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When Is a Tax Shelter or a Transaction a “Reportable Transaction?”

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    In a previous blog post, we discussed some of the regulations surrounding tax shelters and the related concept of a “reportable transaction.” The failure to make a timely report of certain accounts and investments can result in serious tax penalties and other consequences. However, in the previous post, we did not delve into how a reportable transaction is defined under the law. In this post, we delve into what types of accounts and investments, whether into a tax shelter or otherwise, will require a disclosure.

    The Roots of the Reportable Transaction Requirement

    As discussed in a previous post, Congress took a number of steps throughout the 1980s and 1990s to attempt to modernize the IRS to better identify and respond to the issues created by tax shelters. In the 1980s, the original obligation required the registration of tax shelters and required investors to meet certain reporting requirements. These obligations were modified with a 1997 law that deemed certain private arrangements to be tax shelters for reporting purposes. In 2000, the IRS announced and issued proposed regulations regarding reportable transactions. These initial regulations set forth six reportable categories, however, these rules were amended to disclose listed transactions under Reg. § 1.6011-4T to non-corporate taxpayers and to change the types of reportable transactions.

    The Modern Reportable Transaction Regime

    However, the basis for the modern and current definition of a reportable transaction was announced in October of 2002. This new approach and set of rules was announced by the IRS due to the belief that taxpayers were misapplying the rules. The IRS believed that taxpayers were applying the reportable account categories in an overly narrow fashion resulting in unreported accounts and investments despite an obligation to report. Additionally, the IRS believed that taxpayers were applying the exceptions to the reportable transactions too broadly also resulting in an underreporting by taxpayers.

    Thus, in October 2002, the IRS established a revised set of rules setting forth the criteria used to identify reportable transactions. Under the new rules, objective guidelines to determine the status of an investment or account are provided. Under the rules announced in October 2002, which serve as a basis for the modern rules, a reportable transaction was defined to include any transaction that fits into one of six categories. The original categories were:

    • Listed transactions
    • Transactions with contractual protection
    • Transactions involving a brief period where a party holds assets
    • Transactions with a significant book-tax difference
    • Loss transactions
    • Confidential transactions

    If the transaction fits into one of the categories listed above, all direct and indirect participants must file a disclosure. The new rule also eliminated concerns over the projected tax effect test and the general exceptions.

    This modern reportable transaction regime received its first major amendments in 2006 to bring the regulations into compliance with the provisions of the American Jobs Creation Act AJCA) of 2004. The proposed 2006 changes to the reportable transaction regime focused on eliminating duplicative filings while broadening the net cast by the IRS.

    To start, due to the development and issuance of Schedule M-3, Net Income (Loss) Reconciliation for Corporations with Total Assets of $10 Million or More, the IRS found the significant book difference category to be redundant and unnecessary. Due to the development of the new form, the IRS believed that it was already provided with a more comprehensive disclosure that provided all information necessary to assess the disclosure of book-tax differences for corporations. The final rule adopted in 2007 also removed the brief asset holding period reportable transaction category per changes to IRC § 901. Thus, the proposed 2006 amendments that became a final rule in 2007 resulted in a five-category reportable transaction regime.

    Aside from dispatching with duplicative reporting obligations, the changes to the law also set forth new requirements and a new reportable transaction category. The 2006 regulations eliminated the exclusion of certain customary commercial leases of tangible personal property from all non-listed reportable transaction categories. The 2006 amendments also implemented also implemented something of a catch-all provision for reportable transactions: “transactions of interest.” These transactions of interest are any transaction the IRS believe holds the potential for various forms of tax fraud or tax evasion. Transactions are placed into this category when the IRS believes the account raises red flags but lacks sufficient information to determine whether it is appropriate to characterize it as a listed transaction.

    One of the most recent changes to the listed or reportable transaction requirement was announced in 2013 and finalized in April of 2016. These regulations altered the potential Section 6708 penalty that can be imposed for a failure to provide a list under Section 6112.

    Concerns over Tax Shelters, Reportable Transactions?

    If you have concerns over investments or accounts that may be considered a reportable transaction, the tax professionals of The Tax Law Offices of David W. Klasing can fight for you. As always, foreign account reporting obligations apply in addition to any other informational reporting duties. If you have made arrangements with an asset protection company or fear that you may be invested in an abusive tax shelter, we can assess the situation and work to mitigate the consequences. To schedule a confidential, reduced-rate consultation, call us at 800-681-1295 or online today.

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