George Steinbrenner and Estate Tax Repeal (Part 1 or 2)

Introduction

Legendary New York Yankees owner, George Steinbrenner, died on July 13, 2010, leaving an estate worth approximately $1.1 billion, according to Forbes.

Because there is no estate tax this year, Steinbrenner’s family may save approximately $500 million in taxes. How did this happen?

Estate Tax

In 2001, Congress decided to increase the estate tax exemption over the next 8 years, to a maximum of $3.5 million a person in 2009. In 2010, the estate tax was repealed, but in 2011, the exemption reverts to 2001 levels ($1.0 million a person).

Thus, a huge windfall for billionaires in 2010 could become a disaster for estates worth more than $1.0 million in 2011.

President Obama has proposed retaining the estate tax exemption at $3.5 million a person, but Congress refuses to act.

Steinbrenner

Steinbrenner joins billionaires Walter Shorenstein of San Francisco and Houston’s Dan Daniels whose estates will escape estate taxes because they died in 2010..

Steinbrenner hedged his bets against a retroactive change: According to his Will, if the law remains unchanged, the 2010 law will apply; otherwise the bulk of his assets will be transferred in trust for his wife’s benefit (called a “Q-TIP” trust), which will postpone any estate tax until her death.

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In Tribute to Marty Ginsberg

Introduction

Marty Ginsberg died on June 27th at the age of 83. Not only was he the premier tax attorney/professor in the country, he was undoubtedly the most entertaining. It is impossible to think of him without smiling.

Because I owe career choice in large part to Marty, this column is dedicated to him

Of course, my law school tax professor, Stephen Schwarz, had a major impact on my decision to become a tax lawyer and many consider Steve just as witty.

Hawaii

I first met Marty in Honolulu at the Hawaii Tax Institute, where he, along with his sidekicks Jack Levin and Gordon Henderson, held a room packed with tax attorneys spellbound, as they explained the intricacies of corporate mergers and takeovers, while razzing each other endlessly.

Hilo

At the time, I was practicing law in Hilo, Hawaii. Once, while in line at the Hilo airport I ran into Marty and his spouse. Startled, I ask him what is a famous person like him doing in Hilo.

He just smiled as said, “Oh, you must mean my wife, Ruth.” Marty’s wife would become a Supreme Court justice several years later.

On the plane, we discussed NYU’s graduate tax program and I decided that was the career change I wanted to pursue.

Marty’s Charm

Marty was brilliant, cynical, witty and humorous. He enjoyed poking fun at IRS and his fellow panelists. He often finished his complicated legal analysis by quoting Yogi Berra or his three-year-old grandson.

When he found a loophole or inconsistency in the tax law, he pounced. In Washington, government tax lawyers would fret over whether their regulations were “Ginsberg-proof.”

As a teacher, he’d tell his students to relax, “basic tax, as everyone knows, is the only genuinely funny subject in law school.”

Dynamic Duo

When he first lectured with Jack Levin — his straight-man and co-author of their leading corporate treatise on mergers and acquisitions — he told Jack to start talking and he would interject if he thought of something.

Jack spoke for about 10 minutes when Marty chimed in stating, “you’ve just committed malpractice, if an associate said something as dumb as that, he’d be kicked out of our firm!” Shocked and caught totally off-guard, Jack stammered but finally started in on Marty — and that was the beginning of the best teaching tandem I’ve ever experienced.

Marty, tax lawyers across the county are going to miss you deeply. Thank you for your wisdom, inspiration and sense of humor.

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Selected Business Audit Issues

Introduction

My April, 2010 newsletter discussed several common-sense steps to protect against a future tax audit. This newsletter will expand on those suggestions for select activities.

Hobbies

If your activity involves yachts, horses, automobiles or sports, make sure you understand the distinction between a hobby and a business. IRS treats many business endeavors with a personal pleasure aspect as a hobby and limits the deductions to the income generated.

To avoid hobby status, develop a credible business plan that shows a profit motive, actively engage in marketing and promotion and earn a net profit in some years.

Real Estate

f you own and rent your property, you need to comprehend the passive activity loss rules and the definition of a real estate professional. Decide whether to treat each property as a separate activity or to aggregate all properties into a single activity. Maintain records of your expenses and time spent on a per-property basis.

Contractors

Contractors should record all their income and expenses in one business bank account and should refrain from making cash payments, especially to workers. Treating workers as independent contractors is an audit “red flag”, especially when nobody is treated as an employee.

As with real estate professionals, maintain income and expenses on a per-project basis and note travel, entertainment and petty cash transactions.

Day Traders

Day Traders need to grasp the “mark-to-market” rules and whether their activities qualify as a business, as opposed to investments. Investors cannot offset future investment losses with past investment gains, which can lead to a disaster.

For example, assume George traded over $100 million in year one and generated a profit of $5.0 million. In the first three weeks of year two, he lost $4.0 million. In his mind, he was still $1.0 million in the green; however, George owed $2.0 million in taxes for year one and could not offset the gains in year one with the losses in year two, so he was actually $1.0 million in the red.

Electing “mark-to-market” would have solved his problem.

S Corporations

Sole owners of an S corporation need to pay themselves a reasonable salary. IRS is targeting line seven of Form 1120S (compensation to officers) and if the amount is blank or unreasonably low, expect an audit.

In 2005, there were 1 million S corporation returns in which no officer salaries were claimed. IRS estimates that if those corporations were taxed under Schedule C (self-employed individuals), approximately $5 billion in employment taxes would have been collected.

If a single-shareholder S corporation provides services for just one company (the service recipient), IRS may reclassify the shareholder as an employee of the service recipient and disregard the S corporation.

To protect against a reclassification, the corporation should have a written independent contractor agreement with the service recipient, offer services to multiple service recipients and market and promote its availability to the public. At a minimum, the corporation should have stationery (billing invoices, letterhead, envelopes, business cards), a separate business telephone number and a website.

Conclusion

Understanding the issues and engaging in prior tax planning will go a long way to audit-proofing your company and business.

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