Tax Compliance – Business Pass-Thru Returns
For both domestic businesses and multi-national companies, compliance with an increasing number of tax rules, more rigorous and coordinated enforcement by tax authorities, and ongoing staffing constraints continue to be a challenge. As businesses expand operations into new markets the complexity of managing tax risks and complying with reporting requirements multiplies. aBIZinaBOX offers efficient, cost-effective tax compliance services, including co-sourcing and outsourcing options.
Let’s knock off some simple questions while we are at it:
Who, what, where do I find the right contact with the IRS? Is there a Directory?
My tax return preparer screwed me where do I complain?
How much can I contribute to my SEP plan?
How do I report receiving more than $10,000 in cash in a business transaction?
A suite of integrated tax technologies can help companies achieve their goal of high quality, lower-cost compliance. In addition, some technologies have the potential to give businesses enhanced visibility into more global information that may be useful to them in strategic decision making.
When we focus on the preparation of pass-thru entity tax, return here are some of the issues we consider.
Tier 1 Issues
- IRS Forms which could be required
- Elections which the partnership or LLC might have to make
- Calculations that might need to be maintained in the partnership tax return work papers
- White paper statements to support computations that might need to be included on the tax return
- Alternative methods of performing an allocation or a calculation.
An example of the what this means in practice utilizing partnership allocations. The allocation of items of income, gain, deduction, loss, expenditure, non-deductible items, and credits to partners is subject to significant flexibility. Rather than go through all of the technical rules, let’s just focus on choices.
Tier 2 Issues
- Each partner has a capital account that is maintained on one of the several possible bases – GAAP and tax basis for accounting, and the IRC Sec. 704(b) fair market value capital accounts that control for tax purposes. Hence, each partner has a sharing percentage in
- Profits, Losses or Capital each sharing percentage can be used to allocate a partnership item.
- Allocations can be done with relative or absolute percentages where an item is subject to special allocation.
- Allocations can be based upon absolute or relative amounts of an item.
- Where the pre-contribution difference between value and basis of property exists, allocations under IRC Sec. 704(c) can be made to respect such differences, or in the case of depreciable property, curative or remedial allocations can be used to reduce the difference.
- There is a prohibition on retroactive allocations under IRC Sec. 706(d) which prevents newly admitted partners from receiving an allocation of losses incurred prior to their admission to the partnership.
- Private equity and hedge fund investments very often make use of a preferred return with shifts in the allocation percentages after certain return milestones are reached. This type of structure is referred to as a waterfall and the calculation of the points where the waterfall “flips” represents a complexity that neither SMB accounting software nor tax return preparation software handles well. The default is brains and Excel to do the calculations. In such cases, the procedure by which the sharing amounts reach K-1s gets complicated.
- Additional layers of complication are created by allocation and apportionment of income to various states, the presence of foreign investors, foreign source income, and numerous other issues.
High Complexity – Risk Compliance
High Complexity – Risk Compliance tax returns comprise those tax compliance engagements where the risks of tax evasion are present, or the complexity of a taxpayer’s business is significant.
The Internal Revenue Service has identified criteria for high-risk taxpayers. The Department of Treasury and the IRS have a joint strategy that is designed to guide efforts to improve compliance through a set of basic principles:
- Unintentional taxpayer errors and intentional taxpayer evasion addressed;
- Sources of non-compliance and the need for enforcement targeted with specificity
- Enforcement activities combined with a commitment to taxpayer service; and
- Policies and proposals for change sensitive to taxpayer rights and maintain the necessary balance between enforcement activities and imposing taxpayer burden.
The IRS has identified techniques that they use in identifying situations where the risk of tax evasion may occur. Their techniques include:
- Analytical Tests — such as analysis of balance sheet items to identify large, unusual, or questionable accounts. Analytical tests use comparisons and relationships to isolate accounts and transactions that should be further examined or determine that further inquiry is not needed.
- Documentation — such as examining the taxpayer’s books and records to determine the content and accuracy of items claimed on the tax return.
- Inquiry — such as interviewing the taxpayer or third parties. Information from independent third parties can confirm or verify the accuracy of information presented by the taxpayer.
- Inspection — such as physically examining the taxpayer’s assets, e.g., inventory or securities.
- Observation — such as conducting a tour of the taxpayer’s business to observe the taxpayer’s daily business operations.
- Testing — such as tracing transactions to determine if they are correctly recorded and summarized in the taxpayer’s books and records.
For both domestic businesses and multi-national companies, compliance with an increasing number of tax rules, more rigorous and coordinated enforcement by tax authorities, and ongoing staffing constraints continue to be a challenge. As businesses expand operations into new markets the complexity of managing tax risks and complying with reporting requirements multiplies. aBIZinaBOX offers efficient, cost-effective tax compliance services, including co-sourcing and outsourcing options. A suite of integrated tax technologies can help companies achieve their goal of high quality, lower-cost compliance. In addition, some technologies have the potential to give businesses enhanced visibility into more global information that may be useful to them in strategic decision-making.