Ask the Advocate
CalCPA Annual Meeting
On October 24, 2012, we held our annual liaison meeting with the California Society of Certified Public Accountants (CalCPA). This year, like every year, they had some great questions for FTB staff. I want to share a few of the questions I thought our Tax News readers would find most interesting and helpful in my Ask the Advocate column this month.
Interest and Penalty Calculations Online
Question: A taxpayer may make a payment because of a federal adjustment assessed by the FTB. Can the FTB website provide a breakdown of how much of the payment is tax, penalties and interest? Currently, only the total payment is shown.
Answer: We cannot break down how much of a single payment is applied to the tax, penalties, and/or interest within MyFTB Account. There are complex rules within the accounting system of how payments are applied to liabilities. In addition, the application of the payment can change if the tax or penalties are modified. Generally, payments are first applied to tax, then penalties, and then interest.
Currently, within MyFTB Account, the penalties and interest for a tax year are aggregated and displayed as a single amount. However, as part of our Enterprise Data to Revenue (EDR) project, we plan to show penalties (broken down by type) and interest separately. This is planned for July 2014.
FTB Procedures for Considering Reasonable Cause for Certain Penalties
Question: A taxpayer had ownership changes during the year that resulted in a technical termination for both Federal and State purposes. The Federal and California short period returns for the first part of the year were filed late. Both the IRS and FTB assessed late filing penalties. The FTB’s assessment was issued on a Notice of Balance Due. A reply letter was sent to the IRS and FTB stating the grounds for reasonable cause and requested abatement of the penalties. After reviewing the letter and facts, the IRS wrote back and reversed the penalties. The FTB responded that in order to consider reasonable cause and penalty abatement, the taxpayer must pay the penalty and file a claim for refund. In this circumstance, is the FTB response correct that a penalty issued via a Notice of Balance Due must be first paid and a claim for refund filed to have the grounds for reasonable cause considered?
Answer: No. If a taxpayer makes a request for waiver of a penalty based on reasonable cause, our staff can consider the request prior to the taxpayer's payment of the penalty and make a determination to waive unpaid late payment penalties. The taxpayer must state the basis for reasonable cause is and provide substantiating documentation as needed. If the taxpayer disagrees with our determination not to waive the penalties, the taxpayer must then pay the penalties and make a written request for refund. Often, taxpayers who request penalty abatement from the IRS are provided relief from late payment and late filing penalties based on that taxpayer's good filing history. In such cases, the IRS does not require the taxpayer to state any reasonable cause basis for abatement nor does it require the taxpayer to pay the penalty prior to abatement for a good filing history. We do not currently have the legal authority to abate penalties based only on a taxpayer's good filing history without an independent showing of reasonable cause. Therefore, taxpayers requesting abatement of late filing/payment penalties should state the reasonable cause basis for their request and provide any supporting documentation, including any documentation showing that IRS abatement was for reasonable cause as opposed to filing history.
Taxpayer Research and Development (R&D) Record Assessment and Retention
Question: The IRS advises its R&D auditors to assess the qualified research activities and qualified research expenditure records maintained by the Taxpayer during the exam. If the auditor denies R&D credits due to lack of substantiation, they are advised to recommend to Taxpayers what records should be maintained to prospectively claim the credit. Furthermore, the IRS R&D auditor may propose the Taxpayer enter into a Research Credit Recordkeeping Agreements (RCRA) on a go-forward basis. These steps mitigate any potential abuse of the presumption of correctness or taxpayers’ burden of proof. Does the FTB advise its auditors to assess the records maintained by Taxpayer during the exam and is the R&D records assessment shared with the Taxpayer on what is considered reasonable documentation and what is not?
Answer: Yes, we encourage all staff members to perform a through and comprehensive review of the records provided by the taxpayer to ensure:
- The taxpayer is engaged in qualified research activities.
- The claimed qualified research expenses are directly related to such activities.
- The taxpayer has properly calculated the claimed credit.
We encourage our staff members to engage in open and transparent communication with our stakeholders during the audit process, which should include a dialogue regarding the reasonableness of the documentation provided during the audit and how applicable the taxpayer responses may have been to the issue under review. We do not have a program similar to the RCRA. We are exploring whether to consider this option in the future.
Question: A limited partnership was formed in 2009 to conduct business in Arizona. In 2011, the partnership business was converted to an LLC with a California resident becoming the managing member. The LLC is in the process of registering to do business in California. Before the registration process could be completed, California issued the LLC a temporary entity identification number and sent a bill for the $800 minimum tax. As part of the registration process, California asks that they use the date the name was originally registered which was in 2009, rather than the date of the creation of the LLC which was in 2011. A concern of the taxpayers is that if the original registration is used, California will attempt to assess the minimum tax going back to the original registration date which is not correct.
1. Why would the FTB issue a temporary entity identification number when the LLC was in the process of registering with the Secretary of State’s (SOS) Office?
Answer: We issue a temporary identification number in response to a filing where there has not yet been a number assigned by the SOS. In this case, the identification was apparently issued because the entity began doing business in California before the registration was complete.
2. Does the fact that the FTB has issued an identification number mean that the LLC must continue its registration with the SOS or does the FTB number become the permanent registration for the LLC?
Answer: Yes, the LLC must continue its registration with the SOS. Once the LLC receives the SOS number, that number should be used instead of the temporary entity identification issued by us.
3. How would using the original registration date in 2009, as opposed to the formation date in 2011, affect how the FTB will bill the LLC? Our understanding is that the LLC would establish business nexus in CA when the CA resident became a Managing Member of the LLC.
Answer: Presumably, the LLC filed Form LLC-5, Application to Register a Foreign Limited Liability Company. That form asks for the date the foreign LLC was formed in the other state. We do not use this date in determining when the LLC began doing business in California for franchise and income tax purposes.
Steve Sims, EA
Taxpayers’ Rights Advocate
Follow me on Twitter at twitter.com/FTBAdvocate.