IRS Commissioner Shulman: Examine High Net Worth Individuals
You can go here to find out more about IRS Commissioner Doug Shulman’s remarks at the annual meeting of the New York State Bar Association Taxation Section on January 26, 2010. Shulman lays out how the issue of “complexity” is being managed by the IRS. One of the most revealing statements made by Shulman has to do with the posture the IRS will be taking with respect to high net worth individuals. The focus will no longer be solely upon income, but rather will include taxpayer assets as well.
“This is a game-changing strategy for the IRS. Initially, we will be focusing on individuals with tens of millions of dollars of assets or income. Going forward, we will take a unified look at the entire complex web of business entities controlled by a high wealth individual, which will enable us to better assess the risk such arrangements pose to tax compliance.
We want to better understand the entire complex economic picture of the enterprise controlled by the wealthy individual and to assess the tax compliance of that overall enterprise. We cannot do this by continuing to approach each tax return in the enterprise as a single and separate entity. We must understand and analyze the entire picture.”
Although individuals generally do not file balance sheets with their tax returns, their names and social security numbers are often linked to various business tax returns if they are partners or shareholders. In which case, balance sheets are generally presented, however, business assets are not necessarily those which are considered personal assets of the principals. The only exception is that of stock, the ownership of which is easily determinable through stock prices if it is a publicly held company. However, if the company is privately owned then the task of assessing value becomes far more complex.
We could not agree more wholeheartedly that complexity is the central focus of an IRS effort to examine individuals based upon net worth. Given the current format of reporting, there are few other options for guiding one toward a reasonable understanding of ones net worth. Social security numbers and employer identification numbers are tied to bank accounts, which brings up a whole new issue of privacy. And stock transactions are similarly traceable, however, the question that doesn’t seem to be answered by Shulman has more to do perhaps by the reasons for examinations based upon net worth.
Shulman talks about “control” being the guiding factor behind these examinations, however, control and net worth are two very distinct and separate concepts. One can have control without having any economic interest whatsoever. And with respect to trusts, actually giving up control to a trustee in an irrevocable trust allows for greater flexibility in meeting difficult challenges in areas such as estate planning in particular. Why then would a tax position that is often adverse to the taxpayer in which control is retained become a focal point of tax abuse?
There are, however, instances which experienced tax professionals understand well how economic risk is tied to control by certain individuals. In plain English, the mortgage meltdown was a prime example of how shady operations can be linked to those who control them. The inherent risk is that a corrupt business often leads to corrupt individuals. This awareness has often been employed in audits, however, in such cases the taxpayer has the right to be represented.
The comments by Commissioner Shulman raises more questions than it answers. It will be interesting to see if this story has legs and becomes the focus of the media and how this new posture translates itself in the ordinary interaction one has with the IRS. However, given the current climate at the IRS, high net worth individuals or those who simply exercise control in other entities and are not necessarily wealthy should be warned to be prepared for all possible questions concerning their financial affairs.
