United States: IRS Announce a Settlement Initiative for Taxpayers Who Invested in "Son of BOSS" Tax Shelter

May 5, 2004 - The Internal Revenue Service announced today those taxpayers who invested in an abusive tax shelter commonly known as "Son of Boss" will have until June 21 to accept an IRS settlement offer to resolve their tax issues and avoid litigation. The transactions to which the settlement initiative applies are described in Notice 2000-44, 2000-2 C.B. 255. ¹

Pursuant to Notice 2000-44, the Son of Boss transaction involves the contribution of a purchased option to a partnership and the assumption by the partnership of a separate written option which the taxpayer incurred. A taxpayer engaged in a Son of Boss transaction claims that the basis in the taxpayer’s partnership interest is increased by the cost of the purchased call option but is not reduced under Internal Revenue Code § 752 for the assumption of the obligation under the written call option.

IRS Announcement 2004-46 outlines the details of the settlement offer. Under the terms of the agreement, eligible taxpayers must concede 100 percent of the claimed tax losses, they must pay all applicable interest, and they must accept the imposition of a penalty unless they had previously disclosed their participation in the transaction. Participating taxpayers will be allowed to deduct as a loss their out of pocket transaction costs, typically promoter and professional fees.

Taxpayers not participating in the settlement will receive a statutory notice of deficiency (90 day letter) disallowing all losses and out of pocket costs and will be assessed maximum applicable penalties. To achieve uniformity and enhance overall compliance with the tax laws, taxpayers who choose not to participate in the settlement offers, but are issued a 90 day letter will not be afforded the traditional administrative Appeals process.

The settlement initiative establishes a three-tiered penalty structure.

• Taxpayers will pay no penalty if they voluntarily disclosed the Son of Boss transaction under Announcement 2002-2.

• For taxpayers who did not come forward under that Announcement, the mandatory penalty will be:

• 10 percent for those whose Son of Boss investment reflects the first and only abusive tax shelter investment.

• 20 percent for those who have participated in other abusive transactions listed by the IRS.

As a part of the closing procedures, taxpayers will be required to provide the IRS with a statement, under penalties of perjury, identifying their participation, if any, in other listed transactions.

Promoters and others who received fees in connection with the Son of Boss transaction and also invested in Son of Boss deals will not be eligible. Also ineligible will be taxpayers in cases in which the Service has informed the taxpayer (or the Tax Matters Partner of a TEFRA partnership) that the Service has designated, or is considering designating, the Son of Boss transaction for litigation in accordance with Chief Counsel procedures for designating cases for litigation.

Son of Boss investors must follow a three-step process to participate in the settlement initiative:

• Participation Election. A written election must be made no later than June 21, 2004, and submitted under penalties of perjury. A Notice of Election should be sent to: Internal Revenue Service, Attn: Announcement 2004-46, 1901 Butterfield Road, Suite 310, Downers Grove, Ill. 60515. There will be no extensions of this time and the Announcement spells out the five items of information that must be included in the Notice of Election.

• Additional Information - 60 Days. Taxpayers eligible to participate will be notified and given 60 days to provide additional information and documentation, again under penalties of perjury. The requested information and documentation will allow the Service to calculate the additional taxes, interest and any penalties due as a result of the taxpayer’s participation in the initiative. The Service may grant additional time for this process if good cause is shown.

• Closing Agreement and Payment - 30 Days. After receipt of the taxpayer’s requested information and documentation, the Service will prepare a closing agreement under § 7121 of the Code reflecting the terms of the settlement, which must be signed and submitted within 30 days. The Service may extend this period for good cause. The closing agreement will provide that: (a) providing inaccurate information about tax benefits claimed from other listed transactions, including other Son of Boss transactions, is misrepresentation of a material fact within the meaning of § 7121(b) of the Code, and (b) the taxpayer waives all defenses to the assessment and collection of the tax liabilities determined under this initiative, including the applicable penalty and interest.

The Service expects participants to make full payment of taxes, interest and any penalties at the time of execution of the closing agreement. Those who don’t make full payment then will be required to provide detailed and complete financial statements and conclude other financial arrangements acceptable to the Service prior to the execution of the closing agreement. Failure to conclude acceptable financial arrangements will render the investor ineligible to participate.

Those not participating will receive a Notice of Deficiency or Notice of Final Partnership Administrative Adjustment, as appropriate, (a) disallowing all tax benefits and attributes claimed from the Son of Boss transaction, including out-of-pocket costs and fees, and (b) assessing appropriate maximum penalties, including those under ‘6662 or ‘6663 of the Code.

Under the IRS Procedural Rules applicable to the administrative appeals process (26 C.F.R. § 601.106(f)(2)), the IRS has concluded that to achieve uniformity and enhance overall compliance with the tax laws, Appeals consideration will not be available to Son of Boss investors.

The IRS believes that in connection with Son of Boss transactions, tax advisers often developed complex legal structures and tax return formats designed to obscure discovery of the transaction by the IRS. The IRS will carefully scrutinize Son of Boss tax returns to determine the potential application of the 6-year statute of limitations provision for substantial omission of income.

Particular attention will be paid to the structure used by taxpayers to implement the Son of Boss transaction and whether the return on its face provides a reasonable basis for the IRS to identify the existence of the Son of Boss transaction, or the reporting involved the concealment of transactions through, for example, the use of grantor trusts to report only a net gain or loss.

Copyright 2004 Gardner Carton & Douglas

This article is not intended as legal advice, which may often turn on specific facts. Readers should seek specific legal advice before acting with regard to the subjects mentioned here.