Thursday, December 23, 2021
Overused Fraudulent Tax Return Preparation Ploys
This time, according to a Department of Justice news release brought to my attention by reader Morris. According to the release, an Indiana tax return preparer was sentenced to 39 months in prison, a year of supervised release, and payment of more than $1 million in restitution after pleading guilty to inventing non-existent income in order to increase clients’ earned income tax credits, and to inventing false information to generate education credits. During the three years in question, the preparer filed more than 300 fraudulent returns, including his own. By charging roughly $1,000 per return, he pulled in hundreds of thousands of dollars in revenue. His falsifications generated more than $1,000,000 in excess tax refunds for his clients. And, of course, he did not report any of his fees as gross income. Even worse, he had previously pled guilty to criminal tax charges five years earlier, was sentenced, and after learning he was being investigated yet again, opened 15 new bank accounts while claiming he no longer prepared returns.
The earned income tax credit ploy has been used repeatedly by fraudulent tax return preparers. One would think that by now they would have figured out that it doesn’t work in the long run. The new bank account trick is also timeworn yet still used by those who think that they are special and won’t get caught. And, of course, another practice, failing to report tax return preparation fees as gross income makes it even easier for the IRS and Department of Justice to find these folks. True, there may be some preparers who have used these “techniques” who haven’t been caught, but it’s simply that they haven’t *yet* been caught.
Friday, December 17, 2021
It’s Not Just Tax Return Preparers Assisting in the Preparation of Fraudulent Tax Returns
But this time, according to a recent Department of Justice news release, it wasn’t a tax return preparer who rigged up a tax fraud scheme. It was a mortgage underwriter who in 2015 and 2016, along with several others, told their clients that they could pay off their mortgage loans by filing forms with the IRS claiming that substantial amounts of taxes had been withheld when, in fact, that was not the case. The mortgage underwriter and his co-conspirators knew that the forms were false. The forms filed by the clients and detected by the IRS generated more than $4 million in unjustified tax refunds. The mortgage underwriter charged fees of between 20 and 35 percent of the refunds, and then shared some of those fees with the others involved in the scheme. When the IRS discovered the fraud and began its investigation, he provided the clients with fraudulent documents to send to the IRS, telling the clients to hide his role in the filing of their returns and also advising a client to remove funds from his bank account to prevent the IRS from collecting the taxes that were due. On account of these activities, he was convicted of conspiring to defraud the IRS, aiding and assisting in the preparation of false tax returns, and obstructing the IRS.
It gets worse. The mortgage underwriter also failed to file a return for 2016. He also did not pay taxes on any of his income for that year, including the income derived from marketing and operating the fraudulent filing scheme. For this, he was convicted of failing to file a tax return.
For all of these crimes, he was sentenced to 12 years in prison. He also was ordered to serve three years of supervised release and to pay about $4.2 million in restitution to the United States.
So if he is in prison, how does he come up with $4.2 million? Does he have that much in assets? Probably not. He probably collected about $1 million in fees, gave some to his co-conspirators, and surely spent at least some of what remained. Perhaps he has some other assets. Perhaps not. Will he, when released, have the ability and time to earn the amount that must be paid in restitution? Should he be spared prison so he can earn the amount needed? No. One can only wonder how he would then try to find $4.2 million. Of course, perhaps the IRS can collect some of the fraudulently paid refunds, but even if it does so, it ought not reduce the required restitution.
The lesson? In addition to being careful in selecting a tax return preparer, be just as careful when getting tax advice from someone who is not a tax expert. A mortgage underwriter tells you to file a particular form in order to pay off a mortgage? Take the form to a reputable tax professional and find out if it is legal, not just in a tax sense but also in terms of debtor-creditor law.
Monday, December 13, 2021
Sharing a Tax Refund? Put the Details in a Written Agreement and Save the Evidence
This time it’s episode 4 of Hot Bench’s season 8. Piecing together the facts is a bit challenging because both parties were rather disorganized in presenting their case.
Many years ago, the plaintiff and the defendant were in a relationship. The defendant became pregnant, and put the baby up for adoption. The plaintiff and defendant broke up. Years later, they reconnected and got married. The defendant had taxable income. The plaintiff received nontaxable disability benefits. The defendant compared filing a joint return with filing separately, and concluded that filing separately would generate a larger refund than if they filed jointly. However, at another point the defendant suggested that filing separately would cause her to owe additional tax. The parties agreed that the defendant would claim her husband, the plaintiff, on her return – how that was possible was not explained, nor was it clear that is what the defendant did – and also would take a child tax credit for the plaintiff’s daughter from a previous relationship. Again, how that was possible was not explained. The defendant stated that by claiming her husband and his daughter she would receive a refund rather than owing additional tax.
According to the plaintiff, the defendant agreed to give him a portion of her refund equal to $3,500 minus however much was held back to pay back child support owed by the plaintiff. When asked several times during the proceeding how much back child support he owed, the plaintiff gave three different answers, including $700, $1,700, and $3,500.
The defendant denies that there was an agreement. The court pointed out that the plaintiff would not have given the defendant permission to make claims with respect to him and his daughter if he wasn’t getting something in return. At the time of the alleged agreement, the plaintiff and defendant were not on good terms.
The plaintiff then alleged that no child support was taken out of the defendant’s refund by the IRS because the back child support had been taken out of his state income tax refund. There was no inquiry into why the plaintiff would be filing a state income tax return if his only income was nontaxable disability payments. The plaintiff alleged that the defendant did not transfer any money to him, which was why he was suing her.
The defendant then claimed that the plaintiff did get the money and that it went to pay his back child support. She claimed that on her federal income tax return she designated that part of her refund be deposited into the plaintiff’s bank account. When showed the bank account number, the plaintiff stated that it was not his bank account. The defendant then claimed that all of her refund went to pay the plaintiff’s back child support. She claimed that she then had to file an amended return because she received a letter from the IRS telling her to do so, but she could not produce the letter. It was unclear why the IRS would have sent her such a letter, and it is possible that no such letter was sent.
The plaintiff also sued for return of his wedding ring, and the defendant countersued for alleged damage to their house, and for the plaintiff’s alleged harassment and insulting the defendant’s son by a previous relationship. The plaintiff had already filed a different lawsuit for return of his property but did not include his wedding ring because he had not discovered it was missing until after that lawsuit was final.
The judges agreed that there was an agreement as the plaintiff described. They did not find proof that the bank account number was for the plaintiff’s bank account. They also found the plaintiff more credible than the defendant. However, the plaintiff’s confusing statements of how much back child support he owed, for which he gave three very different amounts, left the judges insufficiently convinced that the plaintiff had met his burden of proof with respect to damages.
The judges dismissed the claim for the wedding ring on procedural grounds because the plaintiff had filed a previous suit for property and should file motion for reconsideration of that case in the court that heard it. They rejected the defendant’s counterclaims for lack of proof because she had offered no evidence but her own uncorroborated testimony.
The lessons from this case should be obvious. First, put the agreement in writing. Second, retain evidence of what was done pursuant to the agreement. A written agreement and appropriate evidence would have cleared up the confusion that clouded the case. The plaintiff failed to provide evidence of how much back child support was in play. The defendant failed to produce the alleged letter from the IRS. The plaintiff failed to provide evidence of back child support being taken out of a state income tax refund. The defendant failed to provide evidence that any money was paid to the plaintiff.
It is understandable that people enter into oral agreements, as unwise as that is in many instances, because it is quick, inexpensive, and perhaps a repeat of previous successful deals. But when the two parties are not on good terms, as was the situation in this case, or as is the case when there is litigation to be settled, the agreement must be in writing. And there is no good reason not to put it in writing.
Monday, December 06, 2021
Tax Fraud School: When It’s Not Enough to Be a Fraudulent Tax Return Preparer
Reader Morris came across a news story that he knew would get my attention. Why? Because it tells the tale of a tax return preparer whose misdeeds soar beyond those of the tax return preparers who have been the subject of previous commentaries. According the story, the owner of a tax return preparation business was charged not only with preparing fraudulent returns but also with operating a “Tax School” where the preparer taught others how to prepare fraudulent returns. For the past five years, students at this “school” would pay $500 to learn how to “manipulate returns by listing fake businesses and fake expenses on tax forms.” Prosecutors allege that during one class, the preparer “described how she created a fictitious dog grooming business on a client’s return, created a fake profit and loss statement and even instructing a client to print out dog photos to support the claim of a business.”
The preparer has been charged with one count of aiding and assisting in the preparation of false and fraudulent federal income tax returns. The sentence if there is a conviction is a maximum of three years in federal prison and a $100,000 fine. That’s not enough. Surely the more people she taught how to commit tax fraud, the longer should be the sentence. It’s unclear how many people attended the preparer’s “school” and how many of them went on to prepare fraudulent tax returns. Surely after five years the numbers must be in the dozens if not more. So if, for example, this fraudulent tax return preparer spawned another 36 fraudulent tax return preparers, the maximum sentence is one month for each person led astray. That’s not enough. It’s not even close to what is necessary. It’s also unclear whether prosecutors are tracking down the persons who attended this “school” to determine if they engaged in fraudulent tax return preparation. My guess is that those investigations, if they happened, are already concluded, because the news of the “teacher” at that “tax fraud school” being charged would have the students running for cover. It remains to be seen how many of those students, if successfully sued by their clients for the consequences of fraudulently altering their returns, will in turn sue the owner and teacher of what I would call “Tax Fraud School.”
Wednesday, December 01, 2021
How to Tax Billionaires?
The key, though, is determining when to tax an increase in wealth. Existing tax law does not tax increases in asset value until that increase is “realized.” Under existing law, borrowing money while using the asset as collateral is not a realization event, whereas a sale of the asset is a realization event. Proposals to tax unrealized income, that is, the increase in asset value that isn’t taxed under current law, encounter objections because determining value can be difficult in some instances. On the other hand, because most lenders limit the amount of a collateralized loan to something less than the asset’s value, the act of borrowing money while using an asset as collateral can establish some amount of a minimum value.
Reader Morris asked me, “Does this article describe an easy way to tax billionaires that would actually work?” I doubt it. First, defining borrowing as a realization event could have unintended consequences. What if the borrowing is designed to raise cash to invest in the business rather than to support consumption? The article describes reducing consumption by the wealthy as one objective of reducing or eliminating the use of collateralized loans to generate untaxed cash flow. Second, finding an appropriate, justifiable, and fair way to spare the non-wealthy from being taxed when collateralizing assets to borrow money would be challenging. It not only requires deciding if wealth or income should be the measuring stick, but also determining where the cut-off should be. On top of that, how to treat taxpayers whose wealth or income fluctuates above and below the cut-off poses challenges. If this proposal were to be enacted and curtail borrowing by the wealthy, what would that do to credit markets and interest rates? Perhaps someone already is doing studies to determine the answer. But without assurance that the outcome would not have undesirable unintended consequences, taking this approach requires great caution.
Reader Morris also asked me, “Do you have an easy way or anyway to tax billionaires that would actually work?” I jokingly replied that perhaps it was a proposal I had seen, perhaps not intended as a joke, that the tax law should have a section that states, “You are now worth a billion dollars. You won! You have all you need. Any income over $20,000,000 a year will be taxed at 100 percent so others can enter the game.” Seriously, the easy way is to repeal the provisions that were enacted under the pretext of trickle-down, and to do so retroactively. One specific provision that has been in the tax law since the beginning that needs to be jettisoned is the allowance for depreciation deductions on property that is not depreciating in value, one of the major types of assets used to collateralize the sort of loans the Business Insider article wants to tax.
Thursday, November 25, 2021
Still Different, But Thanksgiving Nonetheless
As I stated the past eight years, “I have presented litanies, bursts of Latin, descriptions of events and experiences for which I have been thankful, names of people and groups for whom I have appreciation, and situations for which I have offered gratitude. Together, these separate lists become a long catalog, and as I have done in previous years, I will do a lawyerly thing and incorporate them by reference. Why? Because I continue to be thankful for past blessings, and because some of those appreciated things continue even to this day.” When I re-read those lists, I realized that the people, events, and things for which I am appreciative are far from obsolete.
So once again I will look back at the past twelve months, and remember the people, events, and things for whom and for which I give thanks. If some of these seem repetitive, they are, for there are gifts in life that keep on giving:
- I am thankful for a wonderful son, daughter, daughter-in-law, grandson, and granddaughter.
- I am thankful for all the people who continue to help update the multiple family trees I develop, maintain, update, and publish.
- I am thankful for the cousins I have met through FTDNA, ancestry, and 23andme, who I did not know existed, and for the opportunity to get in touch with cousins who I knew existed but with whom I had no contact until they showed up on one or more of those genetic genealogy sites.
- I am thankful that we found a way for my congregation’s choir to resume singing, using special masks and distancing, for its continuing toleration of me as its president, and for our Minister of Music, who has guided the choir through a long period of uncertainty and unexpected challenges.
- I am thankful that we are once again able to gather in the sanctuary for worship, and, yes, that I continue to ring the narthex bell.
- I am thankful for having had the opportunity to continue teaching law courses, for the patience of students who had to endure another Zoom session last spring even though classes had returned to the building, because of social distancing class size challenges that affected the course I was teaching.
- I am thankful that, barring some extraordinary obstacle, I return to the classroom for next semester’s course.
- I am thankful for all the people in the world who continue to fight ignorance, crime, terror, evil, and corruption.
- I am thankful for people being willing to read the things I write.
Have a Happy Thanksgiving. Set aside the hustle and bustle of life. Meet up with people who matter to you. Share your stories. Enjoy a good meal. Tell jokes. Sing. Laugh. Watch a parade or a football game, or both, or many. Pitch in. Carve the turkey. Wash some dishes. Help a little kid cut a piece of pie. Go outside and take a deep breath. Stare at the sky for a minute. Listen for the birds. Count the stars. Then go back inside and have seconds or thirds. Record the day in memory, so that you can retrieve it in several months when you need some strength.I am thankful to have the opportunity to share those words yet again. And I am thankful that even in another pandemic-affected Thanksgiving it is possible for even more of us to do all of those things, and for others of us to most of those things.
Tuesday, November 23, 2021
Litigation Risk Can Be Reduced When Legislation is Carefully Drafted
Id. § 802(c)(2)(A). The phrase “directly or indirectly offset” is not defined in the ARPA. The ARPA requires any State that receives funds to “provid[e] a detailed accounting” to the Secretary of “all modifications to the State's . . . tax revenue sources” for the covered period, as well as “such other information as the Secretary may require for the administration of” the Tax Mandate. Id. § 802(d)(2). The Secretary can recoup funds that she interprets were used in violation of the Tax Mandate. Id. § 802(e)(1). The Tax Mandate's “covered period” extends from March 3, 2021, until all funds “have been expended or returned to, or recovered by, the Secretary.” Id. § 802(g)(1). The ARPA also authorizes the Secretary “to issue such regulations as may be necessary or appropriate to carry out” the applicable statutory provisions. Id. § 802(f). The principal problem is that the legislation does not describe how it can be determined if the funds are used to directly or indirectly reduce state taxes.
To me, it seems as though the problem would not have arisen had the language of section 9901(c) been drafted more carefully. To ensure that the funds were used for the intended purposes, the legislation could have provided that the state demonstrate that the amount it spent for each of the four purposes during the covered period equaled or exceeded the average annual amount it had spent on each purpose during the, say, five-year period preceding the date of enactment of the legislation multiplied by the number of years in the covered period. In other words, require the states to select one or more of the four purposes and then increase the amount spent on each purpose. That would prevent the funds from being used to reduce taxes because reducing taxes would require the state to spend less than the required amount on the selected purposes which would cause a reduction in the funds being disbursed to the state. If the state reduced taxes in order to cut funding for purposes other than the four purposes, that would not involve using the allocated funds for the required increases in the four specified purposes. Thus, for example, a state could cut its gasoline tax if that tax was dedicated solely for highway infrastructure repair and maintenance, not one of the four specified purposes, and reduce spending on highway infrastructure repair and maintenance.
In all fairness, careful drafting takes time. Like most legislation, the American Rescue Plan Act was amended and altered in the hours leading up to passage. When faced with a deadline embedded in “get this drafted within the next 30 minutes,” the legislative language becomes more conceptual and theoretical rather than useful for practical application, which was the core of the complaint raised by state officials. This problem is just one example of how the Congress is dysfunctional in meeting its responsibility to tend to the legislative needs of the nation.
Wednesday, November 17, 2021
Is My Easy SALT Cap Conundrum Solution Getting Capitol Hill Attention?
I then invited anyone with “connections” to those who are drafting the legislation or engaging in negotiations to share this proposal, by sharing the URL for this post. So perhaps it is coincidence that yesterday, according to this Norman Transcript article and this Bloomberg report, among others, Senator Bernie Sanders announced that he and some of his colleagues are “working on a plan that would give an unlimited deduction on federal returns for state and local taxes, or SALT, under a certain income level that is still being negotiated.” His plan, unlike mine, would permit the wealthy to continue deducting up to $10,000 of state and local taxes. He added that he and his colleagues “are still discussing how the phase out of the unlimited write-offs would work.” My proposal isn’t the only way to accomplish this, but I am guessing that it, or at least its phase-out mechanism, is on the table. But don’t let that stop anyone with “connections” to share my proposal, as the more times it reaches the legislative staff, the more attention it will get.
Tuesday, November 16, 2021
Is There a Tax Twist to This Twin Tale?
The episode in question was season 7, episode 50, entitled, ““Broken Prom Promise & Help a Brotha Out.” The facts are amusing and yet instructive. The plaintiff and defendant are twins. The twins go out one evening and have a good time. The next morning, the defendant twin is so hung over that he calls the plaintiff twin and asks him to fill in for him at his job as a truck driver at an airport. Both twins testified that throughout their lives they had switched places. So the defendant twin goes to the airport, and drives the truck. When asked by the judge what would have happened had he simply not showed up, the plaintiff twin responded that he probably would have been suspended or perhaps even fired.
So the defendant twin, tired from the previous evening, decided to pull the truck over on the tarmac to take a quick nap. Somehow, as he was pulling over, he dozed off for a moment and was jarred awake from his truck hitting another truck. A supervisor or someone with the employer then suspended the employee twin for a week. The plaintiff twin, the one who was suspended, sued his brother for lost wages.
The judge held that Judge ruled that because the defendant twin replaced the plaintiff twin, the defendant twin “became” the plaintiff twin, so that legally it was the plaintiff twin who was treated as having hit the truck, and thus the suspension was on account of the plaintiff twin’s actions, and not the actions of defendant twin. Accordingly, the judge held for the defendant twin. I wonder, though, if the defendant twin had run over and killed a third party, which twin would be prosecuted for that act.
The episode’s summary, and then the episode itself, reminded me of a series of experiences I had early in my teaching career. One Friday afternoon, one of the students in the basic tax class came into my office with a tax question. The facts that he posited, and the way he phrased the question seemed a bit unusual but I attributed it to nervousness or insecurity or some other sort of uncertainty. As I started to reply, I heard lots of laughter in the hallway. In came several students, including, wait, one that looked totally identical to the one in my office. It turned out that the student had a twin brother, who, I learned, was in medical school.
A few weeks later they tried the stunt again. It didn’t work. For some reason I had noticed what the student twin was wearing in class that day – I think it was a t-shirt with a particular Philadelphia sports team logo – so when the medical student twin came in wearing a different shirt and with another fabricated tax question, I simply responded by asking what sort of medical test would be required. Immediately there was laughter from the hallway, and the two twins realized why the stunt failed.
Another few weeks go by, and in comes the student twin. Surely it was him, as he was wearing what he had been wearing in class that day, another Philadelphia sports team t-shirt but not the same team as the last time he stepped in. So he poses his pretensive tax question, and I begin to answer, and again there is laughter from the hallway. It turned out that the two twins had exchanged clothes just before coming to my office.
I lost touch with the twins. A few years ago, I am listening to a sports radio talk show and the host interviews a sports medicine doctor. The doctor’s surname matches that of the two twins. Is it him? He begins to speak, and indeed, it must be him. Because I was driving, I resisted the temptation to call into the show and try to pull a retaliatory stunt by asking a legal question of the doctor and then noting that “perhaps your brother would know.”
No, I am not going to disclose their names. Perhaps one of them will read this commentary and react. I doubt it. Perhaps one of the many students who were in on the pranks, will recognize them from reading this commentary and let them know that their prank has been memorialized in a blog post decades later. The good news is that unlike the twins in the Justice with Judge Mablean episode, these two’s switching prank did not turn out badly.
Thursday, November 11, 2021
When Tax Ignorance Becomes Tax Obstinance
Sauter appealed to the United States Court of Appeals for the Fifth Circuit. He did not dispute having received the $97,188 from Alma Products, but argued that the income is not taxable because “trade or business” in Internal Revenue Code section 7701(a)(26) is defined as “includ[ing] the performance of the functions of a public officer,” and, thus, only those trade or business activities that can be defined as “the performance of the functions of a public office” are taxable. In 2019, the Court of Appeals explained that section 61(a)(6) defines “gross income” as “all income from whatever source derived, including . . . [c]ompensation for services.” I.R.C. § 61(a). It explained that section 7701(c) further clarifies that “includes” and “including” when used in a definition “shall not be deemed to exclude other things otherwise within the meaning of the term defined.” Id. at § 7701(c). Agreeing with the Tax Court that this argument was frivolous and without merit, the Court of Appeals affirmed the Tax Court’s judgment.
On his 2016 federal income tax return, Sauter did not report $85,106 that he received from Alma Products. Again, the IRS, after issuing a Form CP2000 to Sauter and getting a reply reciting the same argument rejected by the Tax Court and the Court of Appeals, issued a notice of deficiency. Again, Sauter raised the same rejected argument, and again the Tax Court entered summary judgment pursuant to the IRS motion for summary judgment. It also imposed a penalty of $2,500 under section 6673(a)(1)(B), noting that Sauter had been warned at least three times in dealing with his 2016 return that his argument was frivolous and without merit.
Again, Sauter appealed to the United States Court of Appeals for the Fifth Circuit. Again, he did not dispute having received the $85,106 from Alma Products. Again, he raised the same argument he had raised previously. Again, earlier this week, the Court of Appeals rejected the argument as frivolous, pointing out that it had previously been presented with the same argument by Sauter and had concluded it was frivolous. As for the penalty, the Court of Appeals held that the Tax Court did not abuse its discretion when it imposed a penalty on a taxpayer who continued to advance “long-defunct arguments,” had been warned multiple times of the possibility of penalties, and had been put on notice that the Court of Appeals had previously concluded that his argument was frivolous. The Court of Appeals affirmed the Tax Court decision in its entirety.
Understanding that a definition that contains an “including” phrase does not restrict the application of the definition to items listed after the word “including” is not something limited to law, and is something many people not trained in law understand. Yet, it is possible that someone reading such a definition might be confused or otherwise not quite grasp the difference between the word “including” and the phrase “is limited to.” That is ignorance. Ignorance can be cured, and is cured through education. The Tax Court and the Court of Appeals educated Sauter multiple times with respect to the litigation involving his 2015 tax return. When Sauter persisted in advancing the same rejected argument, it was no longer a matter of ignorance. It was a matter of obstinance. Ignorance, of course, poses an deep threat to people and to nations. Obstinance, which is embraced ignorance, is an even greater danger, posing an existential threat to people, nations, and democracy.
Thursday, November 04, 2021
SALT Cap Conundrum: The Solution Is Easy
For that reason, some Democratic members of Congress want to repeal the SALT cap and return to the uncapped deduction for state and local taxes that existed before the 2017 tax legislation was enacted. Giovanetti, in Democrats' Massive Tax Cut for the Wealthy correctly points out that repeal of the cap would be a much bigger benefit for the wealthy than for a anyone else. He is correct. We could quibble over his claim that it is upper-income households and especially the wealthy who pay more than $10,000 in state and local taxes and thus are affected by the SALT cap, because there are taxpayers caught by the cap who surely are not “upper-income.” We also could quibble over how much the cap hurts the wealthy, because the benefit to the wealthy of an uncapped state and local tax deduction pales in comparison to the tax breaks they get from things such as depreciation deductions on real estate that is not depreciating, the step-up in basis at death, reduced tax rates, charitable contribution deductions for the value of appreciated property without taxation of the inherent gain, and dozens more provisions designed to help starving oligarchs, to say nothing of low audit rates. But those issues matter not to finding a solution to the SALT cap problem.
Here is what I think is the best idea for dealing with the SALT cap. The cap should not be a fixed amount. It should be a fixed amount, adjusted for inflation, reduced by ten percent of the taxpayer’s modified adjusted gross income. I’m open to which definition of modified gross income is used, but certainly tax-exempt income should be included. Here are some examples. Set the cap at $40,000 minus ten percent of adjusted gross income. What is the outcome? For someone with adjusted gross income of $400,000 or more, the cap would be zero, that is, no deduction for state and local taxes. For someone with adjusted gross income of $100,000, the cap would be $30,000, though taxpayers with adjusted gross income rarely, if ever, pay state and local taxes anywhere near $30,000. For someone with adjusted gross income of $50,000, the cap would be $35,000, though again, that taxpayer would not be paying that much in state and local taxes.
Why did I pick $40,000 as the fixed amount? Because that amount, applied to the formula, would cause little or no loss of the state and local tax deduction for taxpayers with less than $400,000 of modified adjusted gross income, the breakpoint being used in the proposed legislation for other changes. It also means that taxpayers with $400,000 or more of modified adjusted gross income would be denied the state and local tax deduction. This certainly would change the proposal from a repeal that benefits the wealthy more than other taxpayers to one that spares taxpayers who are not wealthy from the SALT cap while leaving it in place for the wealthy.
Supporters of the SALT cap cannot object to my proposal unless they want the SALT cap kept in place for the taxpayers who are not wealthy but who are caught by the cap. That would be rather telling. Opponents of the SALT cap cannot object to my proposal unless they are supporters of letting those with $400,000 or more of modified adjusted gross income have a deduction for state and local taxes of at least $10,000 if not an unlimited deduction. That, too, would be rather telling.
I invite anyone with “connections” to those who are drafting the legislation or engaging in negotiations to share this proposal, by sharing the URL for this post. I'm good at some things, but being my own publicist isn't one of them. But please attribute it to me so that if anyone wants to criticize it you can step aside and let the counter-arguments come my way. And, of course, if it gains traction, well, I don’t mind being credited.
Wednesday, November 03, 2021
Not a Reason to Avoid Taxing Unrealized Gains
Yet tax law, whether based on income or property value, contract law, tort law, and many other areas of law function smoothly in determining value without the benefit of an actual purchase and sale of the item in question. Local real estate taxes are assessed on the computed market value of real properties. Estate taxes and state inheritance taxes are computed by determining the value of property owned by a decedent or inherited by a beneficiary without that property having been sold to a willing buyer. Insurance claims on stolen or totaled vehicles are paid based on value reflecting other transactions. Losses from breach of contract are calculated without actual transactions having taken place. Business school classes on valuation take students through the details of the comparable sales method, the discounted cash flow method, the earnings multiplier method, and similar analytical approaches.
Giovanetti argues, “So an unrealized gain simply cannot be accurately valued, and how can you accurately tax wealth that cannot accurately be valued? You can’t. And that’s one of the reasons why we have never even attempted to tax unrealized gains.” On that score, he is wrong. Including unrealized gain in gross income already exists in the federal income tax law. Take a look, for example, at Internal Revenue Code section 475 (and state statutes based on it). The computation is based on the listed market price of securities, which is nothing more than a proposed price similar to the asking prices given by Giovanetti as examples of why it supposedly is impossible to put a value on something until that something is actually sold. The battle Giovanetti is fighting was lost long ago, when section 475 was enacted.
That’s not to say that taxing unrealized gains on everything every year is necessarily a good idea. There are worthwhile arguments against the idea, based on issues of liquidity, market disruption, administrability, and ease of avoidance. With those stronger arguments available, it makes no sense to rely on a “cannot determine the true value of something without a sale” objection. If that is perceived as the strongest, or only, argument being offered in opposition to the taxation of unrealized gains, section 475 might soon be expanded beyond the narrow set of situations to which it currently applies.
Of course, the idea that taxation should not take place until something is sold, when coupled with the step-up in basis at death, provides the foundation for the construction of the oligarchic dynasties that are causing far more problems for the nation than the few benefits, if any, that trickle down to the not-wealthy from these gargantuan money piles. Eliminating the step-up in basis at death does nothing to solve the problem because properties are passed from one generation of oligarchs to the next. A wealth tax is problematic, not only because of the administrability and evasion issues, but also because in years when wealth decreases, payments would flow from government to oligarch (not that government funds don’t already flow in that direction, outside of the spotlight that is aimed on payments to the impoverished and struggling middle class).
Perhaps the answer is to undo the cause of the wealth accumulation. Here is something to ponder. What would the nation’s economy look like, and what would the economic situation for the poor, the middle class, the wealthy, and the ultrarich look like if federal and state income tax rates had remained where they were when this nation was in the heyday of the “greatness” that so many want to revive? Why not undo the slide from those years of “greatness” by computing what each individual and corporation would have paid in income tax in each of the last 40 years (going back to when the oligarch takeover began), subtracting what was paid, computing interest, and sending invoices to the taxpayers or their successors in interest, with an exemption for all incomes under, say, $1,000,000 in 2021 dollars adjusted for each year’s equivalent amount. It is possible that under this formula, a few or some taxpayers would receive refunds rather than invoices, though most taxpayers in that situation would be those with incomes too low to have taken advantage of the tax breaks dished out to the ultrarich. Too computationally complicated? Not with modern digital technology.
If nothing is done, and people can debate what should be done, but if nothing is done, the exponential increase in the percentage of the economy owned and operated by the super-ultra-rich will continue and accelerate, the number of people sliding into poverty will increase, the disappearance of the middle class will get worse, and the realization that oligarchic capitalism is simply another version of feudalism and serfdom will come too late. So long as there are enough people willing to defend, and vote for, oligarchic capitalists and their operatives, the slide from “greatness” also will accelerate. What is most troubling is how so many people unhappy with the slide from “greatness” vote for the persons and policies that fuel that slide.
Sunday, October 31, 2021
The Tax Consequences of Halloween Candy Buy Back Programs
About two weeks ago, reader Morris directed my attention to this story about a dental office buying back Halloween candy. From doing a bit of research, this is not an isolated situation but one that is common, though I must point out that when I was in my Halloween door-to-door-with-two-large-pillowcases stage, I never did hear of any dentists buying Halloween candy from children. It now is a nation-wide undertaking. So how much are the children paid? This dental office offers $3 per pound.
Reader Morris then posed two questions. He asked, “Are the kids technically receiving gross income for the candy?” and “Can the dental office deduct the purchase cost as a business expense?”
The children receive the candy as a gift, though perhaps some people might claim that they dish out treats in order to “persuade” children not to refrain from stopping by the following year on Mischief Night, Soap Night, Egg Night, Chalk Night, or whatever other pre-Halloween night is being observed by some youth. Because it is a gift, the children have an adjusted basis in the candy equal to the price paid by the person giving the candy, and when they sell it to the dental office they probably are receiving an amount less than the adjusted basis. So they are realizing a loss, and it is not deductible because the children are not in the trade or business of selling candy, carrying on a for-profit activity, or suffering from a casualty (though some children “persuaded” by their parents to fork over their candy for cash might consider it a tragedy, but not all tragedies are casualties).
Why do I think the children are incurring a loss? On Amazon, a one-pound Hershey’s Bar sells for $19.99, so getting $3 for that bar (assuming anyone is handing out something like that) is far from generating gross income. Walmart sells a 40 ounce bag of small candy bars for $23.96, which is $9.58 per pound, a better deal than the one-pound Hershey’s bar but still much less than $3 per pound. I checked these prices when reader Morris sent his email so they may have increased or decreased, there may have been sales, there may be different prices at other retailers, but as a general proposition, $3 per pound is not generating realized gain for the children who sell their candy loot to the dental office.
Two years ago, Kelly Phillips Erb addressed the tax consequences of Halloween candy buy back transactions. She did so by examining exchanges of the candy “for other stuff.” She addressed the income question only by noting that if the “candy is exchanged for a similar item, there should be no gain and no tax consequences.” As a practical matter that is true, but if a child found someone willing to fork over a one-pound Hershey’s bar for half of the candy in that 40 ounce bag, that would generate gross income of $8.01. If “similar item” means candy of an equal value, she is correct both theoretically and pragmatically. Though she doesn’t mention a sale for cash, her reasoning would bring us to the same conclusion that my reasoning did. She also notes, as I have, that the children handing over the candy at a loss would not be allowed a deduction.
As for a deduction by the dental office, which is, of course, a trade or business, the question is whether the amount paid for the candy is an ordinary and necessary business expense. Is it? One argument in favor of a deduction is that the business is paying for some combination of advertising and public health information. The program is designed to reduce the amount of candy that children (and their parents) eat during Halloween season, and because the cost of publishing a “don’t eat or don’t eat too much candy” message would be deductible by a dentist, sending that message through a buy-back program would also be deductible. An argument in favor of denying the deduction would rest on the nature of what is being purchased. Unlike dental care supplies, dental tools, and similar items, dentists do not need to purchase candy in order to operate their businesses.
There are two twists to the tax consequences faced by the dental businesses that buy the candy. One is that under the national program the candy is donated to a charitable organization that distributes the candy to members of the Armed Forces. So instead of a trade or business deduction, the business would claim a charitable contribution deduction in an amount equal to what it paid (because the property is short-term capital gain property in the hands of the business). The other twist is that some businesses making the purchases do so with donated money. In this instance the business would not get a deduction because it is not expending any money for the candy. Determining whether the sponsors get a charitable contribution deduction requires identifying additional facts and is beyond the scope of the question that was asked. So, too, is the non-tax issue of why it makes sense to reduce the amount of candy in the hands of the children while increasing the candy in the hands of members of the Armed Forces, and I leave readers to explore what the national candy buy back program shares as an explanation.
Wednesday, October 27, 2021
Don’t Get Burned By a Tax Return Preparer
Among those readers is reader Morris, who spotted a story out of North Carolina about a tax return preparer who did something that ought not to have been done and that was something that, until now, I had not hear of a tax return preparer doing. According to the story, Andrivia Wells was sentenced to 70 months in prison after pleading guilty to filing more than 6,000 fraudulent tax returns claiming more than $3 million in fraudulent refunds unbeknownst to the clients, and then taking roughly $1.2 million in fees from her clients’ refunds without informing the clients. She also filed fraudulent returns on her own behalf. These actions aren’t novel for noncompliant tax return preparers. What Wells did was worse.
In 2017, when the IRS demanded that Wells turn over records, a suspicious fire broke out at her office on the day that Wells was to submit the records requested by the IRS, and the records went up in smoke. Two years later, Wells was indicted and arrested on charges of tax fraud and obstruction of justice. Ten days later, while in jail, Wells spoke with her daughter and two associates after a grand jury demanded records, discussing how to eliminate the evidence. The call, made from jail, was recorded. Someone on the call said, “We’ve got to get the stuff out before they put the locks on. . . . We have files in there, clients we’ve done. We’ve got to get a U-Haul and move all of that stuff out of the place at one time. A very large U-Haul.” They didn’t get a U-Haul. They set a fire that destroyed the records.
The sentencing judge described the second fire as “one fire too many.” I beg to differ. It was two fires too many. And it’s worse. Wells already had been convicted of a felony, having served eight years of a 151-month sentence for participating in a drug-trafficking conspiracy. So those fraudulent returns, stolen refunds, and fires were “way too many crimes too many.” The lesson is clear. As I’ve written many times, when retaining a tax return preparer, do some research and even a background check. No one wants to be burned by a tax return preparer.
Monday, October 25, 2021
Ignorant Meme About the Mileage-Based Road Fee Demonstrates the Value of Education as a Vaccine Against Ignorance and Propaganda
In that most recent post, I described how Mariya Frost of the Washington Policy Center, in an opinion piece on the pending federal mileage-based road fee pilot program, objected to the fact that the pilot program language is “buried deep in a larger infrastructure package that lawmakers have to vote for or against in totality.” That observation is correct, and I pointed out that it was not a rejection of the mileage-based road fee concept or the pilot program, but a complaint about the legislative process in general. That, of course, is a much bigger and more serious problem with this nation’s polity.
One of the side effects of burying a proposal in legislation is that very few people actually read the language of the proposal. Those who do have a choice. They can try to accurately report, or at least try to accurately summarize, the proposal, or they can twist it into propaganda used for questionable purposes. Granted, some people who try to accurately explain a proposal might suffer from an inability to understand it and generate misleading information. When proposals are complicated, or the language murky, that can happen. It’s bad, but it’s not evil. On the other hand, those who deliberately mis-inform the public do not have any sort of acceptable excuse.
Consider a meme now circulating on social media outlets. It reads, “The dems are trying to push through a 8 cents a mile vehicle tax. You say well 8 cents doesn’t sound to [sic] bad. Allow me to break it down for you. If you drive 12,000 miles a year, you will pay an extra $960 per year. If you get 18 miles to the gallon, it will cost you an extra $1.44 per gallon. If you put 20 gallons in your car, the cost comes out to an extra $28.80 per fill up. This will amount to the largest tax hike in history. Not to mention what this will do to the trucking industry. You think your groceries are expensive now! You just wait. It will cost a semi that drives 100,000 miles a year for example an extra $8000 dollars a year. Do you think the trucking companies are just going to eat that cost? No I don’t think they will. They will pass the cost onto their customers who will in turn pass it on to you. If this passes, it will be catastrophic for the economy I guarantee it.” It is unclear whether the person whose name appears below the meme is the author. It is unclear whether the the spelling, punctuation, syntax, and other errors is the product of someone lacking the requisite writing skills or is a deliberate attempt by polished propaganda artists to make the meme look as though it is coming from a grassroots source. Either way, it is full of nonsense.
First, the proposal is nothing more than the funding of a voluntary pilot program to study the mileage-based road fee. The volunteers will not be out any money. Second, there is no reference to 8 cents per mile in the proposal. The 8 cents figure comes from the report of a Pennsylvania commission set up to study transportation funding. Third, if a mileage-based road fee were adopted, it would be, as indicated in various proposals, a replacement for the liquid fuels tax, and thus not in its entirety an “extra” anything.
It's bad enough someone wrote this, whether out of ignorance or a deliberate intention to rile up the base and motivate the anti-tax anti-government crowd. What’s worse is that people read this, react emotionally without doing any research to determine its validity, and then re-post it so that this nonsensical piece of ignorance spreads like a virus among those unvaccinated against ignorance. Yes, education is the vaccine against ignorance and propaganda. Yes, there are people who are opposed to education because they are afraid of what it does, even though there is nothing to fear about making efforts to acquire knowledge and education and to learn how to separate emotion from critical thinking. Ignorance about a pilot program to examine the feasibility of a mileage-based road fee is a concern, but it is merely one facet of the widespread ignorance and lack of critical thinking about every important aspect of society that is eating away at the core of civilization. The clock is ticking, and time is running out.