his assets. 

While the Internal Revenue Service generally can be sued if it fails to notify a person or entity about a summons implicating them, the agency can issue summonses without notice under Internal Revenue Code Section 7609(c)(2)(D)(i) if the IRS is trying to collect already-assessed taxes, according to the opinion.

In Polselli's case, the IRS had made an assessment and issued the summonses to try to collect his taxes, meaning the agency had no obligation to notify his wife and the law firms about the bank summonses, the Sixth Circuit said, affirming a Michigan federal court's decision.

"We Agree With The District Court That The Summonses At Issue Fall Squarely Within The Exception Listed In 

Section 7609(C)(2)(D)(I),"
The Opinion Said.

Him An IRS agent had issued summonses to three banks — Wells Fargo Bank NA, JP Morgan Chase Bank NA and Bank of America NA — him seeking records on accounts held by the two law firms as well as Polselli's wife, Hanna Karcho Polselli, according to the opinion.

The agent was trying to identify the location of Polselli's assets after he accrued around $2 million in unpaid taxes, and believed the closely related firms — of which he was a client — might have information on his financials, according to the opinion. The agent also suspected that Polselli had access to his wife's accounts and might have used them, the opinion said.

But the IRS didn't tell the firms or his spouse about the bank summonses. Instead, the banks themselves notified them, and Hanna Polselli and the firms subsequently filed petitions with Michigan federal court to quash the summonses, according to the opinion.

That lower court found that Hanna Polselli and the firms couldn't sue to do away with the summonses because the IRS was trying to collect the taxes assessed against Polselli, and the plain meaning of the statute allows an exception in such circumstances. The Sixth Circuit majority agreed, saying that it's clear the IRS issued the summonses in order to aid the collection of tax and locate Polselli's assets.

U.S. Circuit Judge Raymond Kethledge disagreed with the majority's decision. He found that its interpretation of the statute renders superfluous a related provision, IRC Section 7609(c)(2)(D)(ii), which allows the IRS to issue summonses without notice to help the agency collect taxes from potential fiduciaries or others who might have received a delinquent taxpayer's assets. Under the majority's interpretation of Section 7609(c)(2)(D)(i), summonses under the transferee and fiduciary provision will fall under both statutes, rendering the second one unnecessary, according to Judge Kethledge. 

"If the government and the majority are right about their interpretation of Section 7609(c)(2)(D)(i), therefore, Congress was wasting its time in writing Section 7609(c)(2)(D)(ii)," Judge Kethledge said.

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11th Circ. Dealt A Serious Blow To The IRS by Striking Down The Treasury Conservation Easement Reg.

According to Law360, The Eleventh Circuit in David F. and Tammy K. Hewitt v. Commissioner of Internal Revenue, case number 20-13700, U.S. Court of Appeals for the Eleventh Circuit, struck down a Treasury rule governing the proceeds from judicial extinguishment of conservation easements that has spoiled many such tax breaks for donors, overturning a U.S. Tax Court decision denying a couple's
$2.8 million deduction.

The U.S. Department of the Treasury failed to sufficiently address public feedback in finalizing the rule governing what happens with proceeds from a potential judicial extinguishment of a conservation easement, the Eleventh Circuit said in an opinion dated Dec. 29, 2021. A three-judge panel reversed a Tax Court decision finding David and Tammy Hewitt couldn't claim the deduction over several years. 

The rule doesn't pass muster under the Administrative Procedure Act, which requires that agencies respond adequately to significant public comments when finalizing regulations, according to the opinion. Those Treasury regulations essentially require that deeds cannot allow for proceeds given to an easement recipient in the event of a judicial extinguishment of the easement to be reduced by any post donation improvements to the property.

The Regulation "Is Arbitrary And Capricious Under The APA For Failing To Comply With The APA's Procedural Requirements And Is Thus Invalid," The Opinion Said.

The Eleventh Circuit opinion dealt a serious blow to the Internal Revenue Service in its efforts to scrutinize conservation easement deductions, which were created to encourage land preservation but some say have been prone to abuse. The Tax Court has consistently sided with the agency in finding that taxpayers who ran afoul of the judicial extinguishment rule under Section 1.170A-14(g)(6)(ii) of Treasury Regulations cannot claim the corresponding tax deduction, affirming the validity of that rule in May 2020 in a case brought by Oakbrook Land Holdings LLC.

One of those cases included the challenge brought by the Hewitts, who claimed the tax deduction for their easement split between 2012, 2013 and 2014. The IRS issued a deficiency notice in 2017 that nullified the deduction, which the Tax Court affirmed in a June 2020 opinion that said the couple's violation of the judicial extinguishment rule means their easement wasn't protected in perpetuity as required under Internal Revenue Code Section 170.

The Hewitts have since argued that Treasury, in finalizing the rule in 1986, failed to account adequately for comments sent in by groups such as the New York Landmarks Conservancy that urged the agency to do away with the extinguishment provision or otherwise raised concerns with the rules proposed by the agency. When Treasury addressed comments it received on the regulations in the final comments, it didn't acknowledge those made by the NYLC or others that addressed the extinguishment regulation, according to the opinion.

The IRS has argued that the comment from the NYLC was not significant enough to warrant it being addressed in the final rules, according to the opinion.

But the Eleventh Circuit found that the conservancy's comment raised issues concerning the regulation's ability to undermine the intent of the conservation easement statute and warranted an acknowledgment by Treasury.

"NYLC's comment was significant and required a response by Treasury to satisfy the APA's procedural requirements," the opinion said. "And the fact that Treasury stated that it had considered 'all comments,' without more discussion, does not change our analysis."

The Eleventh Circuit cited its decision in the case Lloyd Noland Hosp. and Clinic v. Heckler, in which the appeals court invalidated an insurance rule whereby the U.S. Department of Health and Human Services failed to heed public comments. Under that precedent, Treasury's judicial extinguishment rule doesn't pass muster under the APA, according to the opinion. 

The Eleventh Circuit sent the case back to the Tax Court for further proceedings. 

While the appeals court found the regulation is procedurally invalid under the APA, it didn't decide whether the IRS' interpretation of the regulation is substantively incorrect, as argued by the Hewitts.

"Both the IRS and taxpayers benefit when the IRS meaningfully engages in the rulemaking process," Levin said. "Compliance with the APA's rulemaking process is essential because it provides taxpayers with notice as to what is required by the rules and gives the IRS valuable input as to the rules it is proposing."     

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FinCEN Amends BSA Penalty Reg To Remove Obsoleted Civil Penalty Language - Not Limited to $100,000!

The Financial Crimes Enforcement Network (FinCEN) announced that it has amended a Bank Secrecy Act (BSA) regulation to remove obsoleted civil penalty language. 

Generally, a U.S. person having a financial interest in, or signature or other authority over a foreign financial account must report that account to FinCEN every year the account exists. A U.S. person required to report a foreign account files a Foreign Bank Account Report (FBAR) to report the account to FinCEN. (Reg §1010.350)

In addition, specified financial institutions must file a foreign financial agency report to notify FinCEN of certain transactions with designated foreign financial agencies. (Reg §1010.360)

Willful failure to file the above reports is subject to a civil penalty. (31 USC 5321(a)(5) and Reg §1010.820(g))

In 2004, 31 USC 5321(a)(5) was amended to increase the maximum account of the penalty for willful failure to report foreign financial accounts or foreign financial agency transactions. However, Reg §1010.820(g) was not amended to reflect the statutory change.

According to FinCEN, Reg §1010.820(g), which provides civil penalty language for willful failure to file an FBAR or foreign financial agency transaction report, is obsolete and superseded by the 2004 statutory amendments. Therefore, FinCEN is rescinding Reg §1010.820(g) and redesignating paragraphs (h) and (i) as (g) and (h).

This should clear up the discrepancies in court rulings regarding the maximum FBAR penalty haven't been increased, now that the rags are revised to reflect the 2004 changes to the maximum FBAR penalty.

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Malta Pension Plans - CAA Provide That Arrangements That Allow Noncash Contributions & Don't Limit Contributions To Funds From Employment Or Self-Employment Don't Qualify

The competent authorities of the United States and Malta signed a competent authority arrangement (CAA) confirming their understanding of the meaning of pension fund for purposes of the United States–Malta income tax treaty (Treaty). The competent authorities have entered into this agreement after becoming aware that U.S. taxpayers with no connection to Malta were misconstruing the pension provisions of the Treaty to avoid income tax on the earnings of, and distributions from, personal retirement schemes established in Malta.  

The CAA confirms the U.S. and Malta competent authorities’ understanding that (except in the case of a qualified rollover from a pension fund in the same country) a fund, scheme or arrangement is not operated principally to provide pension or retirement benefits if it allows participants to contribute property other than cash, or does not limit contributions by reference to income earned from employment and self-employment activities. 

Because Maltese Personal Retirement Schemes Contain These Features, They Are Not Properly Treated As A Pension Fund
For Treaty Purposes And Distributions From These Schemes
Are Not Pensions Or Other Similar Remuneration.

 

The IRS put taxpayers on notice earlier this year that it was reviewing the use of Maltese personal retirement schemes and that some U.S. citizens and residents are relying on an interpretation of the U.S.-Malta Income Tax Treaty (Treaty) to take the position that they may contribute appreciated property tax free to certain Maltese pension plans and that there are also no tax consequences when the plan sells the assets and distributes proceeds to the U.S. taxpayer. Ordinarily gain would be recognized upon disposition of the plan's assets and distributions of the proceeds. 

The IRS is actively examining taxpayers who have set up these arrangements and recognizes that other taxpayers may have filed tax returns claiming Treaty benefits as a result of their participation in these arrangements. These taxpayers should consult an independent tax advisor prior to filing their 2021 tax returns and take appropriate corrective actions on prior filings.

 

The IRS also cautions taxpayers against entering into any substantially similar arrangements that would seek to misconstrue the provisions of a bilateral income tax treaty of the United States to avoid income tax. IRS enforcement, both the civil and criminal divisions, is committed to pursuing abuse and those who market and participate in abusive transactions. 

 

The CAA is available on irs.gov and will be published in the Internal Revenue Bulletin. 

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FinCEN Issues Proposed Regs On Beneficial Ownership Reporting

The Financial Crimes Enforcement Network (FinCEN) has issued proposed regs implementing the beneficial ownership information reporting provisions of the Corporate Transparency Act. The proposed rules address, among other things, who must report beneficial ownership information (BOI), when BOI must be reported and what BOI must be reported.

These proposed regulations would implement the requirement in the CTA [1] that a reporting company submit to FinCEN a report containing beneficial owner and company applicant information (together, “beneficial ownership information” or BOI). This proposal fulfills the statutory direction to Treasury to promulgate regulations to implement the CTA and reflects FinCEN's careful consideration of public comments received in response to an advanced notice of proposed rulemaking (the “ANPRM”).[2] To the extent practicable, and as required by the CTA, the proposed regulations aim to minimize the burden on reporting companies and to ensure that the information collected is accurate, complete, and highly useful. More broadly, the proposed regulations are intended to protect U.S. national security, provide critical information to law enforcement, and promote financial transparency and compliance. The CTA and these proposed regulations represent the culmination of years of efforts by Congress, the Department of the Treasury (Treasury), other national security agencies, law enforcement, and other stakeholders to bolster the United States' corporate transparency framework and to address deficiencies in BOI reporting noted by the Financial Action Task Force (FATF), Congress, law enforcement, and others. The proposed regulations address: (1) Who must file; (2) when they must file; and (3) what information they must provide. Collecting this information and providing access to law enforcement, the intelligence community, and other key stakeholders will diminish the ability of malign actors to obfuscate their activities through the use of anonymous shell and front companies. The proposed regulations would also specify circumstances in which a person violates the reporting requirements.

The proposed regulations describe two distinct types of reporting companies that must file reports with FinCEN—domestic reporting companies and foreign reporting companies. Generally, under the proposed regulations, a domestic reporting company is any entity that is created by the filing of a document with a secretary of state or similar office of a jurisdiction within the United States. A foreign reporting company is any entity formed under the law of a foreign jurisdiction that is registered to do business within the United States.

The proposed regulations also describe the twenty-three specific exemptions from the definition of reporting company under the CTA. The CTA also includes an option for the Secretary of the Treasury (Secretary), with the written concurrence of the Attorney General and the Secretary of Homeland Security, to exclude by regulation additional types of entities. FinCEN does not currently propose to exempt additional types of entities beyond those specified by the CTA.

The proposed regulations describe who is a beneficial owner and who is a company applicant. A beneficial owner is any individual who meets at least one of two criteria: (1) Exercising substantial control over the reporting company; or (2) owning or controlling at least 25 percent of the ownership interest of the reporting company. The proposed regulations define the terms “substantial control” and “ownership interest” and describe rules for determining whether an individual owns or controls 25 percent of the ownership interests of a reporting company. The proposed regulations would also describe five types of individuals who the CTA exempts from the definition of beneficial owner.

The proposed regulations also describe who is a company applicant. In the case of a domestic reporting company, a company applicant is the individual who files the document that forms the entity. In the case of a foreign reporting company, a company applicant is the individual who files the document that first registers the entity to do business in the United States. The proposed regulations specify that a company applicant includes anyone who directs or controls the filing of the document by another.

Under the proposed regulations, the time at which a required report is due would depend on: (1) When the reporting company was created or registered; and (2) whether the report is an initial report, an updated report providing new information, or a report correcting erroneous information in a previous report. Domestic reporting companies created, or foreign reporting companies registered to do business in the United States, before the effective date of the final regulations would have one year from the effective date of the final regulations to file their initial Start Printed Page 69921 report with FinCEN. Domestic reporting companies created, or foreign reporting companies registered to do business in the U.S. for the first time, on or after the effective date of the final regulations would be required to file their initial report with FinCEN within 14 calendar days of the date on which they are created or registered, respectively. If there is a change in the information previously reported to FinCEN under these regulations, reporting companies would have 30 calendar days to file an updated report. Finally, if a reporting company filed information that was inaccurate at the time of filing, the reporting company would have to file a corrected report within 14 calendar days of the date it knew, or should have known, that the information was inaccurate.

The proposed regulations also describe the type of information that a reporting company is required to file. First, the reporting company would have to identify itself. The proposed regulations describe the information that a reporting company must submit to FinCEN about: (1) The reporting company, and (2) each beneficial owner and company applicant. This includes, for example, the name and address of each beneficial owner and company applicant, among other things. In lieu of providing specific information about an individual, the reporting company may provide a unique identifier issued by FinCEN called a FinCEN identifier. The proposed regulations describe how to obtain a FinCEN identifier and when it may be used. The proposed regulations also describe highly useful information that reporting companies are encouraged, but not required, to provide. This additional information would support efforts by government authorities and financial institutions to prevent money laundering, terrorist financing, and other illicit activities such as tax evasion.

The CTA provides that it is unlawful for any person to willfully provide, or attempt to provide, false or fraudulent BOI to FinCEN, or to willfully fail to report complete or updated BOI to FinCEN. The proposed regulations describe persons that are subject to this provision and what acts (or failures to act) trigger a violation.

In addition to the proposed information reporting rules, FinCEN has issued another Advance Notice of Proposed Rulemaking soliciting public comment on a potential rule to address the vulnerability of the U.S. real estate market to money laundering and other illicit activity.

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Footnotes

1.  The CTA is Title LXIV of the William M. (Mac) Thornberry National Defense Authorization Act for Fiscal Year 2021, Public Law 116-283 (January 1, 2021) (the “NDAA”). Division F of the NDAA is the Anti-Money Laundering Act of 2020, which includes the CTA. Section 6403 of the CTA, among other things, amends the Bank Secrecy Act (BSA) by adding a new Section 5336, Beneficial Ownership Information Reporting Requirements, to Subchapter II of Chapter 53 of Title 31, United States Code.

Back to Citation

2.  86 FR 17557 (Apr. 5, 2021).

 

Sixth Circuit Affirmed That Whirlpool Owes Tax On $45M Foreign Income

According to Law360, the Sixth Circuit affirmed in a split decision Monday that Whirlpool owes the Internal Revenue Service taxes on more than $45 million in income generated by a Luxembourg affiliate's sales to a Mexican subsidiary.

Income that a Whirlpool Corp. subsidiary in Luxembourg received from appliance sales to Whirlpool-US and Whirlpool Mexico in 2009 constituted foreign base company sales income under Internal Revenue Code Section 954(d)(2) and should have been included in Whirlpool's income for that year, the court majority said in the 2-1 decision.

The court majority said the income plainly met a two-part test laid out in the statute to be considered foreign base company sales income, or FBCSI. The first condition required Whirlpool's Luxembourg subsidiary conducting activities through a branch or similar establishment outside the company where it was incorporated. The second condition was that the purpose of the arrangement was to defer U.S. tax, the court said, upholding a decision by the U.S. Tax Court. 

"We therefore agree with the Tax Court that, under the text of the statute alone, '[Lux's] sales income is FBCSI that must be included in petitioners' income under subpart F,'" U.S. Circuit Judge Raymond Kethledge said in the majority opinion.

Whirlpool Corp. told Law360 in a statement that it follows all tax laws where it operates and pays its fair share of taxes.

"We are disappointed in the Sixth Circuit's decision, but we are reviewing the ruling in detail to determine our legal options going forward," the company said.

The decision affirmed a May 2020 ruling by U.S. Tax Court Judge Albert Lauber, who found that $45 million of profits connected to appliance manufacturing in Mexico fell under the Subpart F regime that immediately taxes some earnings from U.S. companies' foreign affiliates.

Whirlpool lawyers argued before the Sixth Circuit that the income in question came from a Mexican branch's manufacturing operations and isn't taxable as FBCSI, while the government argued that the company's Luxembourg affiliate effectively earned the income and it should be deemed FBCSI.

In a dissenting opinion, Circuit Judge John Nalbandian said the Tax Court incorrectly granted summary judgment to the IRS. The statute provides for an exception that wasn't adequately considered by the court majority, he said.

"In my view, Lux didn't generate taxable foreign base company sales income because it 'manufactured' the property it bought and sold," Judge Nalbandian said.

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