GT Alert

New Legislation Terminates IRS Interest Suspension for Reportable and Listed Transactions

October 2004
By Barbara T. Kaplan, Esq. and Jessica M. Westbrook, Esq., Greenberg Traurig, New York Office

  View or download the PDF version of this Alert.

Congress recently passed the American Jobs Creation Act of 2004 (the “Act”) which includes a provision that terminates interest suspension for reportable and listed transactions. This provision became effective October 22, 2004 when President Bush signed the bill. The new rules affect listed and reportable transactions that were entered into during, after and prior to the 2004 taxable year. For transactions entered into prior to 2004, interest on unpaid taxes will begin accruing after October 3, 2004.

"Congress recently passed the American Jobs Creation Act of 2004 (the “Act”) which includes a provision that terminates interest suspension for reportable and listed transactions. This provision became effective October 22, 2004 when President Bush signed the bill."

Prior Law

In general, interest accrues during periods for which taxes are unpaid without regard to whether the taxpayer is aware that a tax is due. For example, when the IRS audits a tax return and determines there is an additional tax due, interest runs from the due date of the tax return under audit, not the date the additional tax is determined. However, for taxable years ending after July 22, 1998, the accrual of interest was suspended after 18 months from the filing of the tax return if the IRS had not sent the taxpayer a notice specifically stating the taxpayer’s liability and the basis for the liability. Once the 18 month period elapsed without receiving the notice of liability, interest accrual stopped. Interest resumed on the 21st day after the taxpayer was sent notice of the liability and the basis for the liability. The provision applied only to individuals and did not apply in certain situations, such as in the case of fraud or with respect to criminal penalties.

New Law

Under the new legislation, listed and reportable transactions are added to the list of items to which the suspension of interest rules do not apply. The new rule provides that any interest imposed with respect to reportable or listed transactions that are entered into this year or hereafter will continually accrue from the due date of the tax return with no suspension period. For transactions entered into prior to 2004, interest will be suspended starting 18 months after the tax return is filed in accordance with the prior law, but interest will begin running again as of October 4, 2004 without any IRS contact or notice to the taxpayer. The prior law continues to apply the interest suspension period for individuals with interest accruing on items unrelated to reportable and listed transactions in most cases.

Transactions Affected by the New Legislation

As stated above, the elimination of the interest suspension applies to reportable and listed transactions. There are six types of reportable transactions, one of which is listed transactions. The other five types are: (1) confidential transactions, (2) transactions with contractual protection, (3) loss transactions, (4) transactions with significant book-tax difference and (5) transactions involving a brief asset holding period. In summary form, these transactions are as follows:

Listed Transactions: The first category of reportable transactions is a transaction that is the same as or substantially similar to a “listed transaction,” i.e., a transaction that the IRS has determined to be a tax avoidance transaction as identified by notices, regulations and other forms of published guidance. The term “substantially similar” is defined as any transaction that is expected to obtain the same or similar types of tax consequences and that is either factually similar or based on the same or similar tax strategy.

Confidential Transactions: A transaction is reportable if it is offered to a taxpayer under conditions of confidentiality and for which the taxpayer has paid an advisor a minimum fee. A transaction is considered confidential if the advisor who is paid a minimum fee limits the taxpayer’s disclosure of the tax treatment or tax structure of the transaction and the limitation on disclosure protects the confidentiality of that tax advisor’s tax strategies. The conditions of confidentiality do not have to be legally binding. A minimum fee for these purposes is generally $10,000 for listed transactions and $50,000 for all other reportable transactions.

Transactions with Contractual Protection: A transaction has contractual protection if a taxpayer or a related party has the right to a full or partial refund of fees if all or part of the intended tax consequences from the transaction are not sustained.

Loss Transactions: A loss transaction is any transaction that results in, or that is reasonably expected to result in, a taxpayer claiming a loss under Section 165 that meets a certain threshold. The relevant threshold for purposes of the interest suspension rule is $50,000.

Transactions with a Significant Book-Tax Difference: A transaction with a significant book-tax difference is a transaction whose treatment for federal income tax purposes of any item or items from the transaction differs by more than $10 million on a gross basis from the treatment of the item or items for book purposes in any tax year. When making this determination, offsetting items are not netted for either tax or book purposes. These transactions do not apply to individuals and are not relevant to the interest suspension rules.

Transactions Involving a Brief Asset Holding Period: A transaction involving a brief asset holding period is a transaction where an assets is held by a taxpayer for 45 days or less and the holding of the asset results in a tax credit exceeding $250,000 (including a foreign tax credit).

Options for Limiting the Accrual of Interest

Taxpayers who are under audit with respect to a listed or reportable transaction, or engaged in such a transaction for which the statute of limitations is still open, may want to consider making payments to the IRS now in order to limit the interest cost. Because a payment may be made in a manner that will not affect the merits and chances for success with respect to any actual or contemplated tax dispute with the IRS, your decision as to whether to make any payment will be primarily an economic one, i.e., a comparison of the rate of return you would earn on the amount of payment compared to the rate, which is subject to periodic change, on tax deficiencies. Presently, that interest rate is 5%. Taxpayers can remit funds to the IRS via wire transfer or check payable to the U.S. Treasury.

IRS procedures permit you to remit funds to stop the running of interest even though the IRS has not sent you a bill yet. There are a number of considerations you should keep in mind if you elect to make partial or full payment of the amount you may ultimately owe. The most basic consideration is whether you want to make an actual payment of tax (a “payment”) or whether you want to make what is called a “deposit in the nature of a cash bond” (a “bond”). Both of these procedures will stop the running of interest on the amount of funds that you remit, but there are different ramifications of each method, as discussed below.

Payments

When a payment is made, the taxpayer is not mailed a notice of deficiency, and the taxpayer will not have the right to petition the Tax Court for a redetermination of the deficiency. Payments are posted against the taxpayer’s account upon receipt, or as soon as possible thereafter, and the taxpayer must file a formal claim for refund to get the payment back. Unlike remittances that are designated as bonds, taxpayers will be paid interest on any overpayment of tax.

Deposits in the Nature of a Cash Bond

The taxpayer must designate in writing that a remittance is to be treated as a deposit in the nature of a cash bond. If a taxpayer makes this kind of remittance, interest stops running on the amount deposited on the date the IRS receives the bond. A bond may be returned to a taxpayer upon request. Unlike with a payment, the IRS will issue a statutory notice of deficiency to the taxpayer even if the amount deposited as a bond is equal to the asserted liability, allowing the taxpayer to petition the Tax Court for a redetermination.

Under prior law, the bond itself did not earn interest on any overpayment. Thus, if the amount of the deposit exceeded the amount ultimately determined to be due, the taxpayer was not credited with interest on the excess. However, the Act also adds new Section 6603 to the Internal Revenue Code which provides that interest will be paid on an overpayment where the taxpayer’s payment is in the form of a bond to the extent (and only to the extent) the bond is attributable to a “disputable tax.” A disputable tax means the amount of tax specified at the time of the deposit as the taxpayer’s reasonable estimate of the maximum amount of tax attributable to the disputed items. The interest rate will be the Federal short-term rate, compounded daily. This new provision applies to bonds deposited after October 22, 2004. However, taxpayers who deposited bonds before the effective date of Section 6603 can still take advantage of this section by identifying to the IRS the date of the earlier deposit and directing that the deposit be made pursuant to Section 6603.

This section provides a summary description of the new rules under Section 6603 and does not address all of the technical requirements that must be met for this section to apply. Therefore, taxpayers would be well-advised to discuss the requirements of this section with their tax advisors before deciding whether to make a payment or a deposit in the nature of a cash bond.

Conclusion

This discussion provides a simplified description of the prepayment process and does not address all of the nuances that taxpayers would need to consider in deciding whether to remit funds to stop the accrual of interest, whether to remit in the form of a payment or a bond and the amount of funds to remit. Taxpayers will also need to consider with their tax advisors whether they engaged in a reportable or listed transaction for which interest may be running. The rules relating to these issues can be technical and complex. Greenberg Traurig is available to discuss these issues with taxpayers further.

© 2004 Greenberg Traurig

Additional Information:

For more information, please review our Tax Practice description, or feel free to contact one of our attorneys.

• Tax Practice Area
• Tax Attorneys