Tuesday, May 19, 2009

Treasury Department Provides Details of The Obama Administration’s Tax Change Proposals Affecting Individuals

On May 4, 2009, the Obama Administration released a summary of its tax change proposals. On May 11, 2009, the Treasury Department issued the General Explanations of the Administration's Fiscal Year 2010 Revenue Proposals (the “Green Book”) to provide details of the Administration’s tax change proposals. The proposed changes summarized below, if enacted, would have significant impacts on individuals with higher income and individuals who have interest in or authority over foreign financial accounts.

  • Sunset of the 2001 Tax Cuts. Several tax cuts enacted in 2001 will sunset after 2010. The Obama Administration proposed to allow the tax cuts to expire as scheduled and permanently extend the prior tax provisions affected by those tax cuts. For example:
  • The highest two marginal income tax rates (35% and 33% at present) would return to 39.6% and 36% beginning in 2011. The proposal would apply the 36% rate to taxable income above $250,000 for married taxpayers filing jointly (or $200,000 for single filers) less standard deduction and two (or one for single filers) personal exemptions, indexed for inflation from 2009.
  • Currently, itemized deductions for 2009 would be subject to a reduction by 1% of a threshold amount (the amount by which the adjusted gross income exceeded a statutory floor), and no reduction for 2010. Under the proposal, after 2010 the reduction would revert to 3% for married taxpayers filing jointly with a threshold of $250,000 (or $200,000 for single taxpayers), indexed from 2009 for inflation. In addition, the Obama Administration’s proposal would limit all itemized deductions to offset income only at 28%.
  • The tax rate on long-term capital gains and qualified dividends, currently at 15%, would revert to 20% for taxpayers with income above $250,000 for married couples filing jointly (or $200,000 for individual filers) less standard deduction and two (or one for single filers) personal exemptions, indexed from 2009 for inflation.
  • Reporting of Foreign Financial Accounts. The Obama Administration’s proposal would seek to strengthen the information reporting obligations regarding foreign financial accounts. Under current law, U.S. persons who have an interest in or authority over one or more foreign financial accounts must report that interest on a Report of Foreign Bank and Financial Account (“FBAR”) for each year during which the aggregate value of all such accounts exceeds $10,000. U.S. persons who directly or indirectly own more than 50% of a corporation, partnership, or trust that owns a foreign financial account are also required to file the FBAR. The proposal would require reporting on income tax returns any transfer to or from a foreign financial account, as well as disclosing on income tax returns certain information if the taxpayer must file an FBAR.
The proposal would also establish certain evidentiary presumptions when the taxpayer fails to file the FBARs. The Obama Administration’s proposals described in the Green Book are far-reaching. It is difficult to predict what measures would eventually be enacted as proposed by the Administration.

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To ensure compliance with requirements imposed by the IRS, we inform you that, unless explicitly provided otherwise, any U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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Treasury Department Provides Details of The Obama Administration’s Tax Change Proposals Affecting Multinational Corporations

On May 4, 2009, the Obama Administration released a summary of its tax change proposals. On May 11, 2009, the Treasury Department issued the General Explanations of the Administration's Fiscal Year 2010 Revenue Proposals (the “Green Book”) to provide the details of the proposed changes. The proposed changes summarized below, if enacted, would have a profound adverse impact on U.S. multinational companies. These changes would generally be effective for taxable years beginning after December 31, 2010.

  • Deferral of Expense Deduction. Under current law, a U.S. corporation generally may deduct expenses allocated to foreign sources before repatriating and paying U.S. taxes on the associated foreign earnings. The Obama Administration’s proposal would require a U.S. corporation to defer deductions (other than research and development expenses) allocated or apportioned to foreign earnings until the associated earnings are repatriated. This proposal was previously introduced in 2007 by House Ways and Means Chairman Charles Rangel (H.R. 3970). If enacted, it could severely limit the benefits of keeping earnings offshore.
  • Foreign Tax Credits. Under current law, a U.S. corporation is not required to aggregate foreign taxes and earnings and profits of all of its foreign subsidiaries. The Obama Administration’s proposal would require both computations be made on a consolidated basis in determining available foreign tax credits, thus largely eliminating the benefits of repatriating highly taxed foreign earnings while keeping other foreign earnings offshore. A similar provision was also in H.R. 3970. Further, the proposal would prevent the separation of creditable foreign taxes from the associated foreign income. Such inappropriate separation could occur, for example, by having a foreign group of entities that are characterized in the United States differently from the treatment in foreign jurisdictions. This proposed change is similar to that in a proposed Treasury regulation issued in 2006. In addition, under the proposal, certain taxpayers subject to foreign levy (such as levy imposed only on oil income) may not be able to claim credit for the levy if the foreign country has no generally imposed income tax.
  • Check-the-Box Election. Under the entity classification rules, a wholly owned foreign entity can be disregarded for U.S. tax purposes by making a check-the-box election. The Green Book states that this election has been used to migrate foreign earnings to low-tax jurisdictions, thereby avoiding current income inclusion by the U.S. parent company. Under the Obama Administration’s proposal, generally a second- or lower-tier wholly owned foreign entity may be treated as a disregarded entity only if the single owner and that entity are created or organized in the same foreign country. The change would treat single-member entities that had made the check-the-box election prior to 2011 as being converted into corporations.
The Obama Administration’s proposals described in the Green Book are far-reaching. It is difficult to predict what measures would eventually be enacted as proposed by the Administration.

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To ensure compliance with requirements imposed by the IRS, we inform you that, unless explicitly provided otherwise, any U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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Treasury Department Provides Details of The Obama Administration’s Tax Change Proposals Affecting Certain Investment Funds and Their Managers

On May 4, 2009, the Obama Administration released a summary of its tax change proposals. On May 11, 2009, the Treasury Department issued the General Explanations of the Administration's Fiscal Year 2010 Revenue Proposals (the “Green Book”) to provide details of the Administration’s tax change proposals. The proposed changes summarized below, if enacted, would have adverse impacts on certain investment funds or their managers. These proposals generally would be effective after December 31, 2010.

  • Substitute Dividend Payments in Equity Swaps. Investment funds often enter into equity swaps. These swaps usually provide substitute dividend payments to the funds. Under current law, while dividends paid to a foreign person by a domestic corporation generally are subject to a 30% withholding tax, dividend substitute payments to a foreign person on equity swaps are generally treated as foreign source income not subject to the withholding tax. Concerns of withholding avoidance have been raised for certain transactions, for example, where an offshore hedge fund sells stock before dividend payment but also enters into an equity swap and buys back the stock after the dividend payment. Senator Carl Levin recently proposed legislation to impose withholding tax on dividend substitute payments. The Obama Administration adopts a similar proposal, with a limited exception applicable if the equity swap does not require posting more than 20% of the value of the underlying stock as collateral, the underlying stock is publicly traded, no sale or buy-back takes place in connection with the swap transaction, and certain other requirements are met.
  • Substitute Payments in Securities Lending Transactions. Under the Treasury regulations and guidance issued in 1997, substitute interest and dividend payments in a securities lending transaction or sale-repurchase transaction with respect to an instrument of a domestic issuer can be subject to withholding tax under certain circumstances. Concerns of withholding avoidance have been raised regarding situations where, for example, an offshore hedge fund lends the stock of a domestic corporation to a foreign financial institution in the same country which then sells the stock to, and enters into a total return swap with, a related U.S. person. The Green Book indicates that the Treasury Department will issue new guidance that would prevent avoidance of withholding tax through the use of securities lending transactions.
  • Carried Interest. Under current law, service partners may be taxed at the capital gain rates, rather than the ordinary income tax rates, on their shares of partnership income and gain allocated to them pursuant to their carried interests in the partnership. This tax treatment has attracted extensive attention and publicity, and several bills have been introduced in recent years to change this result. The Obama Administration proposal would require a service partner to pay tax at ordinary income tax rates as well as self-employment tax on his share of partnership income and gain attributable to his carried interest. In addition, any gain recognized on the sale of the carried interest would also generally be taxed as ordinary income.
The Obama Administration’s proposals described in the Green Book are far-reaching. It is difficult to predict what measures would eventually be enacted as proposed by the Administration.

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To ensure compliance with requirements imposed by the IRS, we inform you that, unless explicitly provided otherwise, any U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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Monday, May 18, 2009

IRS Clarifies Voluntary Disclosure Process For Taxpayers With Undisclosed Offshore Assets

In our April 2009 Client Alert, we described an Internal Revenue Service (“IRS”) initiative to encourage taxpayers who hold assets in foreign financial accounts to disclose the holdings through the IRS voluntary disclosure process (“Initiative”). On May 6, 2009, the IRS published frequently asked questions and answers (“FAQ”) that clarify issues raised by the Initiative.

One issue of particular interest to many taxpayers is the effect of the Initiative on a taxpayer who failed to file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (“FBAR”). Generally, a taxpayer is required to disclose foreign accounts by filing the FBAR. Failure to file an FBAR may subject a taxpayer to an annual penalty of up to 50% of the account balance for each FBAR that is not filed. Under the Initiative, the 50% annual FBAR penalty is replaced with a single penalty of 20% of the account balance. However, in many situations, taxpayers actually have reported and paid taxes on the income derived from foreign accounts but, being unaware of the FBAR requirement, never filed the FBAR. A taxpayer in such situation should not use the voluntary disclosure process, according to the FAQ. Instead, the taxpayer should, by September 23, 2009, file the delinquent FBARs along with copies of their tax returns for all relevant years and a statement explaining why the FBARs were filed late. The IRS will not impose a penalty on such taxpayer for the failure to file the FBARs.

In other situations, some taxpayers with undisclosed foreign accounts have belatedly filed amended returns to report and paid tax on the income generated by such accounts, without otherwise notifying the IRS. The FAQ encourages taxpayers who made such “quiet disclosures” to come forward under the voluntary disclosure process by September 23, 2009 to take advantage of the penalty framework under the Initiative. Taxpayers who wish to use the voluntary disclosure process should send a letter to the appropriate IRS agent stating the desire to make voluntary disclosure and providing other required information. A taxpayer is expected to file correct delinquent or amended tax returns for tax year 2008 back to 2003.

The FAQ also provides clarification on other issues in connection with the Initiative and the voluntary disclosure process. Taxpayers who seek to take advantage of the Initiative should consult tax advisors in regard to its requirements and implications.

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To ensure compliance with requirements imposed by the IRS, we inform you that, unless explicitly provided otherwise, any U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

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