|
Rules on Interest Are Eased
- Interest Netting for Open and Closed Tax Years. For calendar quarters
beginning after July 22, 1998, interest netting is available. Netting also applies to
interest for periods before the date of enactment, if the statute of limitations has not
expired, and if the taxpayer identifies the periods of underpayment and overpayment for
which the zero rate applies on or before December 31, 1999.
That is, a net interest rate of zero is available on equivalent amounts of overpayment and
underpayment of income tax that exist for any period. The special rules that increase the
interest rate paid on large corporate underpayments and decrease the interest rate
received on corporate overpayments in excess of $10,000 do not prevent the application of
the net zero rate. All taxes imposed by the Internal Revenue Code, including income,
employment, and excise taxes, are eligible for the interest netting provision.
Example: Suppose that Y Corporation filed
its 1994 Form 1120 U.S. Corporation Income Tax Return on March 15, 1995. Later, Y
Corporation’s 1994 Form 1120 was audited, and the IRS determined that Y Corporation
owed an additional $150,000 in tax for 1994. Y Corporation paid that tax on November 15,
1997. Y Corporation owed that additional tax from the time its tax return was filed on
March 15, 1995, until the tax was paid on November 15, 1997.
Meanwhile, Y Corporation filed its 1996 Form 1120 on March
15, 1997. Its 1996 Form 1120 was audited, and the IRS determined that Y Corporation had
overpaid its 1996 taxes; the IRS owed $100,000 to Y Corporation. The IRS issued a refund
of $100,000 to Y Corporation on July 15, 1998. The IRS owed the $100,000 to Y Corporation
from the time that Y’s 1996 tax return was filed on March 15, 1997, until the refund
was issued on July 15, 1998.
For the period starting March 15, 1997 (when Y filed its
1996 return and paid too much to IRS), until November 15, 1997, (when Y paid 1994 tax that
it owed to IRS), both Y Corporation and the IRS owed each other money. This is the
"period of mutual indebtedness."
Under the 1998 legislation, for a period of mutual
indebtedness, there is zero interest on the additional tax liability and on the
corresponding refund. Thus, in this example, there is zero interest on the $100,000
additional tax liability and zero interest on the corresponding $100,000 that was refunded
for the period from March 15, 1997, to November 15, 1997.
- Overpayment Interest Rate. For calendar quarters beginning after July
22, 1998 (that is, for quarters beginning October 1, 1998, and later), the interest rate
on overpayments (refunds) will be the applicable federal short-term rate plus three
percentage points, except for corporations, for which the rate will remain the applicable
federal short-term rate plus two percentage points. For noncorporate taxpayers, this
raises the interest rate, which was formerly the applicable federal short-term rate plus
two percentage points, but means that for noncorporate taxpayers the interest rate for
both underpayments and overpayments is the same.
Back to the Top
New Rules Apply in Disputes with
IRS
- It Gets Easier to Challenge IRS Actions. Under the 1998 legislation,
when taxpayers believe they have been assessed an improper amount of tax, they can more
easily challenge the IRS. Specific provisions include:
- Certain "innocent spouse" requirements have been relaxed,
making it easier for some to avoid liability and making relief available on a
proportionate basis.
- An individual who has filed a joint return and who is no longer married
to or living with, or is legally separated from, the spouse with whom the return was
filed, can elect separate liability for any liability with respect to the return. (This
election is not available if assets were transferred between joint filers as part of a
"fraudulent scheme," or if both individuals had actual knowledge of the
understatement of tax.)
- The IRS is authorized to relieve an individual of a tax liability if it
would be inequitable to hold the individual liable for any unpaid tax or deficiency.
- The hourly cap of attorney’s fees is increased by the 1998
legislation from $110 per hour to $125 per hour, and the circumstances under which
attorney’s fees and administrative costs may be awarded to taxpayers are expanded.
- Issuers of tax-exempt bonds may appeal adverse determinations to senior
personnel in IRS’s Appeals Division before interest on issues is declared taxable and
assessments are made among bondholders.
- The threshold for using the Tax Court’s small-case procedure is
increased from $10,000 to $50,000, effective for proceedings commenced after July 22,
1998. For many taxpayers, this should cut the costs of challenging an IRS determination.
- The Court of Federal Claims and the U.S. district courts are granted
jurisdiction to determine the correct amount of estate tax liability (or refund) in
actions deferring estate tax payments under Section 6166, if certain conditions are
satisfied. Section 6166 generally provides tax deferral for the estates of owners of
closely held businesses. The jurisdictional changes apply to claims for refund filed after
July 22, 1998.
- The Burden of Proof Is Shifted. Effective for court proceedings arising
in connection with examinations commencing after July 22, 1998, the IRS has the burden of
proof in any court proceeding with respect to factual issues relevant to ascertaining the
tax liability of taxpayers, as long as the taxpayers introduce credible evidence to back
up their claim. This applies in the Tax Court and other federal courts. The IRS has the
burden of proof with respect to any penalty, addition to tax, or additional amount.
The taxpayer must still substantiate items with carefully maintained records and must
cooperate with reasonable requests by the IRS for meetings, witnesses, information, and
documents.
Now, any time the IRS uses statistical information from unrelated taxpayers to reconstruct
an individual’s income, the burden of proof is on the IRS with respect to the item of
income.
In general, corporations, trusts, and partnerships whose net worth exceeds $7 million are
not eligible for the benefits of the burden-of-proof changes.
- Confidentiality Privilege Is Extended to Nonattorneys. With respect to
tax advice, the same common-law protections of confidentiality that apply to a
communication between a taxpayer and an attorney will also apply to a communication
between a taxpayer and any "federally authorized tax practitioner." The term
includes accountants, enrolled agents, enrolled actuaries, and attorneys. However, the
privilege does not apply to any communication with any of these persons if the
communication would not have been privileged had it been between an attorney and the
attorney’s client or prospective client.
The privilege of confidentiality may be asserted in any noncriminal tax proceedings before
the IRS, as well as in noncriminal tax proceedings in the federal courts if the IRS is a
party to the proceedings.
There is one very important exception: Communication between taxpayers and accountants, or
other nonattorney tax advisers, relating to corporate tax shelters is not protected as
confidential. For this purpose, a tax shelter is defined as a partnership or other entity,
any investment plan or arrangement, or any other plan or arrangement, if a significant
purpose of such partnership, entity, plan, or arrangement is the avoidance or evasion of
federal income tax.
These rules are effective for communications made after July 22, 1998.
Back to the Top
Changes Curb Some Penalties and
Seizures
- Suspension of Interest and Certain Penalties. The accrual of interest
and penalties is suspended if the IRS has not sent the taxpayer a notice within eighteen
months following the later of the original due date of the return or the date the taxpayer
timely filed the return.
The suspension applies only to individual taxpayers who file a timely return. The notice
must specifically state the taxpayer’s liability and the due date of the return
without regard to extensions. Interest and penalties resume 21 days after the IRS sends a
notice and demand for payment to the taxpayer. The suspension does not apply to the
failure-to-pay penalties or in cases of fraud, and it does not apply to criminal
penalties.
- No More Cascading Deposit Penalties for Employers. A new provision
makes it possible for employers to avoid substantial penalties for relatively minor
infractions of payroll tax deposit rules. Effective for deposits required to be made after
180 days after January 22, 1999, employers may designate the period to which each payroll
tax deposit is applied, instead of having the IRS automatically allocate the deposit to
the earlier period for which an amount is due. The designation must be made no more than
90 days after the related IRS penalty notice.
Previously, the IRS automatically allocated the deposit to the earliest period for which
an amount was due. Thus, deposit penalties would cascade when the employer made an error
in the amount of payment. For example: An employer makes a $100,000 payroll tax deposit,
but the IRS determines that the employer should have made a $105,000 deposit. The employer
later makes a correct deposit. The IRS would take the penalty and interest out of the
later deposit, causing an underpayment for the later deposit, as well. This cascade could
start before the employer had any notice of the original underpayment. Under the 1998 law,
the IRS will apply payments as instructed by the taxpayer. Thus, in this example, the IRS
would assess penalties and interest for only the first payment.
- Tempering Penalties. The 1998 legislation tempered penalties in the
following additional areas:
- For installment agreement payments made after 1999, the failure-to-pay
penalty is cut in half (from one-half percent to one-quarter percent) during any month in
which an installment payment agreement with the IRS is in effect, provided the tax return
was timely filed.
- Notices that impose penalties must include the name of the penalty, the
Code section that imposes the penalty, and a computation of the penalty. This applies to
notices issued after 2000.
- Taxpayers located in Presidentially-declared disaster areas do not have
to pay interest on taxes due for the length of any extension for filing their tax returns
granted by the Treasury. This applies to disasters declared in 1998 and later years, with
respect to tax years beginning after 1997.
- More Procedural Safeguards on Seizures. The 1998 legislation makes it
harder for the IRS to take a taxpayer’s property for failure to pay taxes by
providing new procedural safeguards. Thirteen new standards, restrictions, or appeal
rights apply in connection with IRS seizure and levy activities.
Back to the Top
Industry-Specific Changes
- Rights of Software Developers. The Treasury may not issue a summons in
a civil action for any portion of a third-party tax-related computer source code, unless
the Treasury is unable to otherwise determine the correctness of an item on a return from
the taxpayer’s books and records. This protects the rights of software developers.
Substantial restrictions are imposed on the manner in which computer code may be examined,
and criminal penalties apply to those who view the software and reveal its secrets.
- Encouragement for Electronic Filing. To promote paperless tax return
filing, the 1998 law provides that all returns that are now prepared in electronic form
but filed on paper must be filed electronically by 2002 to the extent feasible. Congress
intends for the IRS to press for intense private sector competition to increase electronic
filing of returns. Congress’s goal is having at least 80 percent of such returns
filed electronically by 2007.
|
Tax Guide
