I n private letter ruling (PLR) 9644053, the Internal Revenue Service said a divorcing couple could use an annuity to equalize the division of their property without selling their principal asset.
A husband and wife, residents of a community property state, proposed a marital property settlement in anticipation of their divorce. Their primary asset was an interest in the A&B corporation, the husbands employer. Both husband and wife believed selling the A&B stock would have a substantial disruptive effect on A&Bs operations, so they agreed the husband would resign from A&B and the wife would receive all the companys stock and a portion of other community property. The husband would receive the majority of the other community property.
The couple also agreed to use a trust as an annuity to equalize the distribution of the property because a significant portion of the value of all community property was the A&B stock. According to the trust agreement, all of the property transferred to the trust would become the husbands separate property. During the husbands life, the trustee would distribute as much of the trust income and principal as the trustee deemed appropriate for the husbands happiness, enjoyment, comfort, travel, living expenses, support, maintenance, education and health. IRS temporary regulations said no gain or loss would be recognized if the transfer of property took place within six years of the divorce and any transfer occurring after six years would be presumed to be unrelated to the divorce.
In PLR 9644053, the IRS said that because the husband and wife did not anticipate that the A&B stock would generate enough cash to enable the wife to pay the annuity to the husband within six years, a valid business reason existed to spread the payments out over the husbands lifetime. Thus, the transfers of property and cash between the husband and wife would be tax-free under IRC section 1041.
Observation: Even though the husband and wife resided in a community property state, divorcing couples in other states also can take advantage of the annuity method in equalizing their marital assets.
Michael Lynch, CPA, Esq., associate professor of accounting at Bryant College, Smithfield, Rhode Island.
ISO 9000 Costs
A ccording to an Internal Revenue Service audit position paper, all internal and external costs of ISO 9000 certification should be capitalized because ISO certification confers benefits that last beyond the year in which the costs are incurred.
ISO 9000 certification signifies that a companys processes conform to a series of quality system standards developed by the International Organization for Standardization (ISO), based in Geneva, Switzerland. Many businesses, both foreign and domestic, and governments require their suppliers to be ISO 9000 certified.
The IRS position paper likens ISO certification to an initial entry into a new market or business. It cites court cases dealing with obtaining a seat on a stock exchange, admission to the bar or acquiring hospital privileges. The IRS does not analyze certification in the context of maintaining existing customers and markets, which motivates many if not most certifications. The position paper also cites the U.S. Supreme Courts holding in Indopco v. Commissioner (503 U.S., 112 S.Ct. 1039, 1992) that certain legal and professional fees incurred by a target company to facilitate a friendly merger created significant long-term benefits and thus should be capitalized. The IRS has used Indopco to support capitalization for a broad range of expenses, such as environmental cleanup costs.
Observation: Interestingly, the paper does not address amortization of capitalized costs. A taxpayer faced with an IRS proposed adjustment seeking capitalization of ISO certification costs may want to negotiate a short amortization term. Also, the IRS decision to capitalize ISO 9000 costs could impose significant administrative burdens on some businesses and have the effect of increasing the cost of certificationa competitive disadvantage not faced by non-U.S. companies.
Tracy Hollingsworth, Esq., staff director of tax councils at Manufacturers Alliance, Arlington, Virginia.
F or the first time, the Tax Court, in Charles Schwab v. Commissioner, said that an accrual method brokerage firm must accrue commission income on the trade date rather than on the settlement date.
The key issue was to identify the date a commission should be accrued. The IRS said the execution of an order on behalf of a customer was the essential service the taxpayer performed and, thus, was the right time to receive the commission. Although many actions were performed after the trade date, they were regarded as administrative and so did not preclude the commission from accruing. By branding these actions as administrative, they were relegated to the category of conditions subsequent, meaning they were not important elements of the earning process. Although conditions subsequent may terminate an existing right to income, the commission can still be accrued.
Observation: Schwab made an interesting, albeit unsuccessful, argument. It said that, unlike a full-service broker, these administrative actions (following the trade date) should preclude trade date accrual because they represented such a substantial proportion of Schwabs overall activities. The court rejected this argumentSchwabs unique method of conducting business did not change the condition-subsequent status of these post-trade date actions.