Discussion:Preparer Penalties, S Corp Salaries & Other Things to Worry About
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Discussion Forum Index --> Tax Questions --> Preparer Penalties, S Corp Salaries & Other Things to Worry About
| 14 November 2007 | |
| Well, if you can't guess by the title of the thread, I sat all day in a tax class. Two issues caught most of my attention. We've all heard it. The IRS is gunning for S corps which do not pay reasonable wage. How much is reasonable? Well, JR has his opinion, Tin has his, Kevin has his, yada, yada yada. Now, when we prepare the return, does the position meet the "more likely than not" standard for the new Circ 230 rules? Who knows? Is $50k reasonable for a service based business generating $60k of profits? Well, what about a business generating $80k? $100k? If a business pays the owner $160k and generates profits of $1,000,000, is that a reasonable wage? There are no answers here, only opinions.
Well, what about that roof your client put on his rental property or the major overhaul your client did to his big rig? Should it be capitalized? If not, is a disclosure necessary to avoid preparer penalties? Another client came in with a stack of Goodwill receipts. Each showed a value of $300 - $490. Collectively they totalled $3500. Description of what was given on each was rather vague. "4 boxes clothes," "toys," "books," "used ski equipment." Is a disclosure required indicating that the value of these items might be lower in the IRS' eyes than in your client's eyes to avoid being assessed preparer penalties ? Well, next month I'll be off to hear Walt Haig scare the pants off of me with stories of CPA's getting sued or thrown in jail for financial statements they issued. It's just that time of year. Really takes the fun out of the holiday season. | |
TheTinCook (talk|edits) said: | 14 November 2007 |
| Reasonable compensation is such a vauge target to hit. I haven't seen the five factor test from Elliotts, Inc. v. Commissioner, 716 F.2d 1241, 1245 (9th Cir. 1983), revg. T.C. Memo. 1980-282. mentioned on the boards, so here they are:
(1) The employee’s role in the company (2) comparison of the compensation with that of similar companies (3) the character and condition of the company (4) potential conflicts of interest (5) internal consistency in compensation. And two recent cases in which it was applied:VITAMIN VILLAGE, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent T.C. Memo. 2007-272 and its sister case UNIVERSAL MARKETING, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent T.C. Memo 2007-305(The interesting thing about these cases is that they involved the IRS claiming that the salary was too high (petitioners were c-corps) which is the opposite of what we usually see here. Also Vitamin Vilage involved self-rental of a home office on a house boat, which pretty close to a fast elephant trifecta.)
Not sure what I'd do if I thought with any certainty that the client was lying beyond cancelling the engagment. Will the IRS accept a Form 8275 or 8275-R that says "My client might be lying."? | |
| 14 November 2007 | |
| Some of you here may remember that book "The Games People Play" by Eric Berne MD. "Transactional Analysis", real big in the 70's. Anyway, there was a psychological game discovered where the "disturbed person" would set two other people at each others' throat, it was called "Let's You and Him Fight". As I see it, the preparer and the client are becoming the fighters in the Service's game. We're being made into chumps. Now, it's our job to be the enforcer, confessor and redeemer. We are at the same time subject to the executioner. And to put the preparer and client even further at odds, we will need to raise our rates (if we can) to compensate us for the extra time to do all this analysis: and there will start another dust-up with the client. On top of it all, the CPA's have to worry about FIN 48 in 2009... some CPA's might just say the heck with it and walk, and there's already a shortage of CPA's. | |
Doug Phillips (talk|edits) said: | 14 November 2007 |
| If you put a disclosure in the return, to prevent a preparer penalty, isn't this a conflict of interest, which must be further disclosed to the client....in writing? | |
| 14 November 2007 | |
| Just educated guessing, but the simplest approach for IRS is for agents to FICA-tax all, or maybe 95% of the distributions and remind t/p of what it said in the appeal rights pub they got. In the case of one or two person service corp, w/o significant assets or other workers, litigation to date supports doing that.
Just as in C Corp salary cases, it's impossible to enforce sufficient uniformity in allowing agents to work a deal over what is "reasonable" under such vague criteria. The 6694 preparer penalty does not seem a fit, where you do not prepare the 941s. Any sanction under 230 is done by Washington, and it's possible the IRS culture at field level has not changed in that this is the nuclear option, reserved for extreme cases involving multiple clients. And the end of say just a suspension period, the agents may have to deal with that person on other audits. Thus, a one-shot sanction for something which is essentially technical and judgmental can make it seem personal. The investigatory problem for both 6694 and 230 is getting at the 2848'd t/p to see if the level of salary was discussed. The fact that the preparer/2848 rep defends in an audit a really low level of salary does mean that salary was set by the preparer. | |
| 14 November 2007 | |
| I'd like to know the answer to Doug's question. What's the procedure for the use of the 8275? Tell the client there needs to be a disclosure, and if the client refuses, the preparer then must withdraw? After all, it's the TPs return. | |
| November 14, 2007 | |
| Sorry, Tx, but disagree with you. We've been down this road before, and apparently, no one at the service is listening. The tax case law does NOT support any such idea of just taxing the income for SS purposes at all. And IRS is acting without authority to move in that direction. It is not granted either explicity by Congress and the legislation passed, nor implicity by the case law created by the courts. I am frankly rather appalled that IRS would just act without authority, forcing the professional community and our clients to be on the defensive on this issue when it's unnecessary and unwarranted.
And dare I mention the Service's unwillingness to follow case law in regard to repairs/capitalization? Or the Headliner denying S corp owners health insurance deductions when that opinion was never intended in the committee reports and legislation. I wonder what kind of world we're moving toward. No wonder there are still people working a cash economy out there and staying off the radar. . .sorry for diatribe, but this is really beginning to eat at me, and people are going to get hurt. Unfairly. | |
| 14 November 2007 | |
| "The tax case law does NOT support any such idea of just taxing the income for SS purposes at all."
I'm stumped as to what you mean by that. TC says distributions which are disguised comp is subject to employment taxes. The House is proposing slapping S/E tax on personal-service S-Corp net income, not that that affects the issue under current law. | |
| November 14, 2007 | |
| Yeah, I agree that if/when Congress changes the law we're in a whole new world. But just because the Tax Court says that disguised comp should be subject, has NOTHING to do the PRESUMPTION that all income IS disguised comp. That's the problem. And that flies in the face of the reasonable comp case law which specifies a number of factors used to determine just what IS reasonable comp. The corp form cannot just be disregarded, nor can comp that is paid to the owners that is in keeping with the services provided in that area. And that's the problem and what the Service is apparently doing, just presuming that these companies should be treated as a sole prop, and putting the taxpayer on the defensive immediately. It's a shortcut that isn't well thought out, nor proper, and again, without legal authority. That's my take, anyway. | |
| 14 November 2007 | |
| At 100% FICA potential, or 95%, some people are just going to walk away and get a regular job without the hassel. And that's unfortunate, becuase the S. Corps. are the type of small business that will hire in the local economy. I don't think "percentage" rules of thumb should be used at all. However, it's nice to have one in mind when your advising a new client with a new corp. I am going with 80-20 (fiddling with this will be a challange), with the intention to keep as much equipment etc. as is possible on the balance sheet to argue a return on capital (the 179 may be lowered anyway). Overall, I agree that there were abuses, but not to deserve this. It's becoming clear at this point that the S. is in the sniper's sites. Wouln't it be ironic that we were back to regular corporations again? At least they have the fringes, but you're stuck in the same way if you're a PSC, might as well take it all salary, and manage it closely. | |
| November 14, 2007 | |
| No, Crow, what's going to happen is that the small corps will die. They'll have no reason to exist unless you have partners. The SMLLC will be the only entity of choice. So much for freedom and capitalism in America. I do not say that tongue in cheek. And as noted previously, reasonable comp has NOTHING to do with percentages, or even, from what I've read, profitability doesn't either. Why should we penalize success? Again, if I can hire someone to do my job for 50-60k, then THAT IS the reasonable salary. The intangibles of having a solid, long-time client base, with higher fees due to that, the goodwill, etc....having nothing to do with personal services. They have to do with a going concern business. IRS is trying to suggest that only non-service providors, or non-professionals, are entitled to the intangibles. Hogwash. Not what the courts say. Please do not EVER use percentages. They are irrelevant, and I'm afraid that any concession at this point will be considered as just that. | |
| 14 November 2007 | |
| I agree that they are irrelevant. With a new client how do you really figure out the position? Is he a plumber? Or a plumber, bookkeeper, mechanic and manager? This is where I get confused. As you say "hire to do the job", you are taking the entire context of the position into account. Of course, that alone will get the salary up there. Don't get me wrong, I think these things need to get litigated, and my understanding is that the Tax Court test is unnecessarily difficult for CPA's, EA's: they test on tax too (and we all get rusty on the boilerplate stuff), and I think they should only test on procedure. See this article: "Practicing in Tax Court:...Simple Steps to Pass the Exam", page 22, CPA/NPA Mag. Aug. Sept. '07. The tax part would be a cinch to pass if you had just been through the EA process. | |
| 14 November 2007 | |
| "...has NOTHING to do the PRESUMPTION that all income IS disguised comp."
What presumption? If the statute don't say presumption, it don't exist. The only presumption in TC litigation is presumption of correctness to an S/N, but the IRS Manual for Field Atty's says the Judges don't like you relying primarily on that presumption, and inferentially you're in this dog's job for a big money career later. So, they're pure factual cases. The fact that a substantial comp proposals, C or S, can easily end up in Appeals is a reality of the administrative process. Which is why the House wants to fix it with a mechanical sort of thing. And when did Congress ever fail to fix things right? :-) | |
| November 14, 2007 | |
| LOL! Yeah, can hardly wait to see what they do. I'd love to see them join the system, that would be fair. Hmmm, or the IRS folk for that matter! I guess what I'm seeing is that the IRS IS operating under the presumption that all income generated by a service providor IS personal service income, and therefore subject to SS. Now you make it sound as tho' there WON'T be that presumption...so I'm wondering which it is. Is IRS coming after all the S's, LLC's and C's for that matter, reclassifying all income as salary for service providors, or is there room for an intelligent conversation about reasonable comp, goodwill, and the open areas that Congress has NOT yet defined? Folks have been ringing the bell that's it's the former...which is why I'm all tangled up in my undies here. | |
| 14 November 2007 | |
| TxSrv, I agree, that word "reasonable" is a ticket to court, it's subjective, and fact intensive. Which to me is all the more reason that auditors should come to the table in good faith, and not with 100%, 95%. Otherwise, I hope they are hiring appeals officers as fast as they are auditors. | |
Death&Taxes (talk|edits) said: | 15 November 2007 |
| The auditors using 100 or 95% are as bad as those people here with their 60-40 splits. One rule does not fit all. Simple as that. Many years ago some banks were reluctant to lend to S Corps for fear no equity would build up. I never heard anyone say 'it doesn't build up because IRS is making me take it out."
Myself, I think somewhere in Washington in IRS headquarters is this closet, and every year certain hot topics are brought out to scare the bejabbers out of us. Ever notice how many tax convictions are announced between March 1st and April 15th, or remember the big crackdown on donations of autos. Now it is S Corps. I don't think I ever saw an auto donation question. In fact my last charity audit was by the State of Delaware! So I wonder if this latest is simply a 'scared straight' tactic. | |
| 15 November 2007 | |
| D&T, don't up-holy the minimal effect upon IRS field of the IRS people at 1111 Constitution Ave., despite some great lunch places if you know where to go on gubment per-diem. | |
Bottom Line (talk|edits) said: | 16 November 2007 |
| Remember the Urban Legend that the IRS "required" that all S income had to be distributed? | |
