Exploiting Regulatory Inconsistencies

In many instances, sophisticated parties exploit inconsistencies between regulatory regimes to achieve beneficial treatment under each regime by obtaining classification under one regime that is, at least superficially, inconsistent with classification under the other regime. For instance, parties might design an instrument that is treated as “debt” for tax purposes, but “equity” for purposes of capital requirements instituted by financial regulators. This Article asks whether exploiting regulatory inconsistencies is problematic. This Article concludes that inconsistency, in and of itself, is not necessarily a problem. Different regulatory regimes might classify a transaction differently when doing so best serves the unique goals of each regime. However, in other cases, inconsistency could be a byproduct of inaccurate classification by at least one regulatory regime. In such cases, the relevant regulator needs to reconsider its classification scheme

Tax Law’s Loss Obsession

This Article will address tax law’s inconsistent treatment of gains and losses—focusing in particular on certain instances in which a taxpayer is prevented from shifting a built-in loss to another taxpayer but would be allowed to shift a built-in gain to another taxpayer. The article will explore whether any legitimate justification can explain the inconsistency. Finding no such legitimate justification for at least some of the examples, this Article will conclude that lawmakers ought to have also addressed gains and the failure to do so results from lawmakers crafting an overly narrow response that addressed only the most recent, high-profile gimmick in engineering transactions to reduce tax liability

Was Blackstone\u27s Iitial Public Offering Too Good to Be True?: A Case Study in Closing Loopholes in the Partnership Tax Allocation Rules

Typically, publicly traded entities must be treated as corporations for tax purposes. Blackstone Group LP is publicly traded, yet it is not treated as a corporation for tax purposes. Why not? Blackstone Group LP utilizes complex tax structuring in order to qualify for an exception from the typical corporate tax treatment and, in the process, saves millions of dollars in tax liability annually. Members of Congress have proposed reforms that would have prevented Blackstone Group LP from reducing its tax liability in this manner. However, these reforms were not enacted This Article takes a different approach. It argues that existing law already provides the IRS with the tools needed to challenge the legitimacy of the results claimed by Blackstone Group LP. In the process, this Article highlights an important and unintended loophole in existing partnership tax allocation rules — specifically, the failure of the rules to adequately address allocations among related partners. Finally, this Article proposes that the IRS use general tax law standards to close this unintended loophole

Taxing Publicly Traded Entities

Publicly traded entities are generally treated as corporations for U.S. tax purposes. Under various exceptions, however, publicly traded entities may obtain special treatment if they earn predominately certain specified types of qualifying income. This Article examines potential rationales for granting special tax treatment to certain publicly traded entities. As the analysis in this Article will show, many of the potential rationales are unconvincing. In addition, to the extent that some rationales may be persuasive, the current rules are not designed in a way that best comports with these potential justifications. Therefore, reform is needed. To reform the current system, this Article proposes narrowing the scope of what may be classified as qualifying income so that special tax treatment is bestowed upon publicly traded entities only when warranted by underlying policy justifications. Specifically, this Article proposes that income that is classified as qualifying income under current law should not be classified in that manner unless it is earned by holding a publicly traded asset. In addition, current law grants favorable treatment to all income earned by a publicly traded entity if and only if the entity earns predominately qualifying income. This Article assesses whether tax law should, instead, grant special tax treatment to only qualifying income earned by a publicly traded entity, but with the special treatment applying regardless of whether the entity earns predominately qualifying income. Ultimately, this Article concludes that, on balance, concerns about complexity justify continuation of a regime under which beneficial treatment applies to all income earned by a publicly traded entity if and only if the entity earns predominately qualifying income, provided that the scope of what may be classified as qualifying income is narrowed in the manner proposed by this Article

Accessible Reliable Tax Advice

Unsophisticated taxpayers who lack financial resources are disadvantaged by a shortage of adequate tax advice. The IRS does not have the resources to answer all questions asked, and the IRS’s informal advice comes with no guarantee as to its accuracy and offers the taxpayer no protection when it is mistaken. Furthermore, non-IRS sources of advice have not sufficiently filled the void left by a lack of satisfactory IRS guidance. These biases against unsophisticated taxpayers have been noted by existing literature. This Article contributes to existing literature by proposing several novel reform measures to assist unsophisticated taxpayers. First, with respect to certain key provisions intended to benefit low-income taxpayers, such as the earned income tax credit, Congress should act to provide unsophisticated taxpayers the protection offered by more formal types of guidance. In order to implement this first proposal, Congress should direct the IRS to verify and stand behind the accuracy of tax software that addressed key provisions, such as the earned income tax credit. The government would stand behind its guarantee of accuracy in two respects. First, if a taxpayer provided accurate information when operating the software and the software indicated, wrongly, that the taxpayer was entitled to certain tax benefits, the IRS would not later assess additional tax liability, interest, or penalties against the taxpayer. Second, if a taxpayer provided accurate information when operating the software, the software indicated, wrongly, that the taxpayer was not entitled to certain tax benefits, and the taxpayer discovered this error after the typical limitations period for filing an amended return had expired, then Congress would grant the taxpayer additional time to amend his or her tax return to claim the benefits to which he or she was, in fact, entitled. Second, this Article proposes that states should require that certified public accountants either provide a minimum number of hours of pro bono services annually or donate a minimum amount annually to support Volunteer Income Tax Assistance sites. Third, Congress should implement a new procedure for assessing penalties and interest against taxpayers whose incomes are below a certain threshold. Under this new procedure, if the taxpayer’s return was prepared by a paid preparer, any penalties and interest that would otherwise be assessed against the taxpayer should be assessed, instead, against the preparer, unless the preparer could prove either that he or she sought adequate information from the taxpayer and tax consequences were reported correctly based on the information provided by the taxpayer or that the taxpayer knowingly waived the right to have penalties and interest assessed against the preparer. In addition, if a preparer did obtain a waiver, the preparer would be precluded from offering any type of audit insurance (or, stated another way, if the preparer did offer any type of audit insurance, doing so would nullify the waiver)

Harvard, Hedge Funds, and Tax Havens: Reforming the Tax Treatment of Investment Income Earned by Tax-Exempt Entities

Educational endowments, private employer-sponsored pension plans, and other tax-exempt organizations (collectively, “tax-exempt entities”) invest a substantial amount of capital in various sectors of the economy, and tax consequences can determine whether or not a tax-exempt entity, like any other entity, makes a potential investment. Consequently, the tax treatment of investment income earned by tax-exempt entities can affect significantly the manner in which capital is allocated on an economy-wide basis. The current tax system applies different effective rates of tax to income earned by tax-exempt entities from otherwise comparable investments. This inconsistent tax treatment distorts investment decisions made by such entities which, given the amount of capital invested by such entities, can result in a less than optimal allocation of capital. In some contexts, the distortion can be mitigated by tax structuring. However, if Congress were to enact legislation currently proposed as part of the Stop Tax Haven Abuse Act, the ability to engage in this tax structuring would be eliminated. Thus, enactment of the proposed legislation would exacerbate the current distortions without providing any offsetting benefits. In lieu of reforms suggested by Congress, this paper proposes reforms to the manner in which tax-exempt entities are taxed on their investment income. In particular, this paper proposes that a tax-exempt investor would generally not be subject to tax on income earned from an entity whose business decisions are not controlled by the tax-exempt investor. The proposed reforms would result in a better allocation of capital among various investment opportunities. The reforms would not subvert any of the other goals of taxing income earned by tax-exempt entities. Finally, the reforms would modernize the tax rules in a way that takes into account changes to investment portfolios held by tax-exempt entities that have occurred since the rules were enacted

Tax Elections: How to Live With Them if We Can\u27t Live Without Them

Tax elections are prevalent. They include: elections that determine how certain business entities are classified; elections by individual taxpayers to either claim the standard deduction or itemize deductions; an election that determines the tax treatment of alimony payments; an election by divorced parents to determine which parent claims a child as a dependent; and elections that affect the tax consequences of certain corporate transactions; just to name a few.Tax elections produce unfairness given that sophisticated, well-advised taxpayers will be most able to make favorable elections. Tax law is, by no means, alone in terms of benefiting sophisticated individuals. In many areas of law and of life, people who acquire relevant information and plan ahead of time will fare better than those who do not. However, despite the prevalence of societal advantages for the informed, the existence of such preferences in tax law is especially problematic. Objections to the advantages that are bestowed upon sophisticated individuals by other areas of law are often met with the response that redistribution should be relegated to the tax system. For example, those arguing for rules that facilitate economically efficient outcomes in contractual relationships will often contend that the manner in which the benefit of a contract is divided between the parties need not be addressed by contract law because any desired redistribution should be accomplished through the tax system. Because other areas of law dodge criticisms of bias against unsophisticated individuals in this manner, tax law must be less tolerant of bias against ill-informed, unsophisticated individuals. To further the aim of reducing such bias, this paper discusses how to design tax elections to mitigate the unfairness and other harms that they cause

Superficial Proxies for Simplicity in Tax Law

Simplification of tax law is complicated. Yet, political rhetoric surrounding tax simplification often focuses on simplistic, superficial indicators of complexity in tax law such as word counts, page counts, number of regulations, and similar quantitative metrics. This preoccupation with the volume of enacted law often results in law that is more complex in a real sense. Achieving real simplification—a reduction in costs faced by taxpayers at various stages in the tax planning, tax compliance, and tax enforcement process—often requires enacting more law, not less. In addition, conceptualizing simplicity in simplistic terms can leave the public vulnerable to policies advanced under the guise of simplification that have real aims that are less innocuous. A perennial example involves lawmakers proposing a reduction in the number of tax brackets under the heading of simplifying tax law. In reality, this change does very little, if anything, to simplify law in a meaningful sense, and its truer aim is to reduce progressivity in the tax code. Although the tax legislation ultimately enacted in December 2017 did not change the number of brackets applicable to individual taxpayers, political discourse preceding its enactment once again touted a reduction in the number of tax brackets as a simplifying measure

Making Partnerships Work for Mom and Pop and Everyone Else

Entities treated as partnerships for tax purposes cover the spectrum from small Mom and Pop operations to mammoth enterprises owned by sophisticated partners. Designing tax law to govern this diverse array of entities is a challenging exercise since rules that are well suited to provide simplicity for entities at the small, unsophisticated end of the continuum may be poorly designed for preventing manipulation by entities at the large, sophisticated end of the continuum. However, a careful examination of how tax rules can best promote simplicity reveals opportunities for reform that would make the law more appropriate for entities all along the continuum