Trump Reverses Biden Crackdown on Tax Shelters
Another win for big donors.
NYT (“Trump Administration Halts I.R.S. Crackdown on Major Tax Shelters“):
The Trump administration is quietly dismantling efforts by the Internal Revenue Service to shut down a slew of aggressive tax shelters used by America’s biggest multinational companies and wealthiest people.
The administration, bowing to pressure from industry groups, right-wing activists and congressional Republicans, is quickly rolling back several I.R.S. law enforcement efforts, including one aimed at a lucrative tax shelter used by companies like Occidental Petroleum and AT&T.
The I.R.S. crackdown was projected to raise more than $100 billion over 10 years.
In April, the I.R.S. said it would rescind Biden administration rules that had required companies using such tax strategies to report them to the agency, a change making it more difficult for auditors to find the transactions. The agency also eased a pair of rules that target abusive shelters, including one that imposes penalties on wealthy Americans who used an insurance tax scheme that multiple courts have tossed out.
In late July, 20 House Republicans asked the I.R.S. to withdraw yet another line of attack on the transactions, one providing guidance to auditors on how to analyze the tax shelter deals.
At first blush, this very much looks like a giveaway to wealthy donors. Certainly, it flies in the face of President Trump’s stated goal of lowering the deficit.
Their explanation is not super helpful:
A Treasury official said the department “withdrew the Biden administration’s guidance because it would have imposed enormous and retroactive compliance burdens on many ordinary, legitimate business transactions and honest taxpayers.”
The background, alas, is sufficiently complicated that it far exceeds my rudimentary understanding of business accounting:
Beginning in 2022, the Treasury and I.R.S. began to express concerns about a potentially abusive transaction known as “basis shifting.”
The details are complex, but at their heart, they can work like this: Companies that buy expensive equipment often take gradual tax deductions equal to the cost, because of something called “depreciation.” Federal tax rules permit those deductions because, in theory, the equipment becomes less valuable each year.
For example, oil companies typically can take depreciation deductions for much of the expensive equipment they buy to construct and operate their wells. Those deductions in turn shield profits from tax. If a company spends, say, $1 billion on steel pipes to line its oil wells, it could deduct nearly $150 million annually for seven years.
But at a certain point, the deductions run out, which may mean the profits generated by the oil wells are no longer sheltered from tax.
The basis shifting transactions targeted by the I.R.S. effectively create a whole new series of deductions from thin air, permitting the companies to start sheltering the profits from tax all over again — without spending any new money.
The deals were promoted by two major accounting firms, Deloitte and EY, people familiar with their activity said.
These schemes are “very aggressive,” said Peter Barnes, a veteran lawyer at Caplin & Drysdale, a Washington, D.C., law firm specializing in taxes. “Some tax advisers are not only pushing the edge but even stepping over it.” He called Treasury’s plans to pull the regulations “very unfortunate.”
The shelters exploit the complex world of partnership tax rules, a subspecialty of the law little understood by I.R.S. examiners and even many experienced tax lawyers.
In 2021, The New York Times reported that a lack of expertise at the I.R.S. meant the agency was largely incapable of auditing large partnerships, like private equity firms, oil and gas enterprises, real estate businesses, and venture capital firms. The I.R.S. soon set up a unit to scrutinize the area.
A variety of groups lobbying to kill the crackdown on basis shifting — which relies on partnerships — also want to eliminate that new audit group. In a letter to the I.R.S., the National Association of Manufacturers accused the team of “contributing to the overreaching and unduly burdensome administrative state that the current administration is seeking to curtail.” The organization did not defend the underlying deals, but instead criticized the process that led to the crackdown.
That the wealthy and, especially, huge corporations can hire better accountants (including those who were top IRS auditors) than the government is well-documented. The upshot is that it’s simply easier for the IRS to target those with less resources, allowing much more quick returns, that spending years and enormous resources fighting the biggest offenders. That the same folks have the resources to lobby to shape the tax code to begin with, of course, skews the picture further.
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I hate when they present this stuff like it’s number theory or algebraic topology. These are not complex ideas. If you buy a large thing which has value over a long period of time, it’s a fixed asset rather than an expense. Say, like a unit which stores frozen food versus the food you are freezing. Because it’s value over period of time becomes less valuable, there’s something called depreciation. 20K of food which you freeze and then sell does not depreciate. The unit does. There’s a rational amount of depreciation applied per year. You take that depreciation and offset it against your profits. And there’s a logic to that, I guess.
But at a certain point, the fixed value of an asset is reached. It can’t depreciate more than it’s worth on the books. This is not hard to understand. You don’t need to hire a wiz at finance to get to the bottom of this mystery. It’s plain common sense. The IRS, a superstar at the Big Four, or a guy at HR Block who does taxes for old people who can’t figure out Turbo Tax all can grasp this concept.
When you claim something’s value decreases more than it’s worth, it’s called a scam.
@Modulo Myself: I understand the concept of deprecation. What I don’t understand is how “basis shifting” became a thing and how companies have been getting away with it. I gather it has to do with partnerships and common ownership of assets, but that would seem pretty easy to regulate: the investment is worth what it’s worth and depreciation obviously be spread among the partners, rather than all partners getting full depreciation.
Socialist revolution: All power to the Soviets!
National socialist revolution: All money to the Oligarchs!
@James Joyner:
Not an accountant, so I don’t know. Basis shifting makes sense if you inherit stocks or property. It sounds like you could create a web of LLCs or whatever and then just pass an oil well from one shell to the next, each time resetting its value as a fixed asset.
Always remember that tax law is complicated on purpose. It allows those who can afford to hire the best/most lawyers and accountants to avoid paying taxes. The rules are really very different for the wealthy. If you arent wealthy and lie on your mortgage application it’s a crime. If you are wealthy and do it you are just negotiating. I dont know if you have ever had the “pleasure” of hiring and talking with the expensive tax lawyers, the ones making over $500/hour. I have a couple of times and it was striking how they very much did not view tax law as black and white. It was what you could get away with which required knowing not just the law, but who the auditors were and the judges that would hear the case and what you could get away with.
The accountants were the same which TBH surprised me. I made friends with several of our accountants and Iused to occasionally joke about “creative accounting” and they didnt see it as a legitimate thing to joke about. Then we got into a complicated money mess and hired one of the big name, expensive accounting firms. They were very comfortable with the concept of creative accounting.
See every time I see someone like you say you dont understand how they can do the stuff they do I just remind myself that of course we dont really understand since we live in a different world, the non-wealthy world, and the rules are different for us than they are for the wealthy.
Steve
—– and pretty much upends the whole monolithic, onerous “deep state” characterization of our government, which has been pretty much two steps behind the “master gamers” who actually rule the roost.
I’m also not a lawyer, but I think another big obstacle for any legal clarity is the shift from public to private capital. Popular culture has absorbed the public corporation. But look at Alien:Earth, why would there be corporations in a world run by corporations? What’s the point? What are they incorporating for?
The past is filled with the idea that GM and Ford are public entities and not a series of shells and partnerships legally hidden from view. GM and Ford had to follow the logic of daily life and government. They had a CEO and a board and there was a relationship there. The CEO was compensated in salary and equity, and their situation could be described with the same numbers for the rest of us. That was the consensus of the 20th century. The rules bent on the edge, but they held together in the center. We don’t have that anymore, and from the top-down, you can do whatever you want in ways you couldn’t do even in the 80s, and then force others to make sense of it.
Well, heck, even the IRS providing free tools for people to calculate their taxes was a horrendous idea.. will no one think of H&R Block??
@Modulo Myself:
Also not an accountant, but inheriting property is indeed a common example of basis shifting, where there is a tax basis “step-up” to the fair market value of the property upon inheritance.
Basis shifting transactions for partnerships, as described on one accounting firm’s website:
So corporations and other wealthy taxpayer’s exploit to the IRS partnerships rules to claim tax basis step-ups, including where they weren’t intended, except perhaps by lobbyists and their servants in Congress. It’s yet another example of why we need actual tax code reform—not trump-speak “reform” that is actually complication and benefits weighted heavily toward the wealthy, but actual reform. (Yes, I know that such an effort faces ferocious headwinds even in times of a more receptive Congress and White House.)
@Modulo Myself: I’m old. I’m so old I started reading about this stuff in the 60s, when J. K. Galbraith was playing the role Paul Krugman plays now. I recall C suites being described as mostly guys who had been in the company for years, were very much corporate institutionalists, didn’t much like unions, but had accepted them, and were OK with all the stakeholders getting a piece of the pie.
In 1965 CEO’s averaged 21 times what an average worker was paid. In 2022 it was 603 times (Forbes). It’s becoming harder to maintain a middle class life style, not because the economy isn’t growing, but because the growth has all gone to the top. The MAGA are entitled to being pissed, but they’re supporting the very people who are screwing them.
@steve222:
Thanks for making this point. 99% of the complexity in tax law is there so that a sufficiently wealthy individual or firm can avoid paying the tax they naively owe, and which a less wealthy individual or firm would have to pay. It is hidden accretive corruption, like those scams that rake pennies from each of billions of small transactions.