MauledAgain

While I was away, news reached me that Andrew Mitchel, the unchallenged champion of tax chart web publishing, added another batch of charts to his already impressive collection of visual aids to understanding Code provisions, cases, rulings, and other tax concepts. This time he focused on some well-known tax cases, names that should roll with ease off the tongues of tax experts. Yes, any person claiming to be a tax expert who reacts with a blank stare when hearing another person mention INDOPCO, Kirby Lumber, Tufts, or Glenshaw Glass, to name a few, is not a tax expert. Would you be comfortable getting medical treatment from someone unfamiliar with penicillin?

Never one to rest on his laurels, or charts, Andrew also revised several charts that he had previously put up on his web site. This recent activity brings the total number of charts to 279. According to Andrew,

The recent charts include:

1. Davis (Transfer for Release of Marital Claims)
2. Eisner v. Macomber (Stock Dividends are Not Taxable)
3. General Utilities (No Gain on In-Kind Corporate Distributions)
4. Glenshaw Glass (Accessions to Wealth)
5. Hendler (Liability Assumption was Boot in a Reorganization)
6. INDOPCO (Deductibility of Takeover Expenses)
7. Kirby Lumber (Gain on Bond Retirement)
8. Knetsch (Sham Interest Expense)
9. Lucas v. Earl (Income is Taxed to the Person who Earned It)
10. Schlude (Prepaid Dance Lessons)
11. Tufts (Debt Relief from Nonrecourse Mortgage: FMV of Property Less Than Debt)
12. Welch v. Helvering (Deductibility of Reputation Payments)

and charts have been revised for

:1. Crane (Debt Relief from Nonrecourse Mortgage)
2. Gregory v. Helvering (Spin-off with Transitory Controlled)
3. Seagram (Pre-Acquisition Continuity of Interest in Multi-Step Forward
Triangular Merger)

For those needing cross-references to my previous commentary on Andrew's chart work, look here, here, here, here, here, here, here, here), here, here, here, and here.

Andrew continues to welcome comments on his charts. You can contact him through his web site. For direct access to the charts, you can enter by Topic, by Alpha-numeric order, or by Date uploaded . I suppose if you don't see a chart for something you'd like to see in visual representation, you can send Andrew a nomination for another chart. I have a feeling he'd be glad to add one to the growing collection.

While I was away, Matt Gardner sent me a tip about a Citizens for Tax Justice news analysis concerning the federal budget deficit. Mainstream media had reported, and because I was not cut off from newspapers and television while I was traveling, I had read, several stories about the most recent federal budget deficit estimates. For example, in this report, the Washington Post explained that the White House was revising the current deficit downward, from approximately $412 billion to less than $300 billion. The change was attributed to increased tax revenues.

The report to which Matt steered me questions the revised estimate. It points out that when borrowing from the social security trust funds is taken into account, the deficit is on the order of $470 billion. By ignoring this borrowing, the Administration's deficit estimators shift the true excess of spending over revenue to the future years when that trust funds will need to be repaid. During the past five years, according to the report, more than $800 billion has been borrowed from the social security trust funds to finance the shortfall in revenue.

Members of the Administration are touting the revised deficit estimate, and its cause, as a sign that tax cuts are working as intended. Excuse me, but that makes no sense. Without the tax cuts there would be little or no budget deficit. So we're supposed to cheer because the mess isn't quite as bad as it appeared to be? I'd be impressed if the revision showed a budget surplus, because THAT would demonstrate the validity of the "cut taxes, double revenue" nonsense spouted by the "I refuse to pay taxes because I'm special" crowd and the "I cannot pay taxes because I'm selfish" group.

A closer look at the source of the increased tax revenue is most revealing. A significant chunk of it reflects increased corporate taxes, a natural consequence of the huge increase in corporate profits during the past half-year. Most of the rest reflects taxes on high-income taxpayers who have received bonuses. The Washington Post article goes into greater detail on these points. It also explains that taxes on wages are barely increasing, because wages are increasing only slightly. In other words, the tax revenue increases are consistent with the shift of income gains away from the middle class and toward the very top of the income and economic ladders. The rich get richer ....

Making the situation worse are the allegations that the Administration initially overestimated the deficit so that it could return and claim that it deserved kudos for reducing it. That's a ploy not unlike the child who says to a parent, "Would you be upset if I told you I broke the heirloom vase?" only to follow-up with the following comment to the rattled parent, "Well, I didn't. It's just that the picture window is broken." There's one word to describe this approach: manipulative.

Worse, the Administration used the phrase "mission accomplished" to describe the news. What mission? Was the goal to have a deficit? That's a stupid goal. If the goal is to eliminate the deficit, the mission was not accomplished. Of course, the Administration excels at premature declarations of accomplished missions. The only mission that is being accomplished is the continued shifting of income and wealth from the vast majority of Americans to the few power elites who make eighteenth century French nobility appear gracious and generous.

Unless spending is reduced, and one can debate how much existing spending can or should be eliminated, revenues must be increased to cover the cost of government spending. If the level of revenues required to sustain current spending is unacceptable, then the advocates of the spending must re-think the matter. It is interesting that some of the strongest champions in Congress of government spending, identified by voting record and not campaign rhetoric, are also strong supports of special low tax rates for capital gains and repeal of the estate tax. One wonders if they truly believe in what they are doing or simply are trolling for votes (to use the euphemistic version of the phrase I'd like to use), for if they truly believe that reducing taxes raises revenues, why not reduce all tax rate to zero on the claim it would produce infinite revenue?

The price that is going to be paid for this fiscal irresponsibility will be steep. Those who warn us that our children and grandchildren will be paying this price are far too optimistic. The price will be paid, very soon. So very soon, in fact, that we will be paying the price. In more ways than one.

The solution is easy: remove the special low tax rates for capital gains. Adjust asset basis for inflation. Restructure the income tax rates to reflect the windfall nature of incomes exceeding $5,000,000 per year and $25,000,000 per year. Abolish tax credits and deductions designed to influence social policy. Fund the IRS with adequate means to chase down unpaid taxes owed under existing law. Either reform Medicare spending or increase the Medicare payroll tax so that Americans can see the true cost of the Medicare program. And ditch the pork barrel spending projects.

This solution will not be enacted. Politicians drunk with power have no more ability to restrain their binging than does a addict crawling down the street looking for the dealer. We have only ourselves to blame for sending these folks to Washington year in and year out. It is said one gets what one pays for. It also should be said that one gets what one votes for. And in this case, it is federal budgetary disaster.

The Federal Labor Relations Authority (FLRA) has issued a decision in a long-standing dispute between the IRS and the National Treasury Employees Union over education requirements applicable to IRS agents. The FLRA ruled in favor of the IRS, and although according to this Washington Post story it is unclear what the union's next step will be, there is much value in examining the dispute because it provides some insight into how the IRS and its employees view their responsibilities.

In the early 1990s, the IRS proposed a requirement that persons seeking to be revenue agents complete at least thirty semester hours of accounting courses, and demonstrate knowledge in five specific areas of accounting. Thirty semester hours, incidentally, is equivalent to ten three-credit courses. The thirty-hour requirement would replace an existing 24-hour requirement. The IRS proposal was approved by the Office of Personnel Management and included in its Qualifications Handbook.

The IRS implemented the change in 1995. It "grandfathered" existing agents, letting them continue in their positions even if they did not meet the new requirements. However, because of budget constraints, the IRS did not apply the new requirements to job applicants until 2002. When the IRS denied an application by an employee to become a revenue agent because she did not meet the thirty-hour requirement, she filed a grievance. The union also filed a grievance, taking the position that requiring agents to have knowledge in five areas of accounting was unacceptable.

The grievances went before an arbitrator, who concluded that both new requirements were educational requirements, and that because existing agents could perform their duties successfully without satisfying either of the new requirements, imposing the requirements on new job applicants violated section 3308 of United States Code title 5. That provision states, "The Office of Personnel Management or other examining agency may not prescribe a minimum educational requirement for an examination for the competitive service except when Office of Personnel Management decides that the duties of a scientific, technical, or professional position cannot be performed by an individual who does not have a prescribed minimum education..."

The arbitrator also concluded that imposition of the new requirements violated Section 3(B) of Article 13 in the collective bargaining agreement between the IRS and the union. That provision states that "selective placement factors will only be used in determining eligibility when they are essential to successful performance in the position to be filled." Again, because the arbitrator concluded that existing agents were able to perform their duties satisfactorily without having met the new requirements, the IRS violated the agreement when it imposed those requirements on new job applicants.

However, the arbitrator concluded that the IRS had not violated section 300.103 of Code of Federal Regulations title 5, because it "rationally could have found" the requirements related to a person's performance as a revenue agent. The arbitrator determined that the IRS had conducted three analyses of the revenue agent job, which according to the IRS' expert witness, provided "cumulative and converging evidence of the content validity" of the requirement that revenue agents have knowledge in five areas of accounting.

The arbitrator also rejected claims that imposition of the requirements violated the Uniform Guidelines for Employment Selection Procedures, concluding that there was no evidence the new requirements had an adverse impact on minority job applicants. The expert witnesses for the IRS and for the union used different approaches to determine if there was an adverse impact, but the arbitrator found that "any adverse impact of individual components of the process is not dispositive.

Rather than imposing a remedy, the arbitrator ordered the parties to negotiate a remedy. He gave them ninety days.

The IRS filed interlocutory exceptions with the FLRA, challenging the arbitrator's jurisdiction over the thirty-hour requirement dispute. The FLRA agreed, determining that the arbitrator lacked jurisdiction because the 30-hour requirement was set forth in an Office of Personnel Management regulation. However, the arbitrator's jurisdiction over the requirement of knowledge in five areas of accounting was not challenged by the IRS and the FLRA did not address it.

The parties, unable to negotiate a remedy, turned to a different arbitrator to resolve that issue. That arbitrator specified various remedies. The IRS then challenged both the conclusion that the requirement of knowledge in five areas of accounting violated section 3308 and the remedies that were specified. The Union then challenged the first arbitrator's conclusions that the IRS had not violated section 300.103 or the Uniform Guidelines for Employment Selection Procedures.

After pointing out that section 3308 only applies to requirements that may be satisfied solely through education, the FLRA noted that the first arbitrator had concluded that the requirement of knowledge in five areas of accounting could "be satisfied through education or experience." Thus, when he concluded it violated section 3308, he erred in subjecting it to a statutory provision that did not apply. The vacancy announcement provided that the requirement could be satisfied through education or experience, which, according to the FLRA, undercut the union's argument.

Turning to the arbitrator's conclusion that the IRS violated the agreement between itself and the union, the FLRA concluded that the arbitrator finding of a contract violation was contrary to management's right to make employment selections. Because the union did not argue that the arbitrator was enforcing a provision negotiated under section 7106(b) of the labor statute or any applicable law, the union failed to provide a basis for concluding that the first prong of the applicable labor law test had been satisfied.

Next, the FLRA concluded that the union failed to show that the arbitrator erred when concluding that section 300.103 had been violated. That provision requires federal agencies to hire using a job analysis that identifies "(1) The basic duties and responsibilities; (2) The knowledges, skills, and abilities required to perform the duties and responsibilities; and (3) The factors that are important in evaluating candidates," that "[t]here shall be a rational relationship between performance in the position to be filled . . . and the employment practice used[,]" and that "[t]he demonstration of rational relationship shall include a showing that the employment practice was professionally developed." The FLRA accepted the arbitrator's conclusion that three job analyses were conducted in developing the requirement of knowledge in five areas of accounting, and the weight he gave to the testimony of the IRS expert witness testimony on the professional standards used in the analysis. The FLRA rejected the union's attempt to have it give weight to its own expert's testimony that the IRS job analyses were flawed, because that was a matter of fact for the arbitrator. Nor did labor law require the FLRA to impose a different employment practice merely because it would have been preferable. The FLRA rejected the union's claim that the requirement reflected bias in favor of external applicants over internal applicants, both because the arbitrator had not made any such finding, and because such a bias does not demonstrate that the requirement is not rationally related to a revenue agent's job duties. For similar reasons, the FLRA rejected union claims that the IRS relied on college degree requirements that had "little relation" to the revenue agent position.

Finally, the FLRA concluded that the union failed to show that the arbitrator erred when concluding that the IRS had not violated the Uniform Guidelines on Employee Selection Procedures. Because the IRS had no evidence reflecting that the overall selection process had no adverse impact, it should have evaluated the individual components of the employment selection process. Yet, even though the FLRA concluded that the arbitrator erred in this respect, it put aside the error as irrelevant because his legal conclusions were "consistent with law, based on the underlying factual findings." It relied on the fac that the IRS evaluated the requirement of knowledge in five areas of accounting, concluding that this component did not cause an adverse impact on minority applicants, thus excusing the IRS from satisfying documentation requirements the union claimed it ought to have met. Because the union's expert evaluated the thirty-hour requirement and requirement of knowledge in five areas of accounting in combined form, rather than separately, the expert's conclusions could not be broken out and applied solely to the latter requirement. The FLRA concluded that the union was not arguing the requirements had an adverse impact on minority applicants, only that the IRS failed to follow some documentation requirements.

So what does this maze of procedural and evidentiary jousting mean? To me, it means that, for the moment, the IRS can proceed in its attempt to upgrade the job performance quality of its revenue agents. It also makes me wonder why a labor union would oppose requirements that would make its members more educated. The flaw, perhaps, was that in "grandfathering" existing agents, the IRS gave the union some ammunition to use in its argument that revenue agents don't need any additional education to perform their jobs.

The agents now being hired by the IRS may end up working for the agency until 2030 or 2040. The tax law is unlikely to become less complicated or easier to analyze. During the past several decades, the tax law has become so difficult to learn and apply that law students, who surely are among the brightest, characterize it as the "nuclear physics" of law school. Surely it makes sense to have revenue agents, who need not be lawyers or law-educated, to immerse themselves in at least ten accounting courses and to gain knowledge in at least five areas of accounting. Of course, I would recharacterize the requirement as one of knowledge and understanding, for the latter is far more important, but this is not the place where I want to quibble about the specifics of the new requirements.

I don't understand the resistance to taking a few more courses, even if it means going back to school. I understand that there is a cost to the employee if he or she must return to school, and hopefully the IRS would reimburse existing employees for doing so. People currently in college who decide to apply for a revenue agent position ought select courses based on utility and value, signing up for accounting courses numbers nine and ten rather than for some course scheduled at a convenient time, taught by a non-demanding professor, or ideal for grade point padding. I also understand that the real dispute was the impact of the new requirements on a decades-long practice of IRS employees sliding into revenue agent positions after having worked for some period of time in some other capacity. That practice, perhaps becoming some sort of entitlement in the minds of a few employees, isn't necessarily the best practice for an agency charged with enforcing the tax laws in a manner that does right by both taxpayers and the government and that reaches correct results.

Of course, I would prefer that all revenue agents, and all tax practitioners, earn a law degree, because the thinking process that is acquired or polished while studying law has become a sina qua non for tax analysis. Tax is more than running numbers. I've previously posted on why having an accounting degree or background is not a prerequisite for being a good tax practitioner and how it is not even a guarantee that one would be a good tax practitioner. Yes, it helps, but it is far from essential.

The point isn't whether accounting or law is the better pathway to tax practice. The issue is whether someone who has no law background and a limited accounting background should be a revenue agent, or if, instead, it makes sense to jack up the accounting requirement for job applicants who have no law background. That was the issue. I sincerely hope the union surrenders and invests its energies into getting its members access to more tax education, and if it's going to battle the IRS it ought to do so over things such as reimbursement for additional course work and not in opposition to enhancing revenue agent education.

Jennjou Chen of National Chengchi University and Tsui-Fang Lin of National Taipei University have issued Class Attendance and Exam Performance: A Randomized Experiment, in which they conclude:

The study of determinants of a college student's academic performance is an important issue in higher education. Among all factors, whether or not attending lectures affects a student's exam performance has received considerable attention. In this paper, we conduct a randomized experiment to study the average attendance effect for students who have chosen to attend lectures, which is the so-called the average treatment effect on the treated in program evaluation literature. This effect has long been neglected by researchers when estimating the impact of lecture attendance on students' academic performance. Under the randomized experiment approach, least squares, fixed effects, and random effects models all yield similar estimates for the average treatment effect on the treated. We find that, class attendance has produced a positive and significant impact on students' exam performance. On average, attending lecture corresponds to a 7.66% improvement in exam performance.

Thanks to Paul Caron's TaxProf Blog for the tip.

Another factor that does not seem to have been the subject of any serious empirical research is classroom seating position. I've done some informal studies of my students and have discovered that there is a chicken and egg question. After grades are released by the Registrar and I receive a list of names with grades, I've mapped out the grades on the seating chart. Then, using transparent markers, I have coded the grades by color, using green for the higher grades, yellow for the so-so grades, and red for the abysmal grades. The greens generally are clustered in the front and middle, whereas the so-so grades and abysmal grades are on the periphery. It does not matter whether the classroom is full or too large for the class. In other words, some students will sit in the back row even if there are empty seats in the intermediate rows and even if those rows are empty, and those students rarely earn the very high grades.

The question is whether the seating position affects grades, or grades affect the seating position. In other words, because studies show that people on the periphery are not as involved in the proceedings (whether it's a class, a meeting, or some other event), and probably have difficulty hearing and seeing as well as they would were they closer, it is easy to assume that academic performance is compromised by the distance. On the other hand, there is anecdotal evidence that disengaged students seek out the remote seats, even if there are empty seats available closer to the front and center of the room. One could conclude that the selection of seats by students is a self-sorting event.

I wonder if faculty at other schools, and in other disciplines, have done similar evaluations of their students' grades and seating positions. Perhaps someone with education and expertise in classroom dynamics could collect the data and write up something called Classroom Seating Position and Exam Performance. What little I have is insufficient for such a paper. What I have is interesting and thought-provoking. I'd be glad to share the data if I could find the marked up seating charts. That is an entirely different issue, to be addressed someday in Tax and Clutter: How the Internal Revenue Code is a Bad Influence on Office Filing.

The Acting Director of the IRS Office of Taxpayer Burden has told the House Subcommittee on Regulatory Affairs that unless the tax laws undergo fundamental reform taxpayer burden will increase. According to this this BNA report, Beth Tucker explained that in 2006, taxpayers will spend more than 6 and a half billion, yes, billion hours complying with the tax law.

Is it me or does it seem obvious that taxpayer burden will not be alleviated until the tax law is simplified and fixed? Does Congress need a hearing to make this determination? What’s next, hearings on whether the earth is flat? Yes, I know about the Flat Earth Society and I know there are people who think the tax law is child’s play. Those folks don’t enter into the equation. Not in my world, and hopefully not in yours.

The report also contained information from OMB showing that more than three-fourths of the compliance burden imposed by the federal government is on account of taxation. Wow. Considering all the other reporting requirements, from SEC filings to passport applications, from federal loan guarantee applications to background check, I would not have guessed it was that high. This is simply another reason that the tax law must be changed, and to do that the tax legislative process and the culture of tax break entitlement
must be altered.

As an example of the challenges faced by the IRS in its attempt to reduce taxpayer burden in the face of legislative piling on, Tucker pointed out that the recently enacted Energy Policy Act forced the IRS to make more than 600 changes to 107 tax forms, publications, and other products, and compelled the IRS to invent seven new tax forms. Am I surprised? No. I predicted this, a little more than a year ago.

And so the Congress that made the mess is now holding hearings to find out that there is a mess and why there is a mess. I’ll make it easy for Congress. Call me. I can answer the question in 15 seconds and give you a solution in 30. You won’t like it.

My post earlier this week, In Tax and Physics, Zero is Not Nothing, brought a response from Elaine Soost that touches on some additional aspects of the issue I had not, but should have, considered:

Prof. Maule -

ROFL at your latest blog. I would add the following –

Anyone who doesn’t understand the zero = positive – negative or the matter/anti-matter concept probably hasn’t ever reconciled a bank account, let alone participated a financial audit. The net difference in the ending balance per the bank statement and that per your checkbook may only be a few dollars, but it’s most likely comprised of a variety of DRs and CRs. The best example seared in my memory happened on a financial audit. A staff accountant was supposed to review the client’s bank reconciliation. He neglected to focus in on the fact that say a $10 mil outstanding DR should have hit an expense while a $9 mil outstanding CR item should have hit A/R. He considered the net difference in the reconciliation to be "immaterial", yet the various correcting entries had material effect on specific accounts.

Elaine also recalls another person who did not understad that small entries ought not be ignored on audit because they could hide much larger offsetting items, any of which could be very significant.

In a follow-up email, Elaine wondered if the difficulty for people trying to grasp the concept is that the components of zero or some other amount in the partnership context are hypothetical. I don't think so. Consider, for example, gain on the sale of contributed property. Splitting partnership gain of $60 into gain of $80 and loss of $20 reflects the actual pre-contribution gain of $80 and post-contribution loss of $20, both of which are very real. The numbers, it seems to me, are merely representations of the underlying concepts, and perhaps those are what baffle the folks who struggle with the splitting of an aggregate number into the two components that formed it.

In response to my posts about the blocking of Blogspot blogs by India and China, a long-time (well, in blog years) reader sent this message to me:

Jim,

It seems that the government of India has removed the blocks from blogs that were established as you described a couple of days ago. Maybe China will follow suit.

And he sent a link to this story.

I must say that was a quick resolution of an inadvertent and ill-advised move. Welcome back to my readers in India.

The other day I passed along a report that MauledAgain, and all other Blogspot blogs, have been censored in India. Now comes an email from my son, who is in Beijing working for a law firm, that MauledAgain and all other Blogspot blogs are blocked in that country.

You'd think the leaders of the People's Republic of China would want their citizens to read my more than occasional criticism of American tax policy. Maybe they just don't believe that America permits its citizens to speak out. Or perhaps they are fond of American tax policy. After all, think of all the economic good it has done for China's economy.

The government of India and internet service providers in India have managed to block folks in India from reading MauledAgain. Yes, there are at least three people in that nation who check in to read what I'm writing. And now, they can't.

Why?

According to this report, the government of India wanted to block access to one particular blog in the wake of the Mumbai train bombings, as further explained here. The internet service providers took the quick route, and blocked all of blogspot rather than the particular blog in question. Of course, I don't understand the point of blocking a blog. I prefer to see what others are thinking and writing rather than forcing them underground and into encrypted messaging.

I suppose the folks running the internet service providers in India will figure out how to fix this problem. If not, explains how to get around the block. The problem is that my readers in India cannot get to MauledAgain to access this link.

So spread the word. Pass the link along via email so people in India can resume reading blogs on blogspot. This nation might have a trade deficit in exporting goods but it surely can export First Amendment concepts. For all that India is and wants to be, its government needs to advise the internet service providers that overkill in response to a request is no less ill-advised than the initial request.

My post last Friday referencing a comparison between the laws of tax with the laws of physics brought to mind something I put into my "blog it someday" folder. Is it possible to create something from nothing, in a tax sense, without breaking any rules? That proviso is designed to exclude the fraudulent actions of people who create earned income credits for themselves when they lack the requisite income, and similar schemes.

The issue comes up in Partnership Taxation, the course sometimes described as the "quantum physics" of the Graduate Tax Program. Be aware that in the general J.D. program, tax is described as the quantum physics of law school. It's not just the intellectual similarities. Just as quantum physics is ever present in the cosmos and creation, so, too, tax is ever present in the law. There’s no escaping either one.

When a partnership interest is transferred through sale or by reason of death, the transferee partner’s adjusted basis in the partnership interest reflects purchase price or fair market value, respectively, whereas the partnership’s adjusted basis in its assets, and the transferee partner’s share of that adjusted basis, reflects the partnership’s historical experience with the assets, including purchase, contribution, and depreciation. To make things easier to describe, the partner’s adjusted basis in the partnership interest often is called "outside basis" and the partnership’s adjusted basis in its assets often is called "inside basis." Usually, but not always, outside basis does not equal the partner’s share of inside basis.

That discrepancy can cause all sorts of problems, such as the transferee partner being taxed on income already taxed to the transferor partner. To alleviate this imbalance, the tax law permits the partnership to elect, and in some special situations requires the partnership to make, a basis adjustment. The adjustment is the difference between outside basis and the partner’s share of inside basis. If outside basis equals the partner’s share of inside basis, the amount of the adjustment is zero. If the election is not made and the mandatory adjustment situation does not apply, there is no adjustment.

What’s the use of a zero adjustment? It’s zero, it’s nothing? No. A zero adjustment can be split into positive and negative components to apportion to each partnership asset, whereas if there is no adjustment, there is nothing, and thus nothing to apportion to partnership assets. In other words, there is a difference between zero and nothing. That is a rule of physics. It shows up in computer programming, where zero and nul are different concepts.

Some students are boggled by this idea. They consider zero and nothing to be the same thing. "There’s no difference," one of them once argued, "between having zero in my wallet and having nothing in my wallet. Either way, I’m broke." Yes and no. Even with money and financial assets it is possible to be worth zero and yet own assets, because there would be an offsetting liability.

So, when an adjustment of zero is apportioned into positive and negative components, it appears to be a matter of creating something from nothing. It’s not. It’s the creation of things from zero. Zero is not nothing.

By the time the students reach the part of the course where they meet this basis adjustment (there are two others), they already have experienced the "something from zero" concept. Twice. When I get to the second and third instance of the concept I ask them to identify the previous instance or instances where we encountered the concept. Some can answer. Others, thinking that a person can cram the night or half week before the exam, stare as if they were sitting in the classroom for the first time. It’s a wonderful example that I use to pound home the necessity of assimilating and learning as the semester progresses.

For those curious about the two previous instances, here’s a very brief explanation. When a partnership sells property contributed by a partner, and uses the remedial method to allocate the gain or loss, it is possible for the partnership to recognize zero gain and yet allocate $x of gain to the contributing partner and $x of loss among all the partners. Of course, the partnership might recognize, say, $50 of gain and end up allocating $87 of gain to the contributing partner and $37 of loss among all partners. Similarly, a partner who sells a partnership interest for an amount equal to his or her adjusted basis in the partnership interest, the partner appears to recognize zero gain or loss, but because an aggregate approach is applied, that zero will be split between ordinary income or loss and offsetting capital loss or gain. Again, a selling partner might recognize, say, $50 of gain and end up recognizing $87 of ordinary income and $37 of capital loss.

When tax students, or even J.D. law students, struggle with these concepts, even after being guided, tutored, and repetitively drilled, I begin to wonder if their minds have been honed sufficiently to do the sort of reasoning that is pervasive in tax, and even law. I try to get the point across by using an example of, say, 50 cookies being turned into 87 cookies and 37 anti-matter cookies. I dare not use loaves and fishes, for I might upset the theology department. There are students unaware of the concept of anti-matter. Seventeen or more years of education and they haven’t encountered the concept of antimatter? What have they been doing? I use railroad marshaling yard analogies to describe what section 736 prescribes for liquidating distributions, and I get even more stares. I’ve been fearful of asking if any students thing food is grown in grocery stores.

So there you have it. Tax folks can generate something from zero. But not from nothing.

Recently a tax practitioner asked the ABA-TAX list subscribers for input on the question of how long a tax practitioner should retain client tax records. The bottom line is that tax pratitioners do not want to be the eternal storage bin for their clients' data, especially after the practitioner-client professional relationship has ended. Practitioners who are subject to regulation by professional societies, such as the AICPA, or state law, must maintain records for certain minimum periods, but not forever.

Why the reluctance to retain the records forever? Storage requires space and space costs money. It's called rent. There also is the concern that clients become dependent on the practitioner rather than taking ownership of their fiscal affairs.

There are things clients need to understand about record retention, and tax practitioners should, and usually do, tell their clients about these concerns.

First, the client needs to keep duplicate copies because in the event of fire, computer storage media failure, or other disaster, a client who relies on the practitioner to take sole responsibility for retention will be in serious trouble when calamity befalls the practitioner's office and the IRS happens to come calling on the client.

Second, when the practitioner does choose to remove old records from his or her files, the client should accept the opportunity to collect them from the practitioner. Otherwise, the client's backup, in the event calamity strikes the client's home, will disappear. The client then needs to store the duplicate set of records in a place different from the place where the primary set is maintained.

Third, clients need to understand the danger in believing that after three (or four, or five, or six) years records can be tossed. That is true of records with no tax significance, such as grocery receipts for food the purchase of which did not justify a deduction. What is important to remember is that many records seemingly not connected with tax are tax records. The cost of the new roof will reduce gain on the sale of a home, and if the gain exceeds the section 121 exclusion amount, failure to have the record of the roof work, and the likely impossibility of proving the cost, guarantees payment of tax that could have been avoided.

A little more than a year ago, I touched on this topic when commenting on Jack Bogdanski's Statute of Limitations expiration shredding party:

But, folks, go easy with the shredder. DON'T SHRED anything that has to do with what you've paid for assets, or to improve those assets, because those amounts become part of adjusted basis, which is used to compute gain or loss when the asset is sold. Likewise, don't shred any information about the value of inherited property when the decedent died, or the donor's adjusted basis in property received by gift. Hang onto those contractor's invoices for the addition built onto the home. Keep all those investment records showing dividends plowed back into the stock through a dividend reinvestment program.

My advice has not changed.

Back in 2004, in writing about the digitization of tax data, I explained

There also exists the question of archiving. In the digital world, what guarantee is there that the return will be accessible in the future? Fortunately, my previous year editions of Turbo Tax run on my almost-expired Windows 98 computer, including those that originally ran under Windows 95, and, goodness, MS-DOS!! Will these programs run on the XP computer that sits alongside the Windows 98 box (or the XP computer that will replace it)? I'll find out during the next month or two. In the meantime, because digital backup may mean nothing, I have consistently printed out the return and the supporting schedules. But at least it's one copy and not two.

Why the concern? Though some people don't hold onto their tax returns for more than say, 3 or 7 years, relying on the statute of limitations, I recommend holding onto all returns, if for no reason other than to maintain records of basis and to guard against the strange day when the IRS claims a return from some years ago was not filed, which would open the statute of limitations, and which can be rebutted quite easily by providing a copy of the return. And what if a lender asks for copies of tax returns for the past three years? If not already in print format, they need to be printed. Will the XP computer run TurboTax for 2000? I think so.

I was wrong. Turbotax for pre-XP versions of Windows cannot be installed on XP systems. What hasn't been printed is inaccessible other than through a Windows98 desktop, of which few remain. So my prediction, from the same post, of what lies ahead seems even more likely:

What may end up happening is that the returns will be "printed to disk" in something like a PDF format. PDF, I am assured by those in the computer industry closer to the action, will endure for decades. So perhaps I will be spending some time (when? ha ha) printing all my returns to PDF and making a CD that holds the entire batch.

For a world living in the information age, there surely is a serious information preservation problem. Is it like the marooned sailor in Samuel Taylor Coleridge's Rime of the Ancient Mariner, "Water, water, everywhere but not a drop to drink"?

Earlier this month, Ellen Aprill of Loyola Law School Los Angeles put a challenge to her tax teaching colleagues throughout the country. She noted that in his New York Times essay, Physics Awaits New Options as Standard Model Idles, Dennis Overbye wrote:

Unlike, say, in the tax code, however, in physics new laws are more elegant and economical than the ones they replace.

Ellen asked if "new tax laws less elegant and econmical than the ones they replace."

My reply was one of my shortest utterances: "Unquestionably. Imagine Congress legislating the laws of gravity." I then appended "Don't fall all over that one!"

Bad? Well, yes, the pun is. But tax legislation drafting leaves much to be desired, as do many of the policies generating the "new" rules of tax. It's not bad to point that out.

Andrew Mitchel, the tax chart designer to whom I referred last week in my Tax Chart Mania post, has reached beyond charts of cases and rulings to decision-making flowcharts. His first, Deductibility of Commuting / Transportation Costs, is a must for tax practitioners. It maps out the reasoning process to get from facts to results.

It would not be surprising to discover tax students grabbing hold of this chart and using it to answer exam or semester exercise questions. Too many students much prefer being given answers than being required to create decision charts. Guaranteed, Andrew learned more by designing this chart than those using it will learn by reading it. That's why I give my students a few charts early in the semester, to show them the goal that they should have, namely, learning how to think through a problem rather than look up (or receive) an answer. Many students are unhappy with this challenge, preferring to listen and repeat rather than solve problems.

I think I will ask Andrew for permission to hand out to my students an amended version of his chart, with one or two errors deliberately introduced. I will then ask the students not for the correct version, because that simply would reward those who can find things on the Internet, but for an explanation of WHY the identified errors are errors. THAT is how lawyers and tax practitioners learn to think.

One of the charts I recommend students create in Partnership Taxation is a matrix of the allocations regulations. Now there, if done properly, is a formidable chart.

A report issued late last month by Citizens for Tax Justice explains how the 99 percent of Americans not among the top one percent in terms of income are worse off under the last five years' tax cuts. Thanks to Paul Caron's TaxProf Blog for clueing me in to the issuance of this report.

The report focuses on the fact that the tax cuts enacted during the past five years have been funded with borrowed dollars. The interest on that debt compounds the cost. By comparing the average tax cut for the top one percent with the average increase in the national debt per person in that income cohort, and by doing the same for other income cohorts, the report determines that only the top one percent have received a net benefit. It measures the benefit at $30,352 per family member in the top cohort. It measures the detriment for the other cohorts at $7,166, with the highest detriment applicable to those with incomes greater than 60% of all taxpayers and less than 20% of all taxpayers. In other words, the middle class takes the biggest hit.

As the report confesses, one can debate how to allocate the increase in national debt among taxpayers. Rest assured, though, that if tax and fiscal policies continue on their present course, the increased debt won't be financed by the upper echelons. That is the story of taxes and finances throughout history.

When I was a youngster, I narrowly missed winning a contest that required the children to guess the number of jelly beans in a jar. Had I been closest, I would have won the jar of jelly beans. By coming in as a runner-up, I won a board game called "Down You Go." It taught me about words. Hindsight tells me that the contest was one of those times I won by not winning.

So perhap a similar contest can be designed for the exploits of TaxChartGuy, the sobriquet I have pinned on Andrew Mitchel. We'll substitute his web site for the jar, and tax charts for the jelly beans. So how many tax charts can be extracted from the tax law? Not having come up with a prize for winner or runner-up, I'm not sure whether it's best to be closest. But I will venture that the total will someday cross one thousand.

About a week and a half ago, Andrew posted another thirty, yes, you read that correctly, thirty charts. Don't forget that a little more than a month ago, Andrew dished up fifty, yes, fifty new charts. From tentative first-step beginnings, a chart here and several there, to their appearance by the dozen or dozens, I suppose if I wanted to be sarcastic I'd note that he's slipping. From fifty to thirty would make day traders panic. Fear not. No panic required. These charts are appearing at an enormous monthly rate.

The posting of the latest batch generated this announcement:

Today we uploaded 30 new tax charts. We now have over 260 tax charts.

The tax charts can be found:

By Topic: www.andrewmitchel.com/topic.html

In Alpha-Numeric Order: www.andrewmitchel.com/sitemap.html

By Dated uploaded: www.andrewmitchel.com/chart_postings.html

Today's charts include:

Section 338 Election Examples

1. QSP - Busted 351 (Via IPO) is a Section 338(h)(3) Purchase
2. QSP - Related Person Acquisition
3. No QSP - Shares Constructively Acquired Prior to 12 Month Period
4. No QSP - Shares Constructively Acquired Prior to 12 Month Period
5. QSP - Acquisition Date for Tiered Targets
6. QSP - Purchase, Redemption, & Purchase
7. QSP - Purchase & Redemption
8. No QSP - Redemption & Purchase
9. QSP - Purchase & Related Person Redemption
10. Purchase & Sale of Target
11. Purchase of Target & Sale of Target's Subsidiary
12. Post-QSP Merger of Target
13. Section 1248 Gain on QSP of a CFC With Gain Recognition Election
14. Section 1248 Gain on QSP of a CFC Without Gain Recognition Election
15. Creeping Acquisition of CFC (U.S. Sellers)
16. Creeping Acquisition of CFC (Foreign Seller)
17. 338 Election - "One-Day" Tax Return
18. 338 Election - Short Year Tax Return
19. 338(h)(10) Election For Some But Not All Targets
20. Pre-Sale Distribution and QSP

Sales of Controlled Foreign Corporations (CFCs)

21. U.S. Corporate Seller of CFC
22. U.S. Corporate Seller of CFC - Pre-Sale Distribution
23. U.S. Corporate Seller of CFC - 338(g) Election
24. U.S. Corporate Seller of CFC - 338(g) Election & Subpart F Income
25. U.S. Individual Seller of CFC - Qualified Foreign Corporation (QFC)
26. U.S. Individual Seller of CFC - QFC and 338(g) Election
27. U.S. Individual Seller of CFC - QFC, 338(g), & Subpart F Income
28. U.S. Individual Seller of CFC - Non-QFC
29. U.S. Individual Seller of CFC - Non-QFC and 338(g) Election
30. U.S. Individual Seller of CFC - Non-QFC, 338(g), & Subpart F Income

Aha, Andrew is more than one-fourth of the way to a thousand. By the end of the decade we could be looking at several thousand, if he keeps cranking them out in monthly batches of thirty and fifty.

Here comes some easy blogging. I'll quote myself, updating my comments to reflect last month's chart production:

As an advocate of the value of visual depictions of the facts underlying tax issues, I salute Andrew's efforts. If you haven't read my previous accolades for Andrew's charts (see here, here, here, here, here, here, here, here), here, here, and here, take a look.

Andrew welcomes comments on his charts. Visit his site, and contact him through that portal. There are three ways to access the overall chart collection:

By Topic
Alpha-numeric order
Date uploaded

So when do the TaxChartGuy tee-shirts and mugs become available? When they do, buy two of each, one to wear or use, and the other to save as a collector's item, for when chart #1,000 shows up. Good work, Andrew. Keep going.

It is Independence Day, a time to celebrate not only the freedom earned more than two centuries ago and the values underlying the rights for which so many fought, but also to remember the sacrifices made over the years by those who understood that freedom is not free. Not surprisingly, July 4 is a time when some folks try to persuade us that there is no true freedom unless and until there are no taxes.

Without taxes there can be no freedom. Freedom does not come cheaply. The price of freedom is high. Why? Because it is valuable. Very valuable. In some ways, priceless.

Take away all taxes, and no one will be free. No one.

The American Revolution was not fought to eliminate taxes. It was fought for several reasons, one of which was the idea that taxation should be imposed not by fiat but through representation. Now there is an idea that has been twisted in a venal sort of way. Representation in tax decisions must be equal and not favored to the wealthy. It is in this respect that deep reform is required. Abolition of all taxes does not resolve this problem.

Happy Independence Day to all.

During an interview on a news program this morning (not sure which one), Gov. Corzine of New Jersey explained why the State of New Jersey was closed, as a practical matter, for business. Unable to reach agreement on a state budget, the governor and legislature have entered into stalemate.

The issue is simple. The amount collected (in taxes, fees, and other revenues) must equal expenditures. At the moment, expenditures exceed revenues. The solution is to raise taxes, cut expenditures, or do a little of both. Some want one or the other, but some want neither. Something ultimately will snap, and it won't be pretty.

Without going into gory detail, one significant problem is that a good chunk of the state is designated as a zone eligible for tax breaks. That's what happens when tax breaks are used as political tools and to make everyone happy. Of course, if every person on the planet is promised $1,000,000,000, something will go haywire.

It will be instructive to watch New Jersey try to dig itself out of the fiscal mess its politicians, currying favor with citizens demanding special treatment, have bestowed upon the people of the state. Why? It won't be long before the piper demands similar accounting at the federal level. And the consequences will be far more significant.

A reader, responding to my criticism of the tax break for timber offered as a sweetener to "persuade" member of Congress to vote for estate tax changes not otherwise palatable to them (A Tax Sweetener That Needs to be Cut Down and Turned to Mulch), noted:

Re: your comments on the "sweetener" added to the estate tax bill of lowering tax rates on certain gains from timber sales. I don't have the stats to prove it, but that could be a double whammy against "ordinary" US taxpayers, since the lumber companies often pay extraordinarily low rates for timber they're "allowed" to harvest from US property (BLM, National Forests, etc.) Perhaps that's why they feel they deserve a tax break as well, to compensate them for the extra gain they must recognize due to the low basis.

I'm no timber expert. As I promised the writer, I looked around the web, and from what I've found it appears that the timber industry is laden with controversy, theft, and artificially deflated bid prices. Take a look, for example, at the Field Guide to Timber Theft, and at the article, Cruel Twists Seize Timber Country.

So perhaps the folks angling for the timber tax break are trying to avoid the higher gain generated by lower basis. In that respect, they would remind me of the person who wins a lottery with a ticket received as a gift complaining about the tax rates on the winnings.

But even if the timber was purchased at fair market value, there still is no justification to reduce the taxes on timber sales but not on sales of lemonade, slippers, ballpoint pens, lawn mowing services, or haircuts. So my question remains, what's so special about timber that those who sell it deserve lower tax rates?

This morning's Philadelphia Inquirer story about Pennsylvania's governor signing into law the tax reform bill passed by the Pennsylvania legislature last week made this prediction: "the issue of property taxes will be front and center in this year's governor's race." I agree. There's no risk in this prediction. Soon after the signing, the governor's opponent in his re-election bid described what he claims is the governor's plan (it's not, it's a compromise between what the governor wanted and what the legislature was willing to do) as a "Band-Aid" and then trumpeted the alleged worthiness of his own plan.

The title I gave to my analysis of the recently enacted Pennsylvania tax reform legislation is very descriptive: New Pennsylvania Tax "Reform" Doesn't Add Up. So, too, is the caption for my discussion of the proposal presented by the governor's campaign rival: Taxation Swann Song Should Be Tackled for Loss.

Let's face it. Neither plan earns high marks because neither plan tackles (sorry) the core issues. Hence the generosity with the criticism. Yes, as my students say, I'm fair but demanding. So, too, should be the Commonwealth's taxpayers. Yet perhaps they are as much a part of the problem as of the solution. Why?

Consider what Chris Borick, director of Muhlenberg College's Institute of Public Opinion, said: "Voters are jaded now - I don't know that they believe that there is any person out with the magic bullet to this issue." Replace the word "person" with "politician" and he's absolutely correct. There are people "out here" who have a sensible fix, but they will struggle trying to sell it. Many, perhaps most, citizens want a tax plan that lowers their taxes and raises everyone else's taxes. But that approach is just as nonsensical as what the politicians offer. In fairness to the politicians, they offer what they think will sell to their constituents, who demand low taxes and high levels of government services.

Think about it. People want potholes filled, ambulances at the ready, playgrounds, parks, running trails, open space, clean air, flood protection, and a long list of other programs and benefits. Yet many people do not want to pay. They're special. They deserve a zero tax rate. But this won't work, and a genuine leader will say so, explaining why it is so. Leadership is more than currying favor. Leadership requires truth. And some courage.

Each program or benefit funded by state or local government needs to be identified and realistically priced. Those that ought to be funded through user fees need to be so identified. Those that benefit property, for example, fire protection, should be funded by a property tax. Those that benefit society generally, for example, education and public health, should be funded with an income tax, not a wage tax. Enough with the millionaire pensioners masquerading as poor folks trying to squeak by on a pension pittance and a few dollars of interest income.

This approach requires putting the common good above the narrow, self-focused orientation of the individual. It requires that enhancement of the common good can do more to enhance the individual than can the individual in isolation. It requires purging from the public mentality the sense of specialness that has been hammered into people's heads for far too long. If the politicians cannot or will not do so, who will? How the answer to this question plays out will forecast the fate of tax reform in Pennsylvania.

For years, a few of us stood alone, teaching our law school classes in a way that resembles what students will do as practitioners: solving problems and preventing problems. Many students chafed. The problem approach requires work to be done throughout the semester. It requires more than looking at an outline from the previous iteration of the course. It requires more than the night-before-exam cramming that feeds into the closed-book memorization and regurgitation approach to measuring ability.

Teaching through the problem method is challenging. New problems must be created each semester, because using old problems presents at least two problems. First, in some areas of law, such as tax, last year's problem may be obsolete, and this year's problem requires adaptation to a new or amended law. Second, students raised on the memorize-and-regurgitate formal that permeates much of K-12 and undergraduate education, exacerbated by the No Child Left Behind campaign, think that if they can find the answer to last year's problem from someone who previously took the course, they can earn high grades by sharing what they have "discovered." Finding information on the Internet or on last year's course outline is not a hallmark of an A student, other than (perhaps) in legal research courses.

Law schools claim to teach students "how to think like lawyers." The irony is that lawyers don't think much differently than do accomplished people in any other field, be it engineering, music, cancer research, or design. Find the facts, determine what additional facts are required, outline the issues, ponder alternatives, do some trial-and-error application, take a position, argue for one's conclusion. Engineers are trying to solve and prevent problems. So, too, are cancer researchers. So, too, are lawyers. That is why law schools, despite what they claim, are in the business of teaching their students to think. That's it. To think.

Problem solving and problem prevention requires people to think. Thinking, in turn, requires independent thought. The problem approach to teaching nurtures these skills.

So it came as no surprise, and yet as somewhat of a surprise, to learn (as reported here) that Harvard is considering injecting the problem approach into its curriculum. And it surely was no surprise to read confirmation of what already was known: A PUSH FOR PROBLEM SOLVING As Harvard Ponders, Others Embrace Change in Law School Approach. After all, back in 1992, an ABA Task Force on Legal Education concluded that law students should have instruction in problem solving. Has that happened? Yes, for students who enroll in the few courses that use problem solving as part of the pedagogy. Some students manage to float through law school on a theoretical and philosophical track that exacerbates the bewilderment and disillusionment greeting them on their first job (a topic unto itself that I plan to address in a subsequent posting).

I share a few quotes from each article. To those who know me, trust me, these quotes are not mine. Yet they paraphrase things I've been saying for years. I've tossed in a few editorial comments. I just couldn't resist.

From A PUSH FOR PROBLEM SOLVING As Harvard Ponders, Others Embrace Change in Law School Approach:

"I have found it to be a wonderful thing," says Peggy Cooper Davis, an ethics professor at New York University School of Law, "because it gets students thinking about their responsibilities as a professional, and it gets them struggling with what it means to represent someone."

.....

"The [Socratic] method is a great way of teaching, but case method alone is a bit one-sided," says Lewis [Oliver Lewis, a 2006 Harvard Law graduate], who clerks for a 9th U.S. Circuit Court of Appeals judge. "One of the big problems is that the exams are done by the problem-solving method, but the teaching is done by case method, so it feels like you’re looking through the other end of the telescope."

.....

Some Harvard graduates say some faculty members would probably be resistant to incorporating real-life aspects of the practice into first-year courses. [Surprise!]
.....

Michael Meltsner, a professor at Boston’s Northeastern University School of Law, [who] was a visiting professor at Harvard Law [and who assembled what was known as the First-Year Lawyering Program [at Harvard] explains why the program did not last: .... Meltsner says faculty complained the program took too much student attention from regular courses. He also says many faculty members were not comfortable with the intense involvement of practice-related training because they see their role as more scholarly. [Translate: can they design and solve practice-related problems? Are they capable but unwilling to invest the time and effort?]

.....

Lawrence Rosenthal, a 1981 Harvard Law graduate, sees faculty members’ lack of law-firm experience as the problem. "So many faculty members at so-called elite law schools don’t have any significant practice experience, so they manage to convince themselves that you don’t need to know much about the practice of law to teach it," Rosenthal says.

From Twas a time for change:

Many law schools, with their century-old teaching methods, do not prepare graduates for the day-to-day realities of law practice. [When I said this at the outset of my teaching career, I was dismissed as an unlearned rookie. When I said this ten years into my teaching career, I was told I lacked humility and tact. When I say it now, I get strong messages of support from some folks and sharp rebukes and retaliation from others.]

.....

''When a human being walks through a lawyer's door, they don't say, 'I have for you a tort problem' 'They say, 'I was walking to the office this morning and a car came by and knocked over this garbage can and it hit me and I fell off the sidewalk and I twisted an ankle and what are you doing to do about it?'" [One of my favorite questions to students, "So what now will you say to (or ask of) the client?" brings not only stares but on one occasion an email that asserted "You are scaring the h** out of us. This is the first time we've heard a reference to clients" —- clearly from students who had not been in the Legal Profession course nor in a clinic (which, if I were a Dean, would be sufficient in number so that every student would be required to enroll in at least one].
.....

"Young lawyers often find that law practice is starkly different from law school, contributing to high attrition at many law firms." [Another one of my oft-rejected observations]

.....

"The cost to firms of associate attrition is substantial: more than $300,000 per departing lawyer in unrecoverable recruiting, training, and replacement costs" [and clients have tired of paying for the education they expect associates to bring with them to the representation].

.....

"'The case method..... falls pretty far short of actually training people to know how to be a lawyer."

.....

''A lot of lawyers do work .... that reading appellate cases doesn't help you get at." [But because many law professors go from law student to clerkship to law faculty, what else can they do? Lawrence Rosenthal, quoted above, nailed this one, didn't he?]

.....

"Law schools ought to be aware that they're training people for practice" [many faculty disagree, and proudly say so].

.....

''If we get them to think of themselves as problem-solvers, that brings them closer to the realities of law practice." [But the students don't realize that so long as the faculty using the problem-solving approach are in the minority.]

.....

"[The problem solving approach helps students] draw connections between classroom theories and actual practice.

It's so nice to have others wander over to the problem-solving side of the legal education street. Yet the bulk of the crowd remains afraid or unwilling to cross over. The battle for what 21st legal education will be has heated up.