The Senate Finance Committee conducted a hearing on July 14, 2010 to discuss the potential extension of tax cuts. In the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) and the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA), there were tax reductions for nearly all Americans. The tax reductions continue through 2010, but are set to be repealed on January 1, 2011.
The White House has proposed to extend these tax cuts for single persons with incomes under $200,000 ($250,000 for couples), but to increase the capital gain rate and top income tax brackets. Under the White House plan, the capital gain rate will increase from 15% to 20%, the 33% bracket increases to 36% and the 35% tax bracket is raised to 39.6%.
Senate Finance Chair Max Baucus (D-MT) opened the hearing by stating, “Americans are struggling to make ends meet, and we need to do all we can to put more money back in the hands of workers, middle-class families and small businesses so our economy can grow. I support extending the middle-class tax cuts permanently, as soon as possible, so working families can keep more of their hard-earned money.”
Sen. Baucus and the White House are both advocating a permanent extension of the tax cuts for low and middle-income taxpayers, with an increase in taxes for those in the upper brackets.
Ranking Member on the Senate Finance Committee Charles Grassley (R-IA) has repeatedly expressed concern about the increase of taxes on small business owners. He noted, “To those who are pushing the higher marginal rates, I say the burden is on you to show that you are not harming our primary job creators.” Sen. Grassley has noted that two-thirds of new jobs in the past decade have been created by the small business owners who will be subject to the higher taxes.
Douglas Holtz-Eakin is President of the American Action Forum and was formerly the Congressional Budget Office Director. He testified that approximately one-half of the $1 trillion in business income that will be reported in 2011 will be subject to the higher 36% and 39.6% tax brackets. In his opinion these higher rates will reduce the willingness of small businesses to hire new employees.
Editor’s Note: The hearings on taxes are the first step in creation of a tax bill. Because the failure to act this year would result in repeal of all of the tax cuts, it is probable that there will be a tax bill prior to the end of 2010. However, with the shortened legislative calendar due to the fall elections, the tax bill is quite likely to be deferred until after the election.
Kyl-Lincoln Introduce Estate Tax Motion
On July 14, 2010, Sen. Blanche Lincoln (D-AR) and John Kyl (R-AZ) introduced an amendment to H.R. 5297, the Small Business Lending Bill.
Their amendment would modify the estate tax rules. Sen. Kyl and Sen. Lincoln claim that they now are close to the required 60 votes in the Senate for passage of their compromise on estate taxes. The bill includes five guidelines:
1. Phase In – The increase exemptions and reduced rates would be gradually phased in over a period of 10 years.
2. Estate Exemption – The exemption would start at the 2009 level of $3.5 million and increase to $5 million by 2020.
3. Estate Tax Rates – The 2009 estate tax rate of 45% would be reduced by 1% per year to 35% by 2020.
4. Optional 2010 Rules – For estates of 2010 decedents (such as Houston oilman Dan Duncan who passed away in March with an estate of $9 billion) there is an option to use the 2009 exemption of $3.5 million or accept the 2010 rules with no estate tax and a loss of the stepup in basis.
5. Tax Offsets – The Senate Finance Committee is tasked with finding additional new taxes that offset the cost of increasing the exemption from $3.5 million to $5 million and reducing the top estate tax rate from 45% to 35%.
Editor’s Note: Majority Leader Reid (D-NV) has not yet indicated whether he will permit a vote on this motion. If the 60 votes in favor of this compromise are available in the Senate and he permits a vote, then the House will need to consider the compromise. Previously, the House majority has maintained a strong preference for extending the $3.5 million exemption without further increases.
Inadequate Appraisal – No Charitable Deduction
In Huda T. Scheidelman et al. v. Commissioner; T.C. Memo. 2010-151; No. 15171-08 (14 Jul 2010), the Tax Court considered a transfer of a façade easement by the taxpayer to the National Architectural Trust (NAT). Because the appraisal was not sufficient, the deduction was denied.
Ms. Scheidelman purchased property in Brooklyn, NY on Vanderbilt Avenue in 1997. The home is in the Fort Greene Historic District. Because the Historic District is registered with the National Park Service (NPS), homes within its boundaries may qualify for donations of façade easements.
NAT periodically conducted seminars in the area for homeowners to encourage them to make conservation easement donations. Ms. Scheidelman employed CPA John Somoza and he attended a NAT seminar. After contacts with NAT development staff, Ms. Scheidelman decided to make the façade easement donation on her home. Under the rules established with NAT, there was also a requirement to make a cash donation for 10% of the easement value.
Ms. Scheidelman and CPA Somoza began the lengthy process to obtain NPS and bank approvals, secure an appraisal and claim the charitable deduction on her tax return. They initially sought approval from two mortgage holders for the gift of the façade easement. She also executed National Park Service Form 10-168, Historic Preservation Certification Application Part I – Evaluation of Significance. The NPS determined that her home is a “certified historic structure” and qualifies for the façade easement deduction.
Appraiser Michael Drazner then was employed to determine the value of the property. He found that the fair market value was $1,015,000. Because in his view the IRS permitted façade easement deductions from 10% to 15% of value, he calculated the reduced value as $115,000 by multiplying the fair market value by 11.33%.
CPA Somoza filed taxpayer’s tax returns and deducted the $115,000 over years 2004, 2005 and 2006. Ms. Scheidelman did not take a deduction for the cash payment of $9,275. The tax returns did include Form 8283 with the signature by the charity and by appraiser Drazner.
The IRS denied the deduction and claimed that it failed to meet the requirements of Reg. 1.170A-13(c). Under that subsection, the appraisal must include “the method of valuation” and “the specific basis for the valuation.”
The IRS noted that multiplying value by a percentage is not a specific method as required by the regulation. In addition, the Drazner report did not describe the property, did not include the terms of the easement, did not include the required statement that it was prepared for income tax purposes and failed to show the specific basis for the valuation.
The taxpayer did not dispute those claims by the IRS, but maintained that the deduction should be permitted because the appraisal was in substantial compliance with the regulations.
The court noted that appraisals must use a “before and after” method. The appropriate method for appraising a façade easement is to determine the fair market value under the highest and best use test without the easement and then to apply the same standard with the easement. The difference between the before and after value is the charitable deduction. The Tax Court noted that a percentage of fair market value method “can not constitute a method of valuation as contemplated” under the regulations.
Because there was no appropriate method and no specific basis for determining the charitable deduction, it was denied.
With respect to the cash payment of $9,275, there was no substantiation to show whether there was a “quid pro quo” that would reduce the deduction amount. Therefore, this amount was also deemed not substantiated and thus not deductible.
Because Ms. Scheidelman relied on CPA Somoza and Appraiser Drazner, there was no assessment of the accuracy-related penalty. She was not a tax expert and therefore was entitled to rely in good faith on her professional advisors.