Tax Treaty Shields Green Card Holder From FBAR Penalties But Not Late Filing of Form 8833

According to Law360, a Mexican national who holds a U.S. green card doesn't owe penalties for failing to report his foreign bank accounts, even though he told the U.S. government late that he claimed Mexican residency under an international tax treaty.

Alberto Aroeste, who was assessed $100,000 in foreign bank account reporting penalties by the Internal Revenue Service for failing to report his accounts for 2012 and 2013, doesn't have to pay the outstanding $21,900 bill, U.S. District Judge Anthony K. Battaglia said in an order on November 20, 2023. Aroeste is also owed a $3,000 refund for payments he already made to the IRS, the judge added.

But Aroeste owes a $1,000 penalty for each of the two tax years for failing to tell the U.S. until he filed amended returns in 2016 that he claimed treatment under a Mexico-U.S. tax treaty as a resident of Mexico, Judge Battaglia said. Aroeste, who is in his 80s, lived with his wife in Mexico City, where he spent more than 75% of his time during the tax years at issue, according to the opinion.

Aroeste argued he was not required to file Form 8833 disclosing his treaty-based return position for 2012 and 2013 under a U.S. Treasury Department regulation that exempted people whose residency had been determined under a treaty and separate from the Internal Revenue Code. 

While Judge Battaglia Sided With The U.S. Government,
Which Argued That The Regulation Did Not Relieve Aroeste
Of The Requirement To File The Disclosure Form,

He Agreed With Aroeste's Argument That His Claim For
Treaty Status, Even Made Late, Entitled Him To
The Benefits Or Application Of Treaty Law.

The judge cited two cases, including the 1999 U.S. Tax Court decision in Pekar v. Commissioner, in which courts found that untimely notice of a treaty position still afforded taxpayers treaty protection.

Rather Than FBAR Penalties, Aroeste Is Subject To The $1,000 Penalties Laid Out In Internal Revenue Code Section 6712 For Failing To Comply With The Requirement To File A Treaty-based Return Position Under IRC Section 6114, The Judge Said.

Judge Battaglia also rejected the government's argument that Aroeste should have filed an expatriation statement form, Form 8854, with his returns, saying he agreed with Aroeste that the form is not legally binding. The form is required under IRS Notice 2009-85, but that notice failed to comply with the notice-and-comment requirements of the Administrative Procedures Act, the judge said, citing the 2022 case Mann Construction v. U.S. 

Aroeste and his wife told the court in their complaint last year challenging the FBAR penalties that they briefly joined the IRS' voluntary offshore disclosure program for reporting foreign accounts in 2014. Their current attorneys directed them to drop out in 2016, and the couple said they refiled their 2008 through 2014 returns. Alberto Aroeste refiled as a nonresident for those years, and Estela Aroeste, after she became a U.S. citizen in 2011, filed as married filing separately, according to their complaint.

The IRS began auditing the couple after they dropped out of the disclosure program, the couple said, and the agency ultimately assessed $10,000 in nonwillful penalties against Alberto Aroeste for each of his five Mexican bank accounts in 2012 and 2013. It also assessed a $5,000 penalty against his wife for each of her accounts during the same period, as well as a $500 penalty for each account she held jointly with her husband for 2013. The government abandoned its effort to recover the $27,000 debt from Estela Areoeste in May in exchange for a settlement.

The government told the court in August that in addition to missing the deadline for notifying the U.S. that he claimed protected treaty status, Aroeste originally filed jointly with his wife, which, because of her dual citizenship, prevented him from claiming protected status under the treaty outlined in Article 4 of the U.S.-Mexico Income Tax Convention. Ultimately, the government decided not to accept Aroeste's amended returns, making them invalid, the government argued.

Aroeste's lawyer, Patrick Martin of Chamberlain Hrdlicka, told Law360 that the ruling was significant. It upends the IRS' practice of stripping individuals of tax-treaty protection for failing to file forms on time, including forms that aren't legally binding, Martin said.

The IRS has tried to pin $3 million in information reporting penalties on Aroeste since it began its audit, Martin said. 

Aroeste, who has a vacation condominium in Florida, has never permanently resided in the U.S. and only had a green card because the Mexican employer he worked for was a U.S. subsidiary and required it in order to participate in its pension plan, Martin said.

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IRS Delays Again $600 Venmo Payment Reporting Requirement Until 2025

On December 23, 2022 we posted IRS Delays Implementation Of $600 Reporting Threshold For Third-Party Payment Platforms On Forms 1099-K, where we discussed that the Internal Revenue Service announced an Initial delay in reporting thresholds for third-party settlement organizations set to take effect for the upcoming 2023 tax filing season.

Now the IRS will push back again its implementation of a law requiring peer-to-peer payment platforms such as Venmo and PayPal to report aggregate payments of $600 or more, saying Tuesday that it will instead phase in implementation beginning in 2024 with a $5,000 threshold.

Following feedback from taxpayers, tax professionals and payment processors and to reduce taxpayer confusion, the Internal Revenue Service released Notice 2023-74 announcing a delay of the new $600 Form 1099-K reporting threshold for third-party settlement organizations for calendar year 2023.

This will reduce the potential confusion caused by the distribution of an estimated 44 million Forms 1099-K sent to many taxpayers who wouldn’t expect one and may not have a tax obligation. 

As A Result, Reporting Will Not Be Required
Unless The Taxpayer Receives Over $20,000 And
Has More Than 200 Transactions In 2023.

Given the complexity of the new provision, the large number of individual taxpayers affected and the need for stakeholders to have certainty with enough lead time, the IRS is planning for a threshold of $5,000 for tax year 2024 as part of a phase-in to implement the $600 reporting threshold enacted under the American Rescue Plan (ARP).

The IRS temporarily delayed the new requirement last year.

Reporting requirements do not apply to personal transactions such as birthday or holiday gifts, sharing the cost of a car ride or meal, or paying a family member or another for a household bill. These payments are not taxable and should not be reported on Form 1099-K.

However, the casual sale of goods and services, including selling used personal items like clothing, furniture and other household items for a loss, could generate a Form 1099-K for many people, even if the seller has no tax liability from those sales.

This complexity in distinguishing between these types of transactions factored into the IRS decision to delay the reporting requirements an additional year and to plan for a threshold of $5,000 for 2024 in order to phase in implementation. The IRS invites feedback on the threshold of $5,000 for tax year 2024 and other elements of the reporting requirement, including how best to focus reporting on taxable transactions.

Expanded information reporting, which will occur as the result of the change in thresholds for Form 1099-K, is important because it increases tax compliance and can reduce burden on taxpayers seeking to follow the law. The IRS believes that expansion must be managed carefully to help ensure that Forms 1099-K are issued only to taxpayers who should receive them. In addition, it's important that taxpayers understand what to do as a result of this reporting, and that tax professionals and software providers have the information they need to assist taxpayers.

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TC Hold That No Supervisory Approval Needed for Penalty Assessed by Computer Program

The Tax Court has determined that a failure to file information returns penalty, assessed by the IRS' Combined Annual Wage Reporting (CAWR) computer program, doesn't require supervisory approval under Code Sec. 6751(b)(1). (Piper Trucking & Leasing, LLC, (2023) 161 TC No. 3)

Piper Trucking & Leasing, LLC, a single-member limited liability company, failed to file Forms W-2 for its employees with the Social Security Administration. The SSA sent Piper two notices regarding the missing forms, but the business never responded. The SSA then referred the matter to the IRS to enforce compliance and assess any penalties.

The referral from SSA and to IRS was conducted via the CAWR program, which automatically sends delinquent employers a Letter 98C asserting a failure to file information returns penalty. If the employer does not respond to the 98C letter, the IRS' CAWR computer program, without any human intervention or supervisory approval, assesses the failure to file penalty.

Piper failed to respond to the IRS' Letter 98C. So, the CAWR program assessed the failure to file information returns penalty against Piper. When Piper failed to pay the penalties, the IRS filed a lien notice, which Piper then protested in a CDP hearing. The Appeals Officer upheld the lien notice. 

Piper was represented throughout the proceedings by its single member. Piper failed to cooperate in the CDP process. And, while Piper timely filed its Tax Court petition protesting the CDP determination, it failed to respond to the IRS' motions and to comply with other court requirements. 

Generally, the IRS can't assess penalties unless the initial determination to assert the penalties is approved in writing by the immediate supervisor of the person making the penalty determination. However, this rule doesn't apply to penalties "automatically calculated through electronic means."

The Tax Court determined that the failure to file penalty was automatically calculated through the CAWR program and, therefore, the penalty assessment didn't require supervisory approval.

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Justices Told Repatriation Tax Violates 16th Amendment

According to Law360, the U.S. Supreme Court should conclude that a one-time mandatory repatriation tax enacted under the 2017 Tax Cuts and Jobs Act is unconstitutional, a couple said Wednesday, urging the justices to reject the federal government's claims that the 16th Amendment allows a levy on unrealized gains.

The government's claims that Congress can impose a tax on any "gain" as income regardless of taxpayer realization throws out the key restriction on federal taxing authority set by the 16th Amendment in the U.S. Constitution, Charles and Kathleen Moore said in a reply brief.

Congress Understood That "These Enormous Pots of
Potential Revenue" Are Not Income And, Therefore,
Are Beyond The Reach Of Taxation, The Couple Said.

That argument, they said, also rejects the precedent the high court established in a 1920 landmark decision in Eisner v. Macomber, which affirmed that the realization of gain is the key attribute of income under the 16th Amendment.

In its own brief filed in October, the government said the Macomber decision has been watered down in subsequent rulings and should play no controlling role in the couple's case.

"That Dictum Was Poorly Reasoned And Has Been Abrogated By Many Later Decisions Limiting Macomber To The Stock-Dividend Context In Which It Arose," The Government Said.

The Moores' latest filing came just weeks before the Dec. 5 oral arguments from parties in the case. In June, the high court agreed to review the case. At issue is the mandatory repatriation tax under Internal Revenue Code Section 965, enacted as part of the 2017 tax reform. 

The Moores were hit with the levy on their investment in a controlled foreign corporation, KisanKraft Ltd., that provides equipment to small-scale farmers in India. They paid about $15,000 on their small stake, and the tax liability was based on earnings retained and invested by the company on earnings the Moores said they never received.

A Washington federal court tossed the Moores' first challenge, a decision that was later affirmed in 2022 by the Ninth Circuit, which said the one-time repatriation tax served a legitimate purpose.

The couple then asked the Supreme Court to review its challenge, filing a petition in February to reverse the Ninth Circuit decision. Since the justices agreed this summer to review the challenge, the case has drawn attention from several stakeholders, some in support of the couple, others in support of the government, and a few that were in support of neither party.

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IRS Official Say That They Expect To Issue Offshore Profit Rules In 2024

The Internal Revenue Service expects to issue long-awaited proposed regulations on how to treat offshore profits that already have been taxed in the U.S. during the first half of next year, an agency lawyer said Tuesday.

Paul McLaughlin, special counsel for the IRS Office of Associate Chief Counsel, International, said the agency plans to publish those proposed rules sometime in the first half of 2024. McLaughlin spoke during a tax conference hosted by the American Bar Association in Philadelphia.

According to Law360,  while the rules won't be exhaustive, the rules for repatriating previously taxed earnings and profits, or PTEP, foreign income immediately taxed in the U.S., will address several important issues, including how to account for PTEP at both the U.S. shareholder and foreign corporation level, he said.

The rules will also address how to account for currency loss or gain when calculating PTEP and various other issues dealing with controlled foreign corporations owned by partnerships, McLaughlin said.

Officials have been indicating since at least 2020 that the PTEP regulations would be published as rulemakers have grappled with a bevy of complicated issues related to interactions between tax laws.

The general regulations would follow anti-abuse rules that Treasury has already released for Internal Revenue Code Section 245A, a measure enacted under the 2017 Tax Cuts and Jobs Act that lets companies bring home certain foreign-sourced earnings tax-free with a 100% dividends-received deduction.

Jones said that the agency expects to issue rules on those this provision by the end of the year.

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Cayman Islands Partnership, With No Staff, Not Recognized and Attributed US Income From US Agent/Advisor

According to Law360, a securities partnership based in the Cayman Islands owes federal income taxes on earnings connected with the management of its assets by a New Jersey advisory firm, the U.S. Tax Court ruled in YA Global Investments LP et al. v. Commissioner of Internal Revenue, docket numbers 14546-15 and 28751-15, saying the relationship constitutes engagement in a U.S. business.

The advisory firm's regular participation qualified the offshore partnership, YA Global Investments LP, as being engaged in a U.S. business, making it liable for withholding taxes, the Tax Court said in an opinion. Under Internal Revenue Code Section 1446, the partnership is required to pay tax on the portion of its income effectively connected with its U.S. business that was allocated to foreign partners, according to the opinion, which upheld partnership adjustments by the Internal Revenue Service for 2006 through 2008.

The IRS Had Argued That The Activities Of The Advisory Firm, Yorkville Advisors GP LLC, Were Attributable To YA Global Because The Partnership Had No Employees And Couldn't Perform Any Activities Itself, According To The Opinion.

YA Global had argued that Yorkville was its service provider rather than an agent whose activities could be attributed to the partnership for determining whether it was engaged in a U.S. business.

The court reasoned that YA Global, which provided funding to portfolio companies in exchange for stock and other securities, maintained control over Yorkville and expressly appointed the advisory firm as the partnership's agent in its investment management agreements. 

Furthermore, the activities that Yorkville performed on behalf of the partnership were "continuous, regular, and engaged in for the primary purpose of income or profit," meeting the requirements for engagement in a U.S. business as defined by case law and under IRC Section 864(b), the court said.

Planning Point - Need to staff foreign entities for them to be recognized as separate from US affiliates.

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DC Circ.Told Foreign Partner Liable For $6.5M In Gains Attributable To Inventory

According to Law360,  a foreign citizen living abroad who sold her share in a U.S. partnership that sold 5-Hour Energy drinks owed federal income tax on $6.5 million in gains stemming from the partnership's sale of inventory, the U.S. government told the D.C. Circuit in he case is Rawat v. Commissioner of Internal Revenue, case number 23-1142, in the U.S. Court of Appeals for the District of Columbia Circuit.

While Indu Rawat claimed that the inventory gains, like her partnership interest, should have been taxed as her personal property in the country where she lives, the government argued in a brief Tuesday that the gains were subject to an exception for inventory property.

Income from personal property sales, including partnership interests, by nonresidents is generally sourced to the country where the taxpayer lives and is therefore not taxable under Internal Revenue Code Section 865(a)(2), according to the brief. However, Rawat's gains are governed by an exception under IRC Section 865(b)(1) , which says income from the sale of inventory is subject to taxation according to the location where the inventory was produced, purchased or sold — in Rawat's case, in the U.S., the government said.

Furthermore, IRC Sections 751 and 741, which govern inventory items and gains and losses, require that in a partnership sale, the income from inventory sales should be severed from the gain of the sale and treated separately and as an inventory sale, the government said.

"That Meant That The Portion Of Rawat's Profits From
The Sale Of Her Partnership Interest Attributable To

The Partnership's Inventory Was Sourced In And
Taxable By The United States," The Government Said.

Rawat, a Canadian citizen who lived in India, sold her 29% interest in Innovation Ventures LLC, a U.S. partnership that sold consumer products including the energy drinks, in 2008 for a $438 million promissory note, according to the brief. The partnership later sold inventory for $22.3 million, of which $6.5 million was Rawat's share.

After an IRS audit of the partnership's returns, the agency determined Rawat owed $2.3 million in taxes on the inventory gain. Rawat paid the tax, plus penalties and interest, and challenged the agency's determination in U.S. Tax Court, which in May sided with the IRS and denied Rawat a $2.9 million refund.

Rawat's appeal of the decision to the D.C. Circuit incorrectly argues that IRC Section 741 allows her partnership interest to be classified as a single interest in a capital asset, the government said. Rawat's argument ignores the law's explicit exemption for inventory items, according to the government.

Furthermore, Rawat wrongly claims that her sale of the partnership stake wasn't connected to the U.S.-based business of selling energy drinks, relieving her of the requirement to pay tax to the U.S., the government said. She argued that while she is considered to be in the energy drink business, her gain was derived from the sale of the partnership interest.

But That Is Only True With Respect To Her Noninventory
Gain Under The Inventory Exception Laid Out In
IRC Section 865, The Government Said.

Rawat also incorrectly invoked "the entity theory" of partnership law to conclude that the income from her property shouldn't be separated from the rest of her profits for tax purposes, the government said. However, the Tax Court correctly held that the exception for inventory property applies, according to the government.

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