IRS Increases Disclosure Requirements

The IRS has drastically increased its examination tools over the past decade and increased disclosure burdens on taxpayers and preparers. Examples abound, but perhaps the most notable changes over the past decade concern reportable transactions, the introduction of Schedule M-3, and most recently the potential disclosure of uncertain tax positions to be submitted with annual tax returns.

REPORTABLE TRANSACTIONS

In 1999, the Joint Committee on Taxation conducted a number of studies that were primarily concerned with corporate tax shelters. One of the main products of those studies was Treas. Reg. § 1.6011-4, which requires disclosure of certain “reportable transactions” in which taxpayers have participated.

Under the regulation as it stands today, there are essentially six main categories of transactions that trigger mandatory disclosures for taxpayers on IRS Form 8886, Reportable Transaction Disclosure Statement. The IRS has identified these transactions as having a risk of abuse by taxpayers and/or tax advisers. The IRS wants full disclosure of these items, including the tax treatment and expected benefit, a complete description of the transaction, and identification of all related parties.

SCHEDULE M-3

Another disclosure-related examination tool the IRS has added in the past decade is Schedule M-3, Net Income (Loss) Reconciliation. Prior to 2006, significant book-tax differences were included as a category of reportable transactions. This went away partially due to the introduction of Schedule M-3 in 2004, which provides the IRS with much greater detail of certain corporations’ and partnerships’ book income and book-tax differences. The schedule breaks out book-tax differences more plainly than Schedule M-1, so the IRS can more easily identify these differences by category, dollar amount, and status as permanent or temporary. The increased transparency creates additional work for practitioners in preparing the form, while again exposing taxpayers to greater IRS scrutiny for audit purposes.

UNCERTAIN TAX POSITIONS

In January, the IRS announced a plan to require applicable business taxpayers to disclose uncertain tax positions in their annual income tax return (Announcement 2010-9). This disclosure will encompass more than FIN 48 disclosures for GAAP financial statements by also requiring disclosure of uncertain positions that taxpayers expect to litigate or that they believe the IRS has an administrative policy to not audit. Under the plan, applicable taxpayers must disclose the maximum liability if the position were disallowed in its entirety, without regard to risk analysis. Noncompliance may result in additional penalties, which have yet to be determined.

CONCLUSION

The IRS has more examination tools than ever to evaluate tax compliance, and this trend is not likely to reverse. Increased technological and information-storage capabilities have allowed the IRS to push for more and more taxpayer disclosures. Information that used to rest solely in taxpayer workpapers is moving to the face of forms, and disclosures are being enforced with the threat of steep penalties, leaving taxpayers increasingly exposed, and burdening practitioners with additional time, effort and risk for these compliance clients.

For a detailed discussion of the issues in this area, see “The Road to Transparency,” by Erica Murray, CPA, and Zachary Brandmeir, J.D., CPA, in the May 2010 issue of The Tax Adviser.

—Alistair M. Nevius, editor-in-chief

The Tax Adviser

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