Measure 97 Goes Down in Flames – The Aftermath

BonfireThe proposed $3 billion per year tax-raising bill, Oregon Measure 97, was defeated yesterday by a 59% to 41% margin. The fight was long and bloody. Media reports that opponents and proponents together spent more than $42 million in their campaigns surrounding the tax bill.

So, What Now?

The defeat of Measure 97 eliminates the proposed 2.5% gross receipts alternative corporate tax applicable to C Corporations with annual Oregon gross receipts over $25 million. Oregon C Corporations, however, are still faced with a minimum tax based on Oregon gross receipts. The minimum tax applicable to Oregon’s C Corporations is based on gross revenues as follows:

Oregon Sales Minimum Tax
< $500,000 $150
$500,000 to $1 million $500
$1 million to $2 million $1,000
$2 million to $3 million $1,500
$3 million to $5 million $2,000
$5 million to $7 million $4,000
$7 million to $10 million $7,500
$10 million to $25 million $15,000
$25 million to $50 million $30,000
$50 million to $75 million $50,000
$75 million to $100 million $75,000
$100 million or more $100,000

S corporations are exempt from the alternative graduated tax system.  Instead, they are subject to a fixed amount “minimum tax,” which is currently $150.

As reported in my August 2016 blog post, a corporation with Oregon gross sales of $150 million, but which, after allowable deductions, has a net operating loss of $25,000, would be subject to a minimum tax of $100,000. Corporations operating in Oregon, which traditionally have small profit margins (i.e., high gross sales, but low net income), remain subject to the pre-Measure 97 minimum tax. Three possible solutions for these businesses exist:

  1. Make an S corporation election (if eligible);
  2. Change the entity to a LLC taxed as a partnership (if the tax cost of conversion is palatable); or
  3. Move all business operations and sales outside of Oregon to a more tax-friendly jurisdiction.

Inherently Flawed From the Start

With the defeat of Measure 97, lawmakers report that an Oregon budget deficit is inevitable. Spending cuts and/or additional funding resources will be required. To meet and/or eliminate these budgetary problems, we can only hope voters will not be presented with such a flawed funding mechanism, such as Measure 97, in the future. Measure 97 flaws included:

  1. It proposed a corporate alternative tax based on Oregon gross receipts—a tax that has no relationship to profits.
  2. It proposed a corporate alternative tax applicable only to C Corporations. S Corporations, entities taxed as partnerships and Oregon benefit companies escaped the proposed tax altogether.
  3. Oregon benefit companies avoided the proposed tax, whereas non-Oregon benefit companies were to be subject to it—the result of which was clearly in conflict with the Interstate Commerce Clause.

An Oregon Retail Sales Tax on the Horizon?

Where lawmakers will go from here to deal with Oregon budgetary concerns may be a bit of a mystery, with the fallout of yesterday’s election still being carefully analyzed. Whether lawmakers will adopt the old adage, “if at first you don’t succeed, try, try again,” and reintroduce a similar tax measure in the future, is unlikely. Given the immense amount of money spent by proponents and opponents alike on their Measure 97 campaigns, one would certainly hope the reintroduction of a similar tax measure will not occur. Maybe a bipartisan effort to adopt a state-wide retail sales tax is an alternative. Oregon is among the five states, along with Alaska, Delaware, Montana and New Hampshire, that currently do not have a state-wide retail sales tax. A reduced personal income tax, combined with a state-wide sales tax, could be a viable cure for Oregon’s continuing budgetary problems.

Sales taxes in the 45 U.S. states range from a low of approximately 1.75% to a high of approximately 9.5%. The significant challenge facing Oregon lawmakers is that Oregon voters will not likely adopt a sales tax, given the significant (i.e., 9.9%) Oregon personal income tax. Oregon voters may agree, however, to a reduced personal income tax (e.g., 5% to 7%) and a state-wide retail sales tax (e.g., 3% to 4%). It would be interesting to know what economic forecast would result from such a tax regime. Also, it is clear, based upon history, Oregon voters would not agree to such a tax regime unless there were clear curbs put in place so that the income tax and/or the state-wide sales tax could not increase in future years, whereby we could ultimately end up with the current 9.9% personal income tax on top of a state-wide sales tax. The obstacles are clear and significant. Whatever approach Oregon lawmakers adopt, voters have spoken loudly and clearly—any tax changes need to be fair, equitable and reasonable. For now, the threat of a robust corporate minimum tax is history.

Next Week – NYU’s 75th Institute on Federal Taxation in San Diego

As a reminder, you are invited to join me at the NYU 75th Institute on Federal Taxation (IFT) taking place on November 13-18, 2016 at Hotel del Coronado in San Diego, California.  The IFT is one of the leading tax conferences in the country, geared specifically for CPAs and attorneys who regularly are involved in federal tax matters.  I hope you can attend.

I will be speaking next Thursday, November 17 and will focus on entity classification under the Check-the-Box regulations.  I plan to provide an in-depth view of the regulations, including planning opportunities, traps that exist for the unwary and practical tax practitioner guidance.

View the complete agenda and register at the San Diego 75th IFT website.

The Saga Ends With Ex-Tax Court Judge Pleading Guilty to Cheating on Her Taxes

income tax formAs previously reported, former U.S. Tax Court judge Diane L. Kroupa and her now estranged husband, Robert E. Fackler, were indicted on charges of conspiracy to defraud the United States, tax evasion, making and subscribing a false tax return, and obstruction of an Internal Revenue Service audit. On September 23, 2016, Mr. Fackler pleaded guilty to attempting to evade more than $400,000 in federal taxes. He also signed a plea agreement wherein he sets out in some detail a long-term scheme, which he proclaims was masterminded by Ms. Kroupa to evade taxes.

Fast-forward four weeks following Mr. Fackler’s plea. After what appears to having been thrown under the bus, on October 21, 2016, Ms. Kroupa pleaded guilty to conspiring with the estranged Mr. Fackler, to fraudulently omitting nearly $1 million of income from their federal tax returns. The activity giving rise to the indictment and subsequent plea appears to have transpired for almost a decade – while Ms. Kroupa was a U.S. Tax Court judge.

Shea Jones, Special Agent in charge of the St. Paul, Minnesota field office said following Judge Kroupa’s guilty plea:

“Those charged with upholding the laws are not above the law.”

The fraudulent acts committed by Ms. Kroupa and Mr. Fackler, per the indictment, include:

  • Deducting personal expenses as business expenses (e.g., pilates class tuition; music lessons, vacations, home renovation costs, vacation rental fees, home utilities and foreign language tutoring);
  • Understating income by almost $1 million;
  • Omitting the sale of real property; and
  • Falsely claiming insolvency to avoid taxation on cancellation of indebtedness.

Stressful job!It is surely a regrettable day for our nation’s tax system. Prior to the indictment, Ms. Kroupa appears to have had an honorable and untarnished career as a tax lawyer. She served as a judge on the Minnesota Tax Court, an attorney advisor for the Internal Revenue Service and practiced tax law in a Minneapolis law firm. Thereafter, Ms. Kroupa was appointed to the U.S. Tax Court in 2003 (retiring in 2014).

Sentencing hearings have not been set yet. Hopefully, those hearings will put an end to this sad saga.

Be Aware – The Venue for IRS Appeals Conferences Has Changed

Changes Road SignEffective October 1, 2016, the Internal Revenue Service (“IRS”) changed its approach to conducting appeals conferences. The changes were likely adopted by the government under the guise of efficiency and cost savings. With that said, the changes probably will result in increased negative taxpayer perception of the IRS administrative process, and a significant reduction in prompt and fair resolution of matters at the conference level.

In a nutshell, the major change adopted by the IRS, subject to limited exceptions, is that the government will conduct all appeals conferences by telephone (or a virtual conference, if available). IRM § 8.6.1.4.1. An in-person conference generally will only be allowed if the appeals conferee (i.e., the “Appeals Technical Employee” or “ATE”) and the Appeals Team Manager (“ATM”) concur that it is appropriate and reasonable. As such, they must agree:

  • Either the taxpayer or an ATE requests an in‑person conference;
  • There exist substantial books and records to review that cannot easily be referenced by page numbers or indices;
  • The ATE requires in‑person oral testimony of the taxpayer in order to judge his or her credibility;
  • There will be numerous conference participants;
  • An alternative procedure will be used in the appeal (e.g., mediation or the rapid appeals process); or
  • Another section of the Internal Revenue Manual expressly requires an in‑person conference.

Hand Gesture - Palm UpOn one hand, this departure from the government’s historic practice of conducting in‑person appeals conferences will: (i) presumably reduce the government’s need for office and conference space, thereby decreasing the cost of administration; (ii) allow ATE’s to telecommute and/or handle cases throughout the country; and (iii) possibly reduce the number of ATE’s required to carry out the IRS appeals process.

Hand Gesture - Palm UpOn the other hand, it will: (i) likely reduce the ability of taxpayers and their representatives to adequately and clearly communicate with the government; (ii) likely reduce prompt and fair resolution of appeals; (iii) hinder the ability of the ATE to measure the risk of litigation given he or she will not be able to properly judge the appearance and credibility of the taxpayer; and (iv) likely increase the perception of unfairness and bias.

For decades, I have handled IRS appeals, and with limited exception, the conferences have been conducted in‑person. I found the forum to be fair and the process to be effective for resolving contested cases. Not allowing the taxpayer representative to meet with the ATE in person will undoubtedly be a detriment to the fair administration of our federal tax system. Rather than moving the ball forward, this change to the IRS appeals process is a significant setback for taxpayers and tax practitioners.

Tax advisors need to be aware of this change in the IRS appeals process and must be prepared to expressly request an in‑person conference in the appeal request. In addition, practitioners should explain in reasonable detail the reasons why an in‑person conference is necessary for both the government and the taxpayer to reasonably and adequately present their cases, and to provide the greatest opportunity for prompt and efficient resolution.

The degree to which this change in procedure hurts the administration of our federal tax system likely will not be known for some time to come. Regardless of this change, however, taxpayers and their advisors still should, unless the case dictates otherwise, request an in‑person conference. If in‑person conferences are not routinely granted going-forward, I suspect petitions to the U.S. Tax Court will be on the rise.

Former Tax Court Judge Kroupa Is Back in the News

ChalkboardAs reported in my April 2016 blog post, former U.S. Tax Court judge Diane Kroupa and her husband, Robert E. Fackler, were indicted on charges of conspiracy to defraud the United States, tax evasion, making and subscribing a false tax return, and obstruction of an Internal Revenue Service audit. The indictment resulted from an investigation conducted by the Criminal Investigation Division of the Internal Revenue Service and the United States Postal Inspection Service.

At the time of indictment, U.S. Attorney Andrew M. Luger made the following statement:

“The allegations in this indictment are deeply disturbing. The tax laws of this country apply to everyone and those of us appointed to federal positions must hold ourselves to an even higher standard.”

It does not appear things are getting better for former judge Kroupa. On September 23, 2016, Ms. Kroupa’s husband pleaded guilty to attempting to evade more than $400,000 in federal taxes. He also signed a plea agreement wherein he basically maintains his wife made him file false tax returns. In addition, he appears to lay out in some detail a long-term (i.e., eight years) scheme that was allegedly masterminded by Ms. Kroupa to evade taxes.

I can only surmise the indictment did not facilitate harmony among Mr. Fackler and Ms. Kroupa. Mr. Fackler’s plea agreement and his allegations against Ms. Kroupa certainly did not ease the likely tension existing between the two of them. One can only imagine what would be heard if you were a “fly on the wall” during mealtime at the Kroupa/Fackler home. In fact, about two months following the indictment and almost four months prior to Mr. Fackler’s plea agreement, Ms. Kroupa commenced formal divorce proceedings against Mr. Fackler.

barbed wired roseUnless resolved, the tax case, which is currently scheduled for trial on December 5, 2016, in the U.S. District Court for the District of Minnesota, could turn into a “War of the Roses.” It will be interesting to see whether Ms. Kroupa proceeds to trial and how she will respond to her estranged husband’s plea agreement and allegations. This new development certainly creates an obstacle in the defense of Ms. Kroupa.

Stay tuned!

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