Daily Tax Update - April 20, 2010

IRS ISSUES DRAFT SCHEDULE AND INSTRUCTIONS FOR REPORTING OF UNCERTAIN TAX POSITIONS: Yesterday, the IRS issued a draft schedule (Schedule UTP) and corresponding instructions that provide a further explanation of its proposal to require certain corporate taxpayers to report their uncertain tax positions. The IRS previously announced its proposed reporting requirement in Announcement 2010-9. Subsequently, in Announcement 2010-17, the IRS extended the comment period for the proposal and stated that it planned to require the filing of the new schedule for returns relating to calendar year 2010 and for fiscal years that begin in 2010. Yesterday, in Announcement 2010-30, the IRS announced the release of the draft schedule and instructions, and requested comments on the prior announcements, the draft schedule, and the draft instructions by June 1, 2010. The draft schedule and instructions generally are consistent with the proposal originally outlined in Announcement 2010-9, and contain several examples clarifying the requirements described in that announcement. The draft schedule and instructions are summarized below.

Requirement for Filing Schedule UTP

  • In general, Schedule UTP requires a corporation with assets equal to or exceeding $10 million to report its federal income tax positions for which the corporation or a related party has (i) recorded a reserve in an audited financial statement or (ii) not recorded a reserve based on an expectation to litigate or an IRS administrative practice.
  • The draft schedule and instructions require only corporations filing a Form 1120, Form 1120 F, or Form 1120 L or Form 1120 PC to file a Schedule UTP beginning with the 2010 tax year. Accordingly, the IRS will not require for 2010 tax years a Schedule UTP from real estate investment trusts, regulated investment companies, pass-through entities, tax-exempt organizations, or other entities that do not file the Forms 1120 described above. The IRS stated in Announcement 2010-30 that it will determine the timing of the proposed reporting requirement for these entities after comments have been received and considered.
  • An audited financial statement includes financial statements prepared under GAAP, IFRS, or another country-specific accounting standard that requires a taxpayer to record a reserve for federal income tax purposes.
  • As in Announcement 2010-9, the draft schedule and instructions require the reporting of tax positions for which no reserve was made, if the reserve was not made because of an expectation to litigate or an IRS administrative practice.

Related Parties

  • The draft schedule and instructions define a related party broadly to include any entity that is related to the corporation under sections 267(b), 318(a), or 707(b), or any entity that is included in a consolidated audited financial statement in which the corporation is also included.
  • The draft schedule itself contains a box that must be checked if the corporation is unable to obtain information from related parties sufficient to determine whether a tax position must be disclosed.

Reporting of Uncertain Tax Positions on Schedule UTP

  • A tax position must be reported on a Schedule UTP and attached to a particular year’s return if (i) at least 60 days before filing the tax return a reserve has been recorded with respect to that tax position, or at least 60 days before filing the tax return a decision was made not to record a reserve based on an expectation to litigate or an IRS administrative practice, and (ii) the tax position has been taken by the corporation in a tax return for the current tax year or a prior tax year.
  • A tax position is taken in a tax return if it would result in an adjustment to a line item on that tax return (or would be included in a section 481(a) adjustment) if the position is not sustained. Thus, a tax position would include positions related to temporary differences as well as permanent differences.
  • A corporation generally is not required to report a tax position if it reported the tax position on a Schedule UTP filed with a prior tax return. However, an exception applies if there is a transaction that results in tax positions taken in more than one tax return.
  • The draft instructions provide for a transition rule under which a corporation is not required to report on Schedule UTP a tax position taken in (i) a tax year beginning before December 15, 2009, or (ii) a tax year beginning on or after December 15, 2009, and ending before January 1, 2010, regardless of whether or when a reserve was recorded with respect to that tax position.
  • Consistent with Announcement 2010-9, a corporation must provide a concise description of each uncertain tax position, including information that reasonably can be expected to apprise the IRS of the identity of the tax position and the nature of the uncertainty. According to the IRS, this description should, in most cases, not exceed a few sentences.
  • The description must include (i) a statement that the position involves an item of income, gain, loss, deduction, or credit against tax, (ii) a statement whether the position involves a determination of the value of any property or right or a computation of basis, and (iii) the rationale for the position and the reasons for determining the position is uncertain.
  • The draft instructions contain several examples of concise descriptions.
  • A corporation must disclose the maximum tax adjustment for a tax position, which is an estimate of the maximum amount of potential US federal income tax liability associated with the tax year for which the tax position was taken.
  • For tax positions relating to items of income, gain, loss, and deduction, total amounts are estimated in dollars and multiplied by 35%. For items of credit, the total amount of credits is estimated in dollars. These amounts do not include penalties or interest, and do not reflect offsets except to the extent of items relating to the same tax position.  
  • A determination of a maximum tax adjustment amount is not required for valuation or transfer pricing positions. A corporation can provide a ranking of these tax positions based on either the amount recorded as a reserve for the position, or the estimated tax adjustment relating to the position. The corporation is not required to describe the method chosen or report the reserve or adjustment amounts.
  • Other information that must be indicated on the Schedule UTP with respect to an uncertain tax position includes: (i) the primary IRC sections relating to the tax position, (ii) whether a tax position creates temporary or permanent (or both) differences, (iii) if the tax position relates to a position of a pass-through entity, such entity’s EIN, and (iv) whether the tax position must be reported because it was determined that the IRS would not challenge the position based on IRS administrative practice.

Coordination with Other Reporting Requirements

  • The draft instructions state that the IRS will treat a complete and accurate disclosure of a tax position on a Schedule UTP as if the corporation filed a Form 8275, Disclosure Statement (or Form 8275-R, Regulation Disclosure Statement), with respect to the tax position.  
  • In Announcement 2010-30, the IRS also stated that is reviewing the extent to which the proposed Schedule UTP duplicates other reporting requirements, and is considering other circumstances under which a tax position reported on Schedule UTP does not need to be separately reported on the tax return or another disclosure statement.

Penalties

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