Tax Shelter Transactions: Practitioner Obligations and New Confidential Transaction Regulations

• Publication year: 2004
• Pages: 135

33 Colo.Law. 11 Colorado Lawyer 2004.

2004, August, Pg. 135. Tax Shelter Transactions: Practitioner Obligations and New Confidential Transaction Regulations

Vol. 33, No. 8, Pg. 11

The Colorado Lawyer
August 2004
Vol. 33, No. 8 [Page 135]

Specialty Law Columns
Tax Tips
Tax Shelter Transactions: Practitioner Obligations and New Confidential Transaction Regulations
by Steven M. Weiser, Adam M. Cohen

This column is sponsored by the CBA Taxation Law Section to provide timely updates and practical advice on federal state, and local tax matters of interest to Colorado practitioners

Column Editors

Larry Nemirow, Denver, of Davis, Graham & Stubbs LLP, (303) 892-7443, larry.nemirow@dgslaw.com; and John Warnick, Denver, of Holme Roberts & Owen llp - (303) 861-7000, warnicj@hro.com

Steven M. Weiser Adam M. Cohen

About The Authors:

This month's article was written by Steven M. Weiser, Denver, a partner in Levin & Weiser, LLC - (303) 504-4242, sweiser@lw-law.com; and Adam M. Cohen, Denver, an associate at Holland & Hart LLP - (303) 295-8372, acohen@hollandhart.com.

This article examines changes made to the U.S. Treasury regulations regarding the disclosure of confidential tax shelter transactions. It also examines proposed new regulations by the Treasury, which impose obligations on professionals who practice before them regarding legal opinions and best practices.

Around the turn of this century, many professionals were involved in promoting or recommending transactions to taxpayers designed to minimize or eliminate their tax liability without changing their economic situations. Partly in response to huge scandals involving the use of such transactions, the Treasury Department ("Treasury") and Internal Revenue Service ("Service") promulgated a number of announcements, notices, rulings, and regulations that attempt to illuminate these transactions and hold professionals accountable for the advice they give their clients.1

Among the recent regulatory changes, the Treasury and Service modified the landscape for disclosing tax shelter transactions by issuing certain regulations ("Reportable Transaction Regulations"),2 which were issued on March 4, 2003. The Reportable Transaction Regulations also imposed list-keeping and registration requirements on advisors involved in such transactions.3 In late 2003, the Treasury and Service amended portions of those regulations ("Revised Regulations").4 The Revised Regulations went into effect December 29, 2003.

This article examines changes the Revised Regulations made to the confidentiality sections of the Reportable Transaction Regulations. It also discusses proposed new regulations ("Proposed Regulations"), which recently were promulgated by the Treasury and Service.5 As addressed in this article, the Proposed Regulations impose new obligations on professionals who practice before the Treasury and Service by: (1) creating ethical responsibilities; (2) establishing standards for the provision of tax shelter opinions; and (3) imposing supervisory responsibilities on some professionals.

Revised Regulations Overview

The Reportable Transaction Regulations issued under Internal Revenue Code ("Code" or "IRC")6 § 6011 address taxpayer disclosure of reportable transactions.7 The Reportable Transaction Regulations establish an obligation on taxpayers to disclose certain transactions, known as "reportable transactions."8

There are six types of reportable transactions: (1) listed transactions; (2) confidential transactions; (3) transactions with contractual protections; (4) loss transactions; (5) transactions with a significant book-tax difference; and (6) transactions involving a brief asset-holding period.9 This article addresses only the second type of reportable transactions: "confidential transactions."

New Confidentiality Filter

Under the Reportable Transaction Regulations, any confidentiality, whether explicit or implied, could result in a transaction being reportable.10 However, certain safe harbor language was available to extract a transaction from the required disclosure and list maintenance that accompanied the classification of the transaction as a reportable transaction.11 Nevertheless, some argued that the safe harbor language could have the effect of eviscerating confidentiality agreements that attempted to protect non-tax information.12 The possibility that everyday transactions with little, if any, tax planning could be swept up by these regulations created an uproar among bar associations, trade associations, commentators, taxpayers, and private practitioners. This ultimately resulted in the promulgation of the Revised Regulations.13

As amended, transactions must have two characteristics to be confidential, reportable transactions.14 First, the taxpayer must pay an advisor a minimum fee. Second, the transaction must be offered to a taxpayer under conditions of confidentiality. These requirements are discussed below.

Minimum Fee: Under the Revised Regulations, the threshold issue for transactions for purposes of the new confidentiality type of reportable transaction is whether an advisor received a minimum fee. The term "advisor" is not defined in the Revised Regulations, but should be broadly interpreted to include anyone giving advice to the taxpayer.

The addition of a minimum fee requirement ensures that this category of reportable transactions applies only to large matters. If the taxpayer is a corporation, the minimum fee is $250,000.15 This minimum fee also applies to partnerships or trusts if all of the owners or beneficiaries are corporations.16 The minimum fee for all other transactions is $50,000.17

In making the determination as to whether a minimum fee has been received, all fees are considered.18 This includes fees for both tax advice and non-tax advice, as well as fees for analyzing, implementing, or documenting the transaction. The form of the fees is unimportant. However, fees paid to other parties to the transaction are not included if they are paid to others in their capacities as parties to the transaction.

The concept of a minimum fee threshold also was utilized under the list maintenance portion of the Reportable Transaction Regulations. In the list maintenance regulations, the existence of these fees will require certain advisors to keep a list with respect to the transaction.19 Additional rules that do not exist in the list maintenance regulations are applicable when determining if a confidential, reportable transaction has occurred.20 Fees paid to related persons are treated as being paid to a single person.21 Those that are indirectly paid to advisors are taken into account if the taxpayer knows or should know that the fees will be paid to advisors.22

Taxpayers who pay advisors less than the threshold amounts for their transactions will not have to worry about this type of reportable transaction. However, many ordinary course transactions involve the payment of fees in excess of the threshold amounts. For example, a 3 percent commission on the sale of $1,666,667 in real estate will result in a fee of more than $50,000 to the real estate broker. Similar situations will exist for transactions involving investment banks. Additionally, business transactions and litigation settlements often involve legal fees in excess of $50,000. If fees paid to advisors exceed the threshold amounts, the taxpayers involved will have to determine whether the transaction is offered under conditions of confidentiality. In such a case, the client would have to disclose the transaction, because the amount of the practitioners' fees meets the minimum threshold.

Conditions of Confidentiality: The Revised Regulations specify what is required for a transaction to be offered under "conditions of confidentiality."23 For conditions of confidentiality to exist, the advisor receiving the minimum fee must place limitations on the taxpayer's disclosure of the "tax treatment" or "tax structure" of the transaction. The limitations must protect the confidentiality of that advisor's tax strategies.

Certain issues pertaining to confidentiality, which might be relevant for other purposes, are not pertinent to this analysis. For example, even if a confidentiality agreement is not legally binding, the transaction may be considered a confidential, reportable transaction for purposes of the Revised Regulations.24

In addition, a claim that the transaction is proprietary or exclusive is irrelevant if the advisor confirms to the taxpayer that there is no limitation on the disclosure of the tax treatment or tax structure of the transaction. However, in this regard, the Revised Regulations eliminated the safe harbor language of the prior version of the Reportable Transaction Regulations as unnecessary,25 although that language may be useful to advisors who wish to confirm the lack of a limitation on disclosure. Finally, in the preamble to the Revised Regulations, the Treasury and Service specify that confidentiality imposed by parties to the transaction in their capacities as parties will not cause a transaction to be a confidential, reportable transaction.26

These rules significantly narrow the scope of the confidential type of reportable transactions. Assuming that an advisor will receive fees in excess of the minimum fees it will be fairly unusual for the advisor to seek to have the parties keep the transaction confidential. Although a real estate broker, investment bank, lawyer, accountant, or other advisor might be paid a fee in excess of the threshold fees, most of these professionals will not keep the parties from disclosing the federal tax treatment or even the relevant facts of the...