Chapter 1

Understanding and Working

With the Federal Tax Law
Corporations, Partnerships,
Estates & Trusts
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

The Big Picture

Dana Pehrson advanced $93,000 to her nephew in
2007 to enable him to attend a private university.
Over the next few years, the nephew repays Dana
$16,000 on the loan.
However, seven years later Dana comes to you to
determine whether she can claim a bad debt deduction for
the $77,000 the nephew has not repaid.

What planning tips might you give to Dana?

What mistakes were made?
Read the chapter and formulate your response.

Competing Objectives Result in a

Complex Law Structure

Revenue Needs
Economic Considerations
Social Considerations
Equity (Fairness) Considerations
Political Considerations

Economic Considerations
(slide 1 of 2)

Control the economy (e.g., favorable

depreciation deductions for purchase of
business property)
Encourage certain activities (e.g., research and
development deductions and credits)

Economic Considerations
(slide 2 of 2)

Encourage certain industries (e.g., agriculture

and natural resources incentives)
Encourage small business (e.g., ordinary loss
deduction on stock in small business)

Social Considerations
(slide 1 of 2)

Tax-free medical coverage provided by

employers to encourage health insurance
Deferred tax treatment of certain retirement
funds to encourage saving for retirement

Social Considerations
(slide 2 of 2)

Deduction for charitable contributions to

encourage funding of socially desirable
programs by private individuals and
companies
Disallowed deductions for expenditures
against public policy (e.g., illegal bribes,
kickbacks)

Equity Considerations
(slide 1 of 4)

Alleviate the effect of double taxation:

Deduction for state and local taxes
Credit or deduction for certain foreign taxes
Deduction for dividends received by corporations
to prevent triple taxation

Equity Considerations
(slide 2 of 4)

Wherewithal to Pay concept

Defers taxation when a taxpayers economic
position has not changed
e.g., Exchange of assets might result in gain but no
cash, so some tax may be deferred

Equity Considerations
(slide 3 of 4)

Annual accounting periods

In some cases, e.g., start-up businesses, a revenuegenerating cycle may be greater than the 12 month
maximum tax reporting period.
To accommodate this, net operating loss rules
allow losses from one year to be used in another
year. This minimizes the adverse impact of
arbitrary reporting periods.

Equity Considerations
(slide 4 of 4)

Inflation adjustments are included in tax rate

schedules. If earnings increase solely by costof living amounts, taxes will not be imposed at
higher rates on the increase.

Political Considerations
Special interest legislation
Response to public opinion (political
expediency)
State and local influences

Agencies Influencing Tax Law

(slide 1 of 4)

Internal Revenue Service (IRS)

Works to get Congress to close loopholes
Publishes statutory regulations authorized by
Congress and given force of law
Publishes other regulations which outline the IRS
position on certain issues

Agencies Influencing Tax Law

(slide 2 of 4)

Aids to IRS in collecting revenue:

Tax Return Audits

Information reporting (W-2s and 1099s)
Withholding
Interest and penalty assessments

The Big Picture Example 13

Administrative Feasibility
Return to the facts of The Big Picture on p. 1-1.
The advance of $93,000 to her nephew might be considered a
taxable gift.
If so, Dana would have been allowed a $12,000 gift tax exclusion
in 2007.
Further, if Dana were married, she and her husband would
have been allowed a $24,000 gift tax exclusion (this is
called gift splitting).
Finally, Dana also could use her lifetime exemption to
eliminate any gift tax, depending on her previous gift history
(see Chapter 18).

Agencies Influencing Tax Law

(slide 3 of 4)

Courts
Judicial concepts

Substance over form

Arms length
Continuity of interest
Business purpose

Agencies Influencing Tax Law

(slide 4 of 4)

Courts
Judicial rulings
Some rulings highlight undesirable aspects of present
law, which may lead Congress to adopt a change in law

Statutory Sources of Tax Law

Internal Revenue Code
Codification of the Federal tax law provisions in a
logical sequence
Have had three codes:
1939, 1954, 1986

Legislative Process For Tax Bills

Joint Conference Committee Process

Arrangement of the Code

Subtitle AIncome Taxes
Chapter 1. Normal Taxes and Surtaxes
Subchapter A. Determination of Tax Liability
Part I. Tax on Individuals Sections 1 to 5 (Various Titles)
Part II. Tax on Corporations Sections 11 to 12 (Various Titles)

Example Code Citation

2(a)(1)(A)

= Abbreviation for Section

2 = Section number
(a) = Subsection
(1) = Paragraph designation
(A) = Subparagraph designation

Administrative Sources of Tax Law

Treasury Department Regulations

Revenue Rulings
Revenue Procedures, and
Various other administrative pronouncements

Regulations
(slide 1 of 4)

Issued by U.S. Treasury Department

Provide general interpretations and guidance in
applying the Code

Regulations
(slide 2 of 4)

Issued as:
Proposed: preview of final regulations
Do not have force and effect of law

Temporary: issued when guidance needed quickly

Same authoritative value as final regulations

Final:
Force and effect of law

Regulations
(slide 3 of 4)

Example of Regulation citation:

Reg. 1.2
Refers to Regulations under Code 2
Subparts may be added for further identification
The numbering patterns of these subparts often have no
correlation with the Code subsections

Regulations
(slide 4 of 4)

Example of Proposed Regulation citation:

Prop. Reg. 1.2
Example of Temporary Regulation citation:
Temp. Reg. 1.263(a)2T(g)

Revenue Rulings
(slide 1 of 2)

Officially issued by National Office of IRS

Provide specific interpretations and guidance in
applying the Code
Less legal force than Regulations
Issued in IRB and accumulated in the Cumulative
Bulletins

Revenue Rulings
(slide 2 of 2)

Example of Temporary Revenue Ruling citation

Rev.Rul. 201114, I.R.B. No. 27, 31
Explanation: Revenue Ruling Number 14, appearing on page 31 of
the 27th weekly issue of the Internal Revenue Bulletin for 2011

Example of Permanent Revenue Ruling citation

Rev.Rul. 201114, 20112 C.B. 31
Explanation: Revenue Ruling Number 14, appearing on page 31 of
Volume 2 of the Cumulative Bulletin for 2011

Revenue Procedures
(slide 1 of 2)

Concerned with the internal procedures of IRS

Issued similar to Revenue Rulings
Issued in IRB and accumulated in the Cumulative
Bulletins

Revenue Procedures
(slide 2 of 2)

Example of Revenue Procedure citation

Rev. Proc. 92-29, 1992-1 CB 748
29th Rev. Procedure in 1992 found in volume 1 of
Cumulative Bulletin on page 748

Letter Rulings
(slide 1 of 2)

Provide guidance to taxpayer on how a transaction

will be taxed before proceeding with it
Issued for a fee upon a taxpayers request
Describe how the IRS will treat a proposed transaction

Apply only to the taxpayer who asks for and obtains

the ruling
Post-1984 letter rulings may be substantial authority for
purposes of the accuracy-related penalty

Limited to restricted, preannounced areas of taxation

Letter Rulings
(slide 2 of 2)

Example of Letter Ruling citation

Ltr.Rul. 201314038
38th ruling issued in the 14th week of 2013

Other Administrative Pronouncements

(slide 1 of 3)

Treasury Decisions-issued by Treasury Dept.

to:
Promulgate new or amend existing Regulations
Announce position of the Government on selected
court decisions
Published in the Internal Revenue Bulletin
Then transferred to the Cumulative Bulletin

Other Administrative Pronouncements

(slide 2 of 3)

Determination Letters
Issued by Area Director at taxpayers request
Usually involve completed transactions
Not published
Made known only to party making the request

Other Administrative Pronouncements

(slide 3 of 3)

General Counsel Memoranda

Technical Advice Memoranda
Field Service Advice

Federal Judicial System

FIGURE 1.3

Judicial Sources
(slide 1 of 2)

There are four courts of original jurisdiction

(trial courts)

U.S. Tax Court: Regular

U.S. Tax Court: Small Cases Division
Federal District Court
U.S. Court of Federal Claims

Judicial Sources
(slide 2 of 2)
U.S. Court of
Issue
Number of judges
per court

U.S. Tax Court

19*

U.S. District Court

1

Federal Claims
16

Payment of deficiency
before trial

No

Yes

Yes

Jury trial

No

Yes

No

Types of disputes

Tax cases only

Most criminal and

civil issues

Claims against the

United States

Jurisdiction

Nationwide

Location of Taxpayer

Nationwide

Appeal route
Appeals

U.S. Court of
Appeals

U.S. Court of
Appeals
Federal Court
*Normally, there are also 5 special trial judges and 13 senior judges.
CONCEPT SUMMARY 1.1

U.S. Court of
for the

Appeals Process
Appeals from District Court or Tax Court go to
the U.S. Court of Appeals for circuit where
taxpayer resides
Appeals from Court of Federal Claims is to
Court of Appeals for the Federal Circuit
Appeal to the Supreme Court is by Writ of
Certiorari
Only granted for those cases it desires to hear

Courts Weights as Precedents

From high to low
Supreme Court
Circuit Court of Appeals
Tax Court (Regular), U.S. Court of Federal Claims,
& U.S. District Courts

Decisions of Small Cases Division of Tax

Court have no precedential value and cannot
be appealed

Tax Court
(slide 1 of 2)

Issues three types of decisions: Regular,

Memorandum, and summary opinions
Regular decisions involve novel issues not previously
resolved by the court

Regular decisions are published by U.S. govt, e.g.,

Summary opinions
Issued in small tax cases and may not be used as precedent
in any other case

Tax Court
(slide 2 of 2)

Tax Court Memorandum decisions

Memorandum decisions deal with situations
necessitating only the application of already
established principles of law

Memorandum decisions are published by CCH

and by RIA (formerly by P-H)

Examples Of District
Court Decision Citations
Turner v. U.S., 20041 USTC 60,478
(D.Ct. Tex., 2004) (CCH citation)
Turner v. U.S., 93 AFTR 2d 2004686
(D.Ct. Tex., 2004) (RIA citation)
Turner v. U.S., 306 F.Supp.2d 668
(D.Ct. Tex., 2004)(West citation)
44

Supreme Court Decisions

Examples of citations
U.S. v. The Donruss Co., (USSC, 1969)

69-1 USTC 9167 (CCH citation)

23 AFTR2d 69-418 (RIA citation)
89 S. CT 501 (West citation)
393 U.S. 297 (U.S. Government citation)
21 L.Ed.2d 495 (Lawyer's Co-operative Publishing Co.
citation)

Tax Treaties
The U.S. signs tax treaties with foreign
countries to:
Render mutual assistance in tax enforcement
Avoid double taxation

Neither a tax law nor a tax treaty takes general

precedence
When there is a direct conflict, the most recent
item will take precedence

Tax Research
(slide 1 of 2)

A crucial part of the research process is the

ability to locate appropriate sources of the tax
law
Both electronic and paper-based research tools are
available to aid in this search

Unless the problem is simple (e.g., the Code

Section is known, and there is a Regulation on
point), the research process should begin with
a tax service

Tax Research
(slide 2 of 2)

Computerized tax research tools have replaced

paper resources in most tax practices
There are two chief ways to conduct tax research
using computer resources:
Online and CD-ROM subscription services and
Online free Internet sites

Tax Services
A partial list of the available commercial tax services includes:
Standard Federal Tax Reporter, Commerce Clearing House.
CCH IntelliConnect, Commerce Clearing House online
service.
United States Tax Reporter, Research Institute of America.
RIA Checkpoint, Research Institute of America.
ATX/Kleinrock Tax Expert, CCH/Wolters Kluwer Business
Services.
Tax Management Portfolios, Bureau of National Affairs.
Mertens Law of Federal Income Taxation, West Group.
Westlaw
Tax Center, LexisNexis
Federal Research Library, Tax Analysts databases

Tax Research Process

FIGURE 1.5

Tax Research
Tax research is the method by which an
interested party determines the best solution to
a tax situation
Tax research involves:

Identifying and refining the problem

Locating the appropriate tax law sources
Assessing the validity of the tax law sources
Arriving at the solution or at alternative solutions
with due consideration given to nontax factors

Assessing the Validity of Tax Law Sources

(slide 1 of 4)

When assessing the validity of a Regulation, the

following observations should be noted:
In a challenge, the burden of proof is on the taxpayer to
show that the Regulation is wrong
However, a court may invalidate a Regulation that varies from the
language of the statute and has no support in the Committee
Reports

If the taxpayer loses the challenge, the negligence penalty

may be imposed
This accuracy-related provision deals with the intentional
disregard of rules and regulations on the part of the taxpayer

Assessing the Validity of Tax Law Sources

(slide 2 of 4)

Final Regulations tend to be of three types

Procedural: housekeeping-type instructions
Interpretive: rephrase what is in Committee
Reports and the Code
Hard to get overturned

Legislative: allow the Treasury Department to

determine the details of law
Congress has delegated its legislative powers and these
cannot generally be overturned

Assessing the Validity of Tax Law Sources

(slide 3 of 4)

Revenue Rulings
Carry less weight than Regulations
Not substantial authority in court disputes

Assessing the Validity of Tax Law Sources

(slide 4 of 4)

Judicial sources
Consider the level of the court and the legal
residence of the taxpayer
Determine whether the decision has been
overturned on appeal

Tax Law Sources

(slide 1 of 2)

Primary sources of tax law include:

The Constitution
Legislative history materials
Statutes
Treaties
Treasury Regulations
IRS pronouncements, and
Judicial decisions

In general, the IRS considers only primary sources to

constitute substantial authority

Tax Law Sources

(slide 2 of 2)

Secondary Sources include:

Legal periodicals
Treatises
Legal opinions
General Counsel Memoranda, and
Written determinations

In general, secondary sources are not authority

Tax Planning
The primary purpose of effective tax planning is to
reduce the taxpayers total tax bill
Must consider the legitimate business goals of taxpayer

A secondary objective of effective tax planning is to

reduce, defer, or eliminate the tax
Tax avoidance vs. tax evasion
Tax avoidance is the legal minimization of tax liabilities
and one goal of tax planning
Tax evasion is the illegal minimization of tax liabilities
Suggests the use of subterfuge and fraud as a means to tax
minimization
Can lead to fines and jail

Taxation on the CPA Examination

Taxation is included in the 3-hour Regulation
section
The Regulation section is 60% Taxation and
40% Law & Professional Responsibilities (all
areas other than Business Structure)
Knowledge is tested using both multiplechoice questions and task-based simulations

If you have any comments or suggestions concerning this

PowerPoint Presentation for South-Western Federal
Taxation, please contact:
Dr. Donald R. Trippeer, CPA
trippedr@oneonta.edu
SUNY Oneonta

2015 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

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