New IRS Audit Campaigns Form 1120-F Individual Foreign Tax Credit Form 1042-S

Published: Feb 6, 2017
Topics: Tax
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On January 31, the IRS Large Business and International (“LB&I”) division announced its “initial” set of 13 campaigns under its new audit approach. As noted in its release, LB&I is moving toward issue-based examinations. LB&I’s goal is to improve return selection, identify issues representing a risk of non-compliance, and make the greatest use of limited resources. However, the IRS has indicated that the campaigns are not intended to completely replace the existing audit process.

The following are the 13 campaigns selected in the initial rollout, as described by the IRS.

Internal Revenue Code (“IRC”) Sec. 48C Energy Credit Campaign. This campaign ensures that only those taxpayers whose advanced energy projects were approved by the Department of Energy, and who have been allocated a credit by the IRS, are claiming the credit.
OVDP Declines-Withdrawals Campaign. The Offshore Voluntary Disclosure Program (“OVDP”) allows U.S. taxpayers to voluntarily resolve past non-compliance related to unreported offshore income and failure to file foreign information returns. This campaign addresses OVDP applicants who applied for pre-clearance into the program but were either denied access to OVDP or withdrew from the program of their own accord.
Domestic Production Activities Deduction, Multi-Channel Video Program Distributors and TV Broadcasters. Multi-channel video programming distributors (“MVPDs”) and TV broadcasters often claim that “groups” of channels or programs are a qualified film eligible for the IRC Sec. 199 domestic production activities deduction. Taxpayers are asserting that they are the producers of a qualified film when distributing channels and subscriptions packages that often include third-party produced content. Additionally, MVPD taxpayers maintain that they provide online access to computer software for the customers’ direct use (incident to taxpayers’ transmission activities, including customers’ use of the set-top boxes).
Micro-Captive Insurance Campaign. This campaign addresses transactions described as a Transaction of Interest in IRS Notice 2016-66, in which a taxpayer attempts to reduce aggregate taxable income using contracts treated as insurance contracts and a related company that the parties treat as a captive insurance company. (See our November 17, 2016 Alert, Section 831(b) “Micro-Captive” Transactions Now a Transaction of Interest.) Each entity that the parties treat as an insured entity under the contracts claims deductions for insurance premiums. The manner in which the contracts are interpreted, administered and applied is, according to the IRS, inconsistent with arm’s length transactions and sound business practices.
Related Party Transactions Campaign. This campaign focuses on transactions between commonly controlled entities that provide taxpayers a means to transfer funds from the corporation to related pass through entities or shareholders.
Deferred Variable Annuity Reserves and Life Insurance Reserves Industry Issue Resolution (“IIR”) Campaign. Issues addressed in this campaign include amounts to be taken into account in determining tax reserves for both deferred variable annuities with guaranteed minimum benefits, and life insurance contracts.
Basket Transactions Campaign. This campaign addresses structured financial transactions described in IRS Notices 2016-73 and 2016-74, in which a taxpayer attempts to defer and treat ordinary income and short-term capital gain as long-term capital gain. (See our November 3, 2015 Alert, IRS Clarifies Disclosure Requirement for Basket Option Contracts and Basket Contracts.) The taxpayer treats the option or other derivative as open until a barrier event takes place, and, therefore, does not recognize or report current period gains. The gains are deferred until the contract terminates, at which time the overall net gain is reported as a long term capital gain.
Land Developers-Completed Contract Method (“CCM”) Campaign. Large land developers that construct in residential communities may be improperly using CCM accounting. A developer whose average annual gross receipts exceed $10 million may only use the CCM under a home construction contract. According to the IRS, in some cases, developers are improperly deferring all gain until the entire development is completed.
TEFRA Linkage Plan Strategy Campaign. As partnerships have become larger and more complex, LB&I has regularly revised processes to assess tax on the “terminal investors.” Recent legal advice provides an opportunity to make significant changes as to how the IRS approaches this process.
S Corporation Losses Claimed in Excess of Basis Campaign. S corporation shareholders report income, losses and other items passed through from their corporations. The law limits losses and deductions to their basis in the corporation. The IRS has found that shareholders claim losses and deductions to which they are not entitled because they do not have sufficient stock or debt basis to absorb these items.
Repatriation Campaign. The IRS is aware of different repatriation structures being used for purposes of tax-free repatriation of funds into the U.S. in the mid-market population. Further, many taxpayers do not properly report repatriations as taxable events on their filed tax returns.
Form 1120-F Non-Filer Campaign. The IRS has data suggesting that many foreign companies doing business in the U.S. that are required to file Form 1120-F are not doing so. LB&I plans to identify these foreign companies and encourage them to file their required returns.
Inbound Distributor Campaign. U.S. distributors of goods sourced from foreign-related parties have incurred losses or small profits on U.S. returns, which are not commensurate with the functions performed and risks assumed. In many cases, the U.S. taxpayer would be entitled to higher returns in arms-length transactions. This campaign addresses IRC Sec. 482 (“Allocation of Income and Deductions Among Taxpayers”) issues.