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Sunday July 14, 2024

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Tax Professionals Must Protect Client Data from Identity Theft

The Internal Revenue Service (IRS) recently joined together with its Security Summit partners to announce a new campaign. The "Protect Your Clients; Protect Yourself" campaign focuses on assisting tax professionals.

IRS Commissioner Danny Werfel noted, "Tax professionals also form a critical part of our defenses. The sensitive financial and tax information they hold is a tempting target. It is critical that those handling sensitive tax information, especially smaller practices, stay current and keep their systems safe."

The IRS urges tax professionals to take basic security steps. Criminal syndicates that target tax professionals are very tech-savvy. They hack their way into tax preparers' computer systems to access client data. It is important for tax professionals to have strong firewalls and protection. If a fraudster gains access, he or she can use stolen client data to file fraudulent tax returns. Commissioner Werfel notes it is difficult for the IRS to detect these fraudulent returns because they are based on actual client financial information.

The Security Summit suggests several specific strategies that tax professionals should use to protect client data.
  1. Create a Security Plan — Each tax preparer should have a Written Information Security Plan (WISP). The Security Summit organizations create a standard version of WISP. They also teach the benefits of this plan at five IRS Nationwide Tax Forums.
  2. Identity Protection PINs — All taxpayers who can verify their identity online may now obtain an IP PIN. The IRS online tool "Get an IP PIN" on is also helpful. This IP PIN will help to protect client identities.
  3. Spear-phishing and Whaling — The IRS warns that spear-phishing and whaling are not recreational activities. Spear-phishing is an email scam that is used to trick the tax professional. Whaling is a phrase for a hacker attacking a potential lucrative target. The data of many clients is a large target or "whale" with great potential benefit for the fraudster. Client records typically include passwords, bank account numbers, credit card numbers and Social Security numbers.
  4. Signs of Identity Theft — There have been multiple identity thefts that were not recognized by tax professionals. The signs of a theft include multiple clients who receive IRS letters requesting confirmation they filed a tax return. It is a warning signal if the IRS reports show that the professional has filed more returns than he or she has clients. Finally, be on guard if the computer curser moves on its own.
  5. Working From Home or Traveling — Many tax professionals now work from home or while traveling. If working remotely, it is essential to have a virtual private network (VPN) and computer virus software plus a firewall to protect both the tax preparer and clients. Through cyber-smart tactics, tax professionals can make it much more difficult for a fraudster to hack into your system and steal client data.
There will be Nationwide Tax Forums this year in Atlanta on July 25-27, Washington DC on August 8-10, San Diego on August 22-24 and Orlando on August 29-31. More information on the forums can be found on A major goal of the forums is to help tax preparers understand the Written Information Security Plan.

Uncashed Checks Included in Estate

In Estate of William E. DeMuth Jr. et al. v. Commissioner; No. 22-3032, the Court of Appeals for the Third Circuit upheld a Tax Court decision that checks written but not cashed before the decedent passed away were includable in the decedent's estate.

Decedent William DeMuth, Jr. signed a power of attorney in 2007 to appoint his son, Donald, to be his attorney-in-fact. Under that power, Donald made annual gifts to family members from 2007 to 2014. After William was diagnosed with a serious medical condition, on September 6, 2015, Donald wrote 11 checks to family members totaling $464,000. William passed away on September 11, 2015. At that time, ten of the checks had not been cashed.

The estate tax return filed in December 2016 did not include the value of the ten checks in the estate's assets. The IRS assessed a deficiency for $179,130. Before the Tax Court, the IRS agreed that three of the checks would be excluded and the deficiency was reduced to $131,774. The Tax Court determined that the remaining seven checks were incomplete gifts under state law and therefore were subject to tax.

The taxable estate includes decedent's "property and interest in property at the time of decedent's death." Sections 2031(a) and 2033. This generally includes the amount of cash and all incomplete gifts.

The gift is defined as incomplete if the "donor reserves the power to revest the beneficial title to the property in himself." Reg. 25.2511-2(c). State law determines title to property and federal law determines the tax consequences.

The decedent was domiciled in Pennsylvania. Under state law, the donor may revoke a gift by check until it is deposited or cashed. The Pennsylvania Commercial Code also allows a person to stop payment on the check before the bank has accepted the check.

The Tax Court determined that under state law, the seven checks were not subject to constructive delivery of a "nature sufficient to divest the giver of all dominion." Therefore, the decedent still retained the power to revest beneficial title.

The estate claimed the decedent was nearing his demise and therefore the gifts were completed in contemplation of death. Under Pennsylvania law's principle of gift causa mortis, if a donor believes he or she is about to die, then the gift is deemed to be completed.

However, the estate did not meet its burden of proof with evidence that the checks were written in contemplation of death. Because the estate did not prove a gift causa mortis, the seven checks were included in the decedent's taxable estate.

No Bargain Sale Charitable Deduction

In Janet R. Braen et al. v. Commissioner; No. 24929-17; No. 27002-17; No. 27003-17; No. 27013-17; No. 27017-17; No. 169-18; No. 195-18; T.C. Memo. 2023-85, the Tax Court determined that a transfer of real property to a town in conjunction with a lawsuit settlement and rezoning was not a qualified bargain sale and the charitable deduction was denied.

Braen Commercial Holdings Corp. (Holdings) purchased 505 acres in 1998. The family business operated several granite quarries and it planned to create an additional quarry on the property. A portion of the property was in the Town of Ramapo, New York (Ramapo) and the zoning was controlled by the town. The property would require rezoning and a permit for a quarry. At the time of purchase, quarrying was prohibited by Ramapo law.

Holdings attempted to obtain approval from the New York State Department of Environmental Conservation (DEC) for the quarry. After eight years of negotiations with DEC and Ramapo, Holdings had not made significant progress toward a permit. The objections were primarily focused on the impact on local water and the risk to a protected species, the timber rattlesnake.

After Ramapo changed the zoning to further restrict usage of the property, Holdings initiated a lawsuit in 2005. In subsequent negotiations, Holdings proposed that Ramapo purchase the majority of the property in a bargain sale. After further negotiations, Ramapo agreed to purchase 425 acres for $5.25 million dollars. The State of New York and Ramapo obtained appraisals of $3.4 million and $2.9 million for the 425 acres.

The agreement for sale also included a provision that Ramapo would rezone the retained parcel to the original status. Holdings obtained an appraisal from Robert Fader. The shareholders of Holdings filed charitable deduction claims based upon the appraised value. The appraiser reduced the claimed charitable deduction from $12.22 million to $5.22 million to avoid a dispute with the IRS.

The taxpayers submitted multiple IRS Forms 8283 "Noncash Charitable Contributions," but these forms were not signed and, in some cases, were completely blank.

The IRS audited the Holdings 2010 tax return and issued a Notice of Proposed Adjustment. The revenue agent determined that the deduction would be denied and that there would be a Sec. 6662(a) substantial valuation misstatement penalty.

Section 170(a)(1) permits a deduction for a charitable contribution. A bargain sale under Sec. 1011 is the purchase of property by a nonprofit at a reduced price. The Court reviewed the documentation and determined that there was no proof that all the consideration had been included. The land purchase agreement was explicitly connected to the zoning change on the retained parcel. Therefore, this was an additional benefit that was not included in the valuation.

While Holdings did obtain a contemporaneous written acknowledgement (CWA) from the attorney for Ramapo, it did not reflect the zoning benefit and failed to comply with Sec. 170(f)(8). Under Sec. 170(f)(8), CWAs must state "the amount of cash and description (but not value) of any property other than cash contributed and whether the charitable organization provided any goods or services in consideration, in whole or part, for the contributed property." The "no goods or services were provided in exchange for the gift" statement was not accurate.

The taxpayer claimed the reported $10,472,000 value was accurate because their counsel was so successful in zoning litigation that it was certain the property would be rezoned. They claimed this was sufficient proof the quarry could be created to meet the requirements. However, the Court determined that was speculation and failed to comply with Sec. 170(f)(8).

In addition, the Sec. 6662(a) accuracy-related penalty and the substantial valuation misstatement penalty were applicable. The claim that the rezoning would be successful was not deemed sufficient to support the reported valuations. The reported valuations included a substantial value for the potential granite quarry.

Because the appraisal was not in compliance with statutory requirements, the valuation misstatement penalty was applicable. Therefore, the charitable contribution deduction was denied because the bargain sale failed to prove the value of the charitable gift. The penalties were applicable because there was no reasonable cause defense.

Applicable Federal Rate of 4.6% for July -- Rev. Rul. 2023-12; 2023-27 IRB 1 (15 June 2023)

The IRS has announced the Applicable Federal Rate (AFR) for July of 2023. The AFR under Sec. 7520 for the month of July is 4.6%. The rates for June of 4.2% or May of 4.4% also may be used. The highest AFR is beneficial for charitable deductions of remainder interests. The lowest AFR is best for lead trusts and life estate reserved agreements. With a gift annuity, if the annuitant desires greater tax-free payments the lowest AFR is preferable. During 2023, pooled income funds in existence less than three tax years must use a 2.2% deemed rate of return. Charitable gift receipts should state, "No goods or services were provided in exchange for this gift and the nonprofit has exclusive legal control over the gift property."

Published July 14, 2023

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