Today the Internal Revenue Service’s Large Business and International division (LB&I) announced the approval of five additional compliance campaigns. LB&I announced on January 31, 2017, the rollout of its first 13 campaigns, followed by 11 campaigns on November 3, 2017, five campaigns on March 13, 2018, six campaigns on May 21, 2018, five more on July 2, 2018, and five more on September 11, 2018. In addition, LB&I continues to review the tax reform legislation enacted on December 22, 2017, to determine which existing campaigns, if any, could be impacted as a result of a change in the law.

LB&I is moving toward issue-based examinations and a compliance campaign process in which the organization decides which compliance issues that present risk require a response in the form of one or multiple treatment streams to achieve compliance objectives. This approach makes use of IRS knowledge and deploys the right resources to address those issues. The campaigns are the culmination of an extensive effort to redefine large business compliance work and build a supportive infrastructure inside LB&I. Campaign development requires strategic planning and deployment of resources, training and tools, metrics and feedback. LB&I is investing the time and resources necessary to build well-run and well-planned compliance campaigns.

These five additional campaigns were identified through LB&I data analysis and suggestions from IRS employees. LB&I’s goal is to improve return selection, identify issues representing a risk of non-compliance, and make the greatest use of limited resources.

The five campaigns included in this rollout are:

  • Individual Foreign Tax Credit Phase II

Section 901 of the Internal Revenue Code alleviates double taxation through a dollar-for-dollar credit against U.S. tax on foreign-sourced income in the amount of foreign taxes paid on that income.

Individuals who meet certain requirements may qualify for the foreign tax credit. This campaign addresses taxpayers who have claimed the credit but do not meet the requirements. The IRS will address noncompliance through a variety of treatment streams, including examination.

  • Offshore Service Providers

The focus of this campaign is to address U.S. taxpayers who engaged Offshore Service Providers that facilitated the creation of foreign entities and tiered structures to conceal the beneficial ownership of foreign financial accounts and assets, generally, for the purpose of tax avoidance or evasion. The treatment stream for this campaign will be issue-based examinations.

  • FATCA Filing Accuracy

The Foreign Account Tax Compliance Act (FATCA) was enacted in 2010 as part of the HIRE Act. The overall purpose is to detect, deter and discourage offshore tax abuses through increased transparency, enhanced reporting and strong sanctions. Foreign Financial Institutions and certain Non-Financial Foreign Entities are generally required to report the foreign assets held by their U.S. account holders and substantial U.S. owners under the FATCA. This campaign addresses those entities that have FATCA reporting obligations but do not meet all their compliance responsibilities. The Service will address noncompliance through a variety of treatment streams, including termination of the FATCA status.

  • 1120-F Delinquent Returns Campaign

The objective of the Delinquent Returns Campaign is to encourage foreign entities to timely file Form 1120-F returns and address the compliance risk for delinquent 1120-F returns. This is accomplished by field examinations of compliance risk delinquent returns and external education outreach programs. The campaign addresses delinquent-filed returns, Form 1120-F U.S. Income Tax Return of a Foreign Corporation.

Form 1120-F must be filed on a timely basis and in a true and accurate manner for a foreign corporation to claim deductions and credits against its effectively connected income. For these purposes, Form 1120-F is generally considered to be timely filed if it is filed no later than 18 months after the due date of the current year’s return. The filing deadline may be waived, in situations based on the facts and circumstances, where the foreign corporation establishes to the satisfaction of the commissioner that the foreign corporation acted reasonably and in good faith in failing to file Form 1120-F per Treas. Reg. Section 1.882-4(a)(3)(ii). LB&I Industry Guidance 04-0118-007 dated 2/1/2018 established procedures to ensure waiver requests are applied in a fair, consistent and timely manner under the regulations.

  • Work Opportunity Tax Credit

The IRS has agreed to accept the Work Opportunity Tax Credit (WOTC) year of credit eligibility issue into the Industry Issue Resolution (IIR) program (pursuant to Rev. Proc. 2016-19). This campaign addresses the consequences of WOTC certification delays and the burden of amended return filings. The campaign’s objective is to collaborate with industry stakeholders, Chief Counsel, and Treasury to develop an LB&I directive for taxpayers experiencing late certifications and to promote consistency in the examinations of WOTC claims.

Due to delays associated with the WOTC certification process, taxpayers are often faced with the burdensome requirement of amending multiple years of federal and state returns to claim the WOTC in the year qualified WOTC wages were paid. This requirement, coupled with any resulting examinations of this issue, is an inefficient use of both taxpayer and IRS resources. The IIR is intended to provide remedies to reduce taxpayer burden, promote consistency, and decrease examination time to most effectively use IRS resources.

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Our colleague James W. Minorchio has written a client alert about recent Internal Revenue Service guidance that clarifies when meals or drinks will be allowed as a deductible business expenses following the changes made by the Tax Cuts and Jobs Act. The TCJA generally disallowed any deduction for expenses related to entertainment, amusement or recreation. But the law did not specifically address the deductibility of business meals or the food and beverage expenses incurred in connection with a sporting event, recreation or other entertainment. Now the IRS has issued transitional guidance in Notice 2018-76 that sets forth a clear test for determining whether a business expense for food and beverages is deductible. You can read the client alert here.

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Ian M. Comisky and Matthew D. Lee have authored a Journal of Taxation article entitled “IRS in the Offing? Marinello Limits Tax Obstruction Prosecutions.” In their article, Ian and Matt write that its recent decision in Marinello, the U.S. Supreme Court dealt taxpayers a rare win by significantly constraining the government’s ability to employ the criminal tax obstruction of justice statute. Construing the Section 7212(a) “Omnibus Clause,” which makes it a felony “corruptly or by force” to “endeavo[r] to obstruct or imped[e]… the due administration of [the Internal Revenue Code],” the Court rejected the notion that the statute covers “virtually all governmental efforts to collect taxes.” Concerned that the statute could reach, among other things, cash payments to a babysitter, the Court instead engrafted seemingly important nexus requirements to the statute. Specifically, the Court held that the provision requires specific interference with targeted governmental tax-related proceedings, “such as an investigation, an audit, or other targeted administrative action.” It will be up to the lower courts to determine the full scope of this limitation. You can read the full article here.

Reprinted with permission from the October 2018 edition of the Journal of Taxation.  

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Our colleague Ernest Badway writes about a recent decision in a federal criminal case rejecting the defendant’s argument that there was no securities fraud because he was selling digital tokens. The case involved charges that the defendant had defrauded investors in an initial coin offering. Ernie writes that “[o]ne of the big takeaways from this case is that courts, at least, initially, seem to be reluctant to claim crypto instruments are not securities. It almost appears that, like everyone else, courts such as the one in the EDNY are looking for more guidance, and are reluctant to make any major pronouncements about the status of such items as digital tokens.” You can read Ernie’s article, which is posted to the Securities Compliance Sentinel blog, here.

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Your company is under investigation. You hire outside counsel to debrief your employees about the allegations. But are the interviews privileged? Do you have to provide each employee with his or her own attorney?

The fourth episode of Matthew D. Lee’s new five-part podcast, “Federal Agents at the Door,” cuts through the confusion surrounding legal representation during an investigation. A partner in the firm’s White-Collar Criminal Defense & Regulatory Compliance Practice, Matt explains why it’s vitally important to make sure your employees also understand who’s representing whom.

Previous installments of Matt’s podcast provided an overview of federal investigations, discussed how to respond when agents arrive at your door and detailed important steps companies should take to preserve evidence.

If you prefer, download the transcript.

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We recently wrote on the new proposed regulations addressing the availability of charitable deductions when taxpayers receive or expect to receive corresponding state or local tax credits for contributions.  The proposed regulations require a taxpayer who makes a contribution to a charitable organization to reduce his charitable deduction by any state or local tax credit that he receives or expects to receive.  Readers may find more about the proposed regulations here.  After the proposed regulations were issued, the IRS published a clarification for business taxpayers.  The IRS clarified that business taxpayers who make business-related payments to charities or government entities for which the taxpayers receive state or local tax credits may still generally deduct the payments as business expenses.  This general deductibility rule is not affected by the proposed regulations dealing with charitable deductions for donations to state or local tax credit programs.

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The Bipartisan Budget Act of 2018 eases the requirements for combat-zone contractors to claim the foreign earned income exclusion.  A U.S. citizen is generally taxed on his worldwide income.  The foreign earned income exclusion, however, allows a taxpayer to exclude foreign income from his gross income for U.S. tax purposes, up to a certain dollar threshold.  For 2018, the threshold is $103,900.

But the exclusion only applies to a taxpayer whose tax home is in a foreign country.  Under prior law, a taxpayer could not have a tax home in a foreign country if his “abode,” which is generally his home or residence, was in the U.S.  See Tax Court Broadens Foreign Earned Income Exclusion.  Before the Bipartisan Budget Act of 2018, combat-zone contractors had difficulty qualifying for the foreign earned income exclusion because it was difficult to prove their abodes were not in the U.S.  The new law removes the “abode” requirement by providing that a contractor who supports the U.S. Armed Forces in a combat zone is entitled to the foreign earned income exclusion even if his “abode” is in the U.S.  The new law went into effect in 2018.  This is a significant development for contractors supporting the military overseas.

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The Internal Revenue Service Large Business and International division (LB&I) has announced the approval of five additional compliance campaigns. LB&I announced on January 31, 2017, the rollout of its first 13 campaigns, followed by 11 campaigns on November 3, 2017, five campaigns on March 13, 2018, six campaigns on May 21, 2018, and five more on July 2, 2018. In addition, LB&I continues to review the tax reform legislation enacted on December 22, 2017, to determine which existing campaigns, if any, could be impacted as a result of a change in the law.

LB&I is moving toward issue-based examinations and a compliance campaign process in which it decides which compliance issues that present risk require a response in the form of one or multiple treatment streams to achieve compliance objectives. This approach makes use of IRS knowledge and deploys the right resources to address those issues. The campaigns are the culmination of an extensive effort to redefine large business compliance work and build a supportive infrastructure inside LB&I. Campaign development requires strategic planning and deployment of resources, training and tools, metrics and feedback. LB&I is investing the time and resources necessary to build well-run and well-planned compliance campaigns.

These five additional campaigns were identified through LB&I data analysis and suggestions from IRS employees. LB&I’s goal is to improve return selection, identify issues representing a risk of non-compliance, and make the greatest use of limited resources.

The five campaigns selected for this rollout are:

  • IRC Section 199 – Claims Risk Review

Public Law 115-97 repealed the Domestic Production Activity Deduction (DPAD) for taxable years beginning after December 31, 2017.  This campaign addresses all business entities that may file a claim for additional DPAD under IRC Section 199. The campaign objective is to ensure taxpayer compliance with the requirements of IRC Section 199 through a claim risk review assessment and issue-based examinations of claims with the greatest compliance risk.

  • Syndicated Conservation Easement Transactions

The IRS issued Notice 2017-10, designating specific syndicated conservation easement transactions as listed transactions, requiring disclosure statements by both investors and material advisors. This campaign is intended to encourage taxpayer compliance and ensure consistent treatment of similarly situated taxpayers by ensuring the easement contributions meet the legal requirements for a deduction, and the fair market values are accurate. The initial treatment stream is issue-based examinations. Other treatment streams will be considered as the campaign progresses.

  • Foreign Base Company Sales Income: Manufacturing Branch Rules

In general, foreign base company sales income (FBCSI) does not include income of a controlled foreign corporation (CFC) derived in connection with the sale of personal property manufactured by such corporation. However, if a CFC manufactures property through a branch outside its country of incorporation, the manufacturing branch may be treated as a separate, wholly owned subsidiary of the CFC for purposes of computing the CFC’s FBCSI, which may result in a subpart F inclusion to the U.S. shareholder(s) of the CFC.

The goal of this campaign is to identify and select for examination returns of U.S. shareholders of CFCs that may have underreported subpart F income based on certain interpretations of the manufacturing branch rules. The treatment stream for the campaign will be issue-based examinations.

  • 1120F Interest Expense/Home Office Expense

This campaign addresses compliance on two of the largest deductions claimed on Form 1120-F, U.S. Income Tax Return of a Foreign Corporation. Treasury Regulation Section 1.882-5 provides a formula to determine the interest expense of a foreign corporation that is allocable to their effectively connected income. The amount of interest expense deductions determined under Treasury Regulation Section 1.882-5 can be substantial. Treasury Regulation Section 1.861-8 governs the amount of Home Office expense deductions allocated to effectively connected income. Home Office Expense allocations have been observed to be material amounts compared to the total deductions taken by a foreign corporation.

The campaign compliance strategy includes the identification of aggressive positions in these areas, such as the use of apportionment factors that may not attribute the proper amount of expenses to the calculation of effectively connected income. The goal of this campaign is to increase taxpayer compliance with the interest expense rules of Treasury Regulation Section 1.882-5 and the Home Office expense allocation rules of Treasury Regulation Section 1.861-8. The treatment stream for this campaign is issue-based examinations.

  • Individuals Employed by Foreign Governments & International Organizations

In some cases, individuals working at foreign embassies, foreign consular offices, and various international organizations may not be reporting compensation or may be reporting it incorrectly. Foreign embassies, foreign consular offices and international organizations operating in the U.S. are not required to withhold federal income and social security taxes from their employees’ compensation nor are they required to file information reports with the Internal Revenue Service.

This lack of withholding and reporting results in unreported income, erroneous deductions and credits, and failure to pay income and Social Security taxes. Because this is a fluid population, there may be a lack of knowledge regarding tax obligations. This campaign will focus on outreach and education by partnering with the Department of State’s Office of Foreign Missions to inform employees of foreign embassies, consular offices and international organizations. The IRS will also address noncompliance in this area by issuing soft letters and conducting examinations.

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The Treasury Department recently issued proposed regulations addressing the availability of charitable deductions when taxpayers receive or expect to receive corresponding state or local tax credits for contributions.  The proposed regulations require a taxpayer who makes a contribution to a charitable organization to reduce his charitable deduction by any state or local tax credit that he receives or expects to receive.

Taxpayers have traditionally been allowed itemized deductions for paying state and local taxes.  The Tax Cuts and Jobs Act enacted last year, however, caped the deduction for payments of state and local taxes at $10,000.  This cap hits taxpayers in high tax states like New York, New Jersey, and California hardest because many taxpayers in those states pay over $10,000 in state and local taxes.  These states have attempted to circumvent the $10,000 cap by considering or passing new state and local tax credit programs.  The programs give taxpayers who make charitable contributions to state or local tax credit programs state or local tax credits, while also being designed to create federal charitable deductions for the same contributions.

The proposed regulations put an end to this strategy by limiting any federal charitable deduction by the state or local tax credit a taxpayer receives or expects to receive.  For example, suppose an individual pays a charitable organization $1,000.  In exchange for the payment, the individual receives a 70% state tax credit.  Under the proposed regulations, the individual’s charitable deduction is reduced by $700 (70% of $1,000) for federal tax purposes.  He may only take a $300 charitable deduction on his federal return.

The proposed regulations are in line with the Supreme Court’s charitable contribution jurisprudence.  The Supreme Court has held that a charitable contribution is a transfer of money or property without adequate consideration.  As a result, a payment is not a charitable contribution if the contributor expects a substantial benefit for the payment.  See United States v. American Bar Endowment, 477 U.S. 105, 116-118 (1986); see also Singer Co. v. United States, 449 F.2d 413, 422-423 (Ct. Cl. 1971).  Taxpayers who receive state or local tax credits for contributions receive substantial benefits for their contributions, so they are not entitled to charitable deductions.

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