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By Ronald Fink
The Internal Revenue Service's proposal to require all but the smallest companies to disclose more information about their uncertain tax positions may help state and foreign authorities as well as federal ones in disputes over liabilities, a tax expert warned on Wednesday.
The proposal would require companies with assets of more than $10 million to itemize the amounts that they now aggregate when they report so-called "unrecognized tax benefits" in SEC filings. Such disclosures, in turn, may provide clues to state and foreign governments as to the positions behind them, thanks to information sharing arrangements among their tax authorities, Kevin Kenworthy, a partner in the Washington, D.C., office of law firm Miller & Chevalier said in an interview with CFOZone.
The proposal was revealed last week by IRS Commissioner Douglas Schulman.
Companies began reporting unrecognized tax benefits in their SEC filings for fiscal years that started after December 15, 2006, when the Financial Accounting Standards Board implemented a rule known as FASB Interpretation 48. While those benefits are aggregated, the IRS proposal would require an itemized list of the amounts in question and a "concise description" of the tax issue involved.
Kenworthy noted that the IRS currently does not investigate tax issues for the benefit of state or foreign governments. But because a company's uncertain tax positions may involve state and foreign tax issues, the IRS's information sharing agreements with those authorities could include critical disclosures about such issues.
"There are any number of issues reported to the IRS that would be of interest to the state tax authorities," he said.
Kenworthy also predicted that states might follow the IRS's lead and start demanding additional disclosures of their own based on unrecognized benefits reported to the SEC.
On foreign taxes, Kenworthy noted that the disclosures might help both the IRS and foreign tax authorities go after "any kind of cross-border arbitrage." For example, he said, a U.S. company might claim a transation with a subsidiary in another country was equity for tax purposes there and a loan for U.S. purposes, resulting in both exemptions for dividend income and deductions for loan payments.
Currently, the foreign tax authority might have no way of knowing the company treated the transaction as a loan for U.S. tax purposes. But under FIN 48, the company might have to reserve against the possibility that the deduction or exemption would be disallowed because of the inconsistent treatment. If the IRS then shared the resulting itemized disclosure of that position with the foreign government, the inconsistency would be clear to both.
Kenworthy said it was too early to tell whether the IRS would help states and foreign governments in this way. But the possibility was raised by Miller & Chevalier during a presentation to clients on Tuesday. "Will the information be disclosed to others, including other taxing authorities?" a slide presentation asked.
A final decision on the new IRS disclosure requirement is expected not long after the comment period ends on March 29. Schulman said it would take effect with returns for 2011 at the earliest.
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