IRS Commissioner Doug Shulman warned tax executives that they face substantial tax risks from uncertain tax positions, international enforcement efforts, and impermanent tax credits that expire every year or two.
During a speech Wednesday at the Tax Council Policy Institute symposium in Washington, D.C., Shulman discussed both administrative tax risks and tax policy risks. “Since I became Commissioner, one of my priorities has been reducing uncertainty for taxpayers by focusing on industry resolution,” he said. “This helps mitigate administrative tax risk for taxpayers, including the largest corporate taxpayers, and creates efficiency for the IRS.”
He noted that for large corporate taxpayers, they take risks with the tax positions they adopt when there is some doubt whether the outcome will be challenged by the IRS or another tax authority.
However, he added that the IRS now offers several programs to help large corporate taxpayers handle such risks, including its Compliance Assurance Process, or CAP, program, which allows a taxpayer to work through all of the potential issues with the IRS before filing a return. Another tax risk mitigation tool is the Industry Issue Resolution, or IIR, program, designed to help corporate taxpayers reach solutions on uncertain tax areas.
Another resolution tool that the IRS is now encouraging its agents to offer is called a Fast Track Settlement, which allows a taxpayer to settle an issue with an Appeals officer at the IRS during the audit process, instead of having to wait until the audit is finished and then taking the case to Appeals.
Shulman said the agency’s uncertain tax position initiative, enshrined in the Schedule UTP, will also create more certainty for taxpayers and mitigate the risk for the IRS that an issue with a corporate tax return will remain hidden. The goal, according to Shulman, “is to have a transparent discussion with corporations to resolve issues much quicker, and be more efficient in targeting taxpayers and issues with the highest risk of noncompliance.”
Shulman noted that as of Jan. 1, 2012, approximately 1,900 taxpayers have filed Schedule UTP, and approximately 4,000 issues have been resolved. The top three areas of the Tax Code in which the Schedule UTP has been filed are research tax credits, allocation of income (including transfer pricing), and trade and business expenses. Shulman noted that 19 percent of all issues have been related to transfer pricing.
The IRS has begun doing joint audits with tax authorities in other countries and sharing information with them through an organization called the Forum on Tax Administration, which Shulman chairs. He noted that in one recent joint audit, the corporate taxpayer had agreed to open its books by participating in the CAP program. The IRS, the corporate taxpayer and the foreign tax authority were able to resolve a complex tax issue in six months, and through an Advance Pricing Agreement, they agreed on a transfer pricing methodology for future years.
“Unlike past practices, where each government might have negotiated hard after an audit adjustment was proposed by one of them, in this case, the two governments worked together cooperatively to reach a mutually acceptable principled resolution,” he said.
He added that the IRS also tries to reduce business tax risk by issuing guidance. In one recent example, the IRS proposed regulations to provide a framework under which Individual Retirement Accounts could purchase “longevity annuities” or “longevity insurance” so the annuity could begin providing a fixed payout at an age like 85 to help ensure that people will not outlive their retirement assets.
In terms of tax policy risk, Shulman noted that the many expiring provisions of the Tax Code create considerable uncertainty for taxpayers. In 2010, Congress’s Joint Committee on Taxation identified more than 150 tax provisions that were set to expire at the end of 2010, another 70 at the end of 2011, and 40 more at the end of 2012, he added.
Shulman singled out the Research and Experimentation tax credit as one example of a tax credit that has been extended 14 times in the past 30 years, in some cases retroactively, for periods ranging from six months to five years.
“Such persistent uncertainty about the future availability of the R&E credit diminishes its incentive effect as taxpayers often do not know if they can depend on the credit when making decisions on future investments in research and development,” he said.
Shulman noted that President Obama has proposed making the R&E tax credit permanent to eliminate such uncertainty from year to year and make it more effective.
The retroactive reinstatement of tax provisions also adds risk to the system, Shulman noted, while creating confusion for taxpayers and making the provisions difficult for the IRS to implement.
“We have seen provisions expire for almost an entire year, only to be reinstated at the end of the year,” he said. “While the IRS muddles through and does its best by rushing through revised forms and instructions, last-minute retroactive extensions cause significant taxpayer confusion, with a clean-up that often drags on for many months.”
One prominent recent example, he noted, was the expiration of the estate tax at the end of 2009, which was then reinstated at the end of 2010.
“Upon reinstatement, Congress gave taxpayers the option of using either the 2009 or the new 2011 rules for 2010,” he said. “This kind of result is not optimal.”
Congress's habit of passing legislation with immediate effective dates also adds operational risk for the IRS and makes it difficult for taxpayers to plan properly to take advantage of the tax benefits. When the effective dates are set far enough ahead, the IRS has more time to develop the necessary guidance and instructions, and implementation can go more smoothly, Shulman noted. The IRS can set up customer service operations and put in place the appropriate compliance systems to keep people from gaming the system.
A year ago, Shulman added, the IRS was forced to delay the opening of the tax filing season from January 14 until February 14 because of late tax law changes. “That meant 6.5 million people, including schoolteachers who wanted to take a deduction for classroom supplies that they paid for themselves, had to wait an extra month to get a refund,” he said. “In any public policy arena, policymakers should strive to give those implementing a law enough time to do it right.”
