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New reportable transaction guidance.

The American Jobs Creation Act of 2004 (AJCA) provides significant penalties for failing to disclose reportable transactions. In its wake, the 1RS issued four revenue procedures clarifying the types of disclosable transactions; see Rev. Procs. 2004-65 through 2004-68, which contain lists of transactions exempt from the reporting requirements. This type of guidance is commonly referred to as an "angel list."

Reportable Transactions

Under Regs. Sec. 1.6011-4(b), there are six categories of reportable transactions:

1. Listed transactions (i.e., tax avoidance transactions identified in IRS published guidance) and substantially similar transactions;

2. Transactions offered under conditions of confidentiality;

3. Transactions with contractual protection;

4. Transactions resulting in a claimed loss deduction under Sec. 165 if they meet certain specified dollar amounts;

5. Transactions with a book-tax difference over $10 million entered into by publicly traded companies, or business entities with $250 million or more in gross assets for book purposes; and

6. Transactions reasonably expected to generate over $250,000 in tax credits if the taxpayer holds the underlying asset for 45 days or less.

Taxpayers are generally required to disclose reportable transactions on Form 8886, Reportable Transaction Disclosure Statement; however, according to Rev. Proc. 2004-45, transactions meeting the book-tax difference listed in #5 above may be disclosed on Schedule M-3, Net Income (Loss) Reconciliation For Corporations With Total Assets of $10 Million or More.

Penalties

AJCA Section 81(a) enacted new Sec. 6707A, which provides a $200,000 penalty ($100,000 for a natural person) for failing to disclose a listed transaction, and a $50,000 penalty ($10,000 for a natural person) for failing to disclose other reportable transactions. The new angel lists take on added significance in light of the severity of the new penalties for reportable transactions.

Angel Lists

The four new revenue procedures provide specific exemptions for four of the above categories. They all apply to transactions entered into after 2002.

Transactions with contractual protection (Rev. Proc. 2004-65): Generally, under Regs. Sec. 1.6011-4(b)(4), a transaction with contractual protection is one involving (1) a refundable fee, if all or part of the transaction's intended tax consequences are not sustained; or (2) a fee contingent on the taxpayer's realization of the transaction's tax benefits. Rev. Proc. 200465 provides new guidance on transactions that are exempt from reporting under this category. It clarifies that fees based on state tax liabilities do not fall in this category, because the category applies only to transactions in which the refundable or contingent fees are based on the taxpayer's Federal income tax liability. It also specifically exempts transactions in which the refundable or contingent fee is related to (1) the Sec. 51 work opportunity credit; (2) the Sec. 51A welfare-to-work credit; and (3) the Sec. 45A(a) Indian employment credit.

Sec. 165 loss transactions (Rev. Proc. 2004-66): Generally, under Regs. Sec. 1.6011-4(b)(5), a reportable Sec. 165 loss transaction is any transaction resulting in a claimed loss under that section of (1) at least $10 million in a single tax year or $20 million in any combination of years for corporations, or partnerships with only corporations as partners; (2) at least $2 million in any single tax year or $4 million in any combination of tax years for other partnerships, individuals, S corporations and trusts; or (3) at least $50,000 in any single tax year for individuals or trusts, if the loss is attributable to a Sec. 988 transaction.

Rev. Proc. 2004-66 updates the list of exempted transactions in this category that was previously contained in Rev. Proc. 2003-24, which it modifies and supersedes. For the most part, Rev. Proc. 2004-66 merely repeats Rev. Proc. 200324's language about qualifying basis (i.e., losses from an asset with qualifying basis are excluded from the reporting requirements) and the list of exempted transactions. However, the update contains some significant changes, and adds special basis adjustment rules for consolidated groups under Regs. Sec. 1.1502-32 and amounts included in compensation under Sec. 83.

It also adds two new types of losses to the list of specifically exempted loss transactions--losses incurred: (1) in factoring transactions under Sec. 1221 (a)(4); and (2) when an asset's basis is determined under Sec. 338(b), bringing to 11 the new total of specifically exempted loss transactions.

Transactions with a book-tax difference over $10 million (Rev. Proc. 2004-67): Rev. Proc. 2004-67 updates the list of exempted transactions with a book-tax difference of more than $10 million, previously contained in Rev. Proc. 2003-25, which it modifies and supersedes. Rev. Proc. 2004-67 clarifies that if a specific transaction is exempt from book-tax difference reporting, future items reflecting that book-tax difference are also exempt (e.g., when the book-tax difference reverses in future years).

The procedure adds five new types of exempted transactions to the preexisting list of 30, related to:

1. A group of mortgages treated as a single asset for book purposes, but as multiple assets for tax purposes;

2. Items reported on a gross basis for tax and on a net basis for book, and vice versa;

3. Different book and tax treatment of original issue discount (OID), market discount, acquisition discount, de minimis OID, qualified stated interest, amortizable bond premium, bond issuance premium or debt issuance costs;

4. The application of specialized accounting methods for Sec. 263A capital expenditures; and

5. Sec. 833(b) adjustments to taxable income.

Transactions with brief holding periods (Rev. Proc. 2004-68): Generally, under Regs. Sec. 1.6011-4(b), a transaction with a brief ,asset holding period is one resulting in a taxpayer claiming a tax credit exceeding $250,000 if the underlying asset giving rise to the credit is held by the taxpayer for 45 days or less. Rev. Proc. 2004-68 provides new guidance on transactions exempt from reporting under this category and specifically exempts the following four types:

1. Foreign tax credits (FTCs) from sales made in the ordinary course of a taxpayer's trade or business of property described in Sec. 1221 (a) (1);

2. Hedges that reduce only the risk of interest rate or currency fluctuations, or a guarantee issued by a person related to the taxpayer within the meaning of Sec. 267(b) or 707(b);

3. A debt instrument with a 45-day term or less if the taxpayer's holding period in the instrument equals the instrument's entire term; and

4. An FTC for withholding taxes imposed in respect of nondividend income or gain on any property to the extent not disallowed under Sec. 901 (1).

Effective Dates

All four procedures apply to transactions entered into after 2002.

Conclusion

Tax practitioners need to familiarize themselves with the four new revenue procedures, to assist their clients in complying with the reportable transaction requirements and avoiding the new penalties for failing to disclose reportable transactions.

FROM DAVID AUCLAIR, ESQ., WASHINGTON, DC
COPYRIGHT 2005 American Institute of CPA's
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Author:Auclair, David
Publication:The Tax Adviser
Date:Feb 1, 2005
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