Tax Watch: Futures on single stocks get the go-ahead

Futures contracts on single stocks have become legal under one of the provisions of the omnibus appropriations bill that President Clinton signed into law just before Christmas.

The provision modifies the Commodities Exchange Act to address the tax treatment of transactions involving single-stock futures.

In general, securities futures contracts are not treated as Section 1256 contracts, except in the case of certain dealer securities futures contracts. Thus holders of those contracts are not subject to the mark-to-market rules of Section 1256 and are not eligible for 60% long-term capital gains treatment under Section 1256.

Instead, gain or loss on those contracts will be recognized under the general rules relating to the disposition of property.

Option for reporting

income from options

* The Internal Revenue Service has announced that, in response to employer concerns about implementing the new reporting procedures, Announcement 2000-97, 2000-48 IRB 557 has been changed so the use of Code V is optional for 2001 Forms W-2.

Announcement 2000-97 required employers to separately report income from their employees’ exercise of non-statutory stock options using Code V, beginning with 2001 Forms W-2.

Cite: Announcement 2001-7

Another safe harbor

for Remic transfers

* The IRS recently issued favorable guidance concerning transfers of non-economic residual interests in real estate mortgage investment conduits, or Remics.

The guidance provides an alternative safe-harbor requirement that, if satisfied, generally protects the transfer of a non-economic Remic residual interest from being disregarded for federal income tax purposes.

The IRS reportedly issued the guidance in response to industry concerns about a third requirement. The requirement was added to the existing two-part safe harbor in the proposed financial asset securitization investment trust, or Fasit, regulations published last year.

The proposed Fasit regulations also extended the limitations on Remic residual interest transfers to transfers of Fasit ownership interests (including the additional third requirement). That Revenue Procedure extends the alternative safe-harbor requirement to Fasit ownership interest transfers.

Like the additional safe-harbor requirement in the proposed Fasit regulations, the alternative safe harbor is effective for all transfers of non-economic Remic residual interests and Fasit ownership interests on or after Feb. 4, 2000.

The basic tax regulations state that a transfer of a non-economic Remic residual interest to a domestic transferee will be disregarded for all federal income tax purposes if a significant purpose of the transfer was to enable the transferor to impede the assessment or collection of tax on the residual interest.

A significant purpose to impede tax assessment or collection exists if, at the time of the transfer, the transferor either knew or should have known that the transferee would be unwilling or unable to pay taxes due.

Those regulations provide a safe harbor for preventing the transfer of a non-economic Remic residual interest from being disregarded.

Cite: Revenue Procedure 2001-12, 2001-2 IRB 1

Investor takes hit

in a tax shelter

* Years ago, the IRS shut down a tax shelter, involving recycling equipment, that had been marketed to a number of taxpayers.

The taxpayers were contacted and invited to settle with the IRS on its terms.

The alternative was to face audits and possible prosecution on a case-by-case basis.

In another such case, the U.S. Tax Court recently rejected a couple’s argument that they were not subject to negligence penalties.

The Tax Court ruled that their reliance on the advice of three individuals was not “reasonable.”

James and Betty Barber bought an interest in a plastics recycling partnership, Whitman Recycling Associates, in the early 1980s.

In a four-step series of transactions closely resembling those in similar cases, Packaging Industries of Hyannis, Mass., sold four recyclers to ECI Corp.

ECI resold the recyclers to F&G Corp. F&G leased the recyclers to Whitman Recycling Associates, which in turn entered into a joint venture with PI to exploit the recyclers and place them with end-users.

According to the Tax Court, the Barbers are well-educated, financially successful, sophisticated investors. They sought investment advice on the deal from Mr. Barber’s brother, a lawyer and Whitman’s general partner, Samuel Winer. The couple reviewed the offering circular and asked the brother questions about the investment. He didn’t raise objections.

In October 1982, the couple purchased three-tenths of a limited partnership unit in Whitman for $15,000. Mr. Barber prepared their 1982 return, partially based on the lawyer’s advice. The tax benefits exceeded their investment.

Special Trial Judge Robert N. Armen Jr. noted that the couple had apparently invested in several investments promoted by Mr. Winer from 1979 to 1981 that apparently produced nothing beyond tax benefits.

The court found that Mr. Barber’s reliance on the advice of Mr. Winer, the brother and the lawyer wasn’t reasonable. It noted that Mr. Winer had a financial interest in the partnership, and the brother and lawyer were not aware of all the facts.

The court rejected the couple’s claim for entitlement to the Plastics Recycling Project Settlement Offer as untimely.

Cite: James D. Barber, et ux., v. Commissioner, T.C. Memo. 2000-372

A fake CPA

loses in fraud case

* The 3rd U.S. Circuit Court of Appeals has affirmed a lower court’s enhancement of one individual’s sentence for willfully preparing a false and fraudulent tax return on behalf of a client.

Louis Jones opened a tax preparation business and acted as a certified public accountant.

He took unjustified Schedule A deductions on clients’ returns and signed the returns himself.

Following an audit of 375 of the returns Mr. Jones prepared, the IRS determined that 95% of the Schedule A deductions were unwarranted.

The IRS issued deficiency notices to many of his clients, and Mr. Jones assured them that he would resolve the audits. Mr. Jones filed fraudulent powers of attorney on behalf of his clients.

Mr. Jones pleaded guilty to obstructing the administration of the Internal Revenue laws and to willfully preparing a false and fraudulent tax return on behalf of a client.

A U.S. district court sentenced him using a pre-sentence report that recommended enhancement for being the leader, organizer, manager or supervisor of a criminal enterprise and because he abused a position of trust by representing himself as a CPA.

Circuit Judge Richard L. Nygaard, affirming the decision of the district court, noted that Mr. Jones exercised control over his employees and clients, causing them to prepare false documents, and did not object to that assertion at trial.

Thus the court affirmed Mr. Jones’ sentence, noting that he had an active supervisory role in the illegal conduct of his subordinates and clients. The court also held that the district court did not err in adjusting Mr. Jones’ sentence upward.

Cite: United States v. Louis W. Jones III, No. 00-5106