Sunday, April 9, 2017

FBARs are Due April 18th | Bethesda Tax Lawyer

Beginning this year, FBARs are due on tax day, April 15th, most years, and April 18th this year. If you cannot file by the deadline, for this year only, an automatic extension until October 18th will be provided. 

The FBAR is now filed electronically on the BSA website. You can find the form and filing instructions, here.

The penalties failing to file the FBAR are steep.  If you have any foreign accounts and do not think you are required to file; at least contact someone to verify that you are correct.

For a free phone consultation regarding the FBAR, or other tax matters, please contact the Law Office of Aaron P Richter,  a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.

Sunday, March 12, 2017

The Taxation of LLC Member Distributions | Bethesda Tax Lawyer

With the deadline for filing income taxes approaching, I’d like to discuss a recent decision on whether an individual’s share of income earned through a Limited Liability Company (LLC) is subject to the self-employment tax.  Self-employed individuals generally must pay self-employment tax (SE tax, which consists of 12.4% Social Security tax plus a 2.9% Medicare tax ) as well as income tax, so it is crucially important to know whether money received in a given year counts for self-employment tax purposes.

An important prior case, Renkemeyer et al. LLP v. Commissioner (2011), addressed the question of earnings by partners in a law firm.  In that case, the Tax Court examined the operation of the partnership and determined that all of the earnings that passed through to the partners “arose from legal services they performed on behalf of the law firm” and thus were subject to the self-employment tax as surely as if each partner was doing business for himself. It was clear to the court that “the partners’ distributive shares of the law firm’s income did not arise as a return on the partners’ investment.”  Had some of the partners merely had their names on the masthead of the partnership, and drawn passive revenue from it after a substantial initial investment, the decision might have been different, but the facts as presented did not allow the court to make such a determination.  

However, in last month’s Hardy v. Commissioner (2017) decision, the Tax Court had the opportunity to distinguish Renkemeyer and clarify our understanding of when self-employment tax should apply.  Plastic surgeon Stephen Hardy had bought a $165,000 share, or 12.5%, of a surgery center organized as an LLC.  In exchange, Hardy received annual distributions from the center’s earnings and met quarterly with the other members of the LLC.  Unlike the Renkemeyer partners’ earnings, Hardy’s distributions from the surgical center were not premised on daily attendance at the center or even on the performance of a center number of surgeries on site.  He merely received the distributions, independent of any surgeries or other customer service duties he might undertake.  

After considering those facts, the Tax Court held that “Hardy’s distributive shares [were] not subject to self-employment tax because he received the income in his capacity as an investor.”  His distribution share was, of course, still subject to taxation per the rules governing LLCs, but he was not required to pay self-employment tax that can sometimes prove a significant added cost.  Obviously, some cases of earnings through LLCs will be less clear-cut than either Renkemeyer or Hardy, and the determination of whether the self-employment tax applies will depend on a careful analysis of the many factors that swayed the courts in those two cases, such as the income’s source (return on investment or services performed on behalf of the LLC) and the role of the individual within (daily management and oversight touching on all services that generate earnings, or merely receipt of passive distributions in accordance with their ownership stake in the LLC).  

For a free phone consultation regarding the self-employment tax or other tax matters, please contact the Law Office of Aaron P Richter, a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.

Friday, January 20, 2017

Bitcoin Update | Bethesda Tax Lawyer

Back in June, I wrote this blog about the tax implications of using Bitcoins and other cryptocurrency.  I was also interviewed by VICE, where I discussed the possibility that the IRS might pursue the untaxed money kept in various cryptocurrency accounts (or “wallets,” as users call them).  Over the course of the past three months, the IRS, which has had success recovering revenue from offshore accounts, launched an investigation into the Coinbase “wallet” service to determine the correct amount of tax that people who use virtual currencies such as bitcoin are obligated to pay.  In November, the agency filed a petition to serve a “John Doe” summons, asking for the identities of any US Coinbase customer who transferred crypto-currency with the service between 2013 and 2015.

When signing up to Coinbase, users are sometimes required to provide identification documents. “There is a reasonable basis for believing these US taxpayers failed to comply with internal revenue laws,” the petition continued. In 2014, the IRS stated that virtual currencies which can be converted into fiat currency are property for tax purposes. As noted in an earlier blog, this means, among other things, that wages paid to employees using bitcoin are taxable to the employee, and are subject to federal income tax.

However, the petition acknowledged that not all Coinbase customers may have broken any internal revenue laws: “The taxpayers being investigated have not been or may not be complying with US internal revenue laws requiring the reporting of taxable income from virtual-currency transactions.”

After the petition was filed in November, several individual users rushed to intervene in the case, hoping to quash the “John Doe” summons on privacy grounds.  The IRS responded by arguing that these users, having revealed their identities in order to intervene, were publicly identified and thus unable to claim that the “John Doe” summons threatened their privacy.  The story took a further turn in mid-January, when Brian Armstrong, the CEO of Coinbase, wrote a blog post announcing that his company would fight the summons in court.

Armstrong made several notable points about tax policy, stating that Coinbase was, unlike other cryptocurrency wallets, “committed to compliance” and prepared to issue 1099-B forms at the end of the year to users.  He argued “asking for detailed transaction information on so many people, simply for using digital currency, is a violation of their privacy” and is not a safe and effective path toward tax compliance. He also criticized the current IRS treatment of cryptocurrency as property, noting that this treatment would occasion the distribution of 1099-B forms for even the smallest transactions, since gains on property do not have a de minimis exception.  This could be resolved, he explained, by treating “virtual currency as actual currency for tax purposes” since there is a de minimis exception for actual currency.

It is difficult, though by no means impossible, to contest actions taken by the IRS.  Nevertheless, individuals who have not reported cryptocurrency transactions would be well advised to take steps to voluntarily disclose this unpaid tax instead of awaiting the results of a decision on the “John Doe” summons.  I will cover voluntary disclosure in greater detail in a forthcoming blog, but the following example given by the IRS is worth noting:  a letter from an attorney which encloses amended returns from a client which are complete and accurate (reporting legal source income omitted from the original returns), which offers to pay the tax, interest, and any penalties determined by the IRS to be applicable in full and which meets the timeliness standard set forth above.  This meets the IRS standards for a voluntary disclosure, which consists of a) a taxpayer showing a willingness to cooperate and b) the taxpayer then making a good faith arrangement to pay the IRS in full, along with applicable interest and penalties.  

The IRS has made known its intentions to collect unpaid tax on income currently kept in cryptocurrency accounts.  With that in mind, taxpayers who have untaxed income in these accounts should take affirmative steps to remedy any delinquencies.  I will continue to monitor this litigation as the situation unfolds.

For a free phone consultation regarding Bitcoin, the FBAR, or other tax matters, please contact the Law Office of Aaron P Richter,  a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.

Monday, November 21, 2016

Online Gambling and FBAR Reporting | Bethesda Tax Lawyer

If you play online poker and keep your playing funds in accounts associated with the games, you may not have considered whether those accounts are FBAR reportable.  Given that the Ninth Circuit issued a ruling earlier this year attempting to clarify the situation, you should probably familiarize yourself with the current state of the law on this subject.  In United States v. Hom (2016), the court ruled on three types of playing accounts that a California district court had previously held were all subject to the FBAR.

In that case, John Hom--a high-stakes gambler--was assessed a total penalty of $40,000 for failing to report his three accounts in 2006 and his remaining account in 2007 ($10,000 per violation).  The three accounts consisted of two accounts tied directly to poker services, PokerStars and PartyPoker (both are still in operation in 2016), and FirePay (an early competitor to PayPal no longer in existence), which transferred money from an account with that service into either his online poker accounts or his Wells Fargo bank account.  

U.S. citizens who maintain accounts with foreign financial agencies are required to file the FBAR.  For this requirement to apply, the funds must be “in a bank, securities, or other financial account” that is “in a foreign country.”  In Hom’s case, it was undeniable that the funds were located in foreign countries since all three services were based offshore.  The relevant question was whether they were held within a “financial agency,” which the court defined as a “financial institution,” a term comprising commercial and private banks as well as licensed senders of money.

In the opinion of the Ninth Circuit, the FirePay account was FBAR-reportable, and that fine should be allowed to stand.  FirePay, which was based in the United Kingdom, had acted as a money transmitter, allowing Hom to move money between his bank account and online poker accounts.  However--and somewhat surprisingly--the court reversed the fines related to the PartyPoker and PokerStars accounts.  Those accounts, the court reasoned, “were used solely to play poker and there is no evidence they served any other purpose for Hom.”  They were not acting as banks, and since the statute and its related regulations failed to define the term, the court consulted the dictionary and determined that no part of the dictionary definition of bank (“an establishment for the custody, loan, exchange, or issue of money, for the extension of credit, and for facilitating the transmission of funds”) could be applied to either of those accounts.  

Though this was an unusual holding--it would seem logical that all of these accounts should be reportable for FBAR purposes, as the district court had originally held--this decision may influence other circuits.  Nevertheless, individuals with concerns about the tax implications of these and other foreign accounts should seek professional advice before determining what they should report to the IRS.

For a free consultation regarding the FBAR or other tax matters, please contact The Law Offices of Aaron P. Richter,  a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.

Sunday, October 23, 2016

Intentional Misclassification of Employees | Bethesda Tax Lawyer

My last blog explained the distinction between employees and independent contractors while providing some basic information about the trust fund recovery penalty.  This blog examines the intentional misclassification of employees and its consequences, as well as the operation and assessment of the trust fund tax penalty.  Employee misclassification is an enormous problem nationwide.  A 2012 list of state audits compiled by the National Employment Law Project estimates that the number of misclassified employees in the United States runs into the millions (with nearly 1.2 million such employees working in the two states of Pennsylvania and New York alone!).  

The IRS has issued consumer alerts about fraudulent employment tax practices.  Notable among these are “pyramiding,” or the withholding of employment taxes that are not thereafter submitted to the IRS, and paying employees wholly or impartially in cash without assessing employment taxes.  These and other practices, such as using unreliable or outright criminal third-party payroll services, making frivolous or specious arguments about employee classifications advanced by unscrupulous promoters (a common--and illegal--tax resistance ploy, as noted elsewhere on this blog), or treating employee salaries as corporate distributions, offer strong evidence that an employer is trying to conceal losses or actively stealing money.  Such practices can trigger the application of a civil fraud penalty or a referral to the criminal investigative division.

For a taxpayer--in this case, the employer--to be guilty of fraud, he or she must have willfully attempted to not pay or underreport taxes.  An individual who has willfully attempted to misclassify employees is someone who has acted deliberately, knowingly, and with the specific intent to violate the law.  If the underpayment of tax is due to fraud, a penalty equal to 75% of the portion of the underpayment which is attributable to fraud will be added.  If the taxpayer can establish by a preponderance of the evidence that any portion of this underpayment is not attributable to fraud, that portion will be excepted from the fraud penalty.  IRS examiners will carefully scrutinize the employer’s business practices, looking for “badges of fraud” like the ones I have described here.  Individuals who are genuinely concerned about the classification of their workers--usually because they wish to classify them as independent contractors--can submit Form SS-8 and receive a prospective determination from the IRS, as discussed in my prior blog.  

Criminal investigations for employment tax evasion have remained steady between 2014 and 2016, averaging about 120 cases a year with a 75% incarceration rate (18 months is the average sentence convicted parties are assigned to serve).  The Fiscal Policy Institute released a study in 2007 noting that the most egregious intentional misclassifications of employees occur in the delivery, trucking, building maintenance, janitorial, agricultural, home health care, and janitorial industries.  However, the rise of the “gig economy” and the emergence of alternative means of payment, such as Bitcoin, has surely altered that assessment.  At any rate, employers in these fields, or small business owners in general, would be well advised to consult with the IRS, a CPA, or a tax attorney if they are genuinely concerned about what their best practices should be.

In general, this entire area of taxation represents a minefield for the unwary.  Beyond concerns arising from outright fraud and other criminal activities, employers must understand the crucial distinction between trust fund-related and non-trust fund related taxes.  There are four types of employment taxes, with two classified as trust fund-related taxes and two as non-trust fund related taxes. The first two consist of the employee’s federal income taxes and the 50% share of Federal Insurance Contributions Act (“FICA”) taxes an employer is required to withhold from employee’s wages (these constitute the employee’s contributions to the Social Security and Medicare programs he or she will rely on during retirement). Non-trust fund taxes are those paid by the employer:  unemployment taxes, which the employee can redeem if he or she is laid off through no fault of his or her own, and the employer's 50% contribution to the employee’s FICA taxes.

Given the amounts and types of money at stake, an incompetent or criminal-minded person who is responsible for payroll can wind up in significant trouble. In addition to imposing stiff penalties and interest on delinquent employment taxes, under Internal Revenue Code section 6672 the IRS can assert personal liability (i.e., the 100% trust fund recovery penalty that is triggered by intentional misclassification) for the trust fund portion of the delinquency on any and all of these “responsible persons.” A responsible person could be anyone who has the power to ensure the trust fund taxes are paid on time, and may include middle managers, payroll supervisors, and comptrollers at the employee’s company as well as high-ranking officials at third-party payroll companies.

The IRS can assert and enforce personal liability for the trust fund portion against any number of responsible persons simultaneously and will likely try to hold as many persons as possible liable. Even filing for bankruptcy won’t eliminate or reduce this liability.  Moreover, the federal Department of Labor and many state departments of labor have also begun aggressively campaigning against misclassification of employees, with 27 states as of 2015 having passed “presumptive employee status” statutes that require employers to prove that their workers are truly independent contractors.  

In sum, employers seeking to maintain workforces comprised of low-risk, low-cost independent contractors must tread carefully.  Federal and state governments, along with the IRS, have devoted considerable time and resources to ensuring that employers who are trying to exploit today’s fast-evolving economy must nevertheless comply with relevant labor and revenue laws.  For a free phone consultation regarding the trust fund recovery penalty, payroll taxes, or other tax matters, please contact the Law Office of Aaron P Richter,  a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.

Sunday, July 31, 2016

The Trust Fund Recovery Penalty--Employee Classification | Bethesda Tax Lawyer

One of the many tax risks faced by owners of businesses is the trust fund tax penalty. With the IRS’s current focus on payment and collections of employment taxes, owners may wind up with a notice from the service inquiring about their Social Security, Medicare, and income tax withholding from employees wages. IRC 6672 provides the Service with the authority to collect 100% of the employee's portion of the unpaid or uncollected taxes from the responsible person(s) personally. This has been defined very broadly by the courts and can encompass multiple managing officers or employees. There are many reasons why a business owner might run afoul of IRC 6672, and I will cover them in a series of posts for this blog, including an explanation of how these penalties work as well as certain IRS programs that may benefit owners facing employment audits. In this entry, I intend to discuss the basic but critical distinction between independent contractors and employees. Business owners who improperly classify their workers and do not withhold the appropriate payroll taxes are at risk of being penalized.

Some readers of this blog may have noticed that wrestlers formerly employed by World Wrestling Entertainment recently sued that company. One of the arguments made in this lawsuit is that the decades-long distinction between independent contractors and regular employees, in which wrestlers were characterized as independent contractors, is legally incorrect. The owners of the WWE, like the owners of other businesses, classified their workers as independent contractors because it meant they did not have to pay employment taxes on behalf of these workers or offer them various other benefits.

The Affordable Care Act, which was the signature piece of legislation passed during the Obama administration, has raised costs for some business owners by requiring them to offer health insurance benefits to their employees. As such, owners concerned about these added costs may go out of their way to classify or reclassify the workers they employ as independent contractors. This can save them time and money, since it places many administrative burdens back on the workers, but the IRS carefully polices these classifications and may penalize employers who improperly label their workers as independent contractors.

The IRS offers guidelines for employers seeking to determine whether their workforce consists of independent contractors or employees. There is no bright-line test, but factors such as control of workplace performance, the presence of a pension plan or a vacation time schedule, and the provision of employer-owned tools may lead to a determination that an owner’s workforce is made up of employees. Employers who are concerned about this issue can complete Form SS-8, “Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding,” which will allow the IRS to make the decision for them, but it may be several months before a decision is rendered.

Several “best practices” can help employers avoid complications involving the IRS. If a workforce does consist primarily of independent contractors, the employer should be diligent and thorough about filing the necessary Form 1099-MISC paperwork and getting contractors to complete their Form W-9s. Relationships with these workers should be documented thoroughly in each employee’s HR file--noting, for example, that a construction contractor is “required to provide his own tools and vehicles.” Employers and their HR employees should also stay abreast of recent developments in the law involving important companies such as Uber (e.g., Berwick v. Uber, a California Labor Commission decision, classifying an Uber driver as an employee rather than an independent contractor). By staying on top of paperwork and keeping up with recent trends in employment law, employers can potentially avoid a determination that they have intentionally tried to misclassify their employees to avoid paying employment taxes. Such an intentional misclassification will trigger the trust fund recovery penalty, which will be discussed in my next blog.

For a free phone consultation regarding the trust fund recovery penalty, payroll taxes, or other tax matters, please contact the Law Office of Aaron P Richter, a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.

Sunday, June 26, 2016

FBARs are Due June 30th | Bethesda Tax Lawyer

It's your annual friendly reminder that the 2015 FBAR (FinCEN Form 114) is due June 30th.  If you are a US resident for tax purposes, and you have foreign assets, there is a good chance you need to file this form.

The FBAR is now filed electronically on the BSA website. You can find the form and filing instructions, here.

The penalties failing to file the FBAR are steep.  If you have any foreign accounts and do not think you are required to file; at least contact someone to verify that you are correct.

For a free phone consultation regarding the FBAR, or other tax matters, please contact the Law Office of Aaron P Richter,  a Bethesda-based law firm with expertise in Tax Controversy, Business Formation, Estate Planning, and Tax Preparation.