Board of Tax and Revenue Appeals Proposal – H.B. 2423

Composition of board and term

Jurisdiction of board

Reassessment, refund, reconsideration of adverse agency action, and any other legislatively authorized matters.

Appeal Process:

Notice of assessment )

Petition for reassessment > Administrative hearing

Petition for refund )

Appeal to the tax commissioner §11-10-10

Appeal to the board of tax and revenue §11-10A-11

Administrative Notices issued each year announce guidelines for tax practitioners to understand the position that will be taken by the State Tax Department regarding tax rates, interest rates, capitalization rates, appraisals, property valuation, productivity, trends and depreciation factors.

Admin. Notice 2000-02 Property Tax -- State Tax Commissioner's Statement for the Determination of the Capitalization Rates for Producing Coal, Oil and Gas and Other Mined Minerals for Property Tax Purposes for Tax Year 2000, Pursuant to §§ 110 CSR 1I-4.1.7, 1J-4.5.1 and 1K-4.1.7. The International Association of Assessing Officers text Property Appraisal and Assessment Administration, 1990, defines a capitalization rate as: "Any rate used to convert an estimate of income to an estimate of market value; the ratio of net operating income to market value." In other words a rate used to convert an estimate of future income into an estimate of present value.

Generally, there are three (3) components that must be considered and if appropriate developed and included in an overall capitalization rate. These components are: the discount component, the recapture component, and the property tax component.

Admin. Notice 2000-03 Royalty Rates for Coal Categories: surface, deep, steam and metallurgic

In West Virginia, natural resources royalty rates are generally negotiated at a stated price per ton or as a percent of the selling price per ton of the resource produced. As most leases are negotiated as a percentage of selling price, it is necessary to obtain lease and sales information and to analyze this information in order to develop leasing and sales price patterns typical of the industry. The Department's review of coal industry leasing patterns during the previous eight- (8) years reveals that leases for surface mining operations (5.96%) are typically higher than for deep mining operations (5.63%). Review of sales prices reported in Coal Outlook, Coal Week and from Tax Year 1999 returns, further reveal a difference in typical selling prices of steam coal ($28.36 per ton) and metallurgical coal ($33.12 per ton).

Thus, royalty rates typically negotiated by the coal industry have been as follows:

Steam Coal/Deep Mine

$28.36 per ton X 5.63% = $1.60 per ton

Metallurgical Coal/ Deep Mine

$33.12 per ton X 5.63% = $1.87 per ton

Steam Coal/Surface Mine

$28.36 per ton X 5.96% = $1.69 per ton

Metallurgical Coal/ Surface Mine

$33.12 per ton X 5.96% = $1.97 per ton

Admin. Notice 2000-04 Decline Rates for Producing Oil & Gas

The income stream generated from a producing oil or gas well is directly dependent upon the quantity of the natural resource produced from the well. Once drilled an oil or gas well will experience a sharper production decline, typically for the first two years of production. This is known as flush production. Thereafter production decline levels off into what is known as settled production. The rate of production decline is dependent upon the physical location of the well and the stratigraphic formation(s) from which the well is producing.

Admin. Notice 2000-05 Producing Properties, Coal, Oil & Gas

There are three generally accepted approaches to value that must be considered when estimating market value of property for ad valorem tax purposes. These are the cost, market, and income approaches. These approaches to value must be considered and should be developed, if appropriate, to properly estimate market value in compliance with generally accepted appraisal principles. The Tax Department developed and relies on an income approach appraisal as the income approach as the only one of the three generally accepted approaches to value that can properly be developed to yield reasonable estimates of current market value when used in a mass appraisal environment.

Admin. Notice 2000-06 Operating Expenses for Oil and Gas Production

As a result of questionnaires returned by oil and gas producers regarding information concerning annual ordinary operating expenses, the Tax Department has developed the following criteria for the direct ordinary operating expenses as a result of this research activity. Direct ordinary operating expenses will be estimated to be 25% of the gross receipts derived from gas production, not to exceed $5,000, 30% of gross receipts derived from oil production, not to exceed $7,000, and 30% of the gross receipts derived from enhanced recovery oil wells, not to exceed $9,000. As required in the amended Rule, the Tax Department will biennially review such rates.

Admin. Notice 2000-07 Soil Productivity Maps for Managed Timberland

Soil productivity maps were developed and delivered to the Department in 1985. These maps were used (with the exception of Webster County) as a basis for grading and pricing approved managed timberland applications for Tax Year 2000.

Admin. Notice 2000-08 Property Tax – In-place tonnage per acre-foot

The specific gravity of bituminous coal ranges between 1.15 and 1.5 depending on rank, moisture content, and ash content, and averages 1.32. The Legislative Rules equation for the determination of tons per acre-foot is as follows:

62.4 lbs. water 43,560 ft3 natural resource

per ft3 water X per acre-ft. X specific gravity

2000 lbs./ton = tons per acre-ft.

Admin. Notice 2000-09 Use Market Comparable Approach for Research Other Natural Resources

The market approach to value is based upon the assumption that the recent selling price of comparable properties, if properly analyzed and adjusted, will yield a reasonable estimate of current market value. Consistent with the above referenced Legislative Rule, the State Tax Department developed a market comparable approach for reserve other mineral properties. The Department has reviewed sales from 1989 through 1999 in various fashions and has constructed measures of central tendency concerning sales transacted during the aforementioned period of time. These sales have been analyzed according to methods established in § 110 CSR 1K-4.2 for reserve other natural resource properties. The Department published and filed final variables on September 1, 1999.

Admin. Notice 2000-10 Reserve Oil, Gas and Coal Properties – Use Income Approach

The income approach to value is based upon the assumption that a property is worth the future income, discounted to present worth, that it will generate for the prospective buyer. In the oil and gas industry, a common business practice of negotiating advance payments ("delay rentals") for the right to, at some future date, produce oil and gas has developed. By analyzing the amount and duration, typically, of delay rentals and by discounting the resulting income series to present worth an estimate of the probable selling price of reserve oil and gas properties can be developed. This procedure contained in § 110 CSR 1J-4.7 is the method used by the Department to develop, on a county-by-county basis, the per acre market value of reserve (non-producing acreage) oil and gas properties.

Admin. Notice 2000-11

	Reserve coal properties to be appraised based upon coal bed mapping information form which a reserve coal valuation model (RCVM) is derived. RCVM will be phased-in over a five year period beginning this year. This phase-in will be accomplished by combining the RCVM value with a transitional coal valuation model (TCVM) value.
	For Tax Year 2000, reserve coal will be appraised using 20% RCVM value in combination with 80% TCVM value. Each succeeding year the RCVM portion of the appraisal will increase by 20% and the TCVM portion will decrease by 20% until 100% RCVM is used for Tax Year 2004 and beyond.

Admin Notice 2000-12 Cost Approach to Value Appraisals of Industrial Personal Property: Trend Factor: Depreciation Factor

Costs used in the cost approach can be original, acquisition, replacement, or reproduction costs, although often only original or acquisition costs are readily available. Original cost is the cost of acquisition of a property. Reproduction cost is the cost of reproducing an exact replica of a property. Replacement cost is the cost of replacing a property with one of like utility. The cost approach may be most consistently applied to machinery, equipment, furniture, fixtures, and leasehold improvements because of the availability of reliable data such as the original or acquisition cost. The State Tax Department trends the original or acquisition cost to today's replacement cost and depreciates the replacement cost, based on age and condition, to estimate a property's current market value. This process is recommended by the International Association of Assessing Officers' Standards on the Valuation of Personal Property.

Admin. Notice 2000-13 Green Guide for Heavy Equipment

The Green Guide for Administrative Valuation and Assessment of Used Construction Equipment provides a comprehensive, reliable, and up-to-date source for estimates of current market value of construction equipment manufactured during the past ten years. The values presented in the Green Guide represent a nationwide average for equipment in typical working condition. Any dollar amounts shown in this guide are adjusted to fit the mechanical condition of a specific unit. Market conditions also have a bearing on the value of equipment and can vary in different areas.

Admin. Notice 2000-14 Allocation or Separation of Values of a Pollution Control Facility Pursuant to §110 CSR 6-4

The two methods by which a pollution control facility will be allocated or separated to establish that portion of value attributable to pollution control activity are the Component method and Substitution method. The component method of allocation or separation of values requires the identification of the specific item or component of machinery and/or equipment which is used for the purpose of pollution abatement control but which is also an integral part of the production process and the identification of the acquisition cost of the specific item or component.

Admin. Notice 2000-15 Computer Assisted Mass Appraisal for Residential Real Estate

CAMA will separately value raw land and structures. This software provides for the entry of data by the local Assessor concerning "comparable sales" of land in particular "neighborhoods" in the county and then prices the value of this land on a "price per front foot" or by acreage. All such data is entered by tax map and parcel number. In addition, this software contains "replacement cost" pricing features for structures that will allow the local Assessor to enter data such as the size and dimensions of a structure and its rooms, construction materials utilized, quality of construction, date of construction, present condition, style, mechanical systems such as air conditioning and/or furnace, bathrooms, porches, decks, garages, basements, chimneys, exterior and outbuildings.

Admin. Notice 2000-16 Capitalization Rates for Managed Timberland

	The International Association of Assessing Officers text Property Appraisal and Assessment Administration, 1990, defines a capitalization rate as: "Any rate used to convert an estimate of income to an estimate of market value; the ratio of net operating income to market value." In other words a rate used to convert an estimate of future income into an estimate of present value.
	The average statewide capitalization rate (based on a 5-year weighted moving average of various components) for managed timberland is determined annually by the Tax Commissioner. The rate is based on the assumption of a discounted cash flow model based upon harvest intervals reflected in Appendix 4 of § 110 CSR 1H.
	Generally, there are three components that must be considered. These components are: the discount component, the recapture component, and the property tax component. The development of the components is discussed in the Rule under Sections § 110 CSR 1H-12.1.

Admin. Notice 2000-17 Interest Rates

The rate of interest on underpayments and overpayments of taxes, and on public contracts when final payment is delayed, will be 9 percent for the period beginning July 1, 2000, and ending December 31, 2000, inclusive.

Admin. Notice 2000-19 Tax Liens

State tax liens must be filed and docketed with the county commission of the county wherein such real estate or personal property is located to be enforceable against a purchaser, without notice, or lien creditor. The county clerk has the legal authority and responsibility to index tax liens filed with the county. See West Virginia Code §38-10C-2 and §38-3-5.

Admin. Notice 2000-20

The rate of interest on underpayments and overpayments of taxes, and on public contracts when final payment is delayed, will be 8 percent for the period beginning January 1, 2000, and ending June 30, 2000, inclusive.

Admin. Notice 2000-21

Small Business Investment and Jobs Expansion Tax Credit (Small Business Credit) - Notice of Inflation Adjustments for Tax Years Beginning in 2000.

Administrative Decisions are issued by and Administrative Law Judge following an assessment against a taxpayer, petition for reassessment filed and a hearing held on the record. Most frequently, a taxpayer appeals the assessment of additional commercial sales and service tax or personal income tax, interest and penalties. Administrative Law Judges continue to hear State Business and Occupational Tax petitions for reassessment filed in the early 1980s. The delay comes from stays granted pending the outcome of the Armco and Ashland Oil cases before the U.S. Supreme Court.

Admin. Dec. 97-611 PS - Issued - 1-13-00

An individual’s belief that the action or inaction of government concerning a collateral matter has deprived him or her of federal or state constitutional rights does not justify a refusal to file tax returns or to pay taxes. Similarly, a religious belief in conflict with the payment of taxes affords no basis for resisting the tax.

Admin. Dec. - 95-452 U - Issued - 1-20-00

Although the Petitioner’s dancers work a forty (40)-hour week and dance routines established by the Petitioner, the fact remains that the dancers possess considerable freedom when actually performing their dance routines and when fraternizing with customers and since they are treated as independent contractors for payment purposes, said dancers are independent contractors and not employees for sales and use tax purposes.

	Pursuant to 110 C.S.R. 15, § 33.4.5 a service is purchased for resale when it is subcontracted out by the person who was contracted with to perform the service initially. However, the regulation is not applicable in this instance since the Petitioner is not collecting tax from its customers on the value of the dance services which it claims are being resold and because on this record Petitioner’s customers are not in fact purchasing the services of an exotic dancer by payment of a cover charge but are merely granted admission for the purpose of obtaining entertainment services or food or beverages, to be provided by the Petitioner.
	Petitioner’s liability for use tax is not extinguished until such tax is paid pursuant to W. Va. Code § 11-15A-2(b) and therefore since the tax was not collected by the dancers the purchaser remains liable therefor.
	Since fraternizing, unlike barbering and manicuring does not require that touching take place for the service to be rendered, the activity of fraternization does not constitute a personal service under 110 C.S.R. 15, § 35.1.
	Massaging services performed by exotic dancers are not exempt since the skill level is not the same as rendered by a masseuse or a masseur and because the dancers are not performing the activities of kneading, rubbing, or manipulating, to condition the body, as required by 110 C.S.R. 15, § 80.1.

Admin. Dec. 99-236 PS - ISSUED - 12/20/99

Petitioner's failure to timely file his 1995 personal income tax return as required by W. Va. Code § 11-21-15 and his failure to proffer any defense as to why the untimely filing occurred as further required by W. Va. Code § 11-10-9 mandates that the assessment be upheld in total.

Admin. Dec. 94-161 RN - ISSUED - 12/13/99

CORPORATION NET INCOME TAX--ACRS ADJUSTMENT UNCONSTITUTIONAL--The Circuit Court of Kanawha County in the case of Bell Atlantic-West Virginia, Inc. v. Paige ruled that W. Va. Code § 11-24-6(b)(5) was violative of Article X, § 1 of the West Virginia Constitution and therefore unconstitutional thereby mandating that Petitioner’s claim for refund be granted.

Admin. Dec. 96-459 RC - ISSUED - 11/18/99

	Petitioner claims refund is due to an exemption on its purchases of tangible personal property directly used in the performance of environmental quality or protection work for a customer engaged in the business of transmission. Refund denied due to previous finding in earlier administrative decision involving said Petitioner.
	Based upon the refusal of the West Virginia Supreme Court of Appeals to hear the State Tax Department’s petition for appeal from the ruling of the Circuit Court of Jackson County reversing the earlier administrative decision in favor of the State Tax Department, the consumers sales and service tax refund plus all statutory interest is granted.

Admin. Dec. 99-097 P - ISSUED - 11/30/99

	Under W. Va. Code § 11-10-9, a taxpayer must bear the burden of proving that a tax assessment is incorrect or invalid, in whole or in part.
	The State Tax Department will not waive additions to tax included in a personal income tax assessment against a taxpayer for his failure to pay tax expected to be due at the due date of the return, when the taxpayer did not provide any justifiable cause for his failure to comply with the duty to pay tax when due.

Admin. Dec. 98-393 WS, 98-395 NS, 98-396 FNS - ISSUED 11/30/99

WITHHOLDING TAX--CORPORATION NET INCOME TAX--BUSINESS FRANCHISE TAX--BURDEN OF PROOF--The State Tax Commissioner will affirm the estimated tax assessments against a taxpayer who fails to carry its burden of proof with respect to the actual tax liabilities due the State of West Virginia during the assessment periods.

Admin. Dec. 90-163 B & 90-164 C - ISSUED 10/25/99

BUSINESS AND OCCUPATION TAX AND CONSUMERS SALES AND SERVICE TAX--AUDIT ADJUSTMENTS--When a petition for reassessment shows clearly on its face, along with supporting documentation, that the assessment should be adjusted to reflect the correct amount of tax due for that audit period or periods, the same will be so adjusted.

Admin. Dec. 84-366 B - ISSUED 10/25/99

BUSINESS AND OCCUPATION TAX--ASSESSMENT WITHDRAWN--Pending business and occupation tax assessment can be withdrawn in instances where it is independently verified that further action is meaningless, given the fact that the Petitioner has ceased to exist, has no assets, and there is no successor corporation.

Admin. Dec. 95-059 CS(R) - ISSUED - 10/25/99

CONSUMERS SALES AND SERVICE TAX--ADDITIONS TO TAX WAIVED--Pursuant to W. Va. Code § 11-10-18(a)(1)-(2), additions to tax may be waived when the failure to file and/or pay the required tax was due to reasonable cause and was not due to willful neglect.

Admin. Dec. 85-380 B, 85-381 B

Valuation of items manufactured in West Virginia and sold at retail here must be calculated at one hundred percent (100%) of the retail sales price, in accordance with BOT Reg. § 2.05(B) (1974).

Admin. Dec. 92-673 – issued 9/20/99

Petitioner appeals assessment of corporate income tax since available net operating loss carried back to assessment date would eliminate the increased income tax due. The tax was abated.

Admin. Dec. 83-079B – issued 9/17/99

State Tax Department will abate a business and occupation tax assessment to comply with the holdings in the Armco and Ashland Oil decisions of the United States Supreme Court. B&O Tax abated.

Admin. Dec. 91-233PS – issued 9/21/99

Petitioner showed reasonable cause for waiver of additions to tax under W. Va. Code § 11-10-18(a) (1)-(2), since the Internal Revenue Code allows a taxpayer a period not to exceed two (2) years in which to file an amended return reflecting what gain, if any, was derived from the sale of one’s personal residence. Assessment modified, additions to tax waived.

Admin. Dec. 94-484G – issued 9/23/99

	Purchases of groceries and other items used or consumed by towboat crew while the vessel is on the river are not considered to be directly used or consumed in the transportation business and are not, therefore, exempt from the imposition of use tax.
	Where Petitioner did not show that transactions between affiliated companies were at arm’s length, and where the books of the two (2) companies did not indicate that such was the case, Petitioner is not entitled to the resale exemption.

Admin. Dec. 95-90 – issued 9/20/99

Reasonable cause and lack of willful neglect shown for waiver of penalty under W. Va. Code § 11-14A-16, where a showing was made that Petitioner’s vehicles never entered the State of West Virginia in order to conduct business and this was the first time a no-tax-due return was not filed.

WV Judicial Determinations

Supreme Court Decisions

IN RE: Tax Assessment Against American Bituminous Power Partners, L.P. January 2000 term

	Of the three (3) approaches to value, the cost approach may be most consistently applied to machinery, equipment, furniture, fixtures, and leasehold improvements because of the availability of data. The market approach is used less frequently, principally due to a lack of meaningful sales. The income approach is not normally used because of the difficulty in estimating future net benefits to be derived except in the case of certain kinds of leased equipment.
	The Commissioner has consistently reiterated this pronouncement on several occasions. See Tax Department Administrative Notice 99-12 (Jan. 29, 1999) (noting that "the [income] approach has limited use in the appraisal of industrial machinery, equipment, furniture, fixtures, and leasehold improvements because of the difficulty in establishing future net benefits"); Tax Department Administrative Notice 95-13 (Jan. 30, 1995).
	Title 110, series 1P of the West Virginia Code of State Rules confers upon the State Tax Commissioner discretion in choosing and applying the most accurate method of appraising commercial and industrial properties. The exercise of such discretion by will not be disturbed upon judicial review absent a showing of abuse of discretion. Because the circuit court in this case interpreted the regulation at issue as expressly mandating that the Tax Commissioner utilize a particular method of valuation, we conclude that the lower court committed reversible error.

JOHN HOUYOUX, d/b/a AEROLEASE v. James H. Paige, Commissioner (Sept. 1999 term)

Pursuant to the provisions of West Virginia Code § 11-10-14(l)(1) (1999), a claim seeking a refund of sales taxes is subject to a three-year statute of limitations when the vendor to whom the sales tax was paid filed the sales tax return relative to the purchases at issue. When, however, the vendor fails to file the requisite sales tax return, the applicable limitations period is two years from the date the purchaser paid the sales taxes.

Mayhew v. Mayhew, 205 W.Va. 490, 519 S.E.2d 188 (1999)

	Passive appreciation of separate property of either of the parties to a marriage, or that increase which is due to inflation or to a change in market value resulting from conditions outside the control of the parties, is separate property which is not subject to equitable distribution.
	Active appreciation of separate property of either of the parties to a marriage, or that increase which results from (A) an expenditure of funds which are marital property, including an expenditure of such funds which reduces indebtedness against separate property, extinguishes liens, or otherwise increase the net value of separate property, or (BO work performed by either or both of the parties during the marriage is marital property which is subject to equitable distribution.
	Five-step test for active or passive appreciation analysis:
	Whether the property, in general, is either separate or marital property;
	Placing a value on the nonmarital property at the commencement of the action;
	The value of the nonmarital property, before it became subject to the active and passive appreciation analysis;
	The circuit court calculation of the property’s value at the commencement of the action, in relation to its value on the date gifted;
	A determination as to what extent the increase in the value of the nonmarital property is active appreciation or passive appreciation.

The resulting amount due to active appreciation is marital property and subject to equitable distribution.

City of Clarksburg v. Grandeotto, Inc., et al, 204 W.Va. 404, 513 S.E.2d 177 (1998).

An ordinance which imposes a municipal service fee pursuant to W. Va. Code, 8-13-13 upon the owners of buildings at an annual rate plus a percentage based upon the square footage of space contained in each structure on the lot for the sole purpose of defraying the cost of fire and flood protection services is a user fee rather than a tax and therefore, is not in violation of the Tax Limitation Amendment found in W. Va. Const. Art. X, § 1.

Marjorie E. Daniel, et al, v United National Bank, 202 W. Va. 648, 505 S.E. 2d 711 (1998).

Marjorie Daniel and her two stepdaughters initiated action to compel the bank to distribute certain funds held in a trust created by Marjorie's deceased husband. In granting the summary judgment, the circuit court concluded that, by virtue of a particular letter written to United National Bank on behalf of Marjorie and her stepdaughters, Marjorie disclaimed her interest in the trust under the Uniform Disclaimer of Property Interests Act, W. Va. Code § 42-6-1 et seq. United argues, in part, that the letter was not an effective disclaimer as it did not comply with the requirements of the Uniform Disclaimer of Property Interests Act. The Supreme Court agreed and granted summary judgment in favor of United National Bank.

A proper disclaimer shall describe the property or interest disclaimed, declare the disclaimer and extent thereof, be signed by the disclaimant and be acknowledged in such a manner as would authorize a deed to be admitted to record.

Wellsburg Unity Apartments, Inc. v. Brooke County Commission, 202 W. Va. 283, 503 S.E.2d 851 (1998).

	When a corporation is granted a tax exempt status under Section 501(c)(3) of the Internal Revenue Code of 1986, that corporation is deemed to be a charitable organization under 110 C.S.R. § 3-19.1
	Real property that is used exclusively for charitable purposes and is not held or leased for profit is exempt from ad valorem real property taxation. W. Va. Code § 11-3-9.
	In order for real property to be exempt from ad valorem property taxation, a two-prong test must be met: (1) the corporation or other entity must be deemed to be a charitable organization under 26 U.S.C. § 501(c)(3) or 501(c)(4) as is provided in 110 C.S.R. § 3-19.1; and (2) the property must be used exclusively for charitable purposes and must not be held or leased out for profit as is provided in W. Va. Code § 11-3-9.

 

Kings Daughters Housing, Inc. v. James Paige, Commissioner, 203 W.Va. 74, 506 S.E.2d 329 (1998).

"Rent subsidies," paid to Kings Daughters Housing, Inc., by the United States Department of Housing and Urban Development to make decent housing available to certain elderly citizens, constitute "grants" within the meaning of the West Virginia sales tax law pursuant to W. Va. Code § 11-15-9. As a result, Kings Daughters Housing, Inc., was entitled to exemption from the West Virginia sales tax.

A charitable organization must receive more than 50% of its support from gifts, grants, charitable contributions or membership fees. The common definition of "subsidy" is: "A grant of money made by government in aid of the promoters of any enterprise, work, or improvement in which the government desires to participate, or which is considered a proper subject for government aid, because such purpose is likely to be of benefit to the public."

 

Consumer Sales and Use Tax

The Body Shop, Inc. v. State Tax Commissioner (Kanawha County Circuit Court, October 13, 1999).

Sale of substantially all of the business assets of an auto body shop to The Body Shop, Inc. created a "successor" in business for the purposes of title 110 of Code of State Regulations. Asset purchase agreement was interpreted to say the Taxpayer was buying the whole business with the exception of tools or other materials that were removed.

Melrose Enterprises, Ltd. v. State Tax Commissioner ( Mercer County Circuit Court, May 15, 2000).

	Soft drinks offered to customers while waiting for an oil change are purchased for resale and the "one price" policy of the business includes the price of the soft drink.
	Soap, detergents, and cleaners used during the washing of cars are not purchased for resale, but are completely consumed during the service to the car. Car wax goes with the customer after completion of services and is therefore purchased for resale.

Medicaid Provider Tax

The Coordinating Council for Independent Living, Inc. et al. v. State Tax Commissioner (Kanawha County Circuit Court, February 17, 2000).

	Plaintiffs sought declaration that the West Virginia Medicaid Provider Tax (W.Va. Code § 11-13A-1, et seq.) does not apply to them and that the efforts of the Tax Commissioner to impose the tax are void.
	Plaintiffs are Title XIX Aged and Disabled Waiver providers or either homemaker services or case management services. As providers under the Medicaid Title XIX Waiver program, Plaintiffs are not required to obtain a state certificate of need.
	"Community Care Services" are exempt from tax but there is no definition of community care services.
	The law took effect in 1993. Due to the confusing language of the statute, the State Tax Department did not attempt to enforce the tax on Plaintiffs until 1998.
	The language of §11-13A-2(d)(2) is so unclear that it is impossible to determine whether or not the Plaintiffs are taxable under the statute. The statute must be construed in favor of the taxpayers.

Exemptions from Income

Dodson v. State Tax Commissioner (Monongalia County Circuit Court, August 31, 2000).

	Plaintiff retired in 1981 at age 50 and has federal annuity for his 20 years of service at Kennedy Youth Center as corrections officer, plumbing supervisor to inmate crews and firefighter. He and his wife were unable to claim the exemption allowed by §11-21-12(c)(6) because Dodson’s position was as a federal officer.
	The Court found that §11-21-12(c)(6) is unconstitutional by virtue of its application to this taxpayer and allowed the exemption of federal retirement annuity payments from taxation.
	The Court found that the intent behind the scheme was not to discriminate against employees or former employees of the federal government but to benefit the small group of taxpayers who were unable to collect SSI benefits.

Nexus Issues

WV TAA 99-02

Consumer Sales tax on internet sales where items are delivered to WV through mail. Sufficient nexus for taxation? Internet Corporation sets up WV Sub to handle calls but no sales. Neither are subject to sales or use tax.

US House Resolution 3709 extended the federal moratorium on taxation of the internet. State taxes in place before 1998 are granfathered in. The bill also contains suggested language for state tax that would pass constitutional muster for discrimination.

US Senate Bill 1755 awaits action -- HR 4391 passed July 11, 2000

Mobile telecommunications now have uniform nexus rules supported by the industry. "Place of primary use" rule uses the customers physical address (either residence or business) and the service area to determine taxability. The telecommunications companies are held harmless for mistakes made in this tax scheme.

 

Federal Update

General Corporate

Chrysler Corporation, et al. v. Commissioner, T.C. Memo 2000-238 (Aug. 31, 2000). The Tax Court has ruled that an automobile manufacturer did not satisfy the first prong of the all events test for its warranty expenses upon the sale of vehicles to dealers. Instead, based on the manufacturer’s obligation as characterized by the court, the liability is fixed no sooner than when a claim is filed by either a dealer or a retail customer. Future warranty expenses are not deductible.

U.S. v. Macagnone (DC Fla, June 13, 2000) §6672 penalty

A corporate officer is individually responsible for tax and penalties for failure to pay taxes withheld from employees’ wages. However, a district court in Florida has upheld a bankruptcy determination that the president of a corporation who did not monitor the day-to-day activities of the corporation was not liable for withheld taxes. To be liable under §6672 a person must (1) be responsible for withholding and paying over payroll taxes, and (2) willfully fail to do so. Precedent holds that "reckless disregard of a known or obvious risk: is enough to satisfy the willfulness requirement. Since the president did not have notice of the delinquencies, a known or obvious risk could not be established. The failure to inquire of the tax status does not equal reckless disregard.

In re Vinick, (CA1, March 8, 2000) §6672 Penalty

Another corporate treasurer found not responsible for purposes of § 6672 penalty for failing to pay taxes withheld from employees wages. As in Macagnone, the officer had check-writing authority for the periods in issue but did not attend to day-to-day operations. The court ruled that the officer lacked control over the corporation’s finances for the periods at issue and that his exercise of control during other time periods was not relevant in determining his responsibility for these quarters. The First Circuit said that the central question in determining whether a taxpayer was a responsible person was whether he had the power to pay the employment taxes. In Vinik’s case, the appellate court said the answer was "no".

Tres. Reg. §1.1502-13 -- adopted May 11, 2000

Zero basis problems in acquisitions – Where Parent issues stock to Sub at a 0 basis and Sub uses the stock to purchase property, gain is realized in the amount of the fair market value of the stock. The regulations now hold that before Sub transfers stock for value, the stock will be deemed to have been purchased from Parent giving the stock a FMV basis.

Temporary and proposed rules were published in the Federal Register March 2, 2000 regarding Corporate Tax Shelter Reporting, Registration and List Maintenance. Banks and insurance companies must include disclosure statements like everyone else.

	Taxpayer must retain copies of all documents and related records that are material to an understanding of the facts of the transaction, the expected tax treatment of the transaction, or the corporation’s decision to participate in the transaction.
	New exception for restriction on disclosure of the structure or tax aspect of the transaction reasonably necessary to comply with securities laws.
	An exclusivity agreement is a condition of confidentiality that is within the scope of Code §6111 because it is a limitation on use.
	Organizers and sellers of interest in a confidential corporate tax shelter must maintain a list of persons who were sold an interest. The temporary regs require that list as must also be maintained for transactions structured with a significant purpose of avoiding or evading Federal Income Tax.

 

Senate Finance Committee suggests new penalties for Tax Shelters up to 40%.

	The penalty may not be reduces by relying on tax opinions to establish reasonable belief if the opinion writer participates in the deal or has a compensation agreement with the promoter.
	In June, the IRS announced its intention to revise Circular 230 to reflect increased standards for opinion letters and due diligence in tax shelter situations. IRS Announcement 2000-51.

March 7, 2000 -- Field Service Advice – The Service rejected taxpayer’s argument that §304(b)(3)(B) stock acquisition indebtedness applied where TP owned two C corporations (A & B) and A loans money to B who defaulted and transferred all of B stock to A in exchange for debt forgiveness. The transfer of B stock to A is a dividend.

Ltr. Rul. 200009026 – a corporation’s conversion into an LLC holding company was treated as a reorganization under §368(a)(1)(C). Target forms a single member LLC that elected to be taxed as a corporation. The new LLC#1 formed another single-member LLC to acquire target. The second new LLC#2 acquired all of the assets of Target in exchange for voting member interests in LLC#1 and the assumption of liabilities. Target liquidated and distributed the LLC#1 voting member interest received in the exchange to its shareholders. Thus the business of Target continued in LLC #2 with LLC #2 owned by a holding company LLC#1.

Notice 2000-26 – Installment method ban affects accrual-method sellers.

If the shareholder sells non-publicly-traded stock in a corporation for cash and an installment note, he can report gain from the sale on the installment method.

If a buyer makes a §338 election for the corporation, the installment method can be used by the selling shareholder to report gain from the sale, but it can’t be used by the corporation to report gain from the deemed sale of assets.

An accrual-method corporation selling its assets in exchange for cash and an installment obligation cannot report gain from the sale of its assets on the installment method.

If the corporation distributes the installment not to a shareholder in a §453(h) liquidation, the corporation recognizes any gain or loss on the note distribution.

Where the sale of an asset for cash plus an installment obligation isn’t eligible for installment reporting for any reason, the taxpayer generally must recognize the entire gain from the installment sale in the year of the sale. The value will be calculated under Reg. §1.1001-1(a).

IRS Memo 199930013 – the Service may not levy against a disregarded Limited Liability Corporation in order to collect tax owed by the sole member. If a person neglects or refuses to pay tax for which he is liable after required levy notices are given, IRS may collect the tax by levy upon all property and rights to property belonging to the person or on which there is a lien. State law is controlling to determine the nature of a person’s interest in property for purposes of determining whether a tax lien or levy attaches.

Under West Virginia law, an LLC is a legal entity distinct from its members and a member is not a co-owner of, and has no transferable interest in, property of the LLC. However, an interest in the distributions due to a member from the LLC is personal property of the member and may be transferred.

Other collection alternatives available to the IRS include the distributive interest in the LLC or, depending on the facts, filing an alter ego lien against the LLC under state law principles permitting a creditor to disregard a business entity.

Inventory Accounting –

Osteopathic Medical Oncology and Hematology P.C. v. Commissioner (1999) – Drugs administered were supplies, not inventory. Cash method was allowed. The clinic did not look like a typical "merchandiser", did not display items like a grocery store. The drugs were separately billed on the patient invoice.

RACMP Enterprises, Inc. v. Commissioner, 114 TC No. 16 (2000) – Provider of concrete foundations and walkways did not have inventory. Cash method was allowed by a sharply divided Tax Court. The contracts by which they operate are considered labor under UCC. Liquid concrete cannot be held for sale but is a supply used by the taxpayer.

Jim Turin & Sons, inc. v. Commissioner (9th Cir. 2000) – Asphalt is not susceptible to being inventoried and therefore, is not merchandise for puposes of Reg. §1.471-1, which requires the use of inventories and accrual accounting when the production, purchase, or sale of merchandise is an income producing factor. The court held that IRS abused its discretion in requiring a paving contractor to use the accrual method of accounting.

Treasury’s Report to Congress on Depreciation Recovery Methods

1. Replace with system more closely related to economic depreciation

	based on empirical estimates which may be inexact and dated.
	would need indexing for inflation and creates a number of practical problems.

1. Indexing depreciation for inflation

	Revenue costs are prohibitive.
	Undesirable tax shelter activity
	Complexity due to annual adjustment to allowances

1. Comprehensive update of MACRS

	requires costly analysis of data.
	class life system would be rationalized moving closer to economic depreciation.

Treasury basically told us what was wrong and provided no solution.

S-Corporations

LR 200026011 – Recapitalization/§368(a)(1)(E) reorganization creating voting and non-voting common stock will not terminate S-election.

An s-corporation may not issue more than one class of stock. A corporation is not treated as having more than one class of stock solely because there are differences in voting rights amount the shares of common stock. §1361(b)(1)(D). A corporation has only one class of stock if all outstanding shares of stock of the corporation confer identical rights to distribution and liquidation proceeds.

LR 200014010 – Passive Activity Loss on S-Corp rental property An S-Corp engaged in the business of selling gasoline also subleased property to convenience store. The rental did not constitute a joint venture, and the S-Corp could not show that the rental activity was "insubstantial" to its trade or business, therefore the S-Corp’s losses on the rental property were passive activity losses.

The S-Corp argued that it and the convenience store were engaged in a joint venture. Reg §1.469-1T(e)(3)(ii) states that an activity involving use of property is not rental activity if the property is use by a joint venture in which the taxpayer owns an interest. IRS concluded the relationship was of lessor and lessee rather than joint venturers.

Previous temporary regs allowed nonrental and rental activities to be grouped together is less than 20% (insubtantial) of the combined undertaking’s gross income was attributable to either the nonrental or rental operations. This 20% rule was dropped when the regs were finalized. This ruling appears to be the Service’s latest word on what constitutes "insubstantial".

In re: Larry W. Van Wyk, 113 TC No. 29 (1999) – Amounts borrowed from fellow S shareholder and reloaned to S corporation are not at risk under §465. Under the at-risk rules, the deduction allowed individuals for losses from specified activities is limited to the amounts they have at-risk in the activity.

The Tax Court affirmed that the special exception allowing at-risk status in §465(b)(3)(B)(ii) applies only to corporate borrowers. It does not allow at-risk status for an individual shareholder merely because he made the loan in question to his corporation.

Culnen v. Commissioner TC Memo 2000-139 – flow-through items of loss or deduction are limited to Adjusted Basis in S-corp stock. Shareholder takes deduction on corp he owns 100% where indebtedness created by related S-corp owned 70%.

The Tax Court held that and S corporation shareholder had basis in the company by virtue of the direct transfer of funds to it from another corporation controlled by him. The transfers were treated as loans to the shareholder on the transferor corporation’s books, and were treated by the recipient S corporation as obligations owed to the shareholder. As a result, the shareholder had sufficient basis to deduct large losses passed through to him from the S corporation.

Section 1366(a)(1) provides that a shareholder of an S corporation shall take into account his pro rata share of the S corporation's items of income, loss, deduction, or credit for the S corporation's taxable year ending in the shareholder's taxable year. Section 1366(d), however, imposes a limit on the amount of such losses and deductions (without distinction, losses) that a shareholder may take into account for any taxable year. He may not take into account an aggregate amount of such losses exceeding the sum of (1) his adjusted basis in the stock of the S corporation and (2) his adjusted basis in any indebtedness of the S corporation to the shareholder (collectively, his S corporation investment). See sec. 1366(d)(1). Any losses so disallowed may be carried forward indefinitely. See sec. 1366(d)(2).

The taxpayer in this case was aided greatly by having proper books and records that consistently characterized the payment to Wedgewood as loans to Culen and as obligations from Wedgewood to Culnen. Had the formalities not been observed, the favorable result would have been less likely.

Proposed Reg issued May 17, 2000 – Merger of disregarded entity

Disregarded entity as target or acquiring – not eligible for statutory merger under §368(a)(i)(A). Must be a qualified C, D, F, or 351. This Reg. would reverse PLR 9411035.

Increasing basis by canceling debt of insolvent S corporation to be decided by Supreme Court in Gitlitz v. Commissioner, (10th Cir. 1999). The Tenth Circuit said no increase to basis where an insolvent S corporation received discharge of indebtedness.

U.S. v. Farley, (3rd Cir. 1999), Pugh v. Comm’r (11th Cir. 2000) and Witzel v. Comm’r (7th Cir. 2000) all permitted the taxpayer to increase basis in this situation. The Court will decide the following:

	§108(a)&(b) applied at corporate level
	Any loss or deduction disallowed for the year of discharge is treated as an NOL -- §1366(d).
	Uniformity of tax law – parity with partners in partnership.

All of these cases share common facts – losses passed through to shareholders from their S corporation and their stock basis was reduced to zero. The company had additional losses, but the shareholders couldn’t take advantage of them because of zero basis. The S corporation them became insolvent and it had cancellation of debt income that was excluded from gross income under §108. Shareholder claim that the COD income increases the basis of their S stock, which in turn, enables them to deduct the suspended losses.

Partnerships

Notice 2000-44

Tax shelter losses involving artificially high basis partnership interest will be disallowed. A taxpayer borrowing at a premium and a partnership’s subsequent assumption of that debt can create such a disallowed loss where the partnership interest is obtain for a nominal amount. Another variation is a taxpayer purchases an writes options and purport to create substantial positive basis in a partnership interest by transferring the options to a partnership.

PLR 200017048 Limited partnership, electing to be treated as a corporation, constitutes subsidiary corporation under §424(f).

The parent of a consolidated group of corporations, owns a 99 percent limited partnership interest in a partnership. Parent maintains a plan intended to meet the requirements of §423 for an employee stock ownership plan.

Parent wants the employees of the partnership to be able to participate in the plan and intends to amend the plan to make the partnership a participating employer. To achieve this, Parent will elect, under Treas. Reg. §301.7701-3(c) to file a Form 8832 to change the federal income tax classification of the partnership from that of a partnership to that of a corporation. After that, the partnership will become an employer of some of the current employees of Parent and its subsidiaries, and the partnership will provide services to other affiliates pursuant to service agreements.

The IRS ruled that the partnership will constitute an employer corporation as that term is used in §§421-24. The IRS also held that, while the requisite 50 percent stock ownership requirement of §424(f) is maintained, the partnership will be a subsidiary corporation as defined in §424(f).

Employee Benefits

(ERISA lawsuits are 7^th most frequently filed in Fed. Ct.)

Perlman v. Swiss Bank Corp. Comprehensive Disability Protection Plan, (7th Cir. 1999).

Discovery in benefit disputes is limited to the administrative record.

Now, no inquiry into thought process or training of plan administrators is discoverable or admissible in court.

Maraist v. Polymer International Corp., E.D. La., No. 99-1355 - 5/19/00 Under an executive compensation plan, if a participant resigned or was terminated from employment, the participant was entitled to exercise his or her stock options within three months from the date of such resignation or termination of employment. However, if a participant retired, he or she had 12 months to exercise his or her stock options. The expiration of the employment agreement was consistent with the concept of employment termination, and therefore, under the executive stock option plan, the former executive had only three months to exercise his stock options, not one year.

Conversion of unused sick leave to sum used to calculate employer contributions to defined benefit plan does not result in current income to plan participants. PLR 200027044. A political subdivision maintaining a retirement system for its employees desires to change this sick leave conversion program to provide employees with a supplemental retirement benefit under the defined benefit plan for unused sick leave under limited circumstances, instead of crediting the accumulated unused sick leave as additional creditable service.

A bona fide sick leave program is treated as not providing for deferral of compensation for purposes of §457.

The proposed change in the sick leave conversion program, since it will provide for conversions that are automatic and mandatory, will not result in constructive receipt by an employee when the employee provides advance notice of intent to retire or files an election as to the manner of payment of the supplemental benefit. Treas. Reg. §1.451-1(a). This is because the employee will not be able to elect to receive cash in lieu of an additional benefit under the defined benefit plan with respect to the unused sick leave.

Nonqualified deferred compensation plan complied with FICA requirements for predetermined actual investments in L.R. 200021012.

Where the plan permitted the company’s executives to elect to have their account balances credited with earnings derived from the rate of return on the plan’s available investment options and change their investment elections prospectively, the IRS ruled the plan in compliance with FICA.

Reg. §31.3121(v)(2)-1(d)(2)(i)(B)(1) provides that the rate of return on a predetermined actual investment for any period means the rate of total return (including increases or decreases in FMV) that would apply if the account balances were, during the applicable period, actually invested in one or more investments that are identified in accordance with the plan before the beginning of the period.

"Top Hat" Plan funds benefits with life insurance on employees for the benefit of more than 15% of employees.

	Neither the payment of deferred compensation plan benefits with proceeds of life insurance covering plan participants, nor the employer’s offer of plan coverage to more than 15% of its employees, jeopardizes a plan’s exemption as a "top-hat" plan. Demery v. Extebank Deferred Compensation Plan (2nd Cir. 2000).
	A top-hat plan must be maintained primarily for a select group of management or highly compensated employees. In this case, the plan was offered to a relatively large percentage of the workforce, however, all participants were selected officers of the bank, in management positions and highly compensated in comparison to bank employees at large. Thus, the Court held the plan was a top-hat plan as a matter of law.
	ERISA defines a top hat plan as "primarily" designed to provide deferred compensation for certain individuals who are management or highly compensated. This suggests that if a plan were principally intended for management and HCEs, it would not be disqualified from top hat status simply because a very small number of the participants did not meet that criteria, or met one of the criteria but not the other.

Qualified Plans

In P.L.R. 200028040, the IRS concluded that, for purposes of determining the §401(a)(9) required minimum distributions for years after the owner dies, a beneficiary may use the remaining life expectancy of the beneficiary, the older of two beneficiaries, reduced by one for each subsequent calendar year. The IRS also held that the IRA owner’s use of his single life expectancy, recalculated, in determining required distributions for the years preceding his death does not preclude the use of the remaining life expectancy of the older of the beneficiaries to determine the required distributions for years beginning after the year of death.

An IRA owner’s election to accelerate distributions does not affect the determination that the designation of his beneficiary resulted in §401(a)(9) required minimum distributions being those computed using owner’s and beneficiary’s joint and survivor life expectancy. Thus, although beneficiary's life expectancy was not used in computed minimum distributions to the owner, it may be used to determine post-death required distributions to beneficiaries. That is, the "at least as rapidly rule" will not be violated if post-death distributions are calculated using the life expectancy of owner's designated beneficiary, since he could have used beneficiary's life expectancy to determine the amount of his required lifetime distributions.

The Same Desk Rule bars distributions prior to termination or retirement. Same desk rule does not apply to distributions to terminated employees hired by new primary government contractor. PLR 200024056. Same desk rule applies to prevent contract for outsourcing of information services from causing separation from service. PLR 200027059. Same desk rule applies to employees hired by an unrelated third party to perform their former jobs at the same work location. PLR 200019048.

Rev. Rul. 2000-27 -- Relaxing Same Desk Rule for Elective Deferrals

	Formerly strict limits on when 401(k) plans may distribute elective deferral amounts are now relaxed where less than substantially all of the assets of a trade or business are transferred to another business.
	Although employees may continue to perform the same tasks at the same location following the transfer of some assets, the ruling treats them as having separated from service, thus allowing the plan to make distributions to them.
	Previously, separation of service required the transfer of at least 85% of assets to meet the "substantially all" requirement. Now the transfer of assets and the employees constitutes a separation from service from the original employer. For any sale of less than substantially all the assets of a trade or business similar to that in this Rev Ruling that occurs before September 1, 2000, the IRS will not treat the plan as failing to follow its provisions merely because the employer does not treat the termination of employment from the seller and the hiring by the buyer as a separation from service, and therefore does not permit distributions from the plan to the terminated employees hired by the buyer.
	The change benefits both the old employer, which would otherwise continue to bear the administrative costs and potential liabilities of maintaining accounts for the ex-employees, and the employees, who benefit from increased portability by having more choices and better control over their accounts.

A 401(k) plan’s purchase of long term disability insurance out of designated employee elective deferrals does not violate the contingent benefit prohibition of §401(k)(4)(A), and will not be taxed to employees when benefits are paid to the plan; rather tax will be deferred until benefits are paid from the plan. PLR 200031060.

	The employee will elect to purchase long term disability insurance with premiums paid from the plan account. One year after a covered participant becomes disabled, the policy would begin to make monthly payments in an amount equal to the previous year. These contributions would continue till the participant dies, the disability ends, the plan terminates or at normal retirement.
	Although the plan did not request such a ruling, IRS noted that the payment of long-term disability premiums on behalf of a plan participant is an incidental insurance benefit that is subject to the limitations set for in Rev Rul. 61-64. If any other incidental insurance benefits exist in the plan, they may exceed the permitted limitations.

PLR 200031058 – Penalty free IRA distributions before age 59½ can be achieved with annuity method. A 10% penalty is normally imposed on such distributions under §72(t)(1), however several exceptions exist. Where distribution are part of a series of substantially equal periods payments made for the life of the IRA owner or the joint lives of the IRA owner and his designated beneficiary, no penalty is imposed. The new ruling allows an annuity method using an interest factor that may change each year and using a recalculated life expectancy.

After transfer incident to divorce decree, former spouse need not continue to receive her proportionate share of IRA as substantially equal periodic payments in order to preclude imposition of §72(t) penalty. PLR 200027060.

	Rev. Rul. 2000-20 Contributions Required Under §412 Minimum Funding An amoritization base is established for contributions that would have been required under §412 but for the provisions of §412(c)(7)(A)(i)(I). For amortization bases that were established for plan years beginning before January 1, 1999, the amortization period is 10 years. For bases established before, the period is 20 years.
	The IRS issued final regulations effective July 31, 2000, regarding §72(p), affecting plan administrators, participants, and beneficiaries of qualified employer plans that permit participants or beneficiaries to receive loans from the plan, including loans from tax code Section 403(b) contracts and other contracts issued under qualified employer plans.

The final rules adopt the 1995 proposed rules for establishing a period for a plan participant to make up missed loan payments.

The final rules also generally adopt the proposed regulations on the treatment of loans after a deemed distribution, except for a revision to indicate that a deemed distribution is not taken into account as a distribution for purposes of the requirements of Section 1.411(a)-7(d)(5) relating to the determination of a participant's account balance if a distribution is made at a time when the participant's vesting percentage may increase.

The IRS also released proposed rules regarding issued not previously addressed.

The proposed regulations provide that if a loan is deemed distributed to a participant or beneficiary and has not been repaid, no payment made thereafter to the participant or beneficiary will be treated as a loan for the purposes of Section 72(p)(2), unless certain conditions are satisfied. Specifically, there must be an arrangement among the plan, the participant or beneficiary, and the employer, enforceable under applicable law, under which repayments will be made by payroll withholding, or the plan must receive adequate security for the additional loan, in addition to the participant's accrued benefit under the plan.

The proposed regulations also provide that while a loan can be refinanced and additional amounts may be borrowed, the refinancing and multiple loan arrangements must satisfy the requirements in Section 72(p)(2)(B)and (C) that each loan be repaid in level installments, not less than quarterly, over five years, or longer for certain home loans. Refinancing is treated as a new loan.

Reporting of Recharacterizations

Notice 2000-30 stipulated that each recharacterization or reconversion occurring after Dec. 31, 2000, including a recharacterization or reconversion of an amount contributed before Jan. 1, 2001, whether or not using the same trustee, must be reported as provided in Form 5498 and Form 1099-R and the accompanying instructions.

The notice generally retained the requirements of Notice 98-49 that amounts recharacterized be identified separately from other types of distributions and contributions. The new method is similar to current reporting practices and is designed to ensure consistent reporting among trustees. The reporting method outlined in the notice effectively replaced the alternative methods permitted by Announcement 99-5 and 99-106. The alternative methods described in 99-5 and 99-106 will not be available for reconversions occurring in 2001 and thereafter, IRS said.

Notice 2000-30 will not affect the reporting rules governing conversions and contributions to or distributions from IRAs.

Under the new reporting method, prior year recharacterizations and same year recharacterizations will be separately coded, which means the amounts may not be reported together on the same Form 1099-R, the notice said. Similarly, because a recharacterization will have a different code than other reportable distributions, IRS said a recharacterization may not be reported together with another reportable distribution on the same Form 1099-R.

The notice also said all recharacterized contributions received by an IRA in the same year are permitted to be totaled and reported on one Form 5498. Alternatively, each recharacterized contribution can be reported on a separate Form 5498.

Automatic deferrals for 403(b) tax-sheltered annuity plans and 457 government plans are available where employee makes no affirmative choice for cash alternative. Rev.Rul. 2000-35 and 2000–33.

Automatic elections (aka negative elections) may increase plan participation of non-highly compensated employees, which helps to increase the likelihood that a plan will meet the special nondiscrimination tests that apply to employee and matching contributions under §401(m).

Automatic enrollment in pre-approved 401(k) plans are now available. According to IRS, 401(k) plans that have automatic enrollment features reportedly have had significantly higher employee participation rates than 4019k) plans without automatic enrollment features. A participant’s compensation is automatically reduced by a specified percentage, and that amount is contributed as an elective contribution on the participant’s behalf to the plan unless the participant affirmatively elects not to have his compensation reduced, or to have it reduced by a different amount. Rev. Rul. 2000-8.

IRS "pre-approves" certain tax-qualified retirement plans, including 401(k) plans, under their prototype plan program, described in Rev. Proc. 2000-20.

Proposed regulations provide guidance on the TRA ’97 increase from $3,00 to $5,000 in the limit on involuntary cash-outs from qualified retirement plans. The regs completely eliminate the lookback rule under which the plan benefits of certain participants that are below the cash-out limit were deemed to exceed it, thus preventing any cash-out. §1.411(a)-11.

In a new ruling, IRS said a qualified defined contribution plan may require rollover to an IRA where amount is greater than $1000 and less than $5000. The plan’s defaultmethod of payment to a direct rollover when a distributee fials to elect a cash payout doesn’t biolate§401(a)(31) or § 411(d)(6). The plan must establish default trustee that is unrelated and initial investment choices. This is a fiduciary act under ERISA. Rev. Rul. 2000-36.

Proposed Legislation

Senate will debate Sept 22 – passed House – will be vetoed by Clinton

Catch-up contributions for IRA ad 401(k) plans

From $2000 to $5000 in 2003 - $500 steps thereafter.

Phase out levels up to $50-60,000 in 2005.

Goals of bill are to increase participation, enhance portability and reduce regulatory burdens.

Repeal of Estate Tax – Vetoed – Planning Issues

The federal estate tax was enacted in 1916, and applies to stocks, bonds, real estate, businesses, life insurance proceeds, and pension assets.

After the repeal of the estate, gift, and generation skipping taxes, the basis of assets received from a decedent generally would be the basis of the decedent; however, current law basis step up rules would be retained for $3 million of assets left to a surviving spouse and $1.3 million of other assets left to any beneficiary. Life expectancy shorter than repeal period should use new exemptions for fax-free lifetime gifts.

Currently, a step-up of basis allows family members and others to receive appreciated property without paying tax on pre-death appreciation. With the elimination of estate tax, the rational for the basis step-up is eliminated. Remaining would be $1.3 million of transfers to beneficiaries and $3 million of transfers to surviving spouses; the executor would choose which assets receive a step-up.

Before final repeal of GST the proposed bill would allow:

deemed allocation of the generation-skipping transfer tax exemption to lifetime transfers to trusts that are not direct skips;

	retroactive allocation of the generation-skipping transfer tax exemption;
	certain elective "qualified severing" of trusts holding property having an inclusion ratio of greater than zero;
	relief from late elections.

Since the repeal would be gradual – over a period of 10 years – Old style planning would continue. During the phase-in period, however, an individual whose life expectancy is shorter than the number of years before full repeal may benefit from the new exemption making tax-free lifetime gifts of assets with high appreciation potential. If an individual lives beyond the phase-in period, the high appreciation items will be ideal for the $1.3 million/$3 million rule.

Personal Income Tax/ Estate Planning

Use of Family limited partnership to hold close corporation stock for the purpose of family wealth transfer.

Indirect voting control can cause estate tax inclusion under §2036(b).

TAM 199938005

Even if Parent has minority interest in corporation, a transfer to a FLP provides a vehicle to transfer stock to descendants and maintain some control. The voting leverage would be lost but control over distributions and investment of funds would remain with the parent.

Senior Citizens’ Freedom to Work Act of 2000 – repeals the earnings limit for working taxpayers aged 65 to 69. Estate planning ramifications for entrepreneurs – developing an income stream independent of wages.

Estate transmission expenses and estate management expenses:

	Transmission expenses – would not have occurred but for the decedent’s death and the necessity of collecting assets, paying debts and death taxes and distributing the decedent’s property to heirs and legatees.
	Will reduce marital and/or charitable deduction
	Management expenses – incurred during a reasonable period of administration for the investment, preservation and maintenance of estate assets.
	Will not reduce marital or charitable deduction.
	Executor must be careful not to pay any expenses allocated to other portions of the estate from the marital or charitable portion.
	For 706 or 1041? Expenses on 706 will reduce marital and/or charitable deduction.

Executors discretionary authority to allocate an administration expense against postmortem estate income might reduce the marital deduction if it is a material limitation of the surviving souse’s right to income. Wills and rusts should remove executor’s discretion and require expenses to be allocated in a manner consistent with the new regulations.

In re Corson, 114 TC No.24 (2000) – Innocent spouse relief An individual who has made the separate liability election under §6015(c) (or the regular relief election under §6015(b)) may petition the Tax Court to determine the appropriate relief. The Tax Court is required to establish rules that provide the spouse who filed a joint return but didn’t make the innocent spouse or separate liability election with adequate notice and an opportunity to become a party to the proceeding.

	Both husband and wife entered into similar stipulations for tax and interest owed; however, when IRS entered into a stipulation with the wife that she qualified for separate liability relief and was not liable for any deficiencies, Petitioner refused to sign a stipulated decision.
	Petitioner claims §6015(e) gives him a right to challenge the IRS grant of relief to his former wife. She and IRS claim no such right is created and the Tax Court only has jurisdiction over denials of relief.
	The Tax Court said that the interests of justice would be ill served if the rights of the nonelecting spouse were to differ according to the procedural posture in which the issue came before the Court. Accordingly, it gave Petitioner the right to dispute IRS’s grant of relief to former wife.

Separate-share rules –

Reg. §1.663(c)-4(a) – bequests of specific sums of money or property are not separate shares and thus, do not receive any portion of the income or appreciation earned during the estate administration period, unless specifically called for in the governing instrument.

A qualified revocable trust electing under §645 to be treated a part of an estate is a separate share.

Estate of Atkinson, 115 TC No. 3 (2000) The Tax Court denied an estate tax deduction for a trust set up during life that was intended to be a charitable remainder annuity trust because the annuity was not paid and assets of the trust were used to pay estate tax.

	The trust document provided that annuity payments would go to grantor; however, no payments were made.
	A secondary trustee received annuity payments but the administrative trust established to pay estate tax on the beneficiaries interest were not sufficient. The CRAT was invaded to make up the shortfall.
	No deduction allowed if charity received a remainder interest in property and if an interest in the same property also passes to an individual or a noncharitable entity unless its a CRAT, CRUT or pooled income fund.
	When establishing a CRAT advise the trustee about how to administer it property so as to meet the statutory requirements, and explain that failure to do so will result in loss of intended charitable deductions.

William A. and Gayle T. Cook v. Commissioner, 115 TC No.2 (2000). The Tax Court has held that spousal survivor interests in a grantor retained annuity trust that were not fixed an ascertainable at the GRAT’s inception are disregarded in valuing the retained annuity interest, and, thus, do not operate to decrease the value of the gift of the remainder.

Reducing transfer taxes by setting up GRAT retaining interest for a specified time after which the property goes to a child. Gift tax liability is calculated on the present value of the remainder interest.

Frank Armstrong, III, 114 TC No. 5 (2000)

Donees of substantial amounts of stock were liable for the donor’s unpaid estate taxes that were triggered by the gift tax gross-up rule. §2035 causes the gross estate to be increased by gift taxes paid within 3 years of death.

	The gift tax is imposed on the value of the property transferred during life to a donee. The tax base doesn’t include the money used to pay the tax.
	The donees contend that they were not liable for the estate tax deficiency because the stock that was transferred to them was not the source of the deficiency and that they did not receive property that was includible in the gross estate.
	The Court ruled that §6324 imposes personal liability upon transferees of property included in the decedent’s gross estate and any estate tax deficiency provided that the value of the stock they received is treated as if it were included in the gross estate.

Adams v. U.S., (5th Cir. 2000) – Uncertain liquidation rights warrant estate tax valuation discount for partnership interest. A partner owned a 25% partnership interest at death. The district court valued it for estate tax purposes at an undiscounted 25% share of the partnership’ net asset value, although it did allow a discount for liquidation-related brokerage costs. The Circuit Court sent the case back to the district court to consider the effect of uncertain liquidation rights and other items in valuing the interest.

The partnership dissolved upon the death of a partner. To appraise the value of a fractional assignee interest in a dissolved Texas general partnership, one must consider whether, under Texas partnership law, the holder of the interest has the right to force liquidation of the partnership or, alternatively, the right to force the remaining partners to buy out his interest, and if so, for what value. The IRS expert conceded that if an assignee did not have the absolute legal right to demand liquidation, discounts for lack of marketability and lack of control would be applicable.

With no right of liquidation, a willing buyer of the assignee interest would be taking a share in a business over which he has no control, that owns an unattractive mix of assets, and that is not readily marketable. With this analysis, the partnership NAV was discounted 20% for lack-of-control, 10% for portfolio-mix, and 35% for lack of marketability.

Estate of Reichardt, 114 TC No.9 (2000)

Property transferred by an individual to a family limited partnership was includible in his gross estate because he retained possession and enjoyment of it and the right to its income.

	An individual’s gross estate includes property he transferred during his life if he retained the possession or enjoyment of the property. This rule doesn’t apply if the transfer was a bona fide sale for adequate consideration in money.
	In order to ensure that property transferred to family limited partnership will not be brought back into the transferor’s estate under §2036, the transferor must respect the new ownership form. He should avoid using partnership property and should not commingle it with his own. Other family members should exercise management functions.

Estate of Lavonna Stinson v. US, (7th Cir. May 26, 2000)

An individual made gifts of future interests to related shareholders of a corporation whose debt she forgave. These gifts were not present interests that qualified for the annual exclusion. The gifts involved the postponement of enjoyment. While the gifts may have increase the value of the corporation or the value of the stock, the shareholders could not individually realize the increase without liquidating the corporation or declaring a dividend.

Parties in a similar situation can structure the original transaction as a sale to the junior family member, who, in turn, can transfer the assets to the corporation, in exchange for stock. The selling family member can later forgive some of the debt owed by the junior family members. Assuming the IRS can’t prove that there was a prearranged plan to forgive the debt, the forgiveness should qualify for the annual exclusion.

In re Kenseth, 114 TC No. 26 (2000) Attorney fees paid under contingent fee arrangement from settlement of an Age Discrimination case are included in gross income. Value of miscellaneous itemized deduction eliminated by the alternative minimum tax. The Tax Court determined that contingent fee arrangements come within the assignment of income doctrine and don’t serve to exclude the fee from the assignors’ gross income.

Even if the Tax Court applied the attorney lien analysis, under the law of the state involved here (Wisconsin), it would still include the attorney fees in the taxpayer’s gross income.

In re Coady, (9th Cir. 2000) Legal fees paid from wrongful termination settlement under a contingent fee arrangement, should be deducted as miscellaneous itemized deductions subject to the 2%-of-adjusted-gross income floor.

In re Srivastava, (5th Cir. 2000)

Attorney fees paid from defamation suit settlement under a contingent fee arrangement, were not included in the client’s gross income.

There is a split of authority as to whether fees paid directly to attorneys out of a judgment or settlement awarded to a taxpayer should be treated as a reduction in the amount of the taxpayer’s gross income from the judgment or settlement, or merely as a potentially deductible expense. The First Circuit, Ninth Circuit, Federal Circuit, and the Tax Court hold that the full amount belongs to the taxpayer and is includable in his gross income, and attorney’s fees payable from the judgment or settlement, whether contingent or non-contingent, are available only as potentially deductible expenses. On the other hand, the current Fifth Circuit and Eleventh Circuit hold that the payment of contingent attorney’s fees in this manner reduces the amount of the taxpayer’s gross income resulting from the judgment or settlement.

The tax differential between being able to exclude the fees and costs, and being taxed on them and deducting them as miscellaneous itemized deduction can be substantial. This is because of the 2% floor on miscellaneous itemized deductions, the overall AGI-based limitation on certain itemized deductions, and the disallowance of miscellaneous itemized deductions for alternative minimum tax purposes.

Rohn F. Drye J., et al. v. U.S., (Sup. Ct. 1999) – Disclaimer doesn’t prevent tax lien from attaching to inheritance. The interest of an heir in an estate constitutes "property" or a "right to property" to which the federal tax lien attaches under §6321 even if the heir attempts to disclaim under state law.

	Even if the disclaimer is valid under state law, the Court reasoned that Congress intended to reach every interest in property that a taxpayer might have. This taxpayer exercised control of the property in the act of disclaiming the property.
	The most important consideration of what constitutes attachable property is the breadth of control the taxpayer could exercise over the property.