Written
Statement of
Alvin S. Brown,
Esq.,
The Committee
on Ways and Means
U.S. House of
Representatives
Hearing on Tax
Reform: Tax Havens, Base Erosion and Profit-Shifting
June 13 2013
Chairman Camp, Ranking
Member Levin, and distinguished members of the Committee on Ways and
Means. I am a tax attorney specializing
in IRS controversies. I previously had a full career in the Office of the IRS
Chief Counsel as an interpretative attorney and manager with signature
authority for the IRS on many complex tax matters.
To resolve many of the tax
minimization issues and tax abuses that are the subject of this hearing, the
IRS could easily apply section § 7701(o) and its prevailing judicial
precedent. Section 7701(o) is the codification of the “economic substance
doctrine”[1] which provides that, in
the case of any transaction to which the “economic substance doctrine” is
relevant, the transaction shall be treated as having economic substance only if
(i)
the transaction changes in a
meaningful way (apart from Federal income tax effects) the taxpayer’s economic position, and
(ii)
the taxpayer has a substantial purpose (apart from Federal
income tax effects) for entering into the transaction. Section
7701(o)(5)(A) states that the term “economic substance doctrine” means the
common law doctrine under which tax benefits are not allowable if the
transaction does not have economic
substance or lacks a business purpose.
The IRS is remiss in its
failure to apply the explicit language of § 7701(o) to individuals and corporations
creating foreign subsidiaries for the primary purpose and intent of minimizing,
evading or avoiding their tax liabilities.
For example, the IRS could easily apply the explicit two-prong standards
of § 7701(o) to the Irish subsidiaries of Apple as well as other manipulative corporate
formations in offshore locations. Those
shell entities or other organizations, formed primarily to reduce U.S.
taxation, can be treated as “sham” entities or disregarded by the IRS under the
plain language of § 7701(o). U.S. parents of these tax abusive
organizations will find it difficult to establish that the offshore organization
did not change their “economic position” in any “meaningful way” or that a
“substantial purpose” was not tax motivated under § 7701(o) as well as judicial
precedent establishing that the “substance” of a tax transaction prevails over its
“form.”
The IRS is also remiss in not applying
§ 7701(o) to organizations formed solely to manufacture “carried interest”
capital gain income. Partnerships or
corporations formed for the sole reason of converting ordinary income into
capital gain could be disregarded under the plain language of § 7701(o), in
addition to the application of judicial precedent for the “economic substance”
doctrine. “Carried interest” is
manufactured by the
general partners of private equity, venture capital, real estate, hedge funds
and other investment vehicles organized as limited partnerships. It is beyond understanding why the IRS does
not attack these partnerships or corporations under the two-prong test of §
7701(o). In substance, there are two
parts of a carried interest transaction:
1) commission income or other income is received and 2) the income is
utilized to generate capital gain income.
Any “carried interest” transaction can be bifurcated into the above
two-part analysis either under § 7701(o) or the judicial precedent dealing with
“substance over form” articulated in
classic cases such Commissioner
v. Court Holding Co., 324 U.S. 331 (1945); Gregory v. Helvering, 293
U.S. 465 (1935). The “carried
interest” transactions are also technically tainted because income earned
cannot be assigned after it is earned[2].
Unfortunately, the
IRS has largely ignored its Congressional mandate to administer § 7701(o) to
prevent the abuses identified by this Committee.
[1] Enacted s part of the Health Care and Education
Reconciliation Act of 2010 (Act), Pub. L. No. 111-152. t. for transactions
entered into on or after March 31, 2010.
www.irstaxattorney.com (212) 588-1113 ab@irstaxattorney.com
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