Don’t Fall Prey to the “Dirty Dozen”
By Marc J. Lane
Every year the Internal Revenue Service publishes its “Dirty Dozen,” twelve tax scams the public should avoid. Among the abusive transactions attracting the IRS’s attention this year are those involving charitable remainder annuity trusts, Maltese individual retirement arrangements, foreign captive insurance, and monetized installment sales. Their very complexity creates the aura of legitimacy, but the tax savings they promise simply aren’t achievable. The IRS is fully prepared to challenge their purported tax benefits and assert accuracy-related penalties ranging from 20% to 40%, or a civil fraud penalty of 75% of any underpayment of tax.
Here’s how these scams are structured:
- A taxpayer transfers appreciated property to a Charitable Remainder Annuit Trust (CRAT) and claims a step-up in basis to fair market value as if the assets had been sold to the CRAT. The CRAT sells the assets — but doesn’t recognize gain because it relies on the step-up — then uses the sales proceeds to purchase a single-premium immediate annuity.
- A U.S. citizen or resident make contributions to a foreign individual retirement arrangement in a foreign country, often Malta. The individual typically lacks a local connection, and local law either allows contributions of assets other than cash or doesn’t limit the amount of contributions by reference to income earned from employment or self-employment activities. By treating the foreign retirement arrangement as a pension fund under a tax treaty, the U.S. taxpayer claims an exemption from U.S. tax on the arrangement’s earnings and distributions.
- The U.S. owner of closely held business deducts “insurance premiums” in a purported insurance arrangement with a Puerto Rican or foreign corporation that has cell arrangements or segregated asset plans in which the taxpayer has a financial interest. Such arrangements typically cover implausible risks covered and thus lack a reasonable business purpose.
- A seller enters into a contract to sell his or her appreciated property to a buyer for cash and then sells the same property to an intermediary in return for an installment note. The intermediary then sells the property to the buyer and receives the cash purchase price. Through a series of related steps, the seller receives an amount equivalent to the sales price (less transaction costs) in the form of a nonrecourse unsecured loan.
The IRS remains committed to maintaining a robust tax enforcement presence to ensure taxpayers’ voluntary compliance. For our part, we’re all obliged to be wary of tax schemes that seem “too good to be true.” They usually are.
The Law Offices of Marc J. Lane, P. C. help its individual and business clients optimize their tax efficiency by employing conservative, yet state-of-the-art tax strategies. We invite you to reach out to Marc Lane, in confidence, to explore the possibilities.