FIN 48: Are You Ready to Disclose Your Tax Positions to the Public? June 3, 2008 Learning Objectives: ** Learn about the scope of FIN 48. ** Learn about the basic steps to evaluating tax positions and the application of FIN 48 to these positions. ** Learn how tax controversy procedures impact FIN 48 disclosure processes and the impact FIN 48 could have on IRS examinations. ** Learn the basics of what financial statement auditors need to satisfy FIN 48 documentation requirements. Moderator: Preston Porterfield, CPA, Tarpley & Underwood, P.C., Tax Manager Preston Porterfield, CPA, Tax Manager, Tarpley & Underwood, P.C. Preston joined Tarpley & Underwood in early 2007 with over six years of public accounting experience with Arthur Andersen and Deloitte & Touche. During this time, he primarily worked on serving mid-market sized corporate clients with their tax consulting and compliance needs. He also specialized in preparing and reviewing annual and quarterly FAS 109 analyses for various privately and publicly held clients. Prior to joining T & U, he worked as a revenue agent with the Large and Mid-Size Business division of the Internal Revenue Service examining business entity tax returns. At the service, he served as a member of a national team focused on assisting IRS examination teams with tax accrual workpaper issues. He also assisted with the IRS’s preparation of procedures on dealing with FIN 48. Preston’s nine years of professional experience includes working with domestic and international taxpayers in industries such as manufacturing, distribution, restaurants, pharmaceuticals, biotechnologies, and software manufacturing. Preston earned his BBA and Masters of Taxation degrees from Georgia State University. Panelists: •Anson Asbury, Tax Controversy Manager, United Parcel Service •Glenn Aldridge, CPA, Audit Partner, Tarpley & Underwood, P.C., Audit Partner •David Leiter, CPA, Federal Tax Partner, KPMG Anson Asbury, Tax Controversy Manager, United Parcel Service Anson represents UPS in appeals conferences, administrative hearings, and other post-examination settings with the Internal Revenue Service and state tax authorities. He also evaluates tax positions and advises company management on tax accruals and tax planning. Prior to joining UPS, Anson was engaged in the private practice of law where he represented corporations, partnerships and individuals in federal tax controversies. He also clerked for the Honorable Joseph H. Gale, United States Tax Court, and worked in the New York City office of PricewaterhouseCoopers. Anson has a Bachelor of Arts in Philosophy from Villanova University and a Juris Doctor from the Dickinson School of Law of the Pennsylvania State University. He holds an LL.M. in Taxation from the Georgetown University Law Center. Glenn Aldridge, Audit Partner, Tarpley & Underwood, P.C. Glenn Aldridge is an Audit Partner at Tarpley & Underwood and is responsible for managing and overseeing audits, reviews, compilations, and other types of financial reporting engagements, such as agreed-upon procedures for closely held businesses and for ensuring that Firm and professional standards are met during those engagements. Glenn has extensive experience working with various industries, including technology. Glenn has experience serving clients with consolidated revenue in excess of $400 million. Glenn was formerly an audit partner at Bennett Thrasher, an Atlanta CPA firm. Previously he was at Egleston Children’s Healthcare, and was in practice with a local accounting firm for over six years. He graduated from Bob Jones University in 1989 and became a Georgia CPA in 1993. Glenn is a member of the AICPA and the Georgia Society of CPAs, where he has served on the Nonprofit, Communications and Career Awareness Committees. David Leiter, Federal Tax Partner, KPMG David Leiter is a Partner with KPMG’s Federal Tax Practice. He also serves as KPMG’s Southeast Area Resource for FAS 109 and Sarbanes-Oxley Act Section 404 from a Tax perspective. Relevant Experience David’s client service experience has included work for UPS, Georgia-Pacific, Equifax, Acuity Brands, Graphic Packaging, Scientific-Atlanta, Health Management Associates, Roper Industries, Mirant, Sun Capital Partners and AutoNation. David’s professional and community involvements include the following: • The Howard School – Board of Trustees • Trinity School – Annual Fund Grade Representative • St. Anne’s Episcopal Church – Stewardship Committee, Children’s Ministry Committee, Usher, and Sunday School Teacher • United Way, Habitat for Humanity, Woodruff Arts Center, University of Georgia, and University of Tennessee – School of Accounting Advisory Board Education David earned a BA and MA in Accountancy-Taxation, with honors, from the University of Georgia. Scope of FIN 48 All entities that prepare GAAP financial statements C-Corps, Not-for-profit, S-Corps with potential to be subject to income taxes (C-Corp conversion or S eligibility) Fiscal years beginning after Dec. 15, 2007 for privately held companies. Public companies have already gone through the process. The Transition Rules 1) Inventory all previously taken tax positions that are still subject to audit 2) Determine what positions are uncertain 3) Assess what amount, if any, of tax benefit from an uncertain tax position will be realized in the financials 4) Report the cumulative effect adjustment to opening R/E balance of the earliest reported upon period Step 1 – Inventorying Positions Every year that is open to collection and its current year (not filed = statute never closes!) Position includes: Decision not to file a tax return Allocation or shift of income between jurisdictions Characterization of income or decision to exclude income Decision to classify something as tax exempt Examples: International items (transfer pricing, Subpart F), state nexus, R & D credits, NOL’s, valid S-Corp status Inventorying Tax Positions Cont. May include documenting and testing tax positions related to routine business transactions – salary accruals, inventory acctg., and asset depreciation Perform full evaluation in the first year because future year adjustments will run through the income statement! Company management must be involved even if outsourcing this step. Step 2 – Determine Unit of Account Once inventoried, review positions and determine whether to break-down a return position into separate units of account R & D example: Credit = $100, comprised of 4 projects at $25 a piece, tax position on overall or per project? No strict guidelines provided on determining proper unit of account Should approach the way taxing authority would – get professionals involved in this. May require study or opinion. Step 3 – Characterize Tax Positions Determine whether each is an uncertain position or a routine business transaction position that is MORE-LIKELY-THAN-NOT to be sustained at the full amount upon examination Uncertain positions = Determine what tax benefits resulting from each will be recognized in financial statements and to what extent Two part test The Two Part Test 1) The position satisfies a more-likely-than-not threshold = More than 50% 2) Amount recognized satisfy a “cumulative probability” realization standard Can’t aggregate or offset multiple positions MLTN Standard Met – What Next? “Cumulative Probability” approach = Record in financial statements the largest amount of tax benefit that is greater than 50% likely of being realized upon settlement with tax authority that has full knowledge of all relevant information Requires range of probabilities computation Very subjective! See example – This can be time consuming Tabular Probability Analysis Possible Estimated Cumulative Outcome Probability Probability Credit as reported = $800,000 5% 5% Scenario 4 = $750,000 25% 30% Scenario 3 = $500,000 25% 55% Scenario 2 = $475,000 35% 90% Scenario 1 = $435,000 10% 100% Under FIN 48, Scenario 3 is proper amount because $500,000 is the largest amount of credit that is greater than 50% likely (more-likely-than-not threshold) of being realized upon settlement. Reduction in current credit 300,000 Other Items There are rules on subsequent recognition and measurement Interest and penalties Balance sheet classification Access to workpapers if examined? Document, Document, Document Tax Controversy Considerations The Law Statutes & Regulations Case Law Administrative Authority The Facts Proving it up The Papers The Players Historical positions Tax Controversy Considerations Process, Process, Process Federal, State, International Resolution before Litigation Examination/Audit Alternative Dispute Resolution/Conciliation Appeals Litigation Forum selection Applicable authority Discovery Available methods Tax Controversy Considerations Timing The probability question The update question Supporting Documentation How much is enough? Who writes it? Who sees it? Where do I put it? Ultimate disclosure Tax Accrual Workpapers IRM 22.214.171.124(2) – (07/12/04); Chief Counsel Notice CC-2004-010 (1/22/04) Definition of “tax accrual workpapers” clarified: Tax accrual workpapers are those audit workpapers, whether prepared by the taxpayer or by an independent accountant, relating to the tax reserve for current, deferred and potential or contingent tax liabilities, however classified or reported on audited financial statements, and to footnotes disclosing those tax liabilities appearing on audited financial statements. They reflect an estimate of a company’s tax liabilities and may also be referred to as the tax pool analysis, tax liability contingency analysis, tax cushion analysis or tax contingency reserve analysis. Current IRS requests (Policy of Restraint) limited to listed transactions both disclosed and undisclosed, and unusual circumstances – see IRM 126.96.36.199. Tax Accrual Workpapers Documentation created to comply with FIN 48 (Accounting for Uncertainty in Income Taxes) are considered tax accrual workpapers – IRS Chief Counsel Memo. AM 2007-0012 (March 22, 2007). FIN 48 and Tax Accrual Workpaper (TAW) Policy Update – Former LMSB Commissioner Deborah Nolan, Memo to LMSB Executives, Managers and Examiners (May 10, 2007). FIN 48 Potential Implications – LMSB Field Examiners Guide issued May 2007. IRS may reopen an audit to inquire about a FIN 48 disclosure after year is closed examination (2007 TNT 29-3; 2/12/07); reopening/second examination criteria is outlined in Rev. Proc. 205-32 – criteria may be satisfied via published financial statements (FIN 48). Tax Accrual Workpapers United States v. Textron, 507 F. Supp. 2d 138 (D.C.R.I. 8/29/07) – Court denied enforcement of IRS summons served on Textron to obtain all of Textron’s tax accrual workpapers for 2001, as a result of one of Textron’s subsidiaries engaging in various “sale- in, sale-out” (SILO) transactions – subsequently became listed transactions. Court ruled that the documents were protected from disclosure by the work product doctrine – attorney-client privilege and tax practitioner privilege deemed waived. Notice of Appeal in Textron filed by United States on October 22, 2007 and brief for United States was filed with First Circuit Court of Appeals – brief release date of January 25, 2008. See 2008 TNT 23-42 for a copy of DOJ’s brief. Financial Audit Considerations Independence How much time is needed? Third party opinions? Different conclusion by auditors and management Timing of auditors involvement Materiality Documentation Thank you!!