Daily Tax Update - May 15, 2013: Treasury Inspector General For Tax Administration Releases Report on Treatment of Applicants For Tax-Exemption

TREASURY INSPECTOR GENERAL FOR TAX ADMINISTRATION RELEASES REPORT ON TREATMENT OF APPLICANTS FOR TAX-EXEMPTION:  The Treasury Inspector General for Tax Administration (TIGTA) has released its report (PDF) on the alleged targeting of applicants for tax-exempt status based on political views.  TIGTA initiated its audit because of questions from members of Congress.  The report states that the audit found:

The IRS used inappropriate criteria that identified for review Tea Party and other organizations applying for tax-exempt status based upon their names or policy positions instead of indications of potential political campaign intervention.  Ineffective management: 1) allowed inappropriate criteria to be developed and stay in place for more than 18 months, 2) resulted in substantial delays in processing certain applications, and 3) allowed unnecessary information requests to be issued.

Although the processing of some applications with potential significant political campaign intervention was started soon after receipt, no work was completed on the majority of these applications for 13 months.  This was due to delays in receiving assistance from the Exempt Organizations function Headquarters office....

More than 20 months after the initial case was identified, processing the cases began in earnest.  Many organizations received requests for additional information from the IRS that included unnecessary, burdensome questions (e.g., lists of past and future donors).  The IRS later informed some organizations that they did not need to provide the information that was previously requested.  IRS officials stated that any donor information received in response to a request from its Determinations Unit was later destroyed.

TIGTA reports that it has recommended nine actions:

TIGTA recommended that the IRS finalize the interim actions taken, better document the reasons why applications potentially involving political campaign intervention are chosen for review, develop a process to track requests for assistance, develop and publish guidance, develop and provide training to employees before each election cycle, expeditiously resolve remaining political campaign intervention cases ..., and request that social welfare activity guidance be developed by the Department of the Treasury.

The Service has agreed with seven of these recommendations, and proposed alternative corrective actions for the remaining two.  TIGTA does not agree that these alternatives will be effective.

The IRS provided a response to the report, included at page 43 of the report itself.  Joe Grant, the Acting Commissioner for Tax-Exempt and Government Entities wrote:

We recognize that some errors occurred in the handling of the influx of advocacy cases and we appreciate TIGTA’s acknowledgement of our steps to improve the process.... Significant improvements in this area are in place and we are confident that what transpired here will not recur....

EO is dedicated to reviewing applications for tax-exempt status in an impartial manner.  Centralization of like cases furthers quality and consistency.  The mistakes outlined in the report resulted from the lack of a set process for working the increase in advocacy cases and insufficient sensitivity to the implications of some of the decisions made.  We believe the front line career employees that made the decisions acted out of a desire for efficiency and not out of any political or partisan viewpoint.  And as the report discusses, these issues have been resolved.

The House Committee on Ways and Means will hold a hearing on this issue on Friday, May 17, 2013, at 9 am. On May 21, the Senate Finance Committee will convene a hearing. The House Oversight Committee has also announced that it will hold a hearing on May 22, 2013.  The witnesses at the Oversight Committee hearing will be:

  • Neal S. Wolin, Deputy Secretary, Department of the Treasury
  • J. Russell George, Treasury Inspector General for Tax Administration
  • Lois Lerner, Director of Exempt Organizations, Internal Revenue Service
  • Douglas Shulman, Former Commissioner, Internal Revenue Service

HEARING ON THE WAYS AND MEANS SMALL BUSINESS TAX REFORM DISCUSSION DRAFT:  Today, the House Ways and Means Subcommittee on Select Revenue Measures held a hearing on the Small Business Tax Reform Discussion Draft.

In his opening statement, Subcommittee Chairman Tiberi said, “The Small Business Tax Reform Discussion Draft is a step forward in creating a better tax code for small businesses.  But that’s not to say it can’t be improved upon, and that’s why Chairman Camp released this as a discussion draft: to ensure that through a public, transparent process, stakeholders – including small businesses themselves – have the opportunity to tell us what they need from tax reform to help them create jobs and increase wages for their employees.  I’m looking forward to a great bipartisan discussion today.” 

The witnesses were:

Mr. Roger Harris
President, Padgett Business Services
Testimony

Mr. Willard Taylor
Former Partner, Sullivan & Cromwell
Testimony

Mr. Blake Rubin
Partner, McDermott Will & Emery
Testimony

Mr. Thomas Nichols,
Meissner Tierney Fisher & Nichols
Testimony

Mr. Harris stated, “As you move forward with the tax reform process, I would suggest two objectives for small businesses. The first obviously is a simpler code. The second is to improve cash flow for small businesses so that they can survive and grow. The tax code should not stand as an impediment to starting a new business. I am pleased to say the core components of the Ways and Means Committee Discussion Draft is a positive move toward meeting these goals.”  Mr. Harris added,  “Over the years it has become clear to me that for most small entrepreneurs, the business checking account is the focal point for their bookkeeping. It is how they measure cash flow and profits, and to a great extent is the foundation for their tax accounting as well. Anything that moves them away from this simple, yet effective, approach creates complexity. Further, small start-up businesses live or die on their cash flow: anything that creates a mismatch between taxable income and cash-on-hand is not only adding complexity but creates the practical problem of how do you pay the taxes when there is no cash in the till. Finally, it is important to keep in mind that while lower rates are always welcomed by small businesses, a base broadening exercise can result in significant added complexity and accounting costs for this group. It is for that reason that I commend the Committee’s Discussion Draft. Including its recommendations in a tax reform package will help move small businesses to a truer cash basis environment and will serve to inoculate the small business sector from potential complexity brought about by a base broadening approach to tax reform. At the same time, I believe the Committee should consider additional proposals to provide small businesses relief from complex rules governing inventory accounting. These areas are two of the more significant examples of current tax rules that prevent small businesses from operating as a true cash basis taxpayer.”

Mr. Taylor discussed the “two options for structural change, one consisting of specific changes to the Subchapter S and partnership rules and the other, option 2, consisting of a fundamental revision of Subchapter S and of the partnership rules, resulting in a single set of rules for all non-publicly traded pass-through entities.”

Mr. Rubin stated, “Option 1 sets forth proposed targeted changes to the existing partnership tax rules. I believe that many of the changes to the taxation of partnerships proposed in Option 1 of the Discussion Draft will help simplify and rationalize the partnership tax rules and should be enacted. Specifically, I believe that the proposed repeal of the guaranteed payment rule of section 707(c) and the rules relating to the liquidation of a retiring or deceased partner’s interest in sections 736 and 753 are sensible changes that further the goal of simplification. Indeed, I would go a step further and adopt the proposed change from Option 2 that would overrule the IRS’s position in Revenue Ruling 69-1841 and allow a partner to be treated as an employee of the partnership for withholding, FICA and FUTA tax purposes.”

Mr. Nichols testified, “In summary, the S corporation enhancements contained in Option 1 would indeed encourage and foster additional economic activity in the American economy and I strongly support them.  The provisions contained in Option 2 are more aggressive and deserve closer scrutiny. Certain aspects of Option 2, particularly the new bright line between corporate and passthrough treatment, are extremely valuable and should be made part of any Tax Reform effort.  The advantages of other aspects, including the need for S corporations to comply with a new and much more complicated tax regime, however, may not justify the substantial costs involved in requiring them to convert and comply with that new system. One goal of the Discussion Draft appears to be to restrict partnership flexibility so as to reduce the potential for abusive tax structures. The partnership tax structure has always been much more flexible than the S corporation structure, and hence more subject to potential abuse. In fact, much of the complexity of the partnership regime is attributable to Congress's efforts to eliminate this abuse potential.”  Mr. Nichols added, “But for the 4.5 million existing S corporations accustomed to dealing with the restrictions applicable to S corporations, forcing them to comply with these old and new compliance-focused partnership provisions would likely impose a substantial cost with little offsetting economic benefit. New start-up owners are likely to be similarly discouraged. I am supportive of Congress's efforts to rein in tax shelters and other perceived tax abuses, but disrupting the tax mechanics for tax-compliant S corporations is unlikely to further that goal.”

FINANCE COMMITTEE RELEASES TAX REFORM OPTIONS PAPER ON ECONOMIC AND COMMUNITY DEVELOPMENT: Today, the Senate Finance Committee released another in a series of tax reform options papers.

The document can be accessed via: Economic and Community Development 

IRS PROVIDES ADDITIONAL DETAILS ON FURLOUGH DAYS:  The IRS announced today additional details about the closures planned for May 24, June 14, July 5, July 22 and Aug. 30, 2013.  According to the IRS, “Due to the current budget situation, including the sequester, all IRS operations will be closed on those days. This means that all IRS offices, including all toll-free hotlines, the Taxpayer Advocate Service and the agency’s nearly 400 taxpayer assistance centers nationwide, will be closed on those days. IRS employees will be furloughed without pay. No tax returns will be processed and no compliance-related activities will take place.”  The IRS said that it may announce additional furlough days if necessary.  The IRS said that the shutdown will have no impact on any tax-filing deadlines.

TAX BILLS INTRODUCED MAY 14:

1.[113rd] H.R.1978 : To amend the Internal Revenue Code of 1986 to repeal the phasedown of the credit percentage for the dependent care tax credit.
Sponsor: Rep Schwartz, Allyson Y. [PA-13] (introduced 5/14/2013)      Cosponsors (1) 
Committees: House Ways and Means 
Latest Major Action: 5/14/2013 Referred to House committee. Status: Referred to the House Committee on Ways and Means.


2. [113rd] S.937 : A bill to prohibit the Internal Revenue Service from applying disproportionate scrutiny to applicants for tax-exempt status based on ideology, and for other purposes.
Sponsor: Sen Flake, Jeff [AZ] (introduced 5/14/2013)      Cosponsors (3) 
Committees: Senate Finance 
Latest Major Action: 5/14/2013 Referred to Senate committee. Status: Read twice and referred to the Committee on Finance.


3. [113rd] S.952 : A bill to amend the Internal Revenue Code of 1986 to clarify the treatment of church pension plans, and for other purposes.
Sponsor: Sen Cardin, Benjamin L. [MD] (introduced 5/14/2013)      Cosponsors (1) 
Committees: Senate Finance 
Latest Major Action: 5/14/2013 Referred to Senate committee. Status: Read twice and referred to the Committee on Finance.