Abusive Tax Avoidance Transaction Recap
California's tax system is based on voluntary compliance with the tax laws and the principle that everyone should pay their fair share of taxes. We are dedicated to finding those who do not. Some taxpayers participate in the most complex and convoluted tax avoidance schemes to reduce their taxes. Such tax schemes are often abusive, falling within the definition of abusive tax avoidance transactions (ATATs). With improvements in technology, data sharing, and increased resources, we find it easier to identify these taxpayers.
Since 2003, the Legislature enacted anti-abuse tax shelter statutes, which included penalties and other provisions to help curtail the use of these abusive transactions. We have aggressively pursued tax shelters and those taxpayers who used these transactions to avoid paying their taxes. We conformed to federal regulations, with modifications, requiring the disclosure of “reportable transactions" and penalties for failure to do so. In addition, the Legislature provided the non economic substance transaction (NEST) penalty (a penalty equal to 40 percent of understatements from transactions with no economic substance) and the interest based penalty (a penalty equal to 100 percent of the interest on a deficiency from an applicable transaction) and an increase in the statute of limitations from four years to eight years. And, let us not forget, about our partnerships with other federal and state agencies which we share knowledge and information about ATATs, or our hotline, which allows informants to provide information anonymously.
Now in 2011, new legislation enhances our tools used to combat ATATs. The law broadens the definition of ATATs, provides for a 50-percent interest-based penalty for amended returns filed after we contact a taxpayer about an ATAT, and increases the statute of limitations on ATAT cases from eight to twelve years. We also can now impose the NEST penalty on any California understatement resulting from a transaction that the IRS examines and determines lacks economic substance. Taxpayers we audit and determine to have a tax deficiency resulting from an ATAT could pay nearly three times more than they would without the use of the ATAT. For those taxpayers, the risks outweigh the benefits and the Voluntary Compliance Initiative recently enacted under SB 86 could not come at a better time. Next month, we will explain how taxpayers can resolve past tax transactions involving ATATs and unreported offshore income and avoid penalties and criminal prosecution.