Washington Hotline – April – Week 2 – 2011

Budget Committee Proposes 25% Tax Rate
On April 5 House Budget Committee Chair Paul Ryan (R-WI) presented his budget proposal for Fiscal Year 2012.

The comprehensive proposal included over $4 trillion in reduced spending during the next decade and a plan to reduce both the personal and corporate top tax rates to 25%.

The tax reform provisions will be handled by the House Ways and Means Committee. Chairman Dave Camp (R-MI) noted that, “with nearly 4,500 changes in the last decade alone, the code is too complex. And with Americans spending over 6 billion hours and over $160 billion annually to comply with the code, it is too costly and too burdensome. Clearly, the time for comprehensive reform has come.”

Both parties have raised the possibility of tax reform this year. At a meeting in Pennsylvania, President Obama was asked about the potential for reforming corporate taxes. He noted that the U.S. has “one of the highest tax codes for corporations in the world.” However, due to “many loopholes” a number of U.S. corporations pay little or no taxes. However, President Obama suggests that it would be good “to reform our tax code, simplify it, lower the rate for corporations, but eliminate a bunch of the loopholes.”

Treasury Secretary Timothy Geithner also indicated to the Senate Committee on Appropriations that he is developing a “comprehensive corporate tax reform plan” and it will be released quite soon. Sec. Geithner indicated his plan would include, “a very strong pro-investment, pro-growth, pro-competitiveness proposal.”

Japan Tsunami Designated a Qualified Disaster

On April 5, the IRS published Notice 2011-32; 2011-18 IRB 1 and designated the earthquake and tsunami region of Japan as a qualified disaster area. Under Sec. 139 the qualified disaster designation permits charitable organizations to make payments to individuals for reasonable and necessary personal, family, living or funeral expenses.

During the 9.0 earthquake and tsunami on March 11, 2011, a substantial portion of eastern Japan suffered great damage. There now have been 9,800 confirmed deaths and more than 17,500 individuals are missing. Approximately 245,000 individuals are sheltered in evacuation centers.

Many American charitable organizations have committed funds to support the relief effort. The disaster designation under Sec. 139 also permits private foundations of multinational corporations to assist victims in the area devastated by the earthquake and tsunami. Qualified recipients may exclude these payments from taxable income.

Limits on IRS Form 1099

In the healthcare reform bill passed last year, there was a new requirement starting in 2012 for additional IRS Form 1099s. Under that provision, a business that makes a payment to a vendor for goods or services of over $600 annually would need to report the amount to the IRS. In addition, the same $600 limit would apply to Form 1099s issued by rental property owners.

By a vote of 87-12, the Senate passed the Comprehensive 1099 Taxpayer Protection and Repayment of Exchange Subsidy Overpayments Act of 2011 (H.R. 4).

This bill repeals the much-criticized Form 1099 provision. Many small business owners claimed that the new reporting requirements would be very burdensome.

Following the repeal of the requirement, Senate Minority Leader Mitch McConnell (R-KY) thanked the Senate for “repealing this onerous provision.” In his view, this would have been a major burden to small business owners and would potentially harm the ongoing economic recovery.

The White House Press Secretary also issued a statement indicating that President Obama was “pleased Congress has acted to correct a flaw that placed an unnecessary bookkeeping burden on small businesses.”

It is expected that President Obama will sign the bill within the week.

Facade Easement Deduction Denied Due to Mortgage

In Gordon Kaufman et ux. v. Commissioner; 136 T.C. No. 13; No. 15997-09 (3 Apr 2011), the Tax Court affirmed a partial summary judgment that denied a charitable deduction for a facade easement.

Homeowners Gordon and Lorna Kaufman purchased a home in Boston, Massachusetts in 1999. The home was located in the historic preservation district of Boston known as the “South End.”

In 2003, Lorna Kaufman entered into discussions with the National Architectural Trust (NAT) about a gift of a facade easement in their historic home. On December 29, 2003, NAT and Lorna Kaufman finalized a “preservation restriction agreement” and transferred by deed the facade easement in perpetuity. However, there was a mortgage on the property that grants the lender a prior claim on the property if the mortgage is not paid or if there is a condemnation proceeding.

The Kaufmans filed their tax return and claimed a charitable deduction. Based on the value determined by appraiser Timothy J. Hanlon, they claimed a charitable deduction of $220,800. Hanlon valued the property at $1,840,000 before the facade easement and at a reduced value following the grant.

As part of the agreement, the Kaufmans were also required to transfer a cash gift of 8% of the easement value. There was a cash gift of $16,840 and a final payment of $3,032 plus a $300 fee. The Kaufmans claimed all of the cash payments as charitable deductions.

The IRS denied the conservation deduction on the ground that the mortgage was a prior interest and there was no “perpetual conservation restriction” as required by Reg. 1.170A-14(b)(2). In addition, the IRS claimed that the cash payments were not charitable gifts and were instead a nondeductible fee for a service.

Following a partial summary judgment in the Tax Court in favor of the IRS position, the taxpayers initiated the current proceeding. The Kaufmans claimed first that the agreements were sufficient to create an obligation for them to transfer proceeds from any condemnation proceeding to NAT. In addition, the Kaufmans claimed that they also qualified under the “so remote as to be negligible” standard for the charitable deduction.

The court reviewed the applicable law. Because the right of NAT against the Kaufmans in a condemnation proceeding was not to receive a portion of the proceeds, but rather a potential contractual claim against the Kaufmans, there was not a perpetual property law easement as required by a strict reading of the statute. In addition, while it was probable that the Kaufmans would make payments on the mortgage, the “so remote as to be negligible” standard was not deemed applicable. Therefore, the easement was not qualified and there was no charitable deduction.

With respect to the cash payments, the IRS claimed that a “required contribution” is inherently nondeductible. However, the court determined that the Kaufmans had received no direct benefit as a result of the cash gift other than the expectation of a charitable income tax deduction. Therefore, the cash contribution was deductible, even though it was an integral part of the facade easement gift.

Finally, the court determined that there would not be a Sec. 6662 accuracy-related penalty for the facade easement deduction. The Kaufmans were not negligent in the process of claiming that deduction because they had explored extensively with advisors the deduction rules and obtained an appropriate appraisal. However, there was a 2003 cash deduction that was taken in error and the Sec. 6662 penalty for that amount was sustained.

Applicable Federal Rate of 3.0% for April – Rev. Rul. 2011-10; 2011-14 IRB 1 (17 Mar 2011)

The IRS has announced the Applicable Federal Rate (AFR) for April of 2011. The AFR under Sec. 7520 for the month of April will be 3.0%. The rates for March of 3.0% or February of 2.8% also may be used. The highest AFR is beneficial for charitable deductions of remainder interests. The lowest AFR is best for lead trusts and life estate reserved agreements. With a gift annuity, if the annuitant desires greater tax-free payments the lowest AFR is preferable. During 2011, pooled income funds in existence less than three tax years must use a 2.8% deemed rate of return. Federal rates are available by clicking here.

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