We wish you a happy and prosperous New Year! 2015 will sure to be another exciting year as we are litigating FBAR penalty cases, continuing our community tax education outreach, and meeting with prospective and current clients.
Please never hesitate to reach out to us. We are here to serve your tax and legal needs.
Steve Moskowitz, Esq.
Founding Partner of Moskowitz LLP
New Year’s Resolutions for Business Owners
Like anyone else, business owners can begin the New Year by vowing to lose weight and revisit their insurance coverages during 2015. However, you probably should make (and implement) a separate set of resolutions to help your company prosper this year.
Here are some suggestions you can consider:
- Turn over your paperwork. Finish your financial statements and related supporting materials from 2014. Make hard copies of online files and store them where they’ll be accessible for tax return preparation. Be sure you can locate your 2014 appointment book, in order to substantiate business meetings, and that you have recorded odometer readings of vehicles that were used for business in 2014.
Then start new files for your 2015 financials, travel, entertainment, and so on.
- Follow through on the forms. In January, you’ll need to send W-2 forms to employees, reporting their wages, as well as Form 1099 to contractors and other recipients to whom you paid over $600 last year. If you use a payroll service, follow up to make sure it has the needed information; if you use a software program to track outside payments, pick up blank 1099 forms at an office supply store for printing the documents you must send.
Our office can help if you run into obstacles sending these required forms on time.
- Execute a buy-sell agreement. If you don’t already have a formal buy-sell in place, work on getting it done in 2015. Without a buy-sell, your family may not get full value for your stake in the company in case of your death or disability. See our prior article here.
- Update your buy-sell. A buy-sell often will set a price for the buyout, or a method for arriving at an acceptable amount. If you already have a buy-sell in place, check on the stated price and revise it, if necessary. See our prior article here.
- Hold meetings. If you operate your business as a corporation, you may be required to hold directors’ and shareholders’ meetings at least annually. The beginning of the year can be an excellent time to hold such meetings, to set formal plans for 2015. At these meetings, you can update bylaws, cover buy-sell agreements, and generally take care of business. Make sure the meeting’s discussions are well-documented and a record is entered into your corporate minutes.
If relevant, hold your directors’ meeting first, so you’ll be prepared to answer questions at the shareholders’ meeting. In any event, you also might want to hold a meeting for employees, to tell them your plans for the year ahead and boost their enthusiasm.
- Review your website. Change all 2014 references to 2015. Remove any references to year-end holidays and replace with more timely materials. Go over all the content on your site, from personnel bios to company news, to be sure everything is up to date.
Bankruptcy & Good Faith
When an Appellate Court begins its decision with a literary quote, we know that it is going to be an interesting and probably divergent opinion. The infamous ‘exchange’ between F. Scott Fitzgerald and Ernest Hemingway – “The very rich are different from you and me. Yes, they have more money” – is the preface to a recent 9th Circuit that narrowly discusses the mental state required when “willfully attempting in any manner to evade or defeat a tax” and broadly centering on the issue of whether someone who continues to live a lavish lifestyle, despite delinquent tax liabilities can obtain a discharge in bankruptcy.
Introduction: The Hawkins v. FTB Story
William M. Hawkins, III, aka “Trip” Hawkins, graduated from Harvard and Stanford, spent some time as Director of Marketing at Apple, and then co-founded Electronic Arts, Inc. (EA), which became the largest supplier of computer entertainment software in the world. In 1996, Hawkins’ net worth was $100 million. By then he had been married, divorced, remarried, had two children, a private jet, two luxury homes, a large private staff, and some expensive private schooling for the kids.
In 1994, Hawkins began selling EA stock to invest in “3DO,” a wholly owned subsidiary that developed and marketed video games and game consoles. The capital gains on the sales of the EA stock amounted to more than $63 million. Hawkin’s accountants at KPMG advised him to shelter his gains in a Foreign Leveraged Investment Portfolio (FLIP) and an Offshore Portfolio Investment Strategy (OPIS). These tax shelters generated losses that totaled more than $60 million.
In 2001, Hawkins’ fortune began a downward spiral. The IRS challenged the validity of the KPMG tax shelters, commenced an audit of his tax returns from 1997-2000, and disallowed the FLIP and OPIS deductions. 3DO went bankrupt. The family court accepted Hawkins’ request to reduce child support payments to his first wife, but only in part. The IRS assessed taxes of $21 million. The Franchise Tax Board (FTB) assessed an additional $15.3 million in California taxes. Hawkins sold his primary residence and paid the entire amount to the IRS. The FTB seized an additional $6 million in other assets. Proof of claims were later filed by the IRS and the FTB for a total of more than $30 million.
Hawkins Files for Bankruptcy
When his taxes met the general eligibility requirements for obtaining a discharge for individual income taxes owing, Hawkins filed for personal bankruptcy under Chapter 11, and filed a declaratory action against the FTB and the IRS seeking a determination that his unpaid taxes would be discharged.
Defining the “willful attempt to evade taxes”
11 USC 523(a)(1)(C) provides that the filing of a fraudulent return or any other willful attempt to evade taxes may except those taxes from being subsequently discharged in bankruptcy proceedings. Among other facts, in excepting the tax debt, the “Bankruptcy Court relied on the Hawkins’ open acknowledgement of his tax debt and insolvency and the lengthy period of wasteful spending, the amount of wasteful spending.”
The 9th Circuit’s Hawkins court, considered “what mental state is required in order to find that a bankruptcy debtor’s federal tax liabilities should be excepted from discharge under 11 U.S.C. 523(a)(1)(c) because he ‘willfully attempted in any manner to evade or defeat such tax.'” Hawkins v. FTB, 769 F.3d 662 (N.D. Cal. 2014).
Statutorily, the provisions in the Internal Revenue Code, 26 U.S.C. 7201 creates two offenses: (a) the willful attempt to evade or defeat the assessment of a tax, and (b) the willful attempt to evade or defeat the payment of a tax. Sanone v. United States, 380 U.S. 343,354 (1965).
The willful attempt to evade or defeat the payment of a tax generally occurs after the existence of a tax due and owing has been established and almost always involves an affirmative act of concealment of money or assets from which the tax could be paid. United States v. Daniel, 956 F.2d 540, 542 (6th Cir. 1992)
Traditionally, these affirmative acts have involved concealing of assets by using bank accounts of family members and coworkers, (United States v. Shoppert, 362 F.3d 451, 460 (8th Cir.), making false statements to an I.R.S. agent of non-ownership of real estate or other assets, (Id. at 451), inferred from conduct such as keeping a double set of books, making false entries of alterations, or false invoices or documents, destruction of books or records, concealment of assets or covering up sources of income, handling of one’s affairs to avoid payment. Spies v. United States, 317 U.S. 492, 499(1943).
Ultimately, the Court held,
declaring a tax debt non-dischargeable under 11 U.S.C.523(a)(1)(C) on the basis that the debtor ‘willfully attempted in any manner to evade or defeat such tax” requires a showing of specific intent to evade. Therefore a mere showing of spending in excess of income is not sufficient to establish the required intent to evade tax; the government must establish that the debtor took the actions with the specific intent of evading taxes. Indeed, if simply living beyond ones means, or paying bills to other creditors prior to bankruptcy, were sufficient to establish a willful attempt to evade taxes, there would be few personal bankruptcies in which taxes would be dischargeable. … As to discharge of debts, bankruptcy law must apply equally to the rich and poor alike, fulfilling the Constitution’s requirement that Congress establish “uniform laws on the subject of bankruptcies throughout the United States. Hawkins v. Franchise Tax Bd. of California, 769 F.3d 662 (9th Cir. 2014)
As such, the 9th Circuit held that specific intent is required. The case was remanded back to the Bankruptcy Court to evaluate the matter under this holding.
Note that this interpretation is inconsistent with the conclusion of the 10th Circuit, which denied the discharge of tax obligations in a similar case, Vaughn v IRS, on which the Bankruptcy Court in Hawkins had relied. The Bankruptcy Court, the 10th Circuit maintains that the elements to satisfy the 11 USC 523(a)(1)(C) mental state requirement are that (1) the debtor had a duty under the law; (2) the debtor knew he had the duty; and (3) the debtor voluntarily and intentionally violated that duty. Given this split in authority, we will see if the U.S. Supreme Court agrees, because this is likely where the issue is headed.
Client Note: If you are considering pursuing a bankruptcy and have tax bills, please contact us to discuss your case.
Criminal Corner – 2014 Round Up
Take a look at our overview of what happened in criminal tax prosecutions (Northern District of California) last year and our predictions going forward. Click Here
IRS Agents Abroad
We attended the ABA Criminal and Civil Tax seminar in December. It is basically a seminar where government attorneys, IRS attorneys and directors, defense attorneys, and investigators get together to see what is coming down the line from the government’s perspective and interesting cases and issues of note.
We were advised by the IRS that they have now installed attachs (IRS agents) in China, Hong Kong, Europe, and South America. These agents are working on the ground as part of the Offshore Bank Account Initiative and Money Laundering Unit.
Individuals. Make a payment of your estimated tax for 2014 if you did not pay your income tax for the year through withholding (or did not pay enough in tax that way). Use Form 1040-ES. This is the final installment date for 2014 estimated tax. However, you don’t have to make this payment if you file your 2014 return and pay any tax due by February 2, 2015.
Employers. For Social Security, Medicare, withheld income tax, and non-payroll withholding, deposit the tax for payments in December 2014 if the monthly rule applies.
All businesses. Give annual information statements (Forms 1099) to recipients of certain payments you made during 2014. Payments that are covered include: (1) compensation for workers who are not considered employees; (2) dividends and other corporate distributions; (3) interest; (4) rents; (5) royalties; (6) profit-sharing distributions; (7) retirement plan distributions; (8) original issue discounts; (9) prizes and awards; (10) medical and health care payments; (11) debt cancellations (treated as payment to debtor); and (12) payments of Indian gaming profits to tribal members. There are different forms for different types of payments.
Employers. Give your employees their copies of Form W-2 for 2014.
For non-payroll taxes, file Form 945 to report income tax withheld for 2014 on all non-payroll items, such as backup withholding and withholding on pensions, annuities, and IRAs.
For Social Security, Medicare, and withheld income tax, file Form 941 for the fourth quarter of 2014. Deposit or pay any undeposited tax. If your tax liability is less than $2,500, you can pay it with the return. If you deposited the tax for the quarter in full and on time, you have until February 10 to file the return.
For federal unemployment tax, file Form 940 (or 940-EZ) for 2014. If your undeposited tax is $500 or less, you can either pay it with your return or deposit it. If it is more than $500, you must deposit it. However, if you already deposited the tax for the year in full and on time, you have until February 10 to file the return.
All businesses. Give annual information statements (Forms 1099) to recipients of certain payments you made during 2014. Payments that are covered include: (1) amounts paid in real estate transactions; (2) amounts paid in broker and barter exchange transactions; and (3) payments to attorneys.
Employers. For Social Security, Medicare, withheld income tax, and non-payroll withholding, deposit the tax for payments in January if the monthly rule applies.
Individuals. If you claimed exemption from income tax withholding last year on the Form W-4 you gave your employer, you must file a new Form W-4 to continue your exemption for another year.
Employers. Begin withholding income tax from the pay of any employee who claimed exemption from withholding in 2014, but did not give you a new Form W-4 to continue the exemption for 2015.